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France's Sarkozy in Talks on More Fiscal Austerity

French President Nicolas Sarkozy is due to meet with Prime Minister Francois Fillon, Finance Minister Francois Baroin and Budget Minister Valerie Pecresse on Wednesday morning to decide where to slash the national budget.

French President Nicholas Sarkozy
Trago | Getty Images
French President Nicholas Sarkozy

With a public deficit of 5.7 percent of gross domestic product in 2011, the downgrade of the US credit rating by S&P earlier in August sounded like a strong warning to the French that they might lose their AAA if they don't make drastic cuts.

Earlier this month, France's top rating was confirmed by S&P but yields on French debt have risenwith analysts blaming exposure of French banks to periphery euro zone countries and a need for more austerity in the country.

In order to achieve what it calls "budget virtue," the French government will have to decide where to slash expenditures—the ultimate goal being to bring the shortfall down to 4.6 percent next year and eventually to the euro zone's compulsory ceiling of 3 percent in 2013.

The government is expected to target tax loopholes. The country's fiscal system has around 500 loopholes—or exceptions to the general tax rule—which result in a 75 billion euros ($108.3 billion) tax shortfall, Baroin said earlier this month.

One of the targets would be to end tax cuts over green investments or investments in vacation homes.

However, with presidential elections taking place in France in 2012, the timing of the austerity drive is not ideal for president Sarkozy and the government has announced there will be no direct tax increase.

Taxing the Rich

This is also why the government is expected to spare the ordinary people and look for money in large companies, financial sector and richest people's pockets.

Earlier this week, some of the French superrich have agreed on an exceptional taxon "extravagant incomes." This 1-to-2 percent tax would target taxpayers with an annual income of 1 million euros and above.

Savings and investment may also be targeted in the drive to boost government revenues. The 12.3 percent social security contribution that those who earn from dividends and other capital gains have to pay could be raised to 14 percent.

Big companies will also have to dig deep into their pockets, as rolling their losses over to the next year in order to lower their tax on earnings may not be possible anymore.

The government may also target overtime. "Working more to earn more," was one of Sarkozy's strongest slogans during the 2007 campaign. Pay for overtime was not taxed but now the calculation method for these hours may change, and result in the employers paying charges for overtime.

With all these measures, the government is expecting to save between 3 and 4 billion euros this year and up to 10 billion euros next year.

This extra cash is much needed, as the government is also expected to lower its GDP growth expectations from 2.25 percent to 2 percent. This would result in a 2.5 billion euros tax shortfall, since any 0.1 percent decrease in the French GDP represent a loss of one billion euros in taxes.

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