The Netherlands: Economy caught in austerity trap
Economic Quarterly Report
The Dutch economy remained in recession in the first quarter. The available evidence points to a further decrease of economic activity in the second quarter. With that, the performance of the Dutch economy is lagging behind our earlier expectations. We are expecting a 1% contraction of the GDP volume in 2013 and stagnation for 2014.The lack of recovery is mainly due to very weak domestic demand. Additional government budget cuts to bring the deficit within the European norm of 3% are holding the prospect of recovery hostage.
Figure 1: GDP contraction slowing
Source: Statistics Netherlands
The Dutch GDP volume contracted by 0.1% in the first quarter compared to the last quarter of 2012 (figure 1). The present economic recession – the third since 2008 – has therefore continued until now. The extent of the contraction was mitigated by a 0.4% quarter-on-quarter increase in private consumption, which resulted from a substantial rise in gas consumption due to the protracted winter weather. Other domestic spending fell sharply. Investments fell substantially across the board and trimmed 1%-point off GDP growth. Negative inventory investment subtracted 0.5%-points from the headline figure. Government consumption fell 0.8% on a quarterly basis. The 1% increase in the export volume was a rare positive sign.
Export growth remains limited
Export growth will remain a driver of economic growth this year and next year. Owing to the contraction of employment and a non-proportional decrease in production and low wage growth, labour costs per unit of production are not expected to increase further, unlike last year. Moreover, the expected appreciation of the euro will remain limited this year and next year (see Rente en Valuta in the Dutch version of this Quarterly Report). As a result, the Netherlands’ price competitiveness will remain reasonably intact. It is therefore mainly the lack of volume growth in its trading partners’ imports that is impeding a more vigorous growth of Dutch exports. Although we are expecting slightly stronger growth of world trade volume for 2013 than for 2012, the growth of the export market for the Netherlands will be hampered by the economic problems in the eurozone (see Eurozone in the Dutch version of this Quarterly Report). Next year, we expect positive GDP growth for the eurozone and foresee growth to accelerate in the US, the UK and the emerging economies. Following an increase of 3.3% in 2012, we are expecting export volumes to grow by 2½% in 2013 and 3½% in 2014.
Households continue to cut back consumption
The volume of private consumption decreased by 1.4% in 2012. By contrast to 2009 and 2011, this contraction was fully attributable to a decrease in real disposable income (figure 2). A decrease in the macro-economic individual gross savings of households prevented an even stronger contraction of consumer spending. Those lower savings are remarkable. Owing to the fall in house prices by almost 20%, between 13% and 25% of households living in owner-occupied property have a net mortgage debt that exceeds the value of the mortgaged property . Households wishing to move will try to reduce their debt, to be able to sell their house with no or a lower residual debt. For households that do not want to move, the falling property value can also be a reason to cut back spending. More generally the uncertainties concerning the economic situation, the level of future pension payments and the future of social security and the healthcare system could prompt households to aim to reduce their debts or build up extra assets. But, as the lower savings attest, we are not seeing much of this yet in practice. We discuss this in more detail in box 1.
Figure 2: Lower income, less savings
Source: Statistics Netherlands
Due to a further decrease in employment, a fall in real wages and a significant increase in tax and social insurance contributions imposed by the government, we expect to see a further fall in real disposable income this year. While inflation will be significantly lower next year compared to this year because the October 2012 VAT increase will drop out of the inflation calculation, wage growth will remain moderate due to the growth in unemployment. We therefore expect a further decrease in real wages. Employment is expected fall slightly in 2014 as well. In addition, the government appears likely to increase tax and social insurance contributions through additional austerity measures, which will add to downward pressures on disposable income.
The continued decrease in real disposable income will make it more difficult to build up assets and reduce debt, as it did last year. But a further decrease in savings is not likely. As a result, consumer spending is expected to contract both this year and next in line with the fall in disposable income. We expect the volume of consumption to fall by 1½% and 1¼% in 2013 and 2014, respectively.
Box 1: On savings, assets and liabilities
The macro-economic savings summarise the spending behaviour of all households together. Some households consume less than their disposable income and are therefore building up assets or reducing debt. Others consume more than their disposable income by building up debts or using up their assets.
Excluding the pension funds, in 2012 the build-up of financial assets from income was slightly lower than in the preceding year (figure 3). In addition, households invested less in residential properties and other fixed assets. Although the increase in savings deposits in 2012 was higher than in the preceding year, current account balances decreased, thereby moderating the growth of total credit balances at banks. The decrease of investments in bonds and equities was less pronounced than a year earlier, due to the improved sentiment on the financial markets. On balance, households did not build up extra assets in 2012 compared to 2011. Against that, the build-up of liabilities was higher than a year ago (figure 4). The growth in loans outstanding was significantly lower in 2012 than in the preceding years. Households are less willing to take on debts. This is partly due to a fall in the amount of consumer credit outstanding but mainly due to slower growth of the amount of mortgage loans outstanding. Due to a very rapid growth of the item ‘other accounts payable’ – which in our view reflects mainly unpaid bills for households – the increase in total household liabilities in 2012 was much higher than in 2011. Although there are more signs on the asset side than on the liability side of the wish to deleverage, a part of the households has not pared back the volume of their consumption in line with the decline in real disposable income, resulting in a build-up of debt through unpaid bills. That is the main explanation of the lower savings in 2012.
Investments continue to fall
Weak domestic dynamics were clearly manifest in the first quarter in the manufacturing industry, where gross added value fell by 1.3% in the first quarter compared to the preceding quarter; the largest contraction since the global recession of 2009. Capacity utilisation continued to fall in April, to 75.6%, well below the maximum level recorded after 2009 (80.6%, mid-2011). Gross value added in the manufacturing industry is currently 5.7% below the start of 2008. Other sectors are likewise faced with production levels that remain below the level before the Great Recession (figure 5), meaning there is a reduced need for investments to replace (let alone to expand) production capacity. Business investments in the first quarter were 21% and residential property investments 37% below the levels at the start of 2008. Due to growing investments in the export-focused sectors we are expecting limited growth of business investments for 2014. But because residential investments are expected to decline further, total private investments will rise by a mere 1%.
Unemployment continues to rise
Unemployment has been increasing rapidly for some time and reached 6.5% of the working population (figure 6) in April 2013 based on the international definition, the highest level seen since 1996. Unemployment has risen since mid-2011, mainly because the labour force increased faster than employment. But more recently, employment has fallen quite rapidly. Pressure on capacity utilisation and profitability are increasingly causing companies to dismiss staff. The government likewise started to cut back jobs. Economic growth is unlikely to be strong enough up to late 2014 to cause employment to increase. We consequently expect unemployment to rise further. We are expecting unemployment to average 6¾% in 2013 and 7½% in 2014.
Holding on to ‘3%’ requires additional austerity
Despite substantial spending cuts and tax increases, the Dutch budget deficit will again exceed 3% this year. However, the Rutte cabinets I and II have not been sitting by idle. The measures already in place have improved the structural budget balance significantly over the past years. The worsening economic conditions however mean that tax revenues have disappointed and spending
– particularly on unemployment benefits – is rising faster than expected. At the same time, the government has successfully reduced collective government consumption, partly by the workforce reduction referred to above.
Table 1: Key figures The Netherlands
Source: Statistics Netherlands, Rabobank
Our estimate for 2014 sheds a more negative economic picture than the government expected at the time of the so-called Social Agreement. This means that the ‘green shoots of recovery’ that Prime Minister Rutte hoped for have largely remained absent. The European Commission (EC) has asked the Netherlands to implement EUR 6 bn worth of additional austerity measures to bring the budget deficit to below 3% of GDP. In our economic forecasts we have assumed that the government will abide by this recommendation. This means that the EUR 4.3 bn package of possible austerity measures that was presented in March will have to be expanded before Prinsjesdag (budget day on the third Tuesday of September). These additional budget cuts and tax hikes will stifle the modest economic growth that we had previously foreseen for 2014. Since our economic forecasts are more negative than those of the EC, we do not think that these additional measures will suffice to reduce the deficit to the 2.8%-GDP target that the EC has set.
Recession and austerity measures in vicious cycle
We have repeatedly argued that additional austerity measures would not be wise in the present economic circumstances (see for Special 13/04 Mind the fiscal speed limit). But the political reality results in a firm focus on the deficit threshold of 3%. This perpetuates the negative spiral of low economic growth and austerity measures, which means that the economic malaise in the form of high unemployment and a high level of corporate bankruptcies is set to continue into 2014. It also makes it very difficult for households to reduce their debt and to save. We are currently seeing servings of dishes from the policy menu of the 1980s recession. A better choice would be to serve households something more tasty that would give them the appetite as well as the ability to increase their consumption.
This is a translation of a part of the Dutch version of the Economic Quarterly