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France readies response to shock therapy industry call

French General commissioner for investment Louis Gallois waits outside France's Prime Minister Jean-Marc Ayrault's office to hand over his r
French General commissioner for investment Louis Gallois waits outside France's Prime Minister Jean-Marc Ayrault's office to hand over his r

By Catherine Bremer and Emmanuel Jarry

PARIS (Reuters) - French industrialist Louis Gallois called for a patriotic effort to reverse declining competitiveness through shock therapy as he handed in a review on Monday which the Socialist government commissioned and is now under pressure to heed.

Gallois prescribed slashing 30 billion euros ($38 billion) off payroll taxes and compensating with spending cuts and higher consumer taxes to try and stem a long industrial decline that has eaten away at exports and bled factory jobs.

"The French people need to support this collective effort which could be a magnificent project for our country -- winning back our industry," Gallois said after handing the prime minister 22 proposals. "This will require real patriotism."

The widely leaked recommendations set frustrated industry heads against a government reluctant to shift part of the tax burden from employers to households which are already struggling with rampant unemployment and an austerity budget.

President Francois Hollande has dampened expectations of any radical reform in advance by ruling out any "shock" measures.

But he told reporters with him on a visit to Laos the government would outline "strong decisions" in its response to Gallois on Tuesday as he seeks to quell anger from business leaders who feel he does not have their interests at heart.

"We are working on all the options," Industry Minister Arnaud Montebourg said in Paris, but declined to comment on an online report by Le Point weekly which said the government will offer companies tax credits from next year as a compromise.

Without citing sources, Le Point said temporary tax credits adding up to 20 billion euros would be offered to firms keeping jobs in France. That would be balanced by public spending cuts and a tiny rise in the value-added tax rate to 20 percent from 19.6 percent.

Industry leaders, who say shouldering some of the highest labor charges in the world puts them at a disadvantage against foreign rivals and is the cause of a ballooning trade deficit, have joined forces recently to demand a radical shake-up.

Gallois said that a palpable "shock" to the system was the only way to jump-start industry and that cutting social charges would have a direct and rapid impact on operating margins.

He steered clear of suggesting loosening the rigid labor laws that make it hard for firms to hire and fire in response to changing business cycles, a sensitive issue the government is already broaching in talks with unions.

But he advocated keeping a series of business-friendly policies in place for five years, creating tax incentives for investment in small businesses and lifting some of the legal and fiscal obstacles for small firms trying to grow bigger.

HOLLANDE'S HEADACHE

Finding a solution to the lag in competitiveness that has left France trailing Germany in industrial exports, putting a strain on the economic balance between the euro zone's central economies, is Hollande's biggest challenge.

Impatience among business leaders is growing, as evidenced by a recent online revolt by entrepreneurs that forced Hollande to back down on a tax hike on capital gains that would have hurt incentives for starting businesses.

"I do not want us to wait until the end of 2013 to take these measures which are essential for business morale and for workers. We need a shock, we need to see a real strategy that is going to benefit companies," said Jean-Francois Roubaud, head of the CGPME small and medium-sized business confederation.

Laurence Parisot, head of the Medef employers federation, hailed Gallois' report as showing that a "big bang" economic rescue plan was urgently needed.

With French growth stalled for three quarters and jobless claims at a 13-year high, Gallois recommended slicing 20 billion euros off employers' social contributions and 10 billion off those paid by workers. The lost revenue could be made up with higher VAT, a carbon tax and by increasing a social levy paid on pensions, investments and rental income as well as wages.

Hollande is leery of angering an already disgruntled public, however, and has already scrapped a VAT hike his predecessor Nicolas Sarkozy proposed for the same reason.

His aides have thus far said that raising taxes on households is out of the question as the country grapples with its toughest austerity budget in years to meet deficit goals.

"This report is a contribution. It's the government that governs," Social Economy Minister Benoit Hamon warned on Sunday.

Hemmed in by his pledge to cut the 2013 deficit to 3 percent of economic output from 4.5 percent this year, Hollande has limited his language to promising a "competitiveness pact".

"A shock causes trauma whereas a pact reassures," Finance Minister Pierre Moscovici explained last week.

He argued that shifting more of the tax burden onto households too fast risked choking domestic consumption, a key growth motor. He last week rebuffed a call by the AFEP business association to raise VAT to 21 percent to enable lower labor costs and said the focus would be on innovation.

CEMETERY OF REPORTS

Where booming Germany clocked a 2011 trade surplus of 158 billion euros, France saw a record 70 billion euro deficit as its share of euro zone exports has slid to 13 percent from 17 percent a decade ago and its global market share also shrank.

German unemployment is at 6.9 percent versus 10.2 percent in France, which has lost 750,000 industrial jobs in a decade.

French manufacturing margins have slid as Germany's have soared, impacting spending on new technologies and innovation.

Meanwhile, a loss of faith in what many see as a plodding approach to fixing the economy has knocked Hollande's approval ratings to as low as 36 percent from over 60 percent when he took over from the conservative Sarkozy in May.

Grappling with new layoffs in the steel and auto industries, Hollande is not expected to tackle the issue of payroll contributions before a review on welfare financing in January.

Many economists fear the report by Gallois, ex-chief of aerospace group EADS, could end up stuck on a shelf alongside a similar review ordered by Sarkozy when he took office in 2008. That report, by economist Jacques Attali, called for an overhaul of labor laws and cuts to labor charges.

"The worst would be for this to end up in our cemetery of buried reports," Le Figaro daily said of the Gallois review.

(Additional reporting by Alexandria Sage in Paris and Julien Ponthus in Vientiane; Writing by Catherine Bremer; Editing by Philippa Fletcher and Giles Elgood)

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