France lost its top credit rating with Moody's Investors Service, dealing a blow to the president François Hollande's efforts to show budget credibility in the face of a stalled economy.
France was cut to Aa1 from AAA, the rating company said yesterday.
The Moody's downgrade follows one by Standard & Poor's in January and increases pressure on Mr Hollande to find ways to bolster growth in Europe's second-largest economy in the midst of the region's three-year-old debt crisis.
Moody's said its decision to downgrade the rating and maintain the negative outlook reflects France's long-term economic growth outlook, which is negatively affected by multiple structural challenges. The fiscal outlook is uncertain as a result of its deteriorating economic prospects.
Since taking office in May, Mr Hollande has pressed Germany to do more to end the debt crisis, while focusing on tax increases at home to pare France's budget shortfall. Last month, his government set out €20 billion in new levies on the rich and big companies that are intended to reduce the deficit to 3 per cent of GDP next year.
Buffeted by the European Central Bank's offer to help finance struggling governments under certain conditions, Mr Hollande has so far received support from his investors even after the S&P downgrade.
French borrowing costs have tumbled since he took office, with the yield on the nation's benchmark 10-year debt dropping to a record low of 2 per cent on August 3 and shorter-term notes selling at negative yields for the first time in July. French 10-year bonds yielded 2.07 per cent yesterday.
Yet with an economy that has failed to grow in three quarters and unemployment at a 13-year high, Mr Hollande needs to act quickly to address France's lack of competitiveness by improving labour market flexibility and lowering wage costs, say economists.
Mr Hollande said in September that he wanted unions and business leaders to agree on an overhaul of France's job regulations by the end of the year or he will impose one himself.
"If this historic compromise is reached by year-end, this reform will be given the force of law," Mr Hollande said on TF1 television. "But if the partners can't agree, then I'm sorry, but then the state will assume its responsibilities."
Mr Hollande gave himself a two-year window to fix the French economy, repeating pledges to reduce the deficit and hold down spending. The nation's debt burden will peak at 91 per cent of GDP next year, the 2013 budget estimates.
"We expect the government to come forward with proposals on the labour market, competitiveness and the financing of the economy towards year end," said Fabrice Montagne, an economist at Barclays in Paris.
