French Financial System Resilient, but Sovereign Debt and AI Valuations Pose Risks

The Banque de France's Financial Stability Report states the French financial system remains resilient despite increased domestic and external shock risks. However, elevated sovereign debt, high AI valuations, and non-bank financial sector vulnerabilities pose significant concerns.

Sovereign Debt Trajectories Under Scrutiny

Public debt levels globally are at record highs, leading to increased sovereign bond supply and rising long-term rates.

Yield curves steepened sharply in 2025, particularly in Japan and the UK.

Volatility spikes in sovereign debt markets could be amplified by unwinding leveraged repo positions, a strategy expanded by hedge funds since 2022, especially on US Treasuries.

The Banque de France notes that threats to Federal Reserve independence could further increase volatility and steepen yield curves in the United States.

In France, the sovereign debt market remains highly liquid, but persistent fiscal deficits could erode supporting factors, risking deviation from expected trajectories and further rating downgrades.

Such a scenario could lead to higher volatility and reduced liquidity, potentially amplified by procyclical actors.

Ensuring a sustainable debt trajectory is essential, as sovereign debt issuance volumes will remain very high in the euro area in 2026, particularly in France and Germany.

AI Valuations and Market Fragilities

Valuations on risky asset markets, particularly those driven by US artificial intelligence (AI) companies, have rebounded to historically high levels.

Doubts intensified in late 2025, with market sensitivity to corporate earnings signaling potential for a sudden correction.

Credit risk premiums remain compressed despite US loan defaults.

Contagion from a US market correction could transmit to European markets, amplified by non-bank financial intermediaries (NBFIs) exposed to leverage and liquidity risk.

The rapid growth of NBFIs and their interconnections with banks demand greater transparency and appropriate risk management.

Crypto-asset markets also remained highly volatile, with total market capitalization falling by 24% between September and December.

Resilience Tested by Systemic Pressures

The French banking and insurance sectors demonstrate robust resilience, underpinned by strong capital and liquidity levels, despite increasing systemic pressures.

Yet, the report highlights a growing divergence between this institutional strength and fragilities in sovereign debt markets and interconnected non-bank financial entities.

This suggests the broader ecosystem faces complex, evolving challenges demanding enhanced transparency and proactive risk management.