The Netherlands: economic growth remains high
- Economic growth in 2017 highest in ten years
- New coalition agreement good for growth but reduces budget surplus
- Positive signs for growth in the third quarter
- Core inflation remains low
The Dutch economy continues to experience a strong and broad-based economic recovery. The second quarter showed an unusually high growth rate of 1.5% q-o-q. This strong quarterly performance is a major reason why in our most recent forecast we predict growth to hit 3.3% in 2017. The economy is firing on all cylinders, with consumption, exports and investments all contributing. We expect the Netherlands to return to full capacity in 2018, which will contribute to a slowing of growth to 2.4% in 2018 (table 1).
New coalition: pro-growth policies, but modest fiscal deterioration
On October the 10th the new governing parties in the Netherlands released their coalition agreement to the public. The agreement proposes a number of reforms, most notably of the tax system. There will be a tax reduction for households of around 5 billion euros, partly due to the implementation of an income tax system consisting of only two brackets (instead of the current four). The tax reforms are expected to be implemented from 2019 onwards, so the strongest effects on GDP (mostly due to higher household consumption) won’t be visible until 2019 at the earliest. In our next forecast round we will make economic predictions for 2019 and assess the GDP impact of the proposed plans in more detail.
Other economic reforms include steps to make the labour market more flexible and measures to improve environmental policy. Significant additional spending is planned on education, defence and domestic security, which will increase GDP growth in 2018. In our next forecast round we will include these effects.
Together the plans should modestly improve the potential output of the Dutch economy. The plans do have a negative impact on the government fiscal surplus. According to the Bureau for Economic Policy Analysis (CPB) because of the package of measures proposed in the coalition agreement the forecasted fiscal balance in 2021 will deteriorate from 1.6% to 0.5% Nevertheless, that still leaves a balanced budget and, thanks in part to higher GDP, the CPB forecast that the debt-to-GDP ratio will continue to decline to 45.8% in 2021.
Mostly positive signs for GDP growth in 2017Q3
Recent monthly economic data suggest that GDP growth in the third quarter could be higher than our current estimate of 0.5%. The volume of household consumption decreased with 0.4% m-o-m in August, but growth momentum (3m/3m change) remained strong at 0.9% (figure 2). Higher household disposable income and historically high consumer confidence are both supporting consumption growth.
Export volumes increased m-o-m in August (own seasonal adjustment), while growth momentum is currently high. In addition the manufacturing PMI point to high growth. The PMI reached 60.4 in October, the second highest level since measurements began seventeen years ago. A factor which could negatively contribute to GDP growth is natural gas production, which strongly declined in the last few months. All in all though, most monthly data point to solid underlying growth in the third quarter of this year.
Core inflation remains low
Dutch inflation (HICP) in September slightly declined to 1.4% (figure 3). Interestingly enough, food prices account for 0.5%-point of inflation, while a year ago food prices did not contribute to inflation at all. An important contributor to higher food prices are dairy products: for example, the price of milk is almost 30 percent higher than a year ago. In addition, energy and fuel prices account for 0.3%-point of inflation in September, possibly caused by a y-o-y increase of oil and gas prices.
With food and energy prices explaining about half of headline inflation, core inflation is currently only 0.7%. One reason for the low core inflation could be low real wage growth. In September nominal wages were on average 1.5% higher than in the same month last year, which is only barely higher than that month’s inflation. It fits in a trend we’ve seen play out the entire year, where real wage growth remains subdued despite declining unemployment. Should the output gap close somewhere next year and the supply of labour get more constricted due to rising employment, we might see real wages and subsequently core inflation growing at a faster rate again.