Fitch downgrade casts shadow over new French prime minister's budget battles

Fitch's downgrade of France's credit rating has cast a pall over newly installed Prime Minister Sebastien Lecornu as he begins talks to draft a budget, while unions plan strikes over spending cuts and employers protest against the threat of tax hikes.

Citing political instability and rising debt, Fitch cut its rating late Friday to A+ from AA-, giving France its lowest credit score on record just days after President Emmanuel Macron tapped Lecornu to be his fifth prime minister in two years.

Analysts said the downgrade had already been priced in by markets, which largely held ground on Monday. The closely watched risk premium France pays over German debt was steady at just under 80 basis points, while French stocks rose and the euro was little changed.

But the timing could hardly be worse. Fitch's downgrade fires the starting gun on the government's complex sprint to present a first draft of the 2026 budget to parliament by October 7, with a possible extension until October 13. 

Lecornu faces a near-impossible task to make the cuts demanded by investors growing impatient with France's spending, while also winning over three ideologically distinct parliamentary blocs with differing views on how to cut the budget.

He also faces pressure from the streets. Unions have called for nationwide strikes on Thursday to protest against Lecornu's plans to reduce the budget deficit - the euro zone's biggest at 5.4% of output this year.  

On Saturday, in his first interviews since taking office, Lecornu said he would scrap his predecessor's unpopular plans to eliminate two public holidays and was open to discussing higher taxes on the wealthy.

The Socialists are demanding a wealth tax on the ultra-rich as a condition for not voting to topple his government. The head of the MEDEF employers federation, Patrick Martin, said on Saturday they would mobilise in mass against any such project.

A major tax hike could also alienate the conservative Republicans, whose leader, outgoing Interior Minister Bruno Retailleau, said the Socialists' demands would "only make matters worse" in already high-tax France.

With France's borrowing costs rising, the budget would have to put public finances on a "healthy trajectory", Lecornu said.

"The future budget may not fully reflect my convictions ... In fact, that's almost certain!" he added, urging "frank" discussions with the Socialists, Greens and Communists.

Lecornu gave few indications of his budget priorities, other than saying he wanted to give local governments more power and cut down on the layers of bureaucracy. 

"We remain negative on France as we do not see how the new Lecornu government would be able to credibly deliver fiscal reforms," said Mohit Kumar, economist at Jefferies.

Kumar said his main worry was the upcoming rating reviews by Moody's and S&P on October 24 and November 28.

"If political uncertainty lingers, there is a risk of at least one more downgrade," said Kumar, noting that a second downgrade following Fitch's could lead to some forced selling of French debt.

Meanwhile, the far-right National Rally's Marine Le Pen renewed pressure on Macron to call new parliamentary elections - an idea he has rejected so far. Party leader Jordan Bardella said Lecornu must show a clear break with past policies or face a vote against his government.