## KINGDOM OF THE NETHERLANDS — Netherlands Staff Report for the 2009 Article IV Consultation (_cr1034)

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---

### Executive Summary — Key Findings and Projections
- Vulnerabilities and exposure:
  - Large financial sector and strong trade and financial linkages make the Netherlands markedly vulnerable to the global crisis.
- Growth and inflation projections:
  - Staff expects GDP to contract by 4¼ percent in 2009, and expand by ¾ percent in 2010, with subdued inflation.
  - Recovery likely to take firm root only in the second half of 2010.
- Outlook and risks:
  - The outlook is unusually uncertain; risks are assessed as roughly balanced.
- External competitiveness:
  - External competitiveness is assessed as adequate; REER broadly in equilibrium by CGER methodologies.
- Financial sector impact:
  - Banks suffered major losses from foreign troubled assets and asset-price declines, requiring massive state intervention.
  - Mortgage and housing markets relatively stable so far; house prices declining since late 2008 (about 5 percent lower year-on-year at one point).
- Fiscal stance and outlook:
  - Large fiscal deficits of 4½ percent of GDP and 6 percent of GDP are expected in 2009 and 2010, respectively.
  - Public debt surged due to budget relaxation and financial sector assistance.
  - Estimated fiscal sustainability gap has risen substantially to about 8 percent of GDP.
- Policy responses noted:
  - State interventions: capital injections, nationalization, and government guarantees consistent with a “fix-it-and-exit” approach.
  - Authorities announced measures totaling 1¾ percent of GDP to be implemented, if enacted by parliament, from 2011, including an increase in the retirement age to 67 years.
  - Working groups to formulate by spring 2010 proposals for savings of up to 20 percent of budget expenditure and tax reforms.

### Staff Appraisal — Diagnosis and Policy Priorities
- Output and potential:
  - Real GDP to suffer an unprecedented fall in 2009 with only modest recovery in 2010; crisis has led to a sizable permanent loss of potential output.
- Financial sector priorities:
  - Interventions appropriate, but further bank capital strengthening needed—especially equity—to cover likely recession losses, augment buffers, and support intensified lending during recovery.
  - Prudential tightening should be gradual to avoid further tightening of credit conditions.
  - Suggested measures: proactive market access, quality-enhancing capital with higher equity proportion, restrictions on dividend payments.
- Regulatory and supervisory reforms:
  - Higher risk-weightings and capital requirements for resecuritizations and high-LTV mortgages.
  - Reduction of incentives for high-LTV loans, including limitations on mortgage interest deductibility.
  - Better data and stress testing for house-price-related exposures.
  - Improved cross-country supervision and resolution at the European level, broadly in line with the de Larosière proposals.
- Exit from support measures:
  - Prepare assessments of removing or curtailing exceptional liquidity support, deposit insurance, and deposit guarantee programs.
  - Complete institution-specific restructuring and divestment plans for entities with state equity or quasi-equity.

### Economic and Financial Situation — Real Activity, Inflation, Labor
- Recent performance and demand drivers:
  - Growth 2008: overall 2 percent; negative from 2008:Q2 onward.
  - Peak contraction: unprecedented 5 percent fall by 2009:Q2 (reduced to 3¾ percent in 2009:Q3, year-on-year).
  - Recession driven by collapsing exports and investment, inventory shifts, near-record declines in capacity utilization and confidence.
- Labor market:
  - Unemployment began to grow late in the year, reaching 3½ percent by September 2009.
  - Government-subsidized temporary reduced-hours schemes suppressed unemployment somewhat.
- Inflation and wages:
  - Inflation picked up in 2008 but fell sharply in mid-2009; wages expected to increase by around 3 percent in 2009 despite slack.

### Near-term Outlook, Medium-Term Prospects, and Risks
- Near-term projections:
  - Staff forecast a fall in real GDP this year of 4¼ percent and a tepid expansion of ¾ percent next year.
  - Output will turn sharply below potential; private consumption and investment projected weak.
  - Unemployment expected to rise to about 6½ percent in 2010 (staff projection in one section; alternate updates later revise forecasts).
  - Inflation to slow to around 1 percent this year and next.
- Medium- and long-term prospects:
  - Potential growth expected to return broadly to pre-crisis trend of around 2 percent over the medium term, leaving a permanent decline in the level of potential output—5 percent by 2014 (AN 3).
  - Supply potential curtailed by lower labor and capital contributions and possible TFP effects.
- Main risks to outlook:
  - (i) lending and financial conditions; (ii) housing and equity prices; (iii) external demand; (iv) oil prices; (v) size/effect of monetary and fiscal policy measures.
  - Risks assessed as roughly balanced with pronounced dispersion.

### Fiscal Policy — Short-Term Stance and Medium-/Long-Term Sustainability
- Short-term stance:
  - Accommodative budgetary stance for 2009-10 appropriate given sizable negative output gaps and fragile recovery prospects.
  - Concern over composition: significant contribution of recurrent spending to fiscal loosening could be difficult to reverse.
- Fiscal projections and key figures:
  - General government balance (percent of GDP): 2007 0.3, 2008 0.8, 2009 -4.5, 2010 -5.9.
  - General government gross debt: 2007 45.5, 2008 58.2, 2009 58.9, 2010 63.9 (Proj.).
  - Structural revenue excl. property income: 2007 43.4, 2008 43.3, 2009 42.3, 2010 42.0.
  - Structural primary expenditure: 2007 44.7, 2008 45.6, 2009 46.7, 2010 47.1.
  - Robust balance (percent of potential GDP): 2007 -1.4, 2008 -2.2, 2009 -4.4, 2010 -5.0.
- Fiscal sustainability gap:
  - Staff estimates the fiscal sustainability gap has risen substantially to about 8 percent of GDP (S2-type indicator, starting 2011).
  - Drivers: deterioration in fiscal position since last mission, higher ECFIN aging estimates, bailout outlays.
  - If bailout outlays are not recouped, the gap increases to 8½ percent of GDP.
- Consolidation strategy:
  - Twin pillars: expenditure retrenchment and tax-base broadening; emphasize expenditure-based consolidation and efficiency enhancements.
  - Staff supports tightening fiscal policy starting in 2011 as growth firms, with sufficient frontloading to lend credibility.
- Announced measures:
  - Authorities announced measures equivalent to about 1¾ percent of GDP to be implemented from 2011 (phased increase in retirement age, caps on mortgage-interest-deductibility for high-priced homes, savings in medical and long-term care).

### Measures and Numerical Parameters Relevant to Policy Paths
- Key numerical parameters and model notes:
  - 5.7 percent of GDP.
  - Fiscal multiplier is taken to be 0.8.
  - Output gap in 2010 = -1.8 percent of GDP.
  - Alpha assumed to decline over time from an initial value of 7, while Beta rises at the same pace from an initial value of 1 in the illustrative loss-function weighting.
  - The plausible adjustment scenario envisages the sustainability gap being closed by 2020.
- Illustrative fiscal impulses and timing:
  - Estimated fiscal impulses: 2½ percent of GDP in 2009 and ½ percent of GDP in 2010.
  - Authorities planned structural fiscal consolidation of about ¾ percent of GDP per year starting 2011 (perhaps less in 2011), aiming to bring the headline deficit below the 3 percent of GDP SGP ceiling likely by 2013.

### Financial Sector — Assessment, Stress Tests, and Policy Priorities
- Systemic assessment:
  - Banks suffered major declines in asset quality, profits, and capital; lending conditions tightened.
  - Systemic risk addressed via interventions; risk-weighted capital ratios are above required minima but equity levels are relatively low.
- Capital and stress-test outcomes:
  - Basel capital ratio contracted from 13.2 to 11.9 percent in 2008; TCE/TA was 3.2 percent in 2008.
  - In 2009:H1, Basel and Tier 1 ratios improved to 13.3 and 11.2 percent (second quarter 2009 data).
  - DNB/IMF stress-test top-down cross-check: extreme scenario yields losses of about €46.1 billion for the banking system; systemic equity reduced from €97.5 billion to €51.4 billion; potential shortfall for a 4 percent TCE/TA norm about €60,071 million.
  - Stress-test scenario elements: GDP contraction 9.7 percent; stock market (AEX) -50 percent; house prices -30 percent; mortgage loan loss rate 1.4 percent over 2009-10; commercial lending loss rate 4 percent over 2009-10.
- Institutional interventions and state support (selected):
  - ABN AMRO/Fortis: Acquisition actions and bridge loans including €16.9 billion acquisition, €34 billion bridge loan, state guarantee €5 billion bond issue, mortgage portfolio assumption via instruments of €1.7 billion and €0.8 billion, additional capital actions €4.4 billion pending.
  - ING Bank: Capital infusion €10 billion through 8.5 percent non-voting preferred shares; facility passing 80 percent of profits or losses on illiquid Alt-A MBS portfolio to the state; authority to issue up to €10 billion in government-guaranteed bonds (€2 billion placed in March 2009).
  - SNS REAAL: Capital injection €750 million; parallel infusion €500 million by Stichting Beheer SNS REAAL.
  - Aegon NV: State lending €3 billion to Association AEGON to enable purchase of 750 million non-voting securities at €4 per security.
- Regulatory priorities and exit:
  - Gradual tightening of prudential capital requirements recommended; introduce higher risk-weights for resecuritizations and high-LTV mortgages; limit incentives for high-LTV lending; improve transparency and valuation robustness.
  - Authorities intend phased exit: unwind liquidity support first, then guarantee schemes, then disposal of equity and impaired assets; full divestments could take 3-5 years.
  - Supervisory reforms at EU level and better cross-border resolution mechanisms supported.

### Housing Market — Analytical Note, Bubble Assessment, and Risks
- Recent developments:
  - Home prices declining since late 2008; house prices fell 5.3 percent in September 2009 year-on-year; number of units sold fell by a third.
  - Mortgage default rates extremely low.
- Modeling approaches and findings:
  - Two main modeling strands: housing-as-consumption (demand-supply with user-cost) and housing-as-asset (finance-based valuation with rents = user cost).
  - Updated direct house-price models (three models) and OECD probability model using 1970Q1–2009Q2 database.
  - As of 2009Q2, the three direct models suggest slight undervaluation or house prices broadly in line with fundamentals; results are sensitive to base-year selection.
  - Sensitivity examples:
    - Base 1971: misalignment estimates from -4 to 1.2 percent.
    - Base 1999: misalignment estimates from -18.7 to 3.7 percent.
    - Averaging misalignment over 1998–2001: ranges from -12.1 to -2.4 percent.
  - VAR evidence: a one-standard-deviation drop in house prices likely to reduce real GDP by around 0.2 percentage points with short-lived effects.
- Vulnerabilities and amplification channels:
  - Household indebtedness rose from 100 percent of GDP to 185 percent of GDP between 1998 and 2008.
  - Growing securitization of mortgages and strong macro-financial linkages could amplify adverse consequences beyond VAR estimates.
- Policy implications:
  - Continued monitoring, better data, stress testing for house-price-related exposures; limit incentives for high-LTV lending; consider adjustments in mortgage interest deductibility and codes of conduct to lower industry-wide LTV ratios.

### Macro-Financial Linkages, Credit Conditions, and Credit Crunch Evidence
- Financial Stress Index and Financial Conditions Index:
  - FSI peaked end-2008; declined in 2009 but remained at 1.7 (almost two standard deviations above average).
  - FCI entered negative territory end-2008 and stood at -2.5 in 2009Q2; deteriorating financial conditions estimated to shave more than 2 percentage points off GDP growth.
  - Cumulative financial-conditions contribution to GDP by end-2009 estimated at -3.6 percentage points relative to end-2007.
- Credit supply vs. demand:
  - Disequilibrium model indicates excess demand for credit since H2 2006; peak excess demand >6 percent in 2008:Q2.
  - Model indicates a "credit crunch" starting end-2007, abating, then strengthening end-2008; excess demand trending down from H2 2008, possibly shifting to credit contraction driven by falling demand.
  - Caveats: securitizations not fully corrected in series; existing loan commitments not distinguished.
- Econometric impact of credit on GDP:
  - Credit growth positively and significantly associated with output growth.
  - Quantitative estimate: a 10 percent drop in the credit growth rate associated with around a 1.6 percentage points decrease in output growth.
- Policy implications:
  - Findings support large recapitalization packages; ensure banks sufficiently capitalized to meet credit demand as recovery begins; devise gradual exit from public interventions; restore confidence and support business activity via targeted fiscal and structural measures.

### External Sector and Competitiveness
- Current account and trade:
  - Current account surplus around 7½ percent of GDP in 2007–08; projected to decline to the 6¾–7 range during 2009–10.
  - Dutch exports expected to decline by around 12 percent in 2009; re-exports account for around half of Dutch exports by value.
  - Largest share of exports (over 75 percent) are to Europe.
- REER and export performance:
  - REER measures moved sideways around 2003–2007 averages; unit labor costs fell or remained flat on par with competitors.
  - Export growth 2002–08 averaged around 15½ percent, exceeding euro area average.
- Cross-border banking exposures and simulated shocks:
  - Dutch banks’ foreign claims around 30 percent of total assets; one-third of foreign claims relate to the United States, the United Kingdom, and Germany.
  - Simulations show potential gross losses for Dutch banks could be large (examples: U.S. shock magnitude 100 → losses -12 percent of GDP; combined UK+US+DEU magnitude 100 → losses -29.8 percent of GDP; larger shocks scale proportionally).

### Long-Run Fiscal Sustainability and Adjustment Paths
- Long-run findings:
  - Aging-related budgetary costs revised upward; ECFIN baseline 2007–2060 aging pressures estimated to add 9.4 percent of GDP (pensions +4.0; long-term care +4.7; health-care +1.0).
  - Staff S2-type sustainability gap estimated at 8.0 percent of GDP (difference from previous estimate 2.6 percent).
  - Absent corrective measures, public debt projected to exceed 500 percent of GDP by 2060 in unchecked scenario.
- Adjustment requirements and scenarios:
  - Phasing adjustment over a 10-year period requires structural measures totaling about 8½ percent of GDP for sustainability.
  - Immediate full adjustment would drive gross debt to zero by 2023 in the stylized scenario.
  - Authorities’ announced measures (about 1¾ percent of GDP) reduce but fall well short of the required adjustment.
- Policy levers and recommendations:
  - Raise retirement age (authorities plan to raise retirement age to 66 in 2020 and 67 in 2025).
  - Expenditure retrenchment and tax-base broadening; prioritize expenditure-based consolidation, efficiency gains, and containment of pension, health, and old-age-care spending.
  - Consider means-testing basic pension benefits and strengthening second-pillar pensions.
  - Improve trend budgeting to reduce procyclicality: remove cyclically sensitive outlays from expenditure ceilings and allow updating ceilings when actual growth deviates substantially from potential.

### Structural Reforms and Labor Market Participation
- Priority reforms:
  - Increase labor participation, especially among women and the elderly; authorities set a participation target of 80 percent by 2016.
  - Reform labor taxation and benefits to reduce disincentives for female, disadvantaged youth, and elderly work.
  - Raise retirement age and abolish tax incentives for early retirement.
  - Productivity enhancements through innovation and increased competition in product markets.
- Labor market measures underway (selected, with timelines):
  - Reduce Unemployment Fund (AWF) premium for employees to 0 percent (2009).
  - Increase supplementary combination tax credit (ACK) (2008) and convert to income-based ACK (IACK) (2009).
  - Introduce bonus for continuing to work after age 62 (2009).
  - Introduce Investment in the Young Act (WIJ) (2009).
  - Introduce temporary wage cost subsidy for long-term unemployed under 50 (STAP) (2009).

### Selected Key Statistics (preserved exactly as reported)
- Real GDP growth (annual): 2008 2.0; 2009 -4.2; 2010 0.7 (Proj.) — alternate updated projections: 2009 -4.0; 2010 1.3; 2011 1.3.
- Unemployment rate (Eurostat definition): 2008 2.8; 2009 3.8; 2010 6.6 (in one table); updated forecast 2010 4.9 (statement).
- General government balance (percent of GDP): 2007 0.3; 2008 0.8; 2009 -4.5; 2010 -5.9 (Proj.).
- General government gross debt (percent of GDP): 2007 45.5; 2008 58.2; 2009 58.9; 2010 63.9 (Proj.).
- Current account balance (percent of GDP): 2007 7.6; 2008 7.5; 2009 7.0; 2010 6.8 (Proj.).
- Banks’ assets (percent of GDP): 2008 378.5; 2009 395.8 (August 2009 data).
- Regulatory capital-to-risk-weighted assets: 2008 11.9; 2009 13.3 (second quarter 2009).
- Return on assets: 2008 -0.4; 2009 -0.0 (second quarter 2009).
- Return on equity: 2008 -12.5; 2009 -0.5 (second quarter 2009).

### Recommendations and Policy Actions Highlighted by Staff
- Maintain accommodative fiscal stance through 2009-10, but implement credible, frontloaded consolidation from 2011 as recovery takes hold.
- Strengthen bank capital—focus on equity—and phase in higher prudential requirements gradually.
- Accelerate regulatory and supervisory reforms, including at the European level, to improve cross-border supervision and resolution frameworks.
- Undertake structural reforms to raise labor participation and productivity; prioritize pension, health, and long-term care reforms to contain aging-related fiscal pressures.
- Improve trend budgeting to reduce procyclicality and increase flexibility to respond to severe recessions.
- Devise phased, transparent exit strategies from exceptional financial-sector support with institution-specific restructuring and divestment plans; communicate exit timing and sequencing in advance.

*Prepared by the Staff Representatives for the 2009 Consultation; approved December 15, 2009, by Ajai Chopra and Ranil M. Salgado. Source: IMF staff report content contained in content unit _cr1034.*

### 2009. The views expressed in the staff report are those of the staff team and do not

### KINGDOM OF THE NETHERLANDS—NETHERLANDS Staff Report for the 2009 Article IV Consultation

### Executive Summary — Key Findings and Projections
- The Netherlands is markedly vulnerable to the global crisis because of its large financial sector and strong trade and financial linkages.
- GDP projection: staff expects GDP to contract by 4¼ percent in 2009, and expand by ¾ percent in 2010, with subdued inflation.
- The outlook is unusually uncertain; risks are assessed as roughly balanced.
- External competitiveness is assessed as adequate.
- Financial sector impact:
  - Banks suffered major losses, particularly from foreign troubled assets and sizeable declines in asset prices, requiring massive state intervention.
  - Mortgage and housing markets have been relatively stable so far.
- Fiscal stance and outlook:
  - Large fiscal deficits of 4½ percent of GDP and 6 percent of GDP are expected in 2009 and 2010, respectively.
  - Public debt has surged due to budget relaxation and financial sector assistance.
  - The estimated fiscal sustainability gap has risen substantially to about 8 percent of GDP.
- Policy responses noted:
  - State interventions: capital injections, nationalization, and government guarantees; broadly consistent with a “fix-it-and-exit” approach.
  - Authorities announced measures totaling 1¾ percent of GDP to be implemented, if enacted by parliament, from 2011, including an increase in the retirement age to 67 years.
  - Working groups to formulate by spring 2010 proposals for savings of up to 20 percent of budget expenditure and tax reforms.

### Staff Appraisal — Diagnosis and Policy Priorities
- Economic shock and output loss:
  - The Netherlands has been dealt a severe blow by the global crisis; real GDP will suffer an unprecedented fall in 2009 and only a modest recovery is expected in 2010.
  - The crisis has led to a sizable permanent loss of potential output; activity is well below potential and inflation has declined rapidly.
- Financial sector:
  - Interventions appropriate, but further bank capital strengthening is needed—especially equity—to cover likely recession losses, augment buffers, and support intensified lending during recovery.
  - Prudential tightening should be gradual to avoid tightening credit conditions further.
  - Suggested measures to support bank lending and capital quality: proactive market access, quality-enhancing capital with higher equity proportion, and restrictions on dividend payments.
- Regulatory and supervisory reform priorities:
  - Higher risk-weightings and capital requirements for resecuritizations and high-LTV mortgages.
  - Reduction of incentives for high-LTV loans, including limitations on mortgage interest deductibility.
  - Better data and stress testing for house-price-related exposures.
  - Improved cross-country supervision and resolution at the European level, broadly in line with the de Larosière proposals.
- Exit from support measures:
  - Prepare assessments of the impact of removing or curtailing exceptional liquidity support, deposit insurance, and deposit guarantee programs to determine timing and speed of exit.
  - Complete institution-specific restructuring and divestment plans for entities with state equity or quasi-equity.

### Economic and Financial Situation — Real Activity and Inflation
- Recent performance:
  - The Netherlands entered a deep recession in mid-2008 driven by the global crisis; exposure amplified by a large financial sector and strong global linkages.
  - Growth 2008: overall 2 percent, but negative from 2008:Q2 onward.
  - Peak contraction: unprecedented 5 percent fall by 2009:Q2 (reduced to 3¾ percent in 2009:Q3, year-on-year).
- Demand-side drivers:
  - Recession spawned by collapsing exports and investment, amid inventory buildup and near-record declines in capacity utilization and confidence.
- Labor market:
  - Unemployment began to grow late in the year, reaching 3½ percent by September 2009.
  - Government-subsidized temporary reduced-hours schemes have suppressed unemployment somewhat; firms’ reluctance to shed labor has also played a role.

### Fiscal Policy — Short-Term Stance and Medium-Term Risks
- Short-term:
  - Accommodative budgetary stance for 2009-10 is appropriate given sizable negative output gaps and fragile recovery prospects.
  - Concern: composition of expenditure increases—significant contribution of recurrent spending to fiscal loosening could be difficult to reverse when growth resumes.
- Medium- to long-term:
  - Fiscal position has weakened considerably; aging-related budgetary costs revised upward.
  - Staff supports tightening fiscal policy starting in 2011 as growth firms, with the aim to erase the sustainability gap gradually but with sufficient frontloading to lend credibility.
- Consolidation strategy:
  - Twin pillars: expenditure retrenchment and tax-base broadening.
  - Emphasize expenditure-based consolidation, efficiency enhancements, and containment of pension, health, and old-age-care spending.
  - Specific policy levers: raise retirement age (planned increase to 67 years, pending parliamentary approval), rely more on means-testing and second pillar pensions, increase user fees to restrain health-services demand, tighter definition of long-term care entitlements.
- Institutional improvements:
  - Renew trend budgeting to reduce procyclicality: exclude cyclically sensitive outlays from expenditure ceilings and revise ceilings if actual growth deviates substantially from potential.

### Structural Reforms and Growth
- Labor market reforms to increase participation, especially among women and the elderly, including tax and benefit system changes and raising retirement age.
- Productivity enhancements through innovation and increased competition in product markets.
- Pension and health-care reforms necessary to support fiscal sustainability and mitigate aging-related pressures.

### Financial Sector: Restoring Health and Prudential Measures
- Assessment:
  - Banks suffered major declines in asset quality, profits, and capital; lending conditions tightened.
  - Systemic risks have been addressed effectively; risk-weighted capital ratios are above required minima, but more equity likely needed.
- Capital and prudential policy:
  - Additional equity capital required to cover expected recession losses and future lending needs.
  - Gradual tightening of prudential capital requirements recommended to avoid exacerbating credit constraints.
- Regulatory priorities:
  - Introduce higher risk-weights and capital requirements for resecuritizations and high-LTV mortgages.
  - Limit incentives for high-LTV lending (e.g., mortgage interest deductibility).
  - Enhance transparency, valuation robustness, and countercyclical capital measures at EU level.
- Exit strategy:
  - Thorough assessment of removing exceptional supports; institution-specific restructuring and divestment plans should be completed.

### Recommendations and Policy Actions Highlighted by Staff
- Maintain accommodative fiscal stance through 2009-10, but implement credible, frontloaded consolidation from 2011 as recovery takes hold.
- Strengthen bank capital—focus on equity—and phase in higher prudential requirements gradually.
- Accelerate regulatory and supervisory reforms, including at the European level, to improve cross-border supervision and resolution frameworks.
- Undertake structural reforms to raise labor participation and productivity; prioritize pension, health, and long-term care reforms to contain aging-related fiscal pressures.
- Improve trend budgeting to reduce procyclicality and increase flexibility to respond to severe recessions.

*Prepared by the Staff Representatives for the 2009 Consultation; approved December 15, 2009, by Ajai Chopra and Ranil M. Salgado.*

### 13.      Inflation picked up in 2008 but turned down markedly in 2009 (Table 1). It

### _cr1034 - 13.      Inflation picked up in 2008 but turned down markedly in 2009 (Table 1). It

### Inflation, wages, and labor market
- Inflation:
  - Picked up in 2008 but fell sharply in mid-2009 with significant cuts in electricity and gas tariffs.
  - Remained below the euro area average in 2008.
- Wages:
  - Despite economic slack and declining inflation, wages are expected to increase by around 3 percent in 2009.
- Labor market:
  - Household income loss from rising unemployment noted; younger households with low income collectively have no net worth and high-LTV or high payment/income ratio households are at elevated default risk.

### Financial institutions — banks, insurance, and pensions
- Banks — profitability, asset quality, capital, liquidity:
  - 2008: system experienced a massive loss due mainly to realized and valuation losses; staff costs noted as a long-standing structural problem.
  - Major sources of losses: U.S. subprime or other toxic assets and asset price declines.
  - 2009: revenue and profits remained weak; large restructuring costs including staff cutbacks likely; trends expected to persist in 2010.
  - Capital ratios (systemic):
    - Basel capital ratio contracted from 13.2 to 11.9 percent in 2008.
    - Tangible common equity/total assets ratio (TCE/TA) declined slightly to 3.2 percent in 2008 despite considerable public capital infusion.
    - Gross derivative exposure doubled to about 8 times capital in 2008.
    - In 2009:H1, Basel and Tier 1 capital ratios improved significantly, due mainly to deleveraging; TCE/TA rose at the five major banks with large variation across banks.
- Ratings:
  - Except for Rabobank, major banks’ ratings have been cut repeatedly since October 2008.
  - ABN AMRO and ING were downgraded (most recently in May) and remain on negative outlook.
  - Rabobank retained AAA rating.
- Insurance and pension funds:
  - Insurance sector profits and solvency declined sharply in 2008–2009:H1; major insurers downgraded.
  - Aegon and SNS required government support since late 2008; both have raised equity from the market and intend to start repaying the government in 2009.
  - Pension funds:
    - Average funding ratio collapsed in 2008.
    - 300 out of the nearly 400 funds ended below the minimum funding ratio of 105 percent (compared to only 2 at the beginning of 2008).
    - All submitted recovery plans.
    - Funding ratios improved markedly in 2009; in November, 118 funds remained below the minimum fund ratio.
  - Impact of interest rate scenarios on funding ratios shown (end-2008 baseline and alternative 1–6 percent interest rate scenarios in source charts).

### Households and corporations
- Households:
  - Facing falling net worth from declines in financial asset and home prices (financial asset decline partly reversed), possible reduction of pension indexation, and income loss from rising unemployment.
  - Younger and low-income households have little or no net worth; high-LTV and high payment/income households are at elevated default risk.
- Mortgages and housing market:
  - Dutch mortgage market described as relatively stable due to limited land availability, generous interest deductibility, high transaction costs deterring speculation, first-charge and full recourse laws, collateralization in separate investment/insurance accounts, and a sizable state guarantee fund covering many mortgages.
  - Mortgage default rates are extremely low.
  - Home prices have been declining since late 2008 and are about 5 percent lower than a year ago.
  - Staff analysis (AN 1) finds house prices broadly in line with fundamentals, though sensitive to choice of initial estimation period; severe contraction of house prices assessed as a medium intensity vulnerability.
- Corporations:
  - Entered the crisis with solid balance sheets but vulnerabilities are rising.
  - Corporate bankruptcies predicted to climb significantly in 2009.
  - Dutch corporations are more dependent on bank lending than eurozone, U.S., or U.K. counterparts — loans to non-financial corporations totaling over 60 percent of GDP — potentially slowing recovery and investment.

### Public sector and fiscal stance
- Fiscal position deterioration in 2008–09:
  - General government (GG) surplus rose to almost one percent of GDP in 2008, buoyed by spending moderation and strong gas revenues.
  - GG debt surged to almost 60 percent of GDP due to financial sector bailout programs (largely accounted for as financing transactions on assumption disbursements will be recouped).
  - Fiscal balance projected to turn a large 4½ percent of GDP deficit in 2009 amid falling revenues and soaring expenditures.
  - The spending surge relates to a stimulus package introduced in early 2009 and partly to measures in the 2008 medium-term budget.
  - Population aging remains a long-term fiscal challenge.
- Robust balance and related items (percent of potential GDP; structural series):
  - Structural revenue excl. property income: 2007 43.4, 2008 43.3, 2009 42.3, 2010 42.0
  - Structural primary expenditure: 2007 44.7, 2008 45.6, 2009 46.7, 2010 47.1
  - Robust balance: 2007 -1.4, 2008 -2.2, 2009 -4.4, 2010 -5.0
  - Of which: stimulus package in 2009 and 2010: 0.7 and 0.2 (respectively)
  - Memorandum item — Headline fiscal balance (percent of GDP): 2007 0.3, 2008 0.8, 2009 -4.5, 2010 -5.9

### External sector and competitiveness
- Current account and competitiveness:
  - Current account surplus hovered around 7½ percent of GDP in 2007–08.
  - Projected to decline to the 6¾–7 range during 2009–10 due to decelerating import demand not fully offsetting contracting exports, lower average gas prices, and trend erosion in terms of trade.
  - Medium-term current account expected to remain in significant surplus, supported by a large financial sector and old-age pre-funding boosting the Dutch saving rate.
- REER and export performance:
  - REER measures have moved sideways around the 2003–2007 averages; unit labor costs have fallen or remained flat largely on par with competitors.
  - Exporter profitability in tradable sector improved (ULCM-based REER relative to industry-deflator REER).
  - Export growth around 15½ percent during 2002–08, exceeding euro area average of under 12 percent; re-exports account for around half of Dutch exports by value and have driven much of market share growth.
  - CGER methodologies suggest the real exchange rate broadly in equilibrium.
- Trade exposure:
  - Largest share of Dutch exports (over 75 percent) are to Europe; more than half of exports (machinery and transport equipment, chemicals) are highly sensitive to global investment collapse.
  - Dutch exports expected to decline by around 12 percent in 2009.

### Macro-financial linkages and credit conditions
- Credit and lending:
  - Private lending, especially mortgages, slowed substantially due to deleveraging and cyclical weakening.
  - Staff analysis detects emergence of a credit crunch from late 2007; since 2008:Q2 credit demand started declining faster than supply, possibly shifting a credit crunch into a credit contraction.
  - Short-term interbank and corporate loan interest rates fell substantially since late 2008; longer-term rates declined only slightly.
  - Lending standards tightened markedly:
    - Three-quarters of banks reported tougher lending standards for corporates at end-2008, rising further in 2009.
    - Over 80 percent of banks restricted credit for residential mortgages from H2 2008.
- Economic impact:
  - The share of the financial sector in GDP is 7½ percent; a financial contraction may materially hurt GDP growth.
  - Staff estimates the cumulative negative direct impact on 2008–10 growth of prevailing financial conditions at 3½ percentage points.
  - Econometric estimates suggest limited GDP impact from a house price downturn; legal standing of creditors and extensive collateralization of mortgages mitigate financial institutions’ losses.

### Cross-border spillovers
- International banking exposures (selected findings):
  - Dutch banks’ foreign claims around 30 percent of total assets.
  - One-third of foreign claims relate to the United States, the United Kingdom, and Germany.
  - Simulations suggest gross losses for Dutch banks could be potentially large (up to 25 percent of GDP) under severe shocks.
- Selected simulated shocks (percent GDP losses and impact on credit availability from staff calculations):
  - Shock originating from United States (magnitude 100): Deleveraging need 5.5; Dutch lenders' losses -12
  - United Kingdom (100): Deleveraging need 2.7; losses -4.8
  - Germany (100): Deleveraging need 1.4; losses -0.1
  - UK and US (100): Deleveraging need 9.6; losses -24.4
  - UK, US, and DEU (100): Deleveraging need 11.9; losses -29.8
  - Larger shocks (magnitude 200) produce proportionally larger deleveraging needs and potential losses (examples in source table up to losses of -61.6 percent GDP for combined shocks).
- Contagion geography:
  - Contagion from a Dutch shock is largely contained to Europe; most adversely affected countries include Belgium, Switzerland, France, Ireland, Portugal, Austria, and the United Kingdom.
  - High default rates (e.g., 50 percent) would be required for losses to reach significant global levels in the map scenarios.

*Italic: Source — IMF staff report content provided in the supplied PDF excerpt.*

### 30.      The economic contraction (y-o-y) is expected to continue through mid-2010,

### _cr1034 - 30.      The economic contraction (y-o-y) is expected to continue through mid-2010,

### Near-term outlook and key macro projections
- Staff forecast a fall in real GDP this year of 4¼ percent and a tepid expansion of ¾ percent next year.
- Recovery timing and near-term dynamics:
  - A 0.4 percent real GDP increase in 2009:Q3 over Q2, but recovery likely to take firm root only in the second half of 2010.
  - Output will turn sharply below potential.
  - Private consumption is projected to remain frail due to diminishing net worth, rising unemployment, and tighter credit.
  - Investment likely to stay weak because of large excess capacity, sluggish domestic and external demand, and stern lending conditions.
- Labor and prices:
  - Unemployment rate is expected to rise to about 6½ percent in 2010.
  - Inflation to slow to around 1 percent this year and next.

### Medium- and long-term prospects
- Supply potential and potential growth:
  - The supply potential of the economy has probably been severely curtailed by the crisis.
  - Potential growth is expected broadly to return to its pre-crisis trend of around 2 percent over the medium term, but leaving a permanent decline in the level of potential output—5 percent by 2014 (AN 3) when the output gap is anticipated to close.
- Reported medium-term macro framework (as presented in the source):
  - Real GDP growth: 2.0-4.20.70.61.72.12.6
  - Output gap (percent of GDP): 2.8-1.9-1.8-2.0-1.5-0.90.0
  - Consumer price inflation (year average): 2.20.91.01.01.21.31.5
  - Employment growth: 1.7-0.7-2.4-0.30.30.71.1
  - Unemployment rate (Eurostat definition): 2.83.86.66.15.95.34.5
  - Current account balance (percent of GDP): 7.57.06.86.97.16.86.7
  - General government balance (percent of GDP): 0.8-4.5-5.9-5.3-4.1-2.7-1.2
  - Robust balance (percent of GDP): -2.2-4.4-5.0-4.2-3.1-2.2-1.4
  - General government debt (percent of GDP): 58.258.963.967.970.170.569.0
- Longer-run demographic and productivity pressures:
  - Imminent population aging will squeeze working-age cohorts and slow trend productivity.
  - Maintaining potential growth will require boosting labor force participation and reforms to enhance productivity (¶56).
  - Long-term scenario indicators presented (productivity growth, demographic contribution, employment rate contribution, GDP per capita growth) in source tables.

### Risks to the outlook
- The outlook is unusually uncertain and risks are roughly balanced.
- Main risk categories around the central projection include deviations in:
  - (i) lending and financial conditions;
  - (ii) housing and equity prices;
  - (iii) external demand;
  - (iv) oil prices;
  - (v) size/effect of monetary and fiscal policy measures.
- Upside and downside risks from these factors are deemed equally probable, with pronounced dispersion.
- Growth-risk framing:
  - The chart includes risks to projections of growth (-4.2 percent in 2009 and -0.7 percent in 2010) based on historical forecast errors increased by a factor of 20 percent to reflect increased uncertainty.

### Restoring health to the financial system — assessment and priorities
- Bank support and exit approach:
  - Bank support actions are broadly appropriate and consistent with other industrialized countries.
  - Enlargement of deposit insurance and liquidity extension on full allocation basis were in accordance with EU-wide measures.
  - Authorities are not interested in long-term state ownership of Fortis; injections structured as preferred shares with incentives for quick redemptions are consistent with a “fix-it-and-exit” approach.
  - ING’s toxic asset carve-out is apt, conditional on disposal management.
- Compensation and pension fund supervision:
  - Authorities encourage sound compensation policies broadly in line with recent G20 recommendations; voluntary private sector code of conduct and remuneration links to long-term performance are supported.
  - Supervisors’ approach to under-funding of pension funds: permitting five years for restoring required funding; DNB evaluated recovery plans of about 340 pension funds involving sizable employer contributions and changes in indexation.
  - A more balanced mix of defined-contribution and defined-benefit plans could be a strategic option.
- Capital adequacy and troubled assets:
  - Stress tests under fairly extreme shocks suggest losses of about €47 billion in 2009-10 for the banking system and major insurers; all institutions would remain above required Tier 1 risk-weighted capital ratios.
  - Dutch banks have relatively low equity despite risk-weighted capital ratios above regulatory minima.
  - Brisker lending when the economy recuperates, enhancement of existing capital buffers, and building up equity to levels considered more adequate in recent regulatory reform proposals (AN 4) may require considerable additional equity capital.
  - Several banks have already raised market-based equity and debt funding; state commitment to restoring intervened banks to health and restructuring/divestment plans should improve market access.
- Supervisory and regulatory responses supported/suggested:
  - Options include: (i) higher risk-weightings and capital requirements for resecuritizations, complex/illiquid/lower-rated exposures, and high-LTV mortgages; (ii) reduced incentives for high LTV loans (e.g., limitations on mortgage interest deductibility); (iii) lowering industry-wide LTV ratios via codes of conduct; (iv) better data and stress testing of house-price risks; (v) capital standards favoring “true sales” for securitizations; (vi) enhancements of supervisors’ powers of resolution.
  - Authorities supportive of measures broadly in line with the de Larosière proposals but stress need for effective EU-level supervision, deposit insurance, and fiscal burden-sharing.
- Exit strategy:
  - Authorities intend a phased exit from heavy public support: unwind liquidity and confidence measures first, then phase out some guarantee schemes, with disposal of equity and impaired assets a prolonged process.
  - Officials are developing institution-specific restructuring and divestment plans; full divestments could take 3-5 years.
  - The exit strategy has a fiscal dimension (¶48, 49).

### Fiscal policy — short-term stance and sustainability
- Short-term fiscal stance:
  - Following GG structural surpluses in 2006-08, the 2009-10 budgets envisage a decline in the robust balance of 2¾ percent of GDP from 2008 to 2010.
  - Estimated fiscal impulses: 2½ percent of GDP in 2009 and ½ percent of GDP in 2010.
  - Discretionary stimulus measures target unemployment alleviation; investment in infrastructure, housing, and the environment; and transfers, subsidies and tax allowances for businesses (especially SMEs).
  - Staff endorsed the 2009-10 fiscal relaxation as part of an EU-wide fiscal stimulus package; stimulative policy indicated by negative output gaps for 2009-14 and feasible given favorable initial public debt burden and long average maturity of public debt.
  - Concern over composition: fiscal loosening should minimize negative impact on long-term budget position and rely on actions that can be implemented swiftly and clawed back quickly; broader spending surge contains recurrent outlays less susceptible to fast retrenchment.
- Fiscal sustainability challenges and adjustment needs:
  - Long-term fiscal position has worsened considerably due to structural fiscal relaxation in 2009-10, support operations for the financial sector (below-the-line), and deterioration in potential output.
  - Expected increases in aging-related spending: almost 9 percent of GDP over 2011-60 (mostly pensions, health- and old-age-care).
  - Staff estimates the GG robust balance after 2011 consistent with long-term sustainability will need to be permanently higher than in the no-measures path by 8 percent of GDP — the fiscal sustainability gap.
  - Authorities view a strong and credible commitment to fiscal consolidation as crucial; identification of time-bound fiscal adjustment targets for 2012-15 to be enshrined in the post-2011 coalition agreement is essential.
  - Government plans:
    - 2010 budget memorandum envisions gradual tightening of fiscal policy from 2011, provided growth has firmed.
    - Officials planned structural fiscal consolidation of about ¾ percent of GDP per year (perhaps less in 2011), aiming to bring the headline deficit below the 3 percent of GDP SGP ceiling likely by 2013.
    - Flexibility to delay headline adjustment in exchange for structural measures (e.g., increasing retirement age) that improve fiscal sustainability with modest short-run impact on the government balance.
  - If corrective measures already announced (about 1¾ percent of GDP) are enacted, the sustainability gap would be reduced accordingly.

*Source: Dutch authorities, and IMF staff estimates (content unit: _cr1034).*

### 5.7 percent of GDP; fiscal multiplier is taken to be 0.8; output gap in 2010 = -1.8 percent of GDP.

### _cr1034 - 5.7 percent of GDP; fiscal multiplier is taken to be 0.8; output gap in 2010 = -1.8 percent of GDP.

### Numerical parameters and model notes
- 5.7 percent of GDP.
- Fiscal multiplier is taken to be 0.8.
- Output gap in 2010 = -1.8 percent of GDP.
- 3/ Weight on output gap.
- 4/ Weight on sustainability gap.
- 5/ Alpha is assumed to decline over time from an initial value of 7, while Beta rises at the same pace from an initial value of 1.
- 1/ The plausible adjustment scenario envisages the sustainability gap being closed by 2020.

### Measures to achieve fiscal sustainability (findings and policy options)
- Consensus: adjustment should focus on expenditure retrenchment or tax-base broadening; government’s economic footprint is already elevated and prevailing tax rates leave little upward room.
- Announced package of measures equivalent to about 1¾ percent of GDP when implemented, including:
  - Phased increase in the retirement age.
  - Caps on mortgage-interest-deductibility for high-priced homes.
  - Savings in the provision of medical and long-term care services.
- Institutional actions:
  - 19 working groups set up to formulate by Spring 2010 proposals for savings of up to 20 percent of budget expenditure.
  - Another group to reexamine tax policy within the same time-frame.
  - Proposal to embed the SGP in Dutch law to strengthen commitment to deficit reduction.
- Pension reform recommendations:
  - Authorities intend to raise the retirement age from 65 to 66 starting in 2020 and 67 in 2025.
  - Staff suggested consideration of means-testing basic benefits and strengthening dependence on second-pillar pensions.
  - Intensify efforts to increase labor participation; authorities abolished tax incentives for early retirement to raise effective retirement age.
- Health-care and long-term care:
  - Health-care expenditure continues to rise rapidly despite the 2006 reform.
  - Most projected surge in health-care spending over the long run is driven by expensive advances in medical technology and real income growth, given high income elasticity of health-services demand.
  - Staff argued that an increase in user fees could moderate demand growth, with care to avoid overburdening the chronically ill.
  - Tighter definition of entitlements in long-term care could generate savings.
  - Supply-side productivity increases in health- and long-term care of ½ percent a year (which has been achieved in some OECD countries) would lower significantly projected rises in spending.
  - Officials expressed support for domestic and international benchmarking to identify best practices.
- Unemployment benefits:
  - Maximum duration is 38 months, high by international standards.
  - Recommendation: cut duration to a more common 18 months to preserve an adequate safety net while strengthening job-search incentives and improving the fiscal position.

### Fiscal rules (findings and recommendations)
- Staff recommended refinements to trend-based budgeting to attenuate procyclicality and clarify conditions for resetting expenditure ceilings.
  - Cyclically sensitive outlays (e.g., unemployment benefits and nontax revenues) should be permanently removed from expenditure ceilings to prevent undesirable cuts in other spending during recessions.
  - Expenditure ceilings should be updated in response to significant changes in potential growth or large deviations of actual growth from trend, allowing for discretionary stimulus in sizable downturns without forcing a breach of ceilings.
  - The 2 percent GG deficit trigger for fiscal tightening could be made more flexible so that it does not apply when the economy is contracting by more than a specified threshold (consistent with the SGP).
- Authorities generally agreed but cautioned that adding excessive flexibility could weaken the fiscal rule’s disciplining effect.

### Structural reforms (rationale and priorities)
- Renewed momentum with structural reforms is encouraged because the ongoing crisis and population aging will likely have long-lasting effects on growth and increase the fiscal sustainability gap.
- Priority reform areas:
  - Labor taxation.
  - Social benefits.
  - Employment protection.
- Objectives:
  - Curtail disincentives to female, disadvantaged youth, and elderly work.
  - Raise labor force utilization in hours, given comparatively low hours per worker reflecting widespread part-time female work and low elderly employment.

*Source: IMF staff report content (excerpts provided).*

### 57.      In this connection, the authorities pointed to some promising initiatives. They

### _cr1034 - 57.      In this connection, the authorities pointed to some promising initiatives. They

### Labor market participation initiatives
- Authorities set a participation target of 80 percent by 2016.
- Dutch Labor Market Participation Commission submitted recommendations in June 2008, identifying steps to stimulate longer working lives.
- Staff and authorities generally concurred with the Commission’s analysis and approach; government will institute some specific measures to boost participation, notably reforms of the tax and benefit systems.

### Policy responses to improve labor supply (Table 7)
- General
  - Reduce Unemployment Fund (AWF) premium for employees to 0 percent (timeline: 2009).
- Women
  - Increase supplementary combination tax credit (ACK) (timeline: 2008).
  - Establish Part-time Plus Task Force (timeline: 2008).
  - Convert supplementary combination tax credit into income-based supplementary combination tax credit (IACK) (timeline: 2009).
  - Phase out transferability of general tax credit over 15-year period (timeline: 2009).
- Older workers
  - Convert premium exemption into a targeted temporary premium discount for older unemployed workers (timeline: 2009).
  - Introduce bonus for continuing to work after reaching the age of 62 (timeline: 2009).
  - Increase statutory retirement age from 65 to 67 (timeline: 2010).
- Vulnerable groups
  - Implement employment scheme to facilitate the creation of jobs for those receiving benefits under the Work and Social Assistance Act (‘participation jobs’) (timeline: 2008–2009).
  - Conclude agreements with the 39 regions of the Regional Registration and Coordination Centers (RMCs) to address school drop-out levels (timeline: 2008).
  - Introduce a stricter definition of ‘appropriate work’ in the Unemployment Insurance Act (WW) (timeline: 2009).
  - Introduce earned income tax credit (timeline: 2009).
  - Introduce temporary wage cost subsidy for long-term unemployed under the age of 50 (STAP) (timeline: 2009).
  - Introduce integrated services at the regional Locations for Work and Income (timeline: 2009).
  - Introduce budget for municipalities to promote labor market participation (timeline: 2009).
  - Introduce Investment in the Young Act (WIJ) (timeline: 2009).
  - Adjust income benefits for young disabled persons under the Invalidity Insurance (Young Disabled Persons) Act (Wajong) (timeline: 2009).
- Source for Table 7: Annual Progress Report 2009, The Netherlands, in the context of the Lisbon Strategy.

### Key demographic and population statistics (as presented)
- Land area (2007): 41.5 thousand sq. km.
- Population (2006): 16.3 million.
- Life expectancy at birth (2006): 76.4 (male), 81.7 (female).
- Fertility rate (2006): 1.7 children/woman.
- Infant mortality rate (2006): 4.96 per 1,000 live births.
- Population per sq. km. of land area (2006): 483 persons.

### National accounts and projections (selected figures from 2007 and projections)
- National accounts 2007 (In billions of euros; In percent of GDP)
  - Private consumption: 263.2 / 47.0
  - Public consumption: 141.3 / 25.3
  - Gross fixed investment: 111.6 / 19.9
  - Stockbuilding: -1.2 / -0.2
  - Exports of goods and nonfactor services: 421.3 / 75.3
  - Imports of goods and nonfactor services: 376.6 / 67.3
  - Nominal GDP (at market prices): 559.5 / 100.0
- National accounts (constant prices) — selected annual changes and projections
  - Gross domestic product: 2003: 0.3; 2004: 2.2; 2005: 2.0; 2006: 3.4; 2007: 3.6; 2008: 2.0; 2009: -4.2; 2010: 0.7 (Proj.).
  - Employment: 2003: -0.6; 2004: -1.4; 2005: -0.4; 2006: 1.5; 2007: 3.7; 2008: 1.7; 2009: -0.7; 2010: -2.4.
  - Unemployment rate (in percent): 2003: 3.7; 2004: 4.6; 2005: 4.7; 2006: 3.9; 2007: 3.2; 2008: 2.8; 2009: 3.8; 2010: 6.6.
  - Consumer price index (HICP): 2003: 2.2; 2004: 1.4; 2005: 1.5; 2006: 1.7; 2007: 1.6; 2008: 2.2; 2009: 0.9; 2010: 1.0.

### Personal sector and external trade (selected)
- Real disposable income: 2003: -0.3; 2004: 2.2; 2005: 0.4; 2006: -1.2; 2007: 1/2.9; 2008: 1.5; 2009: -13.3; 2010: 1.3.
- Household savings ratio (percent of disposable income): 2003: 6.3; 2004: 7.8; 2005: 6.7; 2006: 5.4; 2007: 6.4; 2008: 6.7; 2009: 5.6; 2010: 6.6.
- Exports of goods, volume: 2003: 7.4; 2004: 7.0; 2005: 6.1; 2006: 8.7; 2007: 6.5; 2008: 3.1; 2009: -11.7; 2010: 1.0.
- Current account balance (percent of GDP): 2003: 5.5; 2004: 7.5; 2005: 7.3; 2006: 9.3; 2007: 7.6; 2008: 7.5; 2009: 7.0; 2010: 6.8 (Proj.).

### Public sector accounts (selected fiscal aggregates, percent of GDP)
- Revenue: 2003: 43.8; 2004: 44.3; 2005: 44.6; 2006: 46.5; 2007: 45.9; 2008: 46.7; 2009: 45.1; 2010: 44.7 (Proj.).
- Expenditure: 2003: 46.9; 2004: 46.1; 2005: 44.8; 2006: 45.9; 2007: 45.6; 2008: 45.9; 2009: 49.6; 2010: 50.6 (Proj.).
- General government balance: 2003: -3.1; 2004: -1.8; 2005: -0.3; 2006: 0.6; 2007: 0.3; 2008: 0.8; 2009: -4.5; 2010: -5.9 (Proj.).
- Primary balance: 2003: -0.5; 2004: 0.7; 2005: 2.1; 2006: 2.9; 2007: 2.1; 2008: 2.9; 2009: -2.1; 2010: -3.6 (Proj.).
- Structural balance: 2003: -2.0; 2004: -0.6; 2005: -0.3; 2006: 0.4; 2007: -1.1; 2008: -1.0; 2009: -4.0; 2010: -4.7 (Proj.).
- General government gross debt: 2003: 52.0; 2004: 52.4; 2005: 51.8; 2006: 47.4; 2007: 45.5; 2008: 58.2; 2009: 58.9; 2010: 63.9 (Proj.).

### General government revenues and expenditures (2003–10 table highlights)
- Revenues (percent of GDP) — 2007: 45.9; 2008: 46.7; 2009: 45.1; 2010: 44.7 (Proj.).
  - Tax revenues and social security contributions: 2007: 38.9; 2008: 39.1; 2009: 38.3; 2010: 38.3 (Proj.).
  - Tax revenues: 2007: 25.4; 2008: 24.6; 2009: 24.8; 2010: 23.9 (Proj.).
  - Social security contributions: 2007: 13.5; 2008: 14.5; 2009: 13.5; 2010: 14.4 (Proj.).
- Expenditure (percent of GDP) — 2007: 45.6; 2008: 45.9; 2009: 49.6; 2010: 50.6 (Proj.).
  - Direct expenditure: 2007: 29.6; 2008: 29.7; 2009: 32.4; 2010: 32.5 (Proj.).
  - Social benefits in kind: 2007: 9.8; 2008: 9.8; 2009: 10.8; 2010: 10.9 (Proj.).
  - Transfers (total): 2007: 13.8; 2008: 14.1; 2009: 14.9; 2010: 15.8 (Proj.).
  - Interest: 2007: 2.2; 2008: 2.1; 2009: 2.4; 2010: 2.4 (Proj.).

### Financial sector: interventions and stability indicators (selected)
- Summary of state interventions in major financial institutions (Table 6) — selected entries:
  - ABN AMRO/Fortis: Acquisition of Fortis’ Dutch operations including Fortis’ share of ABN AMRO for €16.9 billion; bridge loan to Fortis of €34 billion; state guarantee of €5 billion bond issue by Fortis; assumption of credit risk in a mortgage portfolio of €19 billion through instruments of €1.7 billion and €0.8 billion; additional capital strengthening actions of €4.4 billion (of which €1.4 billion is a debt to equity swap) pending.
    - Legal separation of original ABN AMRO parts to be owned by the Dutch state and RBS expected to be complete at the end of 2010:Q1.
  - ING Bank: Capital infusion of €10 billion through 8.5 percent non-voting preferred shares; facility passing 80 percent of profits or losses on ING’s illiquid Alt-A MBS portfolio to the state for a fee; ING can issue up to €10 billion in government-guaranteed bonds (€2 billion placed in March 2009).
    - ING intends to repurchase €5 billion of Core tier 1 securities in December 2009; plans for a €7.5 billion rights issue to finance repayment and cover charge for additional payments.
  - SNS REAAL: Capital injection of €750 million by interest-bearing securities with equity-like features; parallel capital infusion of €500 million by Stichting Beheer SNS REAAL.
  - Aegon NV: State will lend €3 billion to Association AEGON to enable purchase of 750 million non-voting securities at €4 per security.
- Financial soundness indicators (selected)
  - Regulatory capital-to-risk-weighted assets: 2003: 12.3; 2004: 12.3; 2005: 12.6; 2006: 11.9; 2007: 13.2; 2008: 11.9; 2009: 13.3 (second quarter for 2009 data).
  - Regulatory Tier I capital-to-risk-weighted assets: 2003: 9.6; 2004: 9.9; 2005: 10.3; 2006: 9.4; 2007: 10.2; 2008: 9.9; 2009: 11.2 (second quarter for 2009 data).
  - Return on assets: 2003: 0.5; 2004: 0.4; 2005: 0.4; 2006: 0.4; 2007: 0.6; 2008: -0.4; 2009: -0.0 (second quarter for 2009 data).
  - Return on equity: 2003: 14.8; 2004: 16.8; 2005: 15.4; 2006: 15.4; 2007: 18.7; 2008: -12.5; 2009: -0.5 (second quarter for 2009 data).
  - Banks’ assets (percent of GDP): 2003: 308.3; 2004: 341.5; 2005: 330.2; 2006: 314.0; 2007: 326.1; 2008: 378.5; 2009: 395.8 (August for 2009 data).

### External and market vulnerability indicators (selected)
- Exports goods and services (annual percent change, in U.S. dollars): 2003: 17.8; 2004: 17.0; 2005: 9.0; 2006: 12.9; 2007: 17.5; 2008: 16.9; 2009: -12.4.
- Imports goods and services (annual percent change, in U.S. dollars): 2003: 23.6; 2004: 17.9; 2005: 9.7; 2006: 10.5; 2007: 16.8; 2008: 13.8; 2009: -14.9.
- Official reserves (in billions of euros): 2003: 17.1; 2004: 15.9; 2005: 17.3; 2006: 18.2; 2007: 18.3; 2008: 20.5; 2009: 21.9.
- Foreign assets of the banking sector (in billions of euros): 2003: 446; 2004: 502; 2005: 587; 2006: 723; 2007: 832; 2008: 714; 2009: 685.
- Foreign liabilities of the banking sector (in billions of euros): 2003: 396.9; 2004: 447.1; 2005: 506.0; 2006: 605.9; 2007: 737.4; 2008: 593.8; 2009: 597.8.
- Official reserves in months of imports: 2003: 0.9; 2004: 0.8; 2005: 0.8; 2006: 0.7; 2007: 0.7; 2008: 0.7; 2009: 0.6.
- Public sector debt (Maastricht definition): 2003: 52.0; 2004: 52.4; 2005: 51.8; 2006: 47.4; 2007: 45.5; 2008: 58.2; 2009: 59.9.
- Government bond yield: 2003: 4.1; 2004: 4.1; 2005: 3.4; 2006: 3.8; 2007: 4.3; 2008: 4.2; 2009: 3.6.

### Housing market analytical note — summary of findings and modelling approaches
- Recent developments
  - Residential real estate markets started cooling: house prices fell 5.3 percent in September 2009 compared to the same period last year; number of units sold fell by a third.
- Historical context
  - Since the 1970s, one major cycle peaked in 1978:Q2; that downturn lasted 29 quarters and real house prices were 50 percent down at the trough in 1985:Q3 relative to the peak.
- Purpose of the analytical note
  - Summarizes various models used in previous studies to assess house price movements in the Netherlands and compares models to understand key differences and to assess duration and severity of current downturn.
- Two main strands of house price models described
  - Housing as a consumption good (demand-supply framework)
    - Demand (inverse demand function): log d_h = alpha - beta log p + log y + log z (presented in text as loglog d_h p y z α β = − + +).
    - User cost formulation: uc = (i + δ + t − Δp^e)/p (presented in text as (/ ) e uc p i t p p δ = + + − Δ ), where i is real after-tax mortgage interest rate, δ is rate of depreciation, t is property tax rate, and Δp^e is expected house price appreciation.
    - Supply assumed inelastic in the short run (log s_h = log h).
    - Equilibrium expression: log p = log y + log z − β log s_h (presented in text as log log log s y h z p β α − + =).
    - Note: For the Netherlands, supply inelasticity is a common assumption due to high population density, limited undeveloped land, and strict zoning laws; empirical support cited (van Rooij (1999), Swank et al. (2002)).
  - Housing as an asset (finance-based valuation)
    - No-arbitrage implies market rent r equals user cost of owning: r = uc = i + δ + t − Δp^e/p (presented in text in symbolic form).
    - Expected house price appreciation is commonly proxied by past rates of house price appreciation (adaptive expectations).

*Source: _cr1034 (Netherlands country report excerpts, tables, figures, and Analytical Note 1 as provided in the supplied content).*

### 5.      While these two models are akin, their implementations may deliver different

### _cr1034 - 5.      While these two models are akin, their implementations may deliver different

### B. Is There a Housing Bubble?
- Recent studies report divergent conclusions on misvaluation in the Dutch residential real estate market:
  - CPB (Document No. 81, 2005) reported an overvaluation of 10 percent as of 2003; CPB (Document No. 200, 2008) reported that any (over-) valuation gap had disappeared as of 2007.
  - IMF CR No. 05/225 (using data up to 2004) concluded there was no significant deviation from fundamentals at the end of 2004.
  - OECD WP No. 488 (2006) found that the probability of real house prices peaking in 2006 was less than 10 percent.
  - IMF WEO (April 2008) judged the Netherlands second among advanced economies in terms of house price overvaluation, estimating a cumulative house price gap around 30 percent.
- All studies use subsets of similar variables (income, interest rates, etc.), yet estimates of misvaluation range from 0 to 30 percent.
- This chapter updates those studies using a common database (1970Q1 to 2009Q2) and consistent estimation techniques for the three “direct house price” models to isolate differences driven by variable choice and base-year selection.

### OECD “Probability of a House-Price-Peak” model (application and findings)
- Methodology implemented (following OECD WP No. 488, 2006): probit estimation of the probability that the house price cycle reaches a peak through the course of the subsequent year as a function of:
  - lagged moving average of the nominal long-term interest rate,
  - moving average of real house price appreciation,
  - share of residential investment in GDP.
- Probit equation (as presented): prob(peak_t) = function of lagged terms and variables (expression shown in source).
- Findings:
  - The model picks out the peak in the late 1970s fairly well.
  - Estimates indicate the risk of a pending house price correction in 2010 is small.
  - Caveat: only one peak in the sample period, which could limit model performance.
  - Overall implication: the model suggests a soft landing rather than imminent collapse.

### Direct house-price models (three models) — updated results
- All three direct models indicate the ongoing downturn has already wiped out any overvaluation that might have existed before:
  - As of 2009Q2 the three models suggest slight undervaluation.
  - Gap estimates include both positive and negative values when the base period is set in the late 1990s and early 2000s — short-run undershooting possible while long-run alignment holds.
- Sensitivity to base-year choice:
  - Misalignment assessment is highly sensitive to the base period and to the estimation technique (OLS versus VECM).
  - When taking 1971 as the base year, estimates of misalignment range from -4 to 1.2 percent.
  - Taking 1999 as the base year yields estimates ranging from -18.7 to 3.7 percent.
  - Averaging gaps over various base periods (e.g., average misalignment from 1998 to 2001) produces ranges from -12.1 to -2.4 percent.
  - At a given point in time the prediction errors from the three models are rather close; cumulative gaps vary more across models.
- Adjusting PIR and PRR by mortgage interest rates:
  - When PIR and PRR are adjusted by dividing by the mortgage interest rate, the pronounced rise in the 1990s becomes less pronounced; ratios are flattened in the 2000s.
  - The bubble in the second half of the 1970s remains detectable after adjustment.

### Expectations and dynamic forecasting
- Expectations of future price increases explain a large proportion of changes in PIR and PRR in simple OLS regressions, consistent with adaptive expectations literature.
- A VECM with three variables (real house prices, real disposable income, mortgage interest rates) enforcing a cointegrating relationship was estimated:
  - Dynamic forecasts from the VECM suggest gradual stabilization rather than an abrupt turn in house prices.
  - Preliminary data caveat: results may change slightly once preliminary 2009 data are revised.

### C. Risks from a Potential House Price Correction
- Historical reference (1978Q3–1985Q3):
  - From peak-to-trough (1978Q3-1985Q3) real house prices fell 50 percent, or 9.4 percent at an annualized average rate.
  - During the same period average annualized real GDP growth was 1.4 percent compared to 3 percent in other periods.
  - Private consumption expenditures virtually remained flat while the average growth rate over the rest of periods was 2.8 percent.
- Recent change: In the current episode, house prices have declined 4.8 percent by 2009Q2 from their peak in 2008Q1.
- VAR analysis (six-variable VAR including real GDP, private consumption, residential investment, CPI inflation, nominal short-term interest rate, and real house prices) results:
  - A one-standard-deviation drop in house prices is likely to reduce real GDP by around 0.2 percentage points and the effect is short-lived (real GDP bouncing back in less than a year).
- Cross-country VAR comparisons:
  - Estimated impact on real GDP of a 10 percent decline in house prices places the Netherlands fourth smallest after Austria, Italy, and Norway.
  - Low value-added share of construction and low contribution of residential investment to GDP partly explain lower vulnerability.
- Additional vulnerabilities not captured in VARs that may amplify macroeconomic impact:
  - Household indebtedness: outstanding mortgages and consumer credit grew from 100 percent of GDP to 185 percent of GDP between 1998 and 2008.
  - Financial sector exposure and securitization: a growing portion of residential mortgages have been securitized and held in special purpose vehicles, creating potential rapid systemic risk propagation.
  - Strong macro-financial linkages and tightened lending conditions following the financial crisis could exacerbate the transmission of house price shocks.

### D. Conclusion and policy implications
- Main conclusion:
  - Under the reasonable assumption that house prices were properly aligned in 1971, Dutch house prices as of 2009Q2 are estimated to be at the level implied by changes in a range of economic variables determining housing behavior, whether housing is treated as a consumption good or as an asset.
  - Dynamic forecasts that incorporate expectations support gradual stabilization rather than abrupt collapse.
- Caveat:
  - Assessments of misalignment are highly sensitive to base-year assumptions.
- Policy-relevant risks:
  - Standard multivariate models deliver small estimates for potential GDP impact of house price downturns, but high household leverage, banks’ exposure to real estate, and growing securitization could amplify adverse consequences for economic activity.
  - These vulnerabilities should play a prominent role in policy discussions and decisions.

_Italic: Source: IMF staff estimates and policy analysis contained in the supplied chapter._

### 2.      The important questions are how deep the problems in the financial sector

### 2. The important questions are how deep the problems in the financial sector remain and to what extent they will be reflected in the broader economy

### Depth of financial-sector problems and financial stress (FSI)
- The FSI (Financial Stress Index) is a composite of banking sector beta, the spread between commercial paper and government bonds, the spread between short- and long-run rates, stock market return volatility, sovereign debt spread, and exchange rate volatility. A value of zero implies neutral conditions; a value of 1 or higher has in the past been associated with a crisis.
- FSI evolution for the Netherlands:
  - Peaked at the end of 2008; declined in 2009.
  - FSI remains at 1.7, namely almost two standard deviations from average conditions.
  - Interpretation: "while the worst might be over, the Dutch financial system does not appear to be out of the woods yet."

### Financial Conditions Index (FCI): methodology and aggregate impact on GDP
- Method:
  - VAR includes: real GDP, CPI inflation, banking sector risk (beta from CAPM), three-month AIBOR (substituted by EURIBOR from 1999 onward), real effective exchange rate, stock price index, and house prices.
  - FCI = cumulative impulse response of real GDP to each financial variable, standardized so that a value of 1 corresponds to a total impulse to GDP in the magnitude of 1 percentage point (annualized).
  - Implication: a decline in FCI from 2 to 1 would be expected to reduce GDP growth by 1 percentage point.
- Findings:
  - FCI entered negative territory at the end of 2008 and stood at -2.5 in 2009Q2.
  - According to FCI estimates, deteriorating financial conditions have already shaven more than 2 percentage points off GDP growth.
  - Impulse responses suggest a cumulative 3.6 percentage point decline in GDP growth by end-2009 from end-2007 owing to the decline in financial conditions.
  - Main contributors to FCI movement: changes in stock prices and interbank lending interest rates, and, to a lesser extent, banking sector risk.
  - Banking sector risk contribution: still positive but declining and predicted to turn negative in the coming quarters, indicative of bank-specific problems and possible deleveraging leading to a "credit crunch."

### Is there a credit crunch? (credit supply vs. demand)
- Rationale: distinguishing a supply-driven "credit crunch" from a demand-driven "credit contraction" matters for policy (recapitalization vs. support for demand).
- Disequilibrium model for supply and demand of credit:
  - Supply equation includes: money supply (M3), stock price index, income, interest margin, loans lagged by two quarters.
  - Demand equation includes: lending rate, income, loans lagged by two quarters.
- Findings:
  - Increasing excess demand for credit since the second half of 2006.
  - At its peak, demand for credit exceeded supply by more than 6 percent in 2008Q2.
  - By construction, positive values indicate excess demand not being met; when this coincides with flat or declining loan volumes, a "credit crunch" could be in effect.
  - Disequilibrium model indicates a "credit crunch" starting at the end of 2007, abating for a couple of quarters, and gaining strength at the end of 2008.
  - From the second half of 2008, excess demand has been on a downward trend; if this continues, indicators of a credit crunch might disappear and the situation could become a "credit contraction" driven by falling demand.
  - Caveat: series not corrected for securitizations (could impart a downward bias on credit growth); series does not distinguish existing loan commitments (could distort credit growth figures upwards).
  - Bank deleveraging could prolong "credit crunch" conditions.

### Impact of credit on GDP growth (econometric evidence)
- Framework: change in GDP regressed on its own lags and lagged values of growth in bank credit to the private sector; OLS, IV (instrumenting credit growth with own lags), and VAR used to address endogeneity.
- Consistent result across specifications: credit growth is positively and significantly associated with output growth.
- Quantitative estimate: a 10 percent drop in the credit growth rate would be associated with around a 1.6 percentage points decrease in the output growth rate.
- Implication: lagged credit growth is a significant contributor to Dutch GDP growth; concerns about financial sector developments affecting the real economy are justified.
- Note of caution: econometric approach is simple and may not capture all endogeneity and omitted variable biases; interpret results with caution.

### Conclusions and policy recommendations
- Financial conditions have tightened in the Netherlands, reducing credit supply and weighing on output growth.
- Declining banking stability has contributed to deterioration in financial conditions, though the bulk of deterioration has come from direct liquidity shocks and market responses to the global crisis.
- Evidence that contribution from banking sector risk is turning negative, consistent with constrained credit supply.
- Policy implications and recommended next steps:
  - The findings support the large recapitalization package introduced by the authorities.
  - Going forward, provided no further shocks:
    - Feedback from real to financial activity is likely to shift driving forces in the credit market from supply side to demand side.
    - Next policy step: devise a gradual exit strategy from heavy public interventions in the financial sector.
    - Restore consumer confidence and encourage business activity through targeted fiscal measures and structural reforms.
    - Ensure banks remain sufficiently capitalized to meet demand for credit when it starts rising.

### Medium-term potential-output considerations (analytical note excerpts)
- Crisis effects on potential output:
  - The crisis will impact supply potential via declines in labor and capital contributions and possibly TFP.
  - Long-term unemployment may raise NAIRU; participation rates may decline; capital accumulation will slow due to fall in investment and higher obsolescence.
  - Offsetting effects: fiscal stimulus, infrastructure spending, possible higher labor participation from wealth erosion, and structural reforms.
- Empirical context:
  - OECD study: extreme financial crisis can permanently reduce potential output by around 4 percent; average financial-crisis effect around 1½–2½ percent, increasing with severity.
- Staff baseline for the Netherlands:
  - Crisis reduces overall output by around 10 percentage points (relative to the pre-crisis trend) over the medium term.
  - Potential output projected to decline by around 5 percent.
  - Expectation that growth reverts to recent potential of around 2 percent by 2014.
  - Two thirds of the reduction in near-term potential growth attributed to decline in contribution of capital (collapse in investment and higher depreciation).
  - Structural unemployment expected to increase by 1.3 percentage points between 2008 and 2014 (consistent with a projected increase in actual unemployment rate of 3.1 percentage points over the same period and an assumption that about 2/5 of the increase becomes structural unemployment).
  - Estimates depend critically on assumptions about labor, capital, and TFP and are only indicative; both upside and downside risks exist (e.g., higher tax wedges could raise structural unemployment; easing EPL could reduce long-term unemployment).

_Italic: Source: IMF staff analysis in "_cr1034 - 2.      The important questions are how deep the problems in the financial sector"._

### 9.7 percent, stock market (AEX) drops by 50 percent, and house prices by 30 percent. The

### _cr1034 - 9.7 percent, stock market (AEX) drops by 50 percent, and house prices by 30 percent. The

### Banking and insurance sector stress test: scenario and assumptions
- Scenario elements:
  - GDP contraction: 9.7 percent.
  - Stock market (AEX) shock: -50 percent.
  - House prices decline: 30 percent.
  - Mortgage loan loss rate (home mortgages): 1.4 percent over 2009-10.
  - Commercial lending loss rate: 4 percent over 2009-10.
  - Loss rate on non-mortgage retail credits: 10 percent.
  - Corporate debt combined effect: -5 percent.
  - Sovereign debt combined effect: +5 percent.
  - Assumed long term interest rate for macro stress test: 2 percent p.a.
  - Banks’ “normal” return on earning assets (pre-losses/write-offs): 0.65 percent.
  - Level of earning assets assumed unchanged.

- Insurance effects:
  - Life insurers most affected due to low long term interest rate of 2 percent p.a., increasing liabilities and guarantees and producing losses on mortgage and equity investments partly offset by increasing value of government bonds.
  - Non-life insurers relatively unaffected.
  - Largest insurers’ average solvency ratio: declines from 200 percent at end-2008 to 160 percent after two years.
  - Medium-size life insurers’ average solvency ratio: would drop to 160 percent, on average.
  - Average solvency ratio of non-life insurers: declines from 320 percent to 290 percent.
  - Small, mostly non-life insurers remain unaffected.
  - All insurer ratios remain on average well above minimum requirements.

### Data limitations and restructuring issues
- Major complications for institution-level analysis:
  - Break up of Fortis in 2008 makes past Fortis balance-sheet not relevant for Fortis Nederlands.
  - ABN AMRO is mid-process of legal separation and transfer of units to the three buying banks.
  - Dutch state acquired Fortis’ Dutch banking and insurance operations and Fortis’ share of ABN AMRO and is in process of divesting major portions and integrating units.
  - Rabobank: unlisted cooperative, publishes only annual data.
  - ING Groep: holding company with both insurance and bank business; engaged in massive restructuring and divested several business units during 2009.
  - Ongoing restructuring and EU competition commission remedies introduce large uncertainties and one-time gains/losses, making institution-specific stress testing in 2009 unreliable without extensive institution-specific data and active authorities’ involvement.

### Top-down cross-check of DNB stress test (Table 4-1 results)
- Earning assets and assumed loss rates (2008, Millions of euros; Loss Rate Percent; Loss Amount Millions of euros):
  - Financial assets:
    - Held for trading: 473,617; -7.10; (33,627)
    - Designated at fair value through profit and loss: 67,969; -7.10; (4,826)
    - Available for sale: 274,472; -7.10; (19,488)
    - Held to maturity: 27,963; -3.29; (920)
  - Loans and receivables: 1,922,005; -3.29; (63,234)
  - Derivatives-Hedge accounting: 20,654; -7.10; (1,466)
  - Total earning assets (A): 2,786,680; (123,560) (loss)

- Liabilities (2008, Millions of euros; Loss Rate Percent; Loss Amount Millions of euros):
  - Deposits from central banks: 96,989
  - Financial liabilities:
    - Held for trading: 460,536; -7.10; (32,698)
    - Designated at fair value through profit and loss: 120,046; -7.10; (8,523)
  - Total liabilities (B): 2,897,230; (41,221) (loss)

- Profitability and capital:
  - Net earnings before loan losses and write-offs (C): 0.65; 36,227
  - Net income (A-B+C): (46,112)
  - Total equity (2008): 97,509; 51,397 (post-loss)
  - Equity required for 4 percent of earning assets: 111,467
  - Potential shortfall: (60,071)

- Cross-check conclusions:
  - Rough cross-check yields losses of the order of €46.1 billion for the entire banking system.
  - DNB’s stress test coverage: slightly over 90 percent of the banking system; banks account for about 90 percent of the financial system with insurers about 10 percent.
  - The top-down estimate is very close to bottom-up results by individual institutions.
  - Systemic equity would be reduced to €51.4 billion from €97.5 billion under this extreme scenario.
  - If regulators impose a 4 percent minimum in terms of TCE/TA, the Dutch banking system would need about €60.0 billion in new capital under the stressed DNB exercise, given an initial TCE/TA ratio of 3.2 percent.

### Interpretation and implications for capital needs and market access
- Even under less severe scenarios than DNB’s, significant additional capital is likely needed to:
  - Support brisker lending during recovery.
  - Enhance capital buffers.
  - Build equity in anticipation of higher regulatory capital levels.
- Mitigating factors:
  - Banks have demonstrated capacity to raise market-based equity and debt funding.
  - State commitment to restoring intervened banks to health and ongoing restructuring/divestment of non-strategic businesses should improve market access and reduce need for sizable government injections over time.
- Caveats on a potential 4 percent equity norm:
  - Not yet settled regulation.
  - Would likely be phased in over a long period.
  - Could affect the Dutch banking system disproportionately because of current low risk weighting and could cause significant deleveraging and increased risk profile.
  - As of 2008, risk-weighted assets: €1,089 billion; earning assets: €2,787 billion; total assets: €2,995 billion.

### Long-run fiscal sustainability: key findings
- Recent fiscal developments and outlook:
  - Headline surplus rose by ½ percentage point to ¾ percent of GDP in 2008.
  - Structural deficit stayed at one percent of GDP in 2008.
  - Financial sector bailout measures added about 15 percentage points to gross public debt.
  - Gross public debt surged from 45½ percent of GDP in 2007 to 58¼ percent of GDP in 2008.
  - 2009 fiscal deterioration: headline fiscal balance expected to deteriorate to a deficit of 4½ percent of GDP in 2009 (a 5¼ percentage points drop).
    - Of this deterioration, 3 percentage points estimated structural; remainder due to automatic stabilizers.
  - Headline fiscal deficit expected to decline further to almost 6 percent of GDP in 2010.
    - Structural deficit increasing by ¾ percentage point to 4¾ percent of GDP.
  - Authorities plan to begin consolidation in 2011.

- Aging pressures (ECFIN baseline, 2007-2060):
  - Aging pressures estimated to add 9.4 percent of GDP to fiscal expenditures in the Netherlands (2007-2060).
    - Pensions: +4 percent of GDP.
    - Long-term care: +4.7 percent of GDP.
    - Health-care: +1 percent of GDP.
    - Reduced education: -0.2 percent of GDP.
    - Reduced unemployment-benefit expenditures: -0.1 percent of GDP.
  - Netherlands’ aging pressure (9.4 percent of GDP) is well above EU median of 5.3 percent of GDP.

- Sensitivity to immigration and other assumptions:
  - Baseline assumes average annual net immigration over 2010-60 of about 9,500 persons (0.06 percent of population).
  - Alternative with zero immigration projected to add 1.4 percent of GDP to the increase in aging related spending over 2011-60.
  - An increase in annual immigration flows by 1,000 would reduce buildup of aging pressures by about 0.15 percent of GDP.
  - CPB (2003) analysis found little or even negative fiscal benefits from recent immigration.

### Sustainability indicator and staff estimates
- Sustainability indicator:
  - Based on general government intertemporal budget constraint (S2 sustainability indicator used in EC reports).
  - Sustainability gap: constant change to the primary balance (percent of GDP), over an infinite horizon, such that intertemporal budget constraint is satisfied.
- Staff estimate changes:
  - Starting year for analysis: 2011.
  - Structural primary balance in 2011: Previous 2.2; Current -2.4; Difference -4.6 (Percent of GDP).
  - Increase in age-related spending (2011-60): Previous 5.5; Current 8.8; Difference 3.3 (Percent of GDP).
    - Of which:
      - Pensions: Previous 2.5; Current 4.0; Difference 1.5 (Percent of GDP).
      - Other: Previous 3.0; Current 4.8; Difference 1.8 (Percent of GDP).
    - Increase in tax on pension income (2011-60): Previous 1.5; Current 2.7; Difference 1.2 (Percent of GDP).
  - Sustainability gap: Previous 2.6; Current 8.0; Difference 5.4 (Percent of GDP).
- Drivers of the increased sustainability gap:
  - Deterioration in fiscal position since last Article IV mission.
  - Use of new ECFIN baseline estimates higher than authorities’ previous aging estimates.
  - Staff find sustainability gap increased by 5½ percentage points to 8 percent of GDP.
  - If bailout outlays are not recouped, sustainability gap increases to 8½ percent of GDP.
  - ECFIN estimates sustainability gap at 6.9 percent of GDP (difference driven by differing structural primary deficit estimates for 2010).

### Long-run projections and adjustment paths
- Unchecked projections:
  - Absent corrective measures, public debt projected to exceed 500 percent of GDP by 2060.
  - Robust balance (structural primary deficit excluding property income) projected to increase by 6 percentage points to 11 percent of GDP.
  - Overall fiscal deficit projected to deteriorate by 31½ percentage points to 36¾ percent of GDP as interest payments grow.
- Immediate full adjustment:
  - Gross debt driven to zero by 2023.
  - Notable buildup of government assets thereafter to help defray long-run aging costs.
- Phased adjustments and required measures:
  - Phasing adjustment over a 10 year period requires structural measures totaling about 8½ percent of GDP for sustainability.
  - Adjustment over a 4-year period would require measures totaling about 8¼ percent of GDP.
  - Plausible adjustment scenario corresponds to closing the sustainability gap by 2020 (variable weights scenario in Table 5-1).

*Source: IMF staff analytical text as contained in the provided content unit.*

### 11.      The 2010 Budget Memorandum envisages that significant consolidation will

### The 2010 Budget Memorandum envisages that significant consolidation will begin in 2011

### Fiscal consolidation measures identified and gap
- Authorities have identified measures to be implemented from 2011 onward expected to yield savings of 1¾ percent of GDP over the long run. Measures listed:
  - phased increase in the retirement age to 67 years
  - capping mortgage interest deductibility for high-priced homes
  - reduction in health-care allowances
  - savings in the provision of medical services
- The total from these efforts “falls well short of the adjustment needed,” so additional measures will need to be identified in subsequent years.
- Staff-suggested additional measure: reduce the maximum duration of unemployment benefits from 38 months to 18 months.

### Pension system, aging pressures, and reform options
- Key findings:
  - The state pension has not been changed since it was set up in 1957, despite life expectancy having increased by more than 6 years.
  - The state pension is relatively generous: about 31 percent of average earnings versus an average 22 percent for neighboring countries.
  - Decomposition of projected pension pressures indicates the increase arises from a pronounced increase in the old-age dependency ratio, partly offset by tightening of eligibility rules.
- Reform options and policy measures suggested:
  - Gradual reduction of benefits.
  - Improvements in the employment ratio (raise employment rates).
  - Raising the retirement age to limit the rise in the old-age dependency ratio.
  - Reduce or means-test the generosity of pensions.
  - Strengthen reliance on the second pillar pension.
  - Intensify efforts to increase labor participation rates and immigration to broaden the funding base for pensions.
- Authorities’ announced and implemented steps:
  - Abolished tax incentives for early retirement.
  - Announced intention to raise the retirement age from 65 to 66 in 2020 and to 67 in 2025.

### Health sector reforms and spending containment
- 2006 health sector reform measures implemented:
  - Harmonized the basic health insurance package.
  - Increased consumer information on premiums.
  - Facilitated switching of insurance providers.
  - Blocked insurers from refusing coverage on the basis of pre-existing conditions.
  - Mandated that all acquire insurance.
- Effects and ongoing concerns:
  - Reforms intensified competition, leading to increased mergers and some downward pressure on premiums.
  - Expenditure pressures remain significant; the 2009 Spring Memorandum noted a sharp rise in expenditures (notably payments to medical specialists).
  - Concerns that insurer mergers may ultimately reduce competition.
  - Sustained vigilance is needed to contain health-care costs.

### Long-term care and eligibility arrangements
- Old-age care requires reform: projected increase in long-term care spending for the Netherlands is by far the highest in the EU.
- Lesson: reforms drawing on lessons from other EU countries could yield substantial savings.
- Eligibility, entitlements, and arrangements for old-age care will need reform given substantial aging pressures.

### Pace of consolidation and illustrative fiscal paths
- The pace of consolidation will balance the government’s twin objectives of reducing the output gap and the fiscal sustainability gap.
- Given large negative output gaps projected in 2009-10, the intention to delay consolidation until 2011 implies essentially that a zero weight is placed on the sustainability gap over the short run.
- Table 5-1 illustrates various consolidation paths assuming authorities’ preferences are governed by a quadratic loss function, with different weights on the output and sustainability gaps.
- Footnote numerical assumptions and benchmarks from Table 5-1:
  - Structural primary balance in 2010 = -2.4 percent of GDP
  - Structural primary balance target to close sustainability gap after 10 years = 6.2 percent of GDP
  - Structural primary balance target to immediately close sustainability gap = 5.7 percent of GDP
  - Fiscal multiplier is taken to be 0.8
  - Output gap in 2010 = -1.8 percent of GDP
- A “plausible adjustment” path is described where the weight placed on the sustainability gap rises over time, consistent with a relatively moderate pace of consolidation erasing the sustainability gap over a 10-year horizon. The plausible path corresponds to variable weights on the sustainability and output gaps, respectively increasing and decreasing over the 2011-2020 period.

### Policy recommendations and priorities
- Directly contain the impact of aging on public finances; pension reform is critical.
- Consider reducing maximum duration of unemployment benefits (from 38 months to 18 months, as suggested by staff).
- Gradually reduce pension benefits and strengthen second-pillar pension reliance.
- Raise retirement age and intensify policies to increase labor participation and immigration.
- Maintain vigilance to contain health-care expenditures, monitor insurer mergers, and consider further health sector measures to limit cost growth.
- Reform long-term care eligibility and entitlements drawing on EU experience to contain the projected large increase in long-term care spending.

*Source: Staff Report for the 2009 Article IV Consultation—Informational Annex (Prepared by the European Department, December 15, 2009).*

### 1.      This statement summarizes developments in the Netherlands since the issuance

### This statement summarizes developments in the Netherlands since the issuance of the staff report

### Growth projections and labor market
- Q3 2009 quarterly GDP growth: 0.5 percent (revised from 0.4 percent).
- 2009 GDP growth projection revised to -4.0 percent (from -4.2 percent).
- 2010 GDP growth projection: 1.3 percent (earlier projection 0.7 percent).
- 2011 GDP growth projection: 1.3 percent (earlier projection 0.6 percent).
- Unemployment rate forecast for 2010 lowered from 6½ percent to 5 percent (Eurostat definition).
- CPB projections: 2009 GDP growth expected at -4.0 percent (-4¾ percent earlier); 2010 growth projected at 1.5 percent (zero percent earlier).
- Central bank projections: 2009: -4 percent; 2010: 0.7 percent; 2011: 1.2 percent.

### Prices, housing, and unemployment
- Harmonized inflation (12-month change) in November: 0.7 percent (from -0.1 percent in July).
- Euro area harmonized inflation for November: 0.5 percent.
- House prices (12-month change) in November 2009: -4.7 percent (down from -5.2 percent in October).
- Unemployment rate (Eurostat definition) in October: 3.7 percent (unchanged from September).
- Euro area average unemployment rate in October: 9.8 percent.

### Financial sector developments and government support
- ING repaid €5 billion out of €10 billion of assistance.
- SNS returned €185 million out of €750 million.
- Aegon repaid €1 billion out of €3 billion.
- Government assistance measures included capital injections, nationalization, and government guarantees; deposit insurance and systemic liquidity were enhanced in line with EU-wide measures.
- Pension funds given five years to restore funding ratios.
- Authorities preparing institution-specific restructuring and divestment plans for entities with state equity or quasi-equity.

### Fiscal situation and policy plans
- Large fiscal deficits expected: 4½ percent of GDP in 2009 and 6 percent of GDP in 2010.
- Fiscal sustainability gap estimated at about 8 percent of GDP.
- Measures totaling 1¾ percent of GDP have been announced for consolidation starting 2011.
- Nineteen working groups to formulate by Spring 2010 proposals for savings of up to 20 percent of budget expenditure; another group to reexamine tax policy within the same time-frame.
- Plans to embed Dutch obligations under the Stability and Growth Pact into law.

### Executive Board assessment and recommendations
- Directors noted severe impact of the global crisis given large financial sector and trade/financial linkages; real GDP expected to suffer an unprecedented fall in 2009 with modest recovery in 2010.
- Directors welcomed authorities’ prompt interventions but urged gradual exit from exceptional support measures as recovery firms.
- Additional bank capital, particularly equity, may be required to cover likely losses and augment capital buffers; counter-cyclicality of bank capital, transparency, and robustness of valuation need amelioration in concert with the EU.
- Regulatory and supervisory reforms recommended to strengthen capital standards for securitizations, resecuritizations, and high-LTV-ratio mortgages.
- Reduction of incentives for high LTV loans, such as mortgage interest deductibility, is desirable.
- Cross-country supervision and resolution, deposit insurance, and fiscal burden-sharing should be strengthened together with EU regulators.
- Directors supported accommodative budgetary stance for 2009-10 but noted the difficulty of reversing recurrent spending increases and urged credible fiscal consolidation starting in 2011 with sufficient frontloading to lend credibility.
- Limited scope to raise tax rates; efficiency enhancements and reforms to pension, health, and old-age-care crucial to contain aging-related expenditure.
- Caution advised in modifying Dutch budgeting rules to reduce procyclicality to avoid weakening discipline, transparency, and fiscal planning.
- Directors noted staff assessment that the real effective exchange rate is broadly in equilibrium; some Directors flagged concerns about relatively high unit labor costs affecting external competitiveness.

### Selected economic and social indicators (key series)
- Real GDP: 2005: 2.0; 2006: 3.4; 2007: 3.6; 2008: 2.0; 2009 1/: -4.0; 2010 1/: 1.3
- Domestic demand: 2005: 1.4; 2006: 4.0; 2007: 2.3; 2008: 2.7; 2009 1/: -3.7; 2010 1/: 0.8
- CPI (harmonized): 2005: 1.5; 2006: 1.7; 2007: 1.6; 2008: 2.2; 2009 1/: 0.9; 2010 1/: 1.0
- Unemployment rate (in percent): 2005: 4.7; 2006: 3.9; 2007: 3.2; 2008: 2.8; 2009 1/: 3.5; 2010 1/: 4.9
- Gross national saving (percent of GDP): 2005: 26.3; 2006: 29.3; 2007: 27.3; 2008: 28.0; 2009 1/: 25.0; 2010 1/: 25.2
- Gross investment (percent of GDP): 2005: 19.0; 2006: 20.0; 2007: 19.7; 2008: 20.5; 2009 1/: 18.0; 2010 1/: 18.3
- General government balance (percent of GDP): 2005: -0.3; 2006: 0.6; 2007: 0.3; 2008: 0.8; 2009 1/: -4.5; 2010 1/: -5.9
- Structural balance (percent of GDP): 2005: -0.3; 2006: 0.4; 2007: -1.1; 2008: -1.0; 2009 1/: -4.0; 2010 1/: -4.7
- General government debt (percent of GDP): 2005: 51.8; 2006: 47.4; 2007: 45.5; 2008: 58.2; 2009 1/: 58.9; 2010 1/: 63.9
- Money market rate 2/ (percent): 2005: 2.1; 2006: 3.0; 2007: 4.0; 2008: 3.8; 2009 2/: 1.1
- Government bond yield 2/ (percent): 2005: 3.4; 2006: 3.8; 2007: 4.3; 2008: 4.2; 2009 2/: 3.8
- Trade balance (percent of GDP): 2005: 7.4; 2006: 7.2; 2007: 7.0; 2008: 6.5; 2009 1/: 5.4; 2010 1/: 5.3
- Current account (percent of GDP): 2005: 7.3; 2006: 9.3; 2007: 7.6; 2008: 7.5; 2009 1/: 7.0; 2010 1/: 6.8
- Exports of goods and services (percent of GDP): 2005: 66.6; 2006: 70.1; 2007: 71.6; 2008: 72.8; 2009 1/: 64.2; 2010 1/: 64.5
- Exports volume, growth (in percent): 2005: 6.0; 2006: 7.3; 2007: 6.7; 2008: 2.7; 2009 1/: -9.8; 2010 1/: 1.0
- Imports of goods and services (percent of GDP): 2005: 58.0; 2006: 61.6; 2007: 63.0; 2008: 64.8; 2009 1/: 56.6; 2010 1/: 57.2
- Imports volume, growth (in percent): 2005: 5.4; 2006: 8.8; 2007: 5.1; 2008: 3.7; 2009 1/: -9.2; 2010 1/: 0.8
- Net oil exports (billions of US$): 2005: -1.4; 2006: -0.5; 2007: -3.7; 2008: 2.2; 2009 1/: 1.5; 2010 1/: 1.8
- Net foreign direct investment: 2005: -13.2; 2006: -8.5; 2007: 11.5; 2008: -7.0; 2009 1/: -3.8; 2010 1/: -3.8
- Official reserves, excl. gold (US$ billion) 2/: 2005: 9.0; 2006: 10.8; 2007: 10.3; 2008: 11.5; 2009: 12.5
- U.S. dollar per euro: 2005: 1.19; 2006: 1.32; 2007: 1.46; 2008: 1.36
- Nominal effective rate (2000=100) 2/: 2005: 100.0; 2006: 100.5; 2007: 102.3; 2008: 105.0
- Real effective rate (2000=100) 2/ 4/: 2005: 100.0; 2006: 99.7; 2007: 100.7; 2008: 102.9

*Statement by Age Bakker, Executive Director, and Ester Barendregt, Senior Advisor to the Executive Director for the Kingdom of the Netherlands—Netherlands; January 11, 2010*

### Introduction

### _cr1034 - Introduction

### Overview
- The Netherlands authorities thank staff for their appraisal and the informative exchange of views during the meetings.
- The Dutch economy, with a relatively large and international financial sector, was highly exposed to the global financial distress and, as an open economy, particularly affected by adverse developments following from the financial crisis.
- For the governmental period starting in 2007 the budgetary framework was based on an estimated annual trend growth of 2 percent.
- The government planned to improve the structural balance from a deficit of 0.2 percent of GDP in 2007 to a surplus of 1 percent in 2011.
- The budget memorandum for 2009, drafted before the collapse of Lehman, envisaged a surplus of 1.2 percent of GDP.
- Negative growth was recorded for four quarters; growth returned to positive quarter-to-quarter in the third quarter of 2009.
- The budget deficit has increased sharply and is expected to rise further to 6 percent of GDP in 2010.

### Response to the crisis
- Large-scale financial sector interventions were made (mostly in 2008), totaling over EUR 80 billion (adding to the public debt, although expected to be mostly recouped when the economy recovers).
- The government allowed automatic stabilizers to operate, disregarding the normal deficit limit of 3%, and allowed outlays for unemployment benefits to increase without compensating measures.
- Temporary and focused stimulus measures were taken as part of a coordinated European response.
- The combined effect of the stimulus measures and automatic stabilizers amounts to an increase of the budget deficit by EUR 50 billion over 2009 and 2010.

### Economic outlook
- Several indicators, including increased confidence among consumers and producers, point to improving economic conditions.
- Some crisis effects may have a lagged impact in 2010, such as rising unemployment and deteriorating public finance.
- The Netherlands Bureau for Economic Policy Analysis (CPB) projects for 2009 at -4 percent, and growth in 2010 at 1.5 percent; CPB projections are slightly better than staff forecasts for 2009 and show more substantial improvement for 2010.
- Specific issues noted:
  - Unemployment: impact of the crisis on unemployment has been more modest than expected so far. The government subsidized temporary reduced working hours arrangements, stimulating firms to keep employees and obliging them to invest in employee education.
  - Unemployment forecasts have been revised downward substantially, for 2009 to 5 percent (national definition, which is 1- 1.5 % higher than the ILO definition) and for this year to 6.5 percent.
  - Private wealth: after considerable private wealth loss in 2009 due to substantial equity losses and a moderate decline in house prices, private wealth is expected to recoup in 2010, contributing to consumption growth.
  - Credit conditions: staff’s analysis points to a credit crunch since 2007 and the likelihood that financial tightening may reduce economic growth in 2008-2010; Dutch authorities note year-on-year growth of loans to non-financial institutions from mid-2007 through 2008 has been unusually high and have taken measures to stimulate bank lending, especially to small and medium enterprises.

### Fiscal exit and structural reforms
- A supplementary policy agreement (March 2009) sets a medium-term framework for stabilizing the economy in 2010, starting fiscal consolidation in 2011, and further improving the budgetary position thereafter.
- The Netherlands has a well-tested set of budgetary rules; the government has submitted a Deficit Reduction Act to ensure progress towards medium-term objectives under the European excessive deficit procedures.
- Staff recommends refinements to attenuate procyclicality, for example excluding cyclically sensitive outlays from expenditure ceilings; staff cautions that formalizing exceptional circumstances for discretionary stimulus may increase political pressures.
- Government strategy for fiscal exit:
  - Reduce the deficit below the 3 percent threshold value by 2013 and further improve the budgetary position towards agreed medium-term objectives thereafter.
  - Withdraw stimulus measures in 2011, provided the economy has sufficiently recovered.
  - Expenditure cuts of 0.3% of GDP are foreseen for 2011.
  - The government intends to moderate wages in the public sector.
- Sustainability measures proposed (sustainability package amounting to 1.3% of GDP):
  - Increase pension age from 65 to 66 years in 2020 and to 67 in 2025; second-pillar pensions to disburse 2 years later at age 67.
  - Phase out public reinsurance of healthcare so health insurers bear greater risks.
  - Abolish mortgage-interest-deductibility for high-priced homes above a certain cap.
- Staff estimates the sustainability gap at 8% of GDP.
- Fundamental Budgetary Review:
  - Twenty working groups will propose savings of up to 20 percent of budget expenditure across all policy areas.
  - Working groups are chaired by current or former top-ranking officials from different policy fields and must present at least one scenario that could yield 20 percent budgetary savings in their area.
  - Working groups are expected to report in spring 2010 for possible incorporation into the 2011 national budget.

### Financial sector situation and exit
- The global financial crisis hit the Dutch financial sector hard; authorities took exceptional measures to maintain financial stability.
- Staff expressed concerns that Dutch banks have low equity capital relative to unweighted assets; authorities attribute much of this to IFRS accounting, which consolidates more assets than US GAAP.
- Risk-weighted capital levels of Dutch banks remain well above the regulatory minimum.
- Recent developments:
  - Capital issuances, disinvestments and ‘derisking’ have increased the BIS ratio by approximately 2 percent between 2008 and the third quarter of 2009.
  - After large losses in 2008, profitability stabilized at break-even point in 2009.
- Exit strategy (phased and tailor-made):
  - Unwind systemic liquidity support first, followed by guarantee schemes, then government participations and toxic asset schemes.
  - Government guarantees for bank bonds with maturity up to five years will be phased out gradually; the facility was recently extended until 30 June 2010 with an increase in the guarantee fee to create a gradual and price-based exit.
  - The facility is expected to close in 2010, but timing and sequencing will depend on market developments and coordination with other EU countries.
  - Revival of covered bond and securitization markets could accelerate withdrawal of public support.
- Capital injections and asset facilities include institution-specific exit conditions and price-based incentives; timely repayment is desirable but should be sustainable from a prudential perspective and not endanger credit supply.
- Recent repayments by banks:
  - End 2009, ING repurchased € 5 billion of state owned Core Tier 1 securities.
  - End 2009, AEGON repurchased € 1 billion of state owned Core Tier 1 securities.
  - End 2009, SNS REAAL repurchased € 185 million of state owned Core Tier 1 securities.
- Acquired institutions (Fortis Bank Netherlands / ABN AMRO Bank Netherlands, ASR) are to be re-privatized as soon as possible once they can obtain medium term financing at reasonable cost and markets have stabilized; sale of Fortis Bank Netherlands / ABN AMRO Bank Netherlands is not expected before 2011.
- Authorities will communicate exit strategies to market participants well in advance; clarity and realistic deadlines are emphasized.
- Staff welcomed a voluntary private sector code of conduct on remuneration, including:
  - Remuneration based on long-term performance.
  - Compensation committees to develop explicit corporate remuneration policies.
  - A relative cap on executive remuneration requiring executive pay to remain below the average remuneration of the relevant peer group.

*Source: _cr1034 - Introduction — https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2010/_cr1034.pdf*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2010/_cr1034.pdf_