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‘Are the French headed for a Frexit?’

The market is currently eyeing the upcoming French Presidential election with a cautious view as many associate a win for Ms. Le Pen with a French departure from the Euro-zone. What seems partially misunderstood is quite how much of a stretch ‘Frexit’ actually is – to focus on the 1st round of the Presidential election is to ignore the number of hurdles required to see France follow in the UK’s footsteps. Below, I explain what would be required for this event to unfold and why this appears unlikely.

Source: Argonaut Capital, 14 March 2017

1. Success in the 1st Round of the Presidential Election

On April 23 the French people will vote in the 1st round and it is widely accepted that Ms. Le Pen will win with current polls showing a lead of 27%. This would not be seen as a surprise and we would expect this to be a relatively benign market event, however, a significant victory ahead of her closest rivals could certainly raise a few eyebrows.

Source: Bloomberg, Argonaut Capital, 14 March 2017

It is at this point that the two winners from the 1st round would proceed to the 2nd and final round of the Presidential race (assuming no-one takes an absolute majority in round one).

2. Success in the 2nd Round of the Presidential Election

Set to take place on May 7, the 2nd round dynamics are very different from the 1st. Those votes cast for the losers of the 1st round would be expected to then shift to Ms. Le Pen’s opponent – this makes sense when you look at the big picture rationale behind the vote1. Put yourself in the shoes of a French voter – if you did not vote for Ms. Le Pen in the 1st round are you likely to do so in the 2nd? Not unless you suddenly think France shouldn’t be part of the Euro-zone – quite a big change of heart.

Ms. Le Pen would need an absolute majority to win the 2nd round and no poll to date has indicated that this could be achieved.2 The latest 2nd round polls have Macron-Le Pen at 61-39 and Fillon-Le Pen at 57-43.3

3. Parliamentary Elections

Legislative elections are scheduled for June 11 and June 18 at which point the public will decide how the 577 seats of the National Assembly are allocated. The Front National currently hold two seats, 287 short of the desired majority.

Once again, the two-round voting system favours the other parties at the expense of the Front National. Historically, under an arrangement known as the “Front Republicain”, the weakest candidate from either the Republicans or the Socialists has historically stood down to ensure a unified vote against the Front National. The expectation is this plays out again4.

As a guide, in 2012 the Front National won 13% of the 1st round legislative elections but ended up with only two seats.

4. Obtaining the right to a French Referendum

A referendum could be brought about subject to whether or not it is interpreted as a constitutional (Article 895) or legislative (Article 116) act. The former would require passing in both the National Assembly and the Senate, the latter would require approval from a nine member panel of the constitutional council, widely regarded as being pro-European.

5. Win the French Referendum

Based on past predictions around referendums I wouldn’t like to say too much about the likelihood of a failed vote for the Frexiteers, I think it more prudent to highlight the limited chance it even gets to this stage.

In short, if Ms. Le Pen’s chances of becoming President are thin, the chances of getting a parliamentary majority in both houses are even thinner. That said, it would be nothing short of irrational to completely deny the possibility of a Le Pen Presidency and a supportive parliament – just look at how 2016 turned out, however, the point I make is that the odds are stacked heavily against this outcome unfolding.

Whilst certain events - a terrorist threat, a higher than expected result in the first round or even Presidential victory for Ms. Le Pen – would certainly bring about the re-emergence of Euro-zone break up fears, I would argue that the overall impact should be limited on the downside.

Alternatively, in a situation where the pro-reformist Macron or Fillon win the Presidency and claim a parliamentary majority the market would no doubt see this as a positive. This scenario would provide France with the much needed energy for structural change that it has been lacking for some time. Europe would also see the benefits – only last Thursday Draghi referred to the slow pace of structural reform which is dampening Euro-zone growth.

If 2016 has told us anything, it is that political outcome and market reaction are not easily predicted – just look at the impact of President Trump. It is not unimaginable for a situation to arise whereby Ms. Le Pen wins the Presidential election but fails to gather the parliamentary majority, an event which might well see the ECB act to provide more stimulus.

Archie Tulloch
Argonaut Capital
March, 2017

1 No. 1 of Marine Ms. Le Pen’s policy mandates refers to a negotiation with France’s European partners followed by a referendum on France’s membership of the European Union.
2 Bloomberg
3 OpinionWay 10-12 March 2017
4 Whilst the emergence of the independent Macron adds further complexity it is likely that the arrangement will still hold.
5 Article 89 requires proposal by the Prime Minister and to be passed by both the National Assembly and the Senate. (Important to note here that the Senate elections take place in September and voting is cast on an indirect basis by a panel of ‘electors’ – this may favour the anti-Front National parties further).
6 Article 11 effectively permits the calling of a Referendum where it does not constitute a constitutional reform. This would require her to convince the nine member constitutional council, currently composed of broadly pro-European members. In an event where it is not deemed constitutional reform, Article 11 requires approval by 20% of the elected parliamentary officials and 10% of the French people.

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