Government support measures can’t offset the full impact of higher inflation and lower external demand
The slowdown in manufacturing output and deterioration of confidence indicators presage a worsening environment for French industry, which is already struggling with higher input costs, supply chain disruptions, and heightened uncertainty due to the war in Ukraine. The adoption of energy sanctions will greatly exacerbate the operating environment for MNCs, which can expect a marked decline in demand for B2B and B2C goods. Consequently, MNCs will need to emphasize any cost-saving benefits associated with their offerings and consider more flexible pricing or bundling strategies to stem an anticipated drop in sales volumes.
Overview
The S&P Global France Manufacturing Purchasing Managers’ Index dropped 2.5 points to 54.7 in March. Notably, the rise in new orders hit a five-month low. Looking forward, demand is expected to continue to slide as firms attempt to pass on a larger portion of higher production costs to customers. These dynamics square with weaker confidence indicators. In March, business confidence plunged 6 points to 1.1, its lowest reading since June 2021. Consumer confidence reversed its February gains, dropping a whopping 10.6 points to -17.9.
Due to the current inflationary environment, the government reduced the electricity tax from EUR 22.50 per megawatt hour to EUR 0.50 for businesses until January 2023. It has also offered grants of up to EUR 25 million for energy-intensive industries, expanded state-guaranteed loans, extended furlough aid to additional sectors, and provided subsidies for small export firms.
The impact of Russian energy sanctions on French industry would be primarily felt through the economic contraction in key European export markets for both finished and intermediate goods. Specifically, lower demand would adversely impact French exports of electronic goods to Belgium, while anticipated rationing of energy and associated production slowdowns would disrupt automotive supply chain links with Italy and Germany.
Our View
The base-case scenario for France is predicated on the continued supply of Russian energy sources. However, the inflationary environment will persist as Europe moves to gradually wean itself off Russian coal, gas, and oil imports. This, in turn, will depress both investment and consumer spending. Although the government has introduced numerous energy support measures, this spending will only partially alleviate the financial pinch on firms and consumers. Moreover, these measures can’t ameliorate other difficulties, such as supply chain disruptions and lower external demand. As a result, GDP growth would slow to 2.1% in 2022, rebounding slightly to 2.3% in 2023. A downside scenario envisions the full cessation of oil and gas imports to Europe, resulting in GDP growth contracting by 1.8% in 2022. Growth would subsequently recover by 2.1% in 2023, partially boosted by a statistical effect, with output growth softening to 1.6% the following year. Under the upside scenario, a rapid de-escalation of the war in Ukraine would help moderate energy prices. That said, the inflationary environment and intensification of supply chain issues resulting from weeks of conflict in Ukraine mean GDP growth would come in at 3.1% in 2022, which is 0.7 ppts below our initial forecasts at the beginning of the year.
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