Has France Become a More Competitive Location for Businesses?

France’s main weaknesses are well documented: rigid labour market, high tax wedge, heavy tax burden on companies and high income earners and red tape. France’s trump cards are the qualification of its labour force, the excellence of its scientific research and its infrastructures. Until recently, they were not sufficient to attract foreign companies.
 
Emmanuel Macron’s reforms are incremental, not radical. They have reshaped labour market regulations at the margin, corporate and individual taxation in a more business friendly way and cut some of the red tape. Some key reforms, such as the overhaul of the pension system, are still in the making.
 
Reforms are starting to bear fruit, which is a surprise, given the slow reactiveness of macro variables. Inward FDI has jumped in 2018, catching up with the best in the EU class (UK and NL), industrial companies based in France intend to increase capex by 10%, and manufacturing jobs are again in black ink after 17 years of restructuring.
 
Overall, it seems that as shy as they may appear, the reforms implemented these last years (including Sarkozy’s reforms) and mostly in 2018 are starting to bear fruit, from a business standpoint.

The most recent measures announced by PM Philippe on 12 June will not have any significant consequence on competitiveness.

Minuses and pluses of France as a business platform before Macron’s reforms

In 2016, France ranked #22 in the World Economic Forum Competitiveness ranking, trailing behind most Northern European economies and even the UAE. The main hurdles for companies operating in France were:
 
HIGH EMPLOYMENT PROTECTION
In the 2015 OECD Employment protection index, France ranked high among European economies, together with Italy and Germany, vs. more flexible economies such as Spain, Sweden, Switzerland or the UK. Although companies may fire redundant employees or even shut down facilities, they were facing complex regulations, and significant uncertainties regarding the final outcome of their payroll management, as well as the final cost of redundancies.

HIGH TAX WEDGE
France had one of the largest tax wedges (gap between the overall cost of an employee and her take home pay) of OECD economies, at 48% in 2016, almost at par with Germany and Italy, but significantly higher than Sweden (43%), Spain (39%) and the OECD average (36%). Explained by the funding of an expensive and complex social protection network – part of the ‘French model’ — a high tax wedge is one of the causes of tensions between corporate management and employees, not to mention the complexity of pay slips.
 
HEAVY TAX BURDEN ON CORPORATIONS AND HIGH-INCOME EMPLOYEES
The tax burden borne by companies operating in France was higher than in most comparable constituencies. On the OECD measure, which computes the tax rate that would reduce the profitability of an investment project, France stood at 34% in 2016, vs. 30% for Germany, 25% for Spain and 21% for the UK.

Likewise, the tax burden on high income earners (managers, world class experts or researchers...) was significantly higher than in comparable constituencies: the top marginal tax rate (including social contributions) was 55% vs 47.5% in Germany, 45% in Spain and the UK, 42% in Switzerland. Only Sweden had a higher marginal rate (60%).

Last but not least, the wealth tax (up to 1.5% of total wealth) was a deterrent for high net worth individuals.

RED TAPE
Bureaucratic hurdles, lack of transparency in market practices, competitive advantages for former state monopolies and unequal enforcement of competition regulation are all factors that explain the poor ranking of France (#25) on the WEF ‘extent of market dominance’ index (2017-2018 report).
 
On the other hand, France was benefiting from several factors conducive to high value- added business on her territory:

• Qualified workforce, with a solid tradition of excellence in engineering, maths and physics, produced by a large network of Engineering Schools ("grandes écoles") recruiting via competitive examinations. Over the last 20 years, this tradition of excellence has been extended to business schools, which are now ranking favourably in league tables such as the FT Masters in Management global ranking: three of the Top 5 are French (HEC, ESSEC, ESCP), while 23 others are present among the top 100 (2018).
   
• Large research hubs, promoted by Sarkozy’s reforms giving more autonomy to Research Universities and more funding for ‘excellence laboratories’ (Labex-Idex), based on international jurys. Université Paris-Saclay, although still in its early stages, will bind together top scientific universities, top research institutes (including IHES) and engineering schools and create one of the largest scientific hubs in Europe. Other locations have already moved toward the hub model: Grenoble, Lyon and Toulouse (with strong links to Airbus industries).
   
• Quality of infrastructures. In the 2017-18 WEF Global Competitiveness Index, France ranked 7th in terms of infrastructure overall, 5th in quality of railroad infrastructure, and 7th in quality of electricity supply.
   
• For research intensive companies, the Research Tax Credit (Crédit d’impôt recherche, CIR) is a significant tax advantage, allowing the deduction of 30% of research outlays up to €100M, 5% over this threshold. Similarly, an Innovation Tax Credit allows the deduction of 20% of eligible outlays up to €400K.

What has changed – and is changing – with Macron’s reforms

LABOUR AND PRODUCT MARKET REFORMS: ADAPTION, NOT REVOLUTION
Key measures :

• More emphasis on in-house labor agreements as opposed to sector-level negotiations, a significant dent on French unions’ power;
   
• Removal of the global assessment of a company profitability from a legal standpoint when restructuring of a French-based facility is considered;
   
• Caps to severance benefits including in the case of a negative court ruling post termination;
   
• Softening of the 50 employees threshold for requirements such as works councils and health and safety councils: a company passing the 50 employees threshold will have several years to comply with these social requirements;
   
• Earlier on (when Macron was in charge of the Economy Department), free competition was extended to several sectors (public transportation among others) and opening hours liberalized, including sacred cows such as Sundays.

CHANGES IN TAX POLICY AND CAPITAL FRIENDLY
Wealth tax scrapped. Actually, the tax base was changed: only real estate wealth remains taxed while financial wealth is not. A very significant change when it comes to the compensation of top managers and experts, especially when combined to:

• Flat tax rate on all financial income (interests, dividends, capital gains), including social contributions. Tax rate set at 30%, which is competitive compared to other constituencies. 
• Statutory corporate tax rate incrementally cut to 25% in 2022 from 33% (28% in 2018). Reduced tax rate (15%) for SMEs retained.
• Reduction of payroll taxes, funded by an increase of a proxy income tax (CSG), thus reducing the tax wedge.

NATIONAL RAILWAYS REFORM
Second important attempt to weaken the power of public transportation unions (first step by Sarkozy, imposing minimum service in case of strike). Opening to competition (not really a reform, this is an EU requirement), end of ‘special status’ for railways employees, new governance for the company.
 
PENSION REFORM: IN THE MAKING
The purpose of the reform is to keep the PAYG system while moving toward a single system (instead of a universal first pillar plus a myriad of complementary systems) : either a notional accounts system (as in Italy) or an ‘accumulated points’ system. The key decisions have not yet been taken: what about existing complementary pension funds (especially for high wage earners), the funding of the new system, the transition, the trade-off between public and private sector... One thing is known: the legal retirement age (62) won’t change.
 
A NEW – BUSINESS FRIENDLY – MINDSET AT THE TOP
The most visible change since Macron won the presidential election in May 2017 is the personal attitude of the President vis-à-vis the corporate world. Eager to listen to companies, to convince them that France is ‘the place to be in’, Macron has been courted by the CEOs of many of the largest multinationals. Numerous testimonies heard by Institut Montaigne show that the very image of France has changed, more by the behavior of the President than by actual reforms. This is a strong point: business leaders know how important the message from the leader is. It could also be a weakness, since it depends on the political future of Macron.

Tangible results: FDI, corporate investment and industry jobs

Although structural reforms cannot change a 2.4Tn€ economy in a couple of months, especially when they are incremental rather than radical, there are already measurable effects of Macron’s reforms and new mindset.
 
FDI: THE SHARE OF FRANCE WITHIN THE EU HAS MORE THAN TREBLED
The most spectacular change is visible in net inward foreign direct investment (excluding real estate). Over 2010-2016, France managed to attract 5.8% of the aggregate inward FDI pouring into the EU, while its share of the EU’s GDP is 15%. In 2018, the French share of inward FDI jumped to 20%, second only to the UK (22.9%) and the Netherlands (24.8%), well above Spain (15.8%).
 
FRENCH INDUSTRIAL COMPANIES ARE VERY POSITIVE ON THEIR CAPEX PLANS
According to the quarterly Insee survey of industrial companies, capex is expected to rise by 10% in 2019, three times faster than over 2016-2017, despite rough global economic conditions. Companies are positive on aggregate demand and on profitability, which are the textbook factors influencing capex decisions.
 
MANUFACTURING JOBS RISING FOR THE FIRST TIME SINCE 2001
The French manufacturing sector has been contracting in terms of payrolls since the end of 2001, including during the late stages of the pre-crisis cycle. Starting at the end of 2017, this negative trend had been reversed. Stronger demand cannot fully explain this change, given its modesty. The most likely factor is the reduction of labour costs at the bottom of the qualification range and, more recently, the positive perception of the labour market reforms, as shy as they may be.