France's borrowing costs have reached 5%. Is there a risk of a "Eurozone 2.0" crisis?

A new wave of selling of French government debt on Wednesday caused the yield on 10-year French bonds to rise by 0.08 percentage points, reaching 5% for the first time since 2002, according to the Financial Times.

The yield spread between 10-year French bonds and comparable German bonds—a key indicator of investor confidence in French government debt—has narrowed to nearly 1.6 percentage points. Investors are increasingly concerned about the stability of the country’s political situation and the state of its public finances, the FT notes.

The sell-off of French bonds risks escalating into a crisis in the eurozone that would overshadow the debt crisis that began in Greece in the early 2010s, warned Sonal Desai, director of fixed-income investments at Franklin Templeton.

“I don’t think anyone is truly prepared for a Eurozone debt market crisis 2.0, and if that scenario plays out, the situation could turn out to be much worse,” she said at the Franklin Templeton Fixed Income Forum on October 21 (as quoted by Bloomberg).

France is one of the founding members of the European Union; its economy is estimated at approximately €3 trillion, and its national debt at approximately €3.6 trillion, Desai noted. “France’s debt is more than 10 times higher than Greece’s was. Simple financial aid is not an option here,” she said.

That said, the current situation differs from previous years: France retains its investment-grade rating, French banks—major holders of sovereign bonds—are better capitalized than they were in 2010, and the European Central Bank has repeatedly demonstrated its ability to quell turbulence in the debt market over the past few years, Bloomberg notes.

Desai stated that Franklin Templeton includes assets in Italy and France with shorter durations in its bond portfolios. At the same time, the company takes a more optimistic view of Spanish and German government bonds. “We shouldn’t underestimate the likelihood of significant volatility in the eurozone,” Desai concluded.

France was hit harder than other countries by the massive sell-off of bonds in G7 markets: the war with Iran fueled inflation and put particularly strong pressure on economies with high public debt and significant budget deficits. As recently as late February, France’s borrowing costs stood at 3.2%, after which they began to rise amid investor doubts about Paris’s ability to reduce its budget deficit amid political instability.

Political uncertainty is heightened by the prospect of the 2027 presidential election, in which Marine Le Pen and Jean-Luc Mélenchon—leaders of the far-right and far-left political movements, respectively—could advance to the second round.

“The political willingness to take any measures to consolidate public finances before the election is extremely, extremely low,” Jeff Mueller, co-head of the fixed-income division at Morgan Stanley Investment Management, told the FT. In his view, the situation may well continue to deteriorate.

This article was AI-translated and verified by a human editor