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The Netherlands: domestic growth offset by global factors, but both boost inflation

Economic Update

  • Domestic growth is likely to remain strong, but overall GDP growth will still slow
  • Consumption, both private and government, and business investment are driving growth
  • But trade is likely to act as a drag on growth, as rising imports outpace exports
  • Both domestic and foreign factors are creating conditions for higher inflation
  • Rising oil prices and trade conflict can push up import prices
  • Meanwhile, the tight labour market and VAT taxes can push up prices domestically

The domestic economy in the Netherlands will likely show strength into next year. Robust consumer confidence, employment growth and strong government spending are supporting domestic demand. The tight labour market and a healthy outlook for domestic demand also favour capital investment. Nevertheless, GDP growth is probably going to slow. Declines in home sales are likely to put the brakes on residential investment growth. More importantly, the combination of strong domestic growth –and thus imports– and slowing global trade growth translates into a significant net trade drag for an open economy like the Netherlands. The confluence of domestic and global factors could, however, finally push up inflation. Locally the labour market is tight and the government is going to hike VAT taxes in 2019. Internationally, oil prices have risen and tit-for-tat trade tariffs are all the rage.

Consumption and capital investment driving economy

The heat wave currently hitting the Netherlands also applies to the domestic economy. The labour market continues to support household incomes and confidence. Even though unemployment was below 4% in May, employment growth remains strong at close to 2.5% y/y. This has yet to translate into wide-spread wage growth, but recent labour agreements suggest both a more aggressive posture from labour unions and some upside potential for wages. In any case, consumption growth is strong at around 3% (figure 1). Meanwhile government spending plans are also driving state spending up (table 1). A tight labour market and strong domestic demand are classic drivers of business investment spending (figure 1). A survey by Statistics Netherlands suggests that industrial firms, at least, intend to invest 25% more in 2018. For the business sector as a whole we expect investment growth of almost 8% this year.

Table 1: Key data for the Netherlands
Table 1: Economic forecastsSource: Rabobank
Figure 1: Domestic demand strong
Figure 1: Domestic demand strongSource: Macrobond, Statistics Netherlands (CBS)

Housing market boom showing signs of fatigue

Figure 2: House price record, but slumping sales
Figure 2: House price record, but slumping salesSource: Macrobond, Statistics Netherlands (CBS)

Housing investment, however, is likely to slow this year. While the Dutch residential house price index reached a record high in May, home sales are declining (figure 2). The supply of houses available for sale in larger cities appears to have dried up. This has not been compensated by an increase in housing market activity in other parts of the country. While the tight markets in the big cities are likely to keep prices rising into next year (we expect an 8% increase this year and 7% in 2019) the drop in sales means that the housing boom is starting to look a little tired, especially in Amsterdam where the current boom started. The decline in transactions has a direct effect on our GDP forecasts, because it translates into a slowdown in residential investment. Simply put, fewer new home owners means less spending on new kitchens and bathrooms.

Even without a trade war, net exports will likely weigh on growth

While housing investment is one factor in the slowdown we forecast, far more important is the drag of trade on GDP growth. Strong domestic demand translates into strong imports. At the same time, the slowdown we expect for important trading partners weighs on exports. The trade conflict between the US and EU is likely to have some effect on specific export products –mainly steel– but the new measures and counter-measures are not substantial enough to be noticed on a macro level. An escalation of the trade conflict, however, has the potential to derail Dutch growth. We’ve calculated that in an extreme scenario where tit-for-tat actions increase tariffs to 20% on both imports from and exports to the US, that this would shave a cumulative 3 percentage points off of Dutch GDP growth up to 2023.

Are the stars aligning for an increase in inflation?

Even with the limited range of tariffs that have already been imposed, prices of some specific consumer products could rise. The EU has increased tariffs on a selection of US exports. Some of these products have a high import share in the Netherlands. These include cranberry juice and playing cards (figure 3). While this is unlikely to affect the overall price level, it does illustrate that trade wars not only lower growth via exports, but they can also push up prices. Oil prices are another foreign factor that has already led to a rapid increase in inflation (figure 4). This comes on top of domestic factors that are inflationary. These include not only strong demand and a tight labour market, but also the VAT hike that is planned for next year.

Figure 3: EU tariffs hit some products
Figure 3: EU tariffs hit some productsSource: UN Comtrade Database
Figure 4: Inflation popping up
Figure 4: Inflation popping upSource: Macrobond, Statistics Netherlands (CBS)

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