Le Pen’s budget plan avoids pension reform; after the Franco-German yield spread surpasses 150 basis points, the 200 basis point warning is triggered.

France's fiscal pressures continue to intensify, and whether pension reform can be relaunched will be crucial in determining the direction of France's borrowing costs and bond market stress.

On October 8, Reuters reported that Mike Bell, Market Strategist at RBC BlueBay Asset Management, stated that the market is closely monitoring the main candidates for France's 2027 presidential election, especially the far-right candidate Le Pen, who is leading in the polls, to see if she will pledge to raise the retirement age. If the main candidates are inclined to maintain the current retirement age, the yield spread between French and German 10-year government bonds could further widen to 200 basis points.

Le Pen unveiled part of her fiscal plan this Tuesday, but did not mention pension reform, only saying she would announce more policy details in the coming weeks. Previously, she advocated lowering the retirement age to 60 for early entrants to the workforce. Bell believes the market wants to see the most likely winners make a clear commitment to raising the retirement age; otherwise, pressure on France's bond market may continue to build.

Pressure on the French bond market has already heated up noticeably. Last Friday, the yield spread between French and German 10-year government bonds breached 150 basis points, marking a new high since the end of 2011. Bell said that with several months remaining until the election, it takes "considerable courage" to increase holdings of French government bonds at current levels; at the same time, French bonds have already priced in a higher risk premium, so the risk of continuing to go short is also rising.

High Pension Spending, Reform Faces Political Resistance

Pensions make up France's largest single fiscal expenditure, expected to reach €436 billion next year, accounting for 14% of GDP. France's retirement age is relatively low, while residents' life expectancy is longer, making pension spending a long-term key source of fiscal pressure.

France's reform launched in 2023 originally planned to gradually raise the retirement age from 62 to 64, but the reform was suspended last year during budget negotiations. Previously, Le Pen advocated lowering the retirement age to 60 for early entrants. Since elderly voters are a major support group for her National Rally leadership, pension reform is highly sensitive politically for Le Pen.

If the main candidates in the future cannot clearly commit to raising the retirement age, the market may keep demanding a higher risk premium for French government bonds, and the Franco-German yield spread may widen further.

Both Long and Short Positions on French Bonds Require Caution, European Central Bank Support Has Barriers

RBC BlueBay, with assets under management of $598 billion, currently still holds some French government bonds, but Bell said the company is deliberately maintaining an underweight position and will not actively increase holdings prior to the election outcome becoming clear. At the same time, he does not favor continuing aggressive short positions, as French bonds already reflect a significant portion of fiscal and political risk.

Bell also pointed out the limitations of European Central Bank policy support. The European Central Bank’s Transmission Protection Instrument (TPI) requires member countries to comply with EU fiscal rules, but France currently does not meet these conditions. This means that if France's bond market comes under further pressure due to fiscal or political risks, the ECB’s room for providing policy support may be limited.

If Le Pen is ultimately elected, fiscal policy differences between the French government, the EU, and the European Central Bank could become more pronounced. Bell believes that elevated French government bond yields may even become a source of pressure for the next government to strengthen fiscal discipline.