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France May Water Down 75% Tax Rate After Setback

Monday, 31 Dec 2012 | 12:02 PM ET
Phillipe Huguen | AFP | Getty Images

An embarrassing derailment of President Francois Hollande's 75 percent millionaires' tax may open an opportunity to water down a scheme that had damaged France's image with international investors, but he is unlikely to give up without a fight.

Finance Minister Pierre Moscovici has promised a redrafted tax on the wealthy will be pursued next year, following the Constitutional Council's decision on Saturday to strike down the emblematic rate on income over 1 million euros ($1.32 million).

(Read More: Top French Court Overturns 75% Upper Tax Rate)

However, Moscovici has so far avoided referring specifically to the 75 percent rate which has made some of France's wealthy, including film star Gerard Depardieu, announce they will move abroad.

In the banking community at least, expectations are growing that the tax may look very different when the Socialist government comes back with the revised plan, even though the original enjoyed strong support among the French public.

"I suspect this tax will be shelved. In the worst case he will come back with a lower rate and in the best case it will be binned," said Philippe Gudin, a France economist for Barclays and a former Treasury official. "For the (low amount of) revenue it would raise, the outcry it has provoked and the damage it has done to France's image, it would be more sensible if it were quietly buried."

The Council said the tax was unfair as it would hit married couples where only one partner earned above a million euros but would not affect couples where each earned just under a million.

Opinion polls show that six in 10 French people back the tax. But while it would have affected only 2,000-3,000 people and raised just a few hundred million euros a year, criticism from the business sector and high earners has been incessant.

Hollande finds himself stuck between trying to appease investors who see him as anti-business and showing voters he remains serious about making the rich cough up more taxes.

Political analyst Olivier Duhamel said the government could accept the Council's ruling by making the 75 percent tax applicable to households, rather than individuals, and possibly raising the income threshold to 2 million euros.

Alternatively, it could using the Council's rejection as justification for making the politically risky decision to ditch the whole idea. "In politics, when things get difficult, you are stuck with unpleasant choices," said Duhamel.

The ruling will have little effect on public finances but it embarrassed the government again only a few weeks after it suffered a public relations fiasco over an attempt to rescue two shuttered steel furnaces.

Hollande will be wary of compounding his problems. "Giving up the 75 percent tax without a fight would be an admission of political weakness," said Stephane Rozes, of the CAP political consultancy.

French media have reported even one of Hollande's economic advisers muttered in private that a 75 percent tax rate amounted to turning France into "Cuba without the sunshine."

Deutsche Bank's Gilles Moec also believed Hollande had little to gain by picking a fight with his own supporters by surrendering, but might go for the higher 2 million euro threshold, meaning far fewer people would be hit.

"The damage to France's reputation is done. If they scrap it entirely they don't gain much and they get into trouble with their left wing. This would be a compromise," he said.

Hollande may clarify his plans for a redrafted supertax rate in a New Year's Eve speech on Monday evening.

'Blinkered State'

Hollande has been walking a tightrope since taking power in May as he tries to square his electoral priorities with the demands of financial markets and hold together a government made up of left-wingers and more pro-reform center-leftists.

Famous for having once said that he disliked rich people, he vowed from day one to fight Europe's focus on austerity policies and partially reversed a law that raised the retirement age.

He announced his 75 percent tax idea out of the blue on live TV midway through a campaign that was being overshadowed by a hardline leftist rival. It came as a shock even to his future budget minister Jerome Cahuzac who stumbled when questioned about it on French radio, saying he was not aware of the plan.

After six months in power, Hollande swung around and announced market-friendly moves to raise sales taxes and cut spending to fund tax relief for companies, explaining the nation that the scale of the economic crisis made this necessary.

He also capitulated to furious entrepreneurs who revolted over plans to raise capital gains taxes in 2013, agreeing to scrap the measure for small business owners.

Hollande seems to be struggling, however, to find the right path to tread. The 75 percent tax reversal is the latest in a series of communications gaffes that have critics muttering that he is figuring out policy as he goes along.

Hollande was ridiculed in November after London Mayor Boris Johnson, a British Conservative, likened his government to French revolutionaries for its threat to nationalize a steelworks where ArcelorMittal planned to shut two ageing blast furnaces.

In the end, the government secured only a promise that furnace workers would get jobs elsewhere, infuriating unions.

The tax setback, which drew scathing reactions in French media, is a new blow to Hollande's credibility. Senate finance commission head Jean Arthuis said the government had been punished for its "dogmatic blinkered state and its amateurism."

Commentators said Hollande was now in a corner over how to tweak the tax proposal to make it applicable to households — like regular income tax — rather than individuals without making it apply to tens of thousands more couples.

"This is a major legal mistake that could clearly have been avoided," Thomas Piketty, an economist who backs super taxes on the rich and helped inspire the 75 percent tax, told Liberation. "The Socialist Party had 10 years in opposition to prepare a coherent fiscal reform. We get the impression they have not done enough work on this crucial issue."

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