Acting on the recommendations of industrialist Louis Gallois, France will grant businesses 20 billion euros ($25.7 billion) in annual tax credits as a way of boosting the country's economic competitiveness.
The tax break, however, falls short of the 30 billion euros "competitive shock" recommended by the government-commissioned Gallois report.
The tax credit will apply to all businesses, not just to exporters, and benefits must be used to boost investment and employment, not to fund dividends or share buybacks.
To finance the projected revenue shortfall, the government plans to raise the main consumption sales tax to 20 percent by 2014, up from 19.6 percent today. The "intermediate tax," which covers items such as restaurant meals and home renovations, will also raise to 10 percent from 7 percent. The government also aims to save 12.5 billion euros from cuts to public spending and health insurance from next year.
Paying for the shortfall will see the government break an earlier promise that there would be no sales tax hike during President Francois Hollande's five-year term.
Prime Minister Jean-Marc Ayrault, after a meeting of officials to discuss the economy, said in a statement on Tuesday that the government had been forced to act because France "has known a decade of industrial stagnation."
France is not condemned to the spiral of decline. But we need a jolt at a national level to regain control of our destiny. France must win back its role as a great industrial power.
According to Ayrault, the tax credits are equivalent to a 6 percent subsidy in labour costs - which are among the highest in Europe.
Finance minister Pierre Moscovici is hopeful that the measures will lead to the creation of over 300,000 jobs over the next five years, as well as add half a percentage point to annual GDP growth over the same period.
"It is a moment of truth," Moscovici said. "It is a step no French government has taken before."
However, the government avoided a reduction in social welfare contributions by employers and employees alike, another key recommendation by Gallois, postponing any reform of the country's welfare system until next year.
France's convoluted welfare state, one of the world's most generous, is largely financed by payroll taxes. At the same time, the so-called social wedge - the reduction in workers' take-home pay that results from the taxes paid by them and their employers - is among the largest in the world, according to data from the Organization for Economic Cooperation and Development.