## Declining North Sea Oil and Gas

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### Context and key macroeconomic findings
- Economy contracted by 0.1 percent in 2013; modest acceleration likely in 2014 supported by private domestic demand but held back by a trend decline in North Sea oil and gas production and a decline in net exports to euro-area partners.
- Growth projections: 0.7 percent in 2014 and 1.4 percent in 2015; rising slightly above 2 percent in the medium-term.
- Domestic inflation about 1.5 percent (yoy) through 2014 H1.
- Real interest rates at or below zero for most short-term rates; treasury bill rates remain negative in nominal terms out to a two-year maturity.
- Danish household debt roughly 300 percent of disposable income in 2013.
- Current account surpluses persist at around 7 percent of GDP.
- General government balance moved from surpluses before the crisis to a deficit that peaked at 3.9 percent of GDP in 2012, contained to 0.9 percent of GDP in 2013.
- Requirement for exiting the Excessive Deficit Procedure (EDP): consolidation of the structural deficit by 1.5 percent from 2010 to 2013.

### Box 1 — Declining North Sea Oil and Gas (findings)
- Production trends:
  - 2013 oil production fell by more than half from its 2004 peak.
  - Natural gas production followed a similar trend.
- Contribution to growth:
  - Mineral extraction contribution to gross value added (GVA) has been negative since 2006.
  - In 2013 the impact was -0.6 percentage point (contribution to GVA growth).
- Energy trade and net exports:
  - Energy net exports fell from 1.5 percent of GDP in 2007 to 0.1 percent of GDP in 2013.

### Impact on growth and outlook
- Main channels:
  - Direct negative contribution to GVA and GDP growth (notably -0.6 percentage point in 2013).
  - Reduction in energy net exports, weakening external demand contribution.
  - Dampening of aggregate investment — private sector investment dropped considerably after the crisis and expected to recover only gradually.
- Medium-term outlook:
  - Activity picking up, driven mainly by private consumption and non-oil exports.
  - Output gap expected to close gradually after 2018.
  - Unemployment expected to continue its slow decline.

### Risks and policy implications related to the decline
- Downside risks:
  - Lower growth in advanced economies and emerging markets could depress Denmark’s geographically-dispersed exports.
  - Surges in global financial market volatility could raise market interest rates and increase household debt service on adjustable rate mortgages, depressing consumption.
  - A protracted period of low euro area interest rates during Denmark’s recovery could generate overheating pressures and overvalued asset prices.
  - A drop in confidence in Danish covered bonds could depress consumption through higher debt service on adjustable rate mortgages; low probability but large impact.
  - Regional financial spillovers from Nordic-Baltic problems could propagate through Danish-headquartered banks and foreign bank subsidiaries.
- Policy responses suggested:
  - Build fiscal space as recovery allows; allow automatic stabilizers to operate if downside risks materialize.
  - Focus on structural reforms to improve growth potential.
  - Maintain a gradual pace of fiscal consolidation.
  - Regulatory policies to encourage longer bond maturities, ensure interest-rate increases are better reflected in loan pricing and approvals, and increase buffers in loans with interest-only periods (for example, by reducing the loan-to-value (LTV) ceiling).
  - Fully implement the macroprudential toolkit and advance financial sector reforms.
  - Reduce household vulnerabilities by building household buffers.

### External competitiveness and EBA results
- Exchange rate and competitiveness:
  - Denmark maintains a tight peg with the euro; since its 2009 trough the krone has appreciated in real effective terms by over 7 percent.
  - Unit labor costs elevated and productivity growth low relative to historical average; improved terms of trade have maintained external competitiveness.
- External metrics:
  - Net international investment position (excluding the central bank) about 40 percent of GDP in 2013.
  - Net foreign exchange reserves about one quarter of GDP.
- Merchanting trade noted as a driver of the current account because merchanting firms reinvest earnings abroad, raising national savings without increasing domestic investment.
- External Balance Assessment (EBA) estimates (based on data available as of October 2014) reported as:
  - "Macroeconomic balance (MB) approach7.6-17"
  - "Equilibrium real exchange rate (REER)approach--3"
  - "External Sustainability Approach6.9-15"

### Financial sector: findings, recommendations, and figures
- Financial sector size: assets over 650 percent of GDP.
- Recent resilience measures:
  - New bank resolution framework with bail-in of creditors; new institutional macroprudential framework; implementation of regulations on domestic systemically important financial institutions; legislation requiring maturity extension of covered bonds in stress situations.
- Supervisory diamond for mortgage credit institutions (proposed; planned finalization by January 2015 and phased-in by 2018 or 2020):
  - Monitor five risk indicators: (i) growth in lending; (ii) borrower’s interest-rate risk; (iii) deferred amortization loans with high LTV ratios; (iv) high-LTV loans with short-term funding; and (v) large exposures.
  - Two additional proposals: 5 percent down payment requirement and commercial properties must generate positive cash flow before financing.
- Cost example (Box 3): shift of the relevant rate from zero to -0.2 percent had a cost to banks of 0.02 percent of GDP in a banking system with assets of roughly 400 percent of GDP.
- Staff recommendations:
  - Encourage longer bond maturities, ensure interest-rate risk reflected in loan pricing and approvals, increase buffers in interest-only loans, consider reducing the LTV ceiling.
  - Explore macroprudential instruments such as limits on LTV and debt service to income ratios; review institutional arrangements for macroprudential authority appointment.
  - Reduce length of examination cycles for banks and insurance companies; ensure operational independence of the Danish Financial Supervisory Authority (DFSA).
  - Strengthen crisis management and bank resolution: implement early resolution triggers; prepare resolution plans and resolvability assessments; enhance deposit guarantee scheme; formalize emergency liquidity support framework.

### House prices and household debt — vulnerabilities and policy advice
- House price and debt facts:
  - Real house price dropped by about 30 percent from 2007 peak to 2012 bottom.
  - Real house prices started to rise in 2013 and grew 2.6 percent (y/y) in Q2 2014.
  - Household debt reached about 300 percent of disposable income.
  - Household assets large with positive net worth but mostly illiquid mandatory pension accounts and housing.
- Staff recommendations:
  - Reconsider tax, rental market, and financial sector policies to limit house price volatility and excessive debt accumulation.
  - Address valuation freeze: change housing taxes so they automatically reflect property and land values (freeze on real estate valuations for tax purposes at 2002 levels creates pro-cyclical bias).
  - Consider less rigid rental market regulations.
  - Complement supervisory diamond and 5 percent down payment with reduced tax preferences for housing.
  - Address deferred amortization and adjustable-rate loan prevalence.
- Authorities’ stance:
  - Debt concentrated among high-income households; stress tests show most households resilient to interest rate shocks.
  - Authorities view direct impact on financial stability as limited but acknowledge macro stability risks from large household balance sheets.
  - Gradual reduction of mortgage interest rate deduction seen as reducing procyclicality.

### Productivity and labor market reform
- Productivity growth has been modest in the past decade and lags Denmark’s historical average and peers, contributing to rising unit labor costs and lowered competitiveness.
- Productivity Commission (appointed 2012; final report early 2014) made more than one hundred recommendations in three areas: strengthening competition; improving quality of education; enhancing efficiency of the public sector.
- Examples aligned with Fund advice:
  - Increase taxation of property and lower marginal tax rates on earned income for high earners and corporate taxes.
  - Relax restrictions on large retail stores and remove ownership restrictions on businesses such as pharmacies.
- Authorities’ actions and targets:
  - Government implemented tax reform reducing corporate income tax from 25 percent in 2013 to 22 percent in 2016.
  - Growth packages in 2013 and 2014 expected to raise GDP by DKK 11.5 billion by 2020 through improved conditions for private companies; labor market reforms expected to add DKK 19.5 billion by 2020.
  - Government target: increase structural GDP by DKK 20 billion by 2020 through improved conditions for private companies and another DKK 20 billion through increased employment and educational attainment.
- Staff view: continued consideration warranted for all Productivity Commission recommendations; productivity growth is the primary driver for sustained growth.

### Macroeconomic projections and key indicators (selected figures)
- Real GDP (change in percent): 2010: 1.6; 2011: 1.3; 2012: -0.8; 2013: -0.1; 2014 proj.: 0.7; 2015 proj.: 1.4; 2016 proj.: 2.0; 2017 proj.: 2.1; 2018 proj.: 2.2; 2019 proj.: 2.2.
- Private Consumption (change in percent): 2010: 0.8; 2011: 0.3; 2012: 0.2; 2013: 0.1; 2014 proj.: 0.6; 2015 proj.: 1.5; 2016 proj.: 1.8; 2017 proj.: 1.9; 2018 proj.: 2.2; 2019 proj.: 2.2.
- Gross fixed investment (change in percent): 2010: -4.0; 2011: 2.1; 2012: 0.4; 2013: 0.6; 2014 proj.: 0.6; 2015 proj.: 1.4; 2016 proj.: 2.2; 2017 proj.: 2.2; 2018 proj.: 2.2; 2019 proj.: 2.2.
- Potential output (change in percent): 2010: 0.2; 2011: 0.2; 2012: 0.3; 2013: 0.5; 2014 proj.: 0.5; 2015 proj.: 0.9; 2016 proj.: 1.3; 2017 proj.: 1.6; 2018 proj.: 1.8; 2019 proj.: 2.1.
- Output gap (percent of potential output): 2010: -1.7; 2011: -0.7; 2012: -1.7; 2013: -2.3; 2014 proj.: -2.1; 2015 proj.: -1.6; 2016 proj.: -1.0; 2017 proj.: -0.5; 2018 proj.: -0.1; 2019 proj.: 0.1.
- Harmonized Unemployment rate (in percent): 2010: 7.5; 2011: 7.6; 2012: 7.5; 2013: 7.0; 2014 proj.: 6.9; 2015 proj.: 6.6; 2016 proj.: 6.2; 2017 proj.: 5.7; 2018 proj.: 5.5; 2019 proj.: 5.3.
- CPI (year average, change in percent): 2010: 2.3; 2011: 2.8; 2012: 2.4; 2013: 0.8; 2014 proj.: 0.6; 2015 proj.: 1.6; 2016 proj.: 1.8; 2017 proj.: 2.0; 2018 proj.: 2.0; 2019 proj.: 2.0.
- General government balance (percent of GDP): 2010: -2.7; 2011: -2.0; 2012: -3.9; 2013: -0.8; 2014 proj.: -1.2; 2015 proj.: -2.5; 2016 proj.: -2.3; 2017 proj.: -1.7; 2018 proj.: -1.2; 2019 proj.: -0.9.
- General government gross debt (percent of GDP): 2010: 42.9; 2011: 46.4; 2012: 45.6; 2013: 45.0; 2014 proj.: 45.8; 2015 proj.: 46.9; 2016 proj.: 47.5; 2017 proj.: 47.3; 2018 proj.: 46.5; 2019 proj.: 45.5.
- Current Account (in percent of GDP): 2010: 5.7; 2011: 5.8; 2012: 5.8; 2013: 7.0; 2014 proj.: 6.8; 2015 proj.: 6.9; 2016 proj.: 6.8; 2017 proj.: 6.6; 2018 proj.: 6.7; 2019 proj.: 6.8.
- GDP per capita, USD (2013): $59,129.
- At-risk-of-poverty rate (2012): 19.0 percent.

### Authorities’ views and policy discussions
- Authorities generally agreed with staff on the outlook and risk assessment, with differing views on the speed at which the output gap will close.
- Authorities see household debt and house prices as complex but currently contained risks; monitor developments closely.
- Peg to the euro remains central: monetary policy to maintain a very tight peg in the context of a fully open capital account.
- Fiscal policy: authorities cautious on further tightening given fragile recovery; committed to the Stability and Growth Pact and to gradually normalize supportive fiscal stance as recovery gains momentum.
- Financial sector: authorities developing the supervisory diamond; final LCR requirements approved by the European Commission welcomed; no decision on Danish participation in the Banking Union as a non-euro Member State.
- Housing and rental market: authorities acknowledge valuation freeze causes procyclical effects and that housing taxes should reflect property and land values automatically; view rental market changes as linked to social roles and to be considered in conjunction with owner-occupied housing treatment.

*Source: _cr14331 (IMF staff report excerpt).*

### 1. Declining North Sea Oil and Gas _______________________________________________________________ 5

### 1. Declining North Sea Oil and Gas

### Context and key macroeconomic findings
- The economy contracted slightly (by 0.1 percent) in 2013; modest acceleration likely in 2014, supported by private domestic demand but held back by a trend decline in North Sea oil and gas production and a decline in net exports to euro-area partners.
- Growth projections: 0.7 percent in 2014 and 1.4 percent in 2015; rising slightly above 2 percent in the medium-term.
- Inflation and interest rates:
  - Domestic inflation about 1.5 percent (yoy) through 2014 H1.
  - Real interest rates at or below zero for most short-term rates; treasury bill rates remain negative in nominal terms out to a two-year maturity.
- Household sector:
  - Danish households have the highest debt relative to disposable income in the OECD, at roughly 300 percent in 2013.
  - House prices have been gradually picking up since 2012; household net worth has been rising for the past year.
- External sector:
  - Current account surpluses persist at around 7 percent of GDP.
  - Private sector savings rebuilt balance sheets and built liquidity buffers after the crisis, reflecting in current account surpluses.
- Fiscal:
  - General government balance moved from surpluses before the crisis to a deficit that peaked at 3.9 percent of GDP in 2012, contained to 0.9 percent of GDP in 2013.
  - Requirement for exiting the Excessive Deficit Procedure (EDP): consolidation of the structural deficit by 1.5 percent from 2010 to 2013.

### Box 1 — Declining North Sea Oil and Gas (findings)
- Production trends:
  - 2013 oil production fell by more than half from its 2004 peak.
  - Natural gas production has followed a similar trend.
- Contribution to growth:
  - Mineral extraction contribution to gross value added (GVA) has been negative since 2006.
  - In 2013 the impact was particularly large: -0.6 percentage point (contribution to GVA growth).
- Energy trade and net exports:
  - Energy net exports have fallen from 1.5 percent of GDP in 2007 to 0.1 percent of GDP in 2013.

### External competitiveness and EBA results
- Exchange rate and competitiveness:
  - Denmark maintains a tight peg with the euro; since its 2009 trough the krone has appreciated in real effective terms by over 7 percent.
  - Unit labor costs are elevated and productivity growth is low relative to historical average, but improved terms of trade have maintained external competitiveness.
- External Balance Assessment (EBA) estimates (as reported):
  - "Macroeconomic balance (MB) approach7.6-17"
  - "Equilibrium real exchange rate (REER)approach--3"
  - "External Sustainability Approach6.9-15"
  - Note: EBA estimates are based on data available as of October 2014.
- Other external position metrics:
  - Net international investment position (excluding the central bank) reached about 40 percent of GDP in 2013.
  - Net foreign exchange reserves are about one quarter of GDP.
- Merchanting trade:
  - Merchanting trade is highlighted as an important driver of the current account because merchanting firms reinvest earnings abroad, raising national savings without increasing domestic investment.

### Impact on growth and outlook
- Main channels by which declining oil and gas affect the economy:
  - Direct negative contribution to GVA and GDP growth (notably -0.6 percentage point in 2013).
  - Reduction in energy net exports, weakening external demand contribution.
  - Dampening of aggregate investment — private sector investment dropped considerably after the crisis and has not yet recovered; expected to recover only gradually.
- Medium-term outlook:
  - Activity is picking up, driven mainly by private consumption and non-oil exports.
  - Output gap expected to close gradually after 2018.
  - Unemployment expected to continue its slow decline.

### Risks and policy implications related to the decline
- Downside risks that could amplify the negative effects of declining North Sea output:
  - Lower growth in advanced economies and emerging markets could depress Denmark’s geographically-dispersed exports.
  - Surges in global financial market volatility could raise market interest rates and increase household debt service on adjustable rate mortgages, depressing consumption.
  - A protracted period of low euro area interest rates during Denmark’s recovery could generate overheating pressures and overvalued asset prices.
  - A drop in confidence in Danish covered bonds could depress consumption through higher debt service on adjustable rate mortgages; while low probability, impact would be large given the importance of the mortgage covered bond market and pass-through to household debt service.
  - Regional financial spillovers from problems elsewhere in the Nordic-Baltic area could propagate through Danish-headquartered banks (e.g., Danske Bank) and subsidiaries of foreign banks (e.g., Nordea).
- Policy responses suggested in the risk assessment:
  - Build fiscal space as recovery allows; allow automatic stabilizers to operate if downside risks materialize.
  - Focus on structural reforms to improve growth potential.
  - Maintain a gradual pace of fiscal consolidation.
  - Use regulatory policies to encourage longer bond maturities, ensure interest-rate increases are better reflected in loan pricing and approvals, and increase buffers in loans with interest-only periods (for example, by reducing the loan-to-value (LTV) ceiling).
  - Reduce vulnerabilities in the financial sector by fully implementing the macroprudential toolkit and moving ahead with financial sector reforms.
  - Reduce household vulnerabilities by building household buffers.

*Source: IMF staff calculations.*

### 10.      The authorities generally agreed with the outlook and the risk assessment. However,

### _cr14331 - 10.      The authorities generally agreed with the outlook and the risk assessment. However,

### Executive summary and outlook
- Authorities generally agreed with staff on the outlook and risk assessment, with differing views on the speed at which the output gap will close on both sides of staff estimates.
- Agreed that global shocks affect Denmark mostly through trade and interest rates; interest-rate effects could be beneficial due to safe-haven inflows.
- Authorities view housing prices and related household debt as presenting complex risks but consider those risks contained at present and will monitor developments closely.
- Authorities consider current low inflation not a sign of deflationary pressures; import and import-competing prices are falling while domestic prices and wages show modest growth.

### Policy discussions: maintaining a steady recovery
- Recovery provides opportunity to rebuild fiscal buffers as conditions permit.
- Financial-system reforms should continue given the system's large size and high domestic and regional interconnectedness.
- Household debt and large household balance sheets create vulnerabilities; reducing housing-market distortions that promote excessive leverage and volatility would be helpful.
- Scope exists for continued structural reforms to promote productivity and increase labor force participation rates.

### A. Macroeconomic policy — key findings and figures
- Monetary policy: maintain very tight peg to the euro in the context of a fully open capital account.
- International reserves:
  - Fell sharply at the peak of the crisis, dropping by 17 percent in October 2008 alone.
  - Subsequently rose to more than double pre-crisis levels due to safe-haven inflows.
- Negative policy rates history:
  - Deposit rate cut to -0.2 percent in July 2012.
  - Raised to -0.1 percent in January 2013.
  - Moved to 0.05 percent in April 2014.
  - Lowered to -0.05 percent in September 2014 following the ECB decision.
- Fiscal balances and stance:
  - General government headline balance: -0.8 percent of GDP in 2013.
  - Expected headline balance: -1.2 percent of GDP in 2014 and -2.5 percent of GDP in 2015, with widening accounted for by expiring one-off measures from 2013 and 2014.
  - Without the one-off measures, the headline balance would remain largely unchanged at around 3 percent in all three years.
  - Structural deficit projected to widen slightly in 2014 before starting a gradual decline in 2015.
  - Medium- to long-term plan: gradual tightening of the structural balance; both revenue and expenditure decline as a share of GDP between 2014 and 2019, with slightly larger expenditure decline producing the consolidation.
- Assessment:
  - The 2015 fiscal stance seen as appropriate after October policies; additional one-off pension tax measures announced in October 2014 to build a buffer relative to the 3.0 percent of GDP deficit target.
  - Staff estimates of fiscal multipliers using IMF’s GIMF support this assessment.

Authorities’ views (macroeconomic)
- Positive view of negative interest rate experience; consider higher threshold for reserve adequacy than pre-crisis level.
- Do not see deflation as an immediate concern; monetary policy will continue to be based on the exchange rate peg rather than inflation.
- Commitment to Stability and Growth Pact guidelines; importance of Denmark’s credibility stressed.
- Caution on further fiscal tightening given fragile recovery; fiscal authorities did not see a need to tighten planned fiscal stance in 2015 but recognize need to gradually normalize supportive fiscal stance as recovery gains momentum.

### B. Financial sector policy — findings, recommendations, and figures
- Financial sector size and constraints:
  - Financial sector is large with assets over 650 percent of GDP.
  - Exchange rate peg and fully-open capital account constrain monetary policy, increasing importance of structural financial policies.
- Recent resilience measures taken:
  - New bank resolution framework with bail-in of creditors, used to resolve small and medium-sized banks.
  - New institutional framework for macroprudential policy.
  - Implementation of regulations on domestic systemically important financial institutions.
  - Legislation requiring maturity extension of covered bonds in stress situations to reduce refinancing risk in the mortgage finance system.
- Supervisory diamond for mortgage credit institutions (proposed; planned finalization by January 2015 and phased-in by 2018 or 2020):
  - Monitor five risk indicators: (i) growth in lending; (ii) borrower’s interest-rate risk; (iii) deferred amortization loans with high loan-to-value (LTV) ratios; (iv) high-LTV loans with short-term funding; and (v) large exposures.
  - Two additional proposals:
    - Home buyers must make a down payment of at least 5 percent when purchasing a home including first mortgage (capped at 80 percent of home value) and other borrowing collateralized by the real estate.
    - Commercial properties must be able to generate a positive cash flow before they can be financed.
  - Parameters largely calibrated to reflect current practice to contain impact of any future incipient loosening of lending standards.
- Box 3 (negative interest rates) and cost example:
  - Shift of the relevant rate from zero to -0.2 percent had a cost to banks of only 0.02 percent of GDP in a banking system with assets of roughly 400 percent of GDP.
- Staff recommendations to reduce risks:
  - Mortgage banks and covered bonds market: encourage longer bond maturities, ensure interest-rate risk better reflected in loan pricing and approvals, increase buffers in loans with interest-only periods, consider reducing the loan-to-value ceiling.
  - Macroprudential policy: explore instruments such as limits on LTV and debt service to income ratios; review institutional arrangements for macroprudential authority appointment. The proposed 5 percent down payment is welcome.
  - Prudential supervision: reduce length of examination cycles for banks and insurance companies by using additional resources; ensure operational independence of the Danish Financial Supervisory Authority (DFSA).
  - Crisis management and bank resolution: implement early resolution triggers; strengthen funding arrangements and resolution toolkit; prepare resolution plans and resolvability assessments; enhance deposit guarantee scheme; formalize framework for emergency liquidity support.

Authorities’ views (financial sector)
- Broad agreement with staff conclusions.
- DFSA developing supervisory diamond; authorities pointed to initiatives on 5 percent down payment and positive cash-flow requirement for commercial property financing.
- Forthcoming transposition of EU Banking Recovery and Resolution Directive into national law would largely address staff recommendations on bank resolution.
- Staff recommendations on prudential supervision to be presented to DFSA Board.
- Authorities welcomed final LCR requirements approved by the European Commission.
- No decision taken on Danish participation in the Banking Union as a non-euro Member State.

### C. House prices and household debt — vulnerabilities and policy advice
- Key vulnerabilities:
  - High household debt increases exposure to income, interest, and asset price shocks.
  - House price volatility and deferred amortization loans limit home equity build-up and increase household exposure to shocks.
  - Low level of liquid financial assets amplifies vulnerability; in face of shocks households likely to cut consumption with adverse consequences for retail trade, construction, and their lenders.
- Staff recommendations (multi-pronged approach):
  - Reconsider features of tax, rental market, and financial sector policy to limit house price volatility and prevent excessive debt accumulation.
  - Address valuation freeze: freeze on real estate valuations for tax purposes at 2002 levels creates pro-cyclical impulse and bias towards owner-occupied dwellings; change housing taxes so they automatically reflect property and land values.
  - Tight rent control contributes to increased price volatility in owner-occupied dwellings; consider less rigid rental market regulations.
  - Complement proposed supervisory diamond and 5 percent down payment requirement with reduced tax preferences for housing.
  - Address deferred amortization and adjustable-rate loan prevalence to reduce exposure.
- Authorities’ views (household debt):
  - Structural factors cited: highly developed mortgage financing system and high pension assets behind high household debt.
  - Danmarks Nationalbank studies show debt more concentrated among high-income families; stress tests indicate most households resilient to interest rate shocks and arrears remain relatively low even in stress scenarios.
  - Authorities view direct impact on financial stability as limited but acknowledge potential macro stability risks from large household balance sheets.
  - Gradual reduction of mortgage interest rate deduction seen as reducing procyclicality.
  - Danmarks Nationalbank acknowledged tax freeze leads to procyclical effects and noted housing taxes should be changed to reflect property and land values automatically.

### D. Productivity and labor market reform
- Productivity growth has been modest in the past decade and lags the Danish historical average and peers, contributing to rising unit labor costs and lowered competitiveness.
- Productivity Commission (appointed 2012; final report early 2014) made more than one hundred recommendations in three areas:
  - Strengthening competition.
  - Improving quality of education.
  - Enhancing efficiency of the public sector.
- Examples of recommended reforms consistent with Fund advice:
  - Increase taxation of property and lower marginal tax rates on earned income for high earners and corporate taxes.
  - Relax restrictions on large retail stores and remove ownership restrictions on businesses such as pharmacies.
- Some Commission recommendations are outside Fund core areas (e.g., higher education reform) or are general (e.g., evaluating stock of regulations).

*Source: _cr14331 (IMF staff report excerpt).*

### 24.      The authorities plan to adopt some of the recommendations of the Commission. Many

### _cr14331 - 24.      The authorities plan to adopt some of the recommendations of the Commission. Many

### Adoption of Productivity Commission recommendations
- Many recommendations of the Commission are in areas where the government has been making gradual reforms over time.
- The government had already implemented a tax reform plan that will reduce the rate of corporate income tax from 25 percent in 2013 to 22 percent in 2016.
- Further reforms were included in the Growth Plan 2014 as a first response to the recommendations.
- Some suggested reforms have been rejected, such as relaxing the restrictions on large retail establishments.
- “All of the remaining recommendations by the Commission deserve further consideration.” (text statement)

### Labor market reforms and challenges
- The government reformed the early retirement scheme in 2011.
- The statutory retirement rate was increased from 65 to 67 over the period 2019-22.
- The retirement age will be indexed to life expectancy from 2025.
- The maximum period of unemployment insurance benefits has been shortened from 4 to 2 years.
- Eligibility criteria for disability pensions and social assistance have been tightened and the period for sickness benefits shortened.
- These reforms share the common theme of restricting eligibility or the length of benefits and using the resources saved to provide greater support services for beneficiaries.
- Authorities note that recent reforms to unemployment, sickness, and disability benefits were having the desired effects in terms of increased labor force participation.
- Staff appraisal: “Increasing labor market participation is a high priority given the fiscal burden of an aging population.”

### House prices and household debt (Box 4 findings)
- From the 2007 peak to the 2012 bottom, real house price dropped by about 30 percent.
- Real house prices started to rise in 2013 and grew 2.6 percent (y/y) in the second quarter of 2014.
- Staff estimates based on three different metrics (price-to-income ratio, price-to-rent ratio, and model based) suggest that house prices are currently close to fundamentals.
- Household debt grew rapidly during the housing boom, facilitated by the introduction of deferred amortization loans in 2003, reaching about 300 percent of disposable income.
- Household assets are large with positive net worth but consist mostly of illiquid mandatory pension accounts and housing, leaving households with limited liquid buffers and making them more vulnerable to interest rate shocks.
- The need to rebuild balance sheets has depressed private consumption, weighing on the recovery in recent years.
- Contributing factors to high household debt include large pension assets implying high replacement rates for retirement income, tax preferences for owner-occupied housing, and rental market regulations (rent controls and long waiting lists) that likely induce earlier home purchase by young households.

### Financial sector stability and recommended measures (Staff appraisal)
- Stress tests conducted as part of the FSAP update found that financial stability risks are contained but further measures to reduce risks would be helpful.
- Authorities have taken steps to enhance financial system resilience since the global financial crisis.
- Additional measures recommended:
  - Develop the loan-to-value and debt service-to-income ratios as macroprudential tools.
  - Lengthen covered bond maturities.
  - Reduce the length of examination cycles.
  - Strengthen the toolkit and funding arrangements for bank resolution.
- The proposals for a mortgage credit institution supervisory diamond and 5 percent down payment requirement should be complemented by reduced tax preferences for housing and less rigid rental market regulations.

### Competitiveness and productivity
- Denmark scores relatively high compared to peers in terms of its business environment and competitiveness.
- However, productivity has stalled: “Productivity in Denmark has grown only modestly in the past decade.”
- Unit labor costs have been rising.
- Terms of trade have been favorable, and non-price competitiveness is reflected in persistent trade and current account surpluses.
- Staff view: Further consideration is warranted for all recommendations by the Productivity Commission; Growth Plan 2014 is an initial response.

### Fiscal policy assessment (Staff appraisal)
- The very tight peg to the euro has anchored inflation and interest rates and facilitated trade with neighboring euro-area countries.
- The government’s fiscal policy for 2015 and the medium term is broadly appropriate and should meet the headline deficit targets.
- On current budget plans, the headline deficit should meet the target, although it is difficult to assess the structural balance.
- Denmark’s low net and gross debt levels and strong track record support the positive market perception of its fiscal strength.

*Source: IMF staff report text in PDF content unit _cr14331 - 24.*

### 33.      It is recommended that the next Article IV consultation with Denmark be held on the

### It is recommended that the next Article IV consultation with Denmark be held on the standard 12-month cycle.

### Recommendation
- It is recommended that the next Article IV consultation with Denmark be held on the standard 12-month cycle.

### Macroeconomic projections and key indicators (Selected Economic and Social Indicators, 2010–19)
- Real GDP (change in percent): 2010: 1.6; 2011: 1.3; 2012: -0.8; 2013: -0.1; 2014 proj.: 0.7; 2015 proj.: 1.4; 2016 proj.: 2.0; 2017 proj.: 2.1; 2018 proj.: 2.2; 2019 proj.: 2.2
- Net Exports 1/ (change in percent): 2010: 0.5; 2011: 0.6; 2012: -0.4; 2013: -0.4; 2014 proj.: 0.0; 2015 proj.: 0.4; 2016 proj.: 0.4; 2017 proj.: 0.5; 2018 proj.: 0.5; 2019 proj.: 0.5
- Final domestic demand (change in percent): 2010: -0.1; 2011: 0.1; 2012: 0.2; 2013: 0.2; 2014 proj.: 0.6; 2015 proj.: 1.4; 2016 proj.: 1.7; 2017 proj.: 1.7; 2018 proj.: 1.9; 2019 proj.: 1.9
- Private Consumption (change in percent): 2010: 0.8; 2011: 0.3; 2012: 0.2; 2013: 0.1; 2014 proj.: 0.6; 2015 proj.: 1.5; 2016 proj.: 1.8; 2017 proj.: 1.9; 2018 proj.: 2.2; 2019 proj.: 2.2
- Gross fixed investment (change in percent): 2010: -4.0; 2011: 2.1; 2012: 0.4; 2013: 0.6; 2014 proj.: 0.6; 2015 proj.: 1.4; 2016 proj.: 2.2; 2017 proj.: 2.2; 2018 proj.: 2.2; 2019 proj.: 2.2
- Gross national saving (percent of GDP): 2010: 24.1; 2011: 25.1; 2012: 24.6; 2013: 25.8; 2014 proj.: 25.2; 2015 proj.: 24.9; 2016 proj.: 24.8; 2017 proj.: 24.7; 2018 proj.: 24.8; 2019 proj.: 24.9
- Gross domestic investment (percent of GDP): 2010–2019: 18.4; 18.4; 18.2; 18.1; 18.1; 18.1; 18.1; 18.1; 18.1; 18.1
- Potential output (change in percent): 2010: 0.2; 2011: 0.2; 2012: 0.3; 2013: 0.5; 2014 proj.: 0.5; 2015 proj.: 0.9; 2016 proj.: 1.3; 2017 proj.: 1.6; 2018 proj.: 1.8; 2019 proj.: 2.1
- Output gap (in percent of potential output): 2010: -1.7; 2011: -0.7; 2012: -1.7; 2013: -2.3; 2014 proj.: -2.1; 2015 proj.: -1.6; 2016 proj.: -1.0; 2017 proj.: -0.5; 2018 proj.: -0.1; 2019 proj.: 0.1

### Labor market and prices
- Labor force (change in percent): 2010: -0.8; 2011: 0.1; 2012: -0.5; 2013: -0.7; 2014 proj.: 0.1; 2015 proj.: 0.3; 2016 proj.: 0.3; 2017 proj.: 0.3; 2018 proj.: 0.3; 2019 proj.: 0.3
- Employment (change in percent): 2010: -2.4; 2011: 0.0; 2012: -0.5; 2013: -0.1; 2014 proj.: 0.2; 2015 proj.: 0.7; 2016 proj.: 0.8; 2017 proj.: 0.9; 2018 proj.: 0.5; 2019 proj.: 0.5
- Harmonized Unemployment rate (in percent): 2010: 7.5; 2011: 7.6; 2012: 7.5; 2013: 7.0; 2014 proj.: 6.9; 2015 proj.: 6.6; 2016 proj.: 6.2; 2017 proj.: 5.7; 2018 proj.: 5.5; 2019 proj.: 5.3
- GDP deflator (change in percent): 2010: 3.2; 2011: 0.6; 2012: 2.5; 2013: 1.6; 2014 proj.: 0.2; 2015 proj.: 1.6; 2016 proj.: 1.9; 2017 proj.: 2.0; 2018 proj.: 2.1; 2019 proj.: 2.1
- CPI (year average, change in percent): 2010: 2.3; 2011: 2.8; 2012: 2.4; 2013: 0.8; 2014 proj.: 0.6; 2015 proj.: 1.6; 2016 proj.: 1.8; 2017 proj.: 2.0; 2018 proj.: 2.0; 2019 proj.: 2.0

### Public finances (percent of GDP; Table 2)
- Central government balance: 2010: -2.5; 2011: -2.1; 2012: -3.8; 2013: -0.9; 2014 proj.: -1.2; 2015 proj.: -2.5; 2016 proj.: -2.3; 2017 proj.: -1.7; 2018 proj.: -1.2; 2019 proj.: -0.9
- General government revenues: 2010: 53.6; 2011: 54.2; 2012: 54.1; 2013: 55.0; 2014 proj.: 54.2; 2015 proj.: 52.3; 2016 proj.: 51.9; 2017 proj.: 51.8; 2018 proj.: 51.8; 2019 proj.: 51.7
- General government expenditure: 2010: 56.3; 2011: 56.2; 2012: 58.0; 2013: 55.9; 2014 proj.: 55.4; 2015 proj.: 54.8; 2016 proj.: 54.2; 2017 proj.: 53.4; 2018 proj.: 53.0; 2019 proj.: 52.7
- General government balance: 2010: -2.7; 2011: -2.0; 2012: -3.9; 2013: -0.8; 2014 proj.: -1.2; 2015 proj.: -2.5; 2016 proj.: -2.3; 2017 proj.: -1.7; 2018 proj.: -1.2; 2019 proj.: -0.9
- General government structural balance (percent of potential GDP): 2010: -1.8; 2011: -1.0; 2012: -0.8; 2013: -1.1; 2014 proj.: -1.3; 2015 proj.: -1.1; 2016 proj.: -0.9; 2017 proj.: -0.6; 2018 proj.: -0.4; 2019 proj.: -0.2
- General government primary balance 3/: 2010: -2.0; 2011: -1.5; 2012: -3.3; 2013: -0.6; 2014 proj.: -0.6; 2015 proj.: -2.0; 2016 proj.: -1.8; 2017 proj.: -1.3; 2018 proj.: -0.8; 2019 proj.: -0.5
- General government gross debt: 2010: 42.9; 2011: 46.4; 2012: 45.6; 2013: 45.0; 2014 proj.: 45.8; 2015 proj.: 46.9; 2016 proj.: 47.5; 2017 proj.: 47.3; 2018 proj.: 46.5; 2019 proj.: 45.5

### Public finances (levels, Bil. Danish Kroner; Table 3)
- Total Revenues (Bil. DKr): 2010: 964.8; 2011: 993.9; 2012: 1,008.9; 2013: 1,040.3; 2014 proj.: 1,034.7; 2015 proj.: 1,027.5; 2016 proj.: 1,059.4; 2017 proj.: 1,101.4; 2018 proj.: 1,149.4; 2019 proj.: 1,199.2
- Total Expenditures (Bil. DKr): 2010: 1,012.6; 2011: 1,030.5; 2012: 1,080.8; 2013: 1,056.1; 2014 proj.: 1,057.0; 2015 proj.: 1,076.4; 2016 proj.: 1,106.9; 2017 proj.: 1,137.3; 2018 proj.: 1,176.1; 2019 proj.: 1,220.5
- Net lending/borrowing (Bil. DKr): 2010: -47.9; 2011: -36.6; 2012: -71.9; 2013: -15.8; 2014 proj.: -22.4; 2015 proj.: -48.9; 2016 proj.: -47.4; 2017 proj.: -35.9; 2018 proj.: -26.7; 2019 proj.: -21.4

### Balance of payments and external sector (Table 4)
- Current Account (Bil. DKr): 2010: 102.3; 2011: 106.7; 2012: 108.6; 2013: 131.9; 2014 proj.: 129.1; 2015 proj.: 134.7; 2016 proj.: 138.0; 2017 proj.: 141.4; 2018 proj.: 149.4; 2019 proj.: 158.3
- Current Account (in percent of GDP): 2010: 5.7; 2011: 5.8; 2012: 5.8; 2013: 7.0; 2014 proj.: 6.8; 2015 proj.: 6.9; 2016 proj.: 6.8; 2017 proj.: 6.6; 2018 proj.: 6.7; 2019 proj.: 6.8
- Balance on Goods (Bil. DKr): 2010: 51.3; 2011: 54.5; 2012: 49.2; 2013: 46.3; 2014 proj.: 44.6; 2015 proj.: 51.1; 2016 proj.: 58.1; 2017 proj.: 66.0; 2018 proj.: 74.4; 2019 proj.: 83.0
- Exports of goods & services (in percent of GDP): 2010: 48.9; 2011: 52.1; 2012: 53.3; 2013: 53.7; 2014 proj.: 54.2; 2015 proj.: 53.7; 2016 proj.: 53.4; 2017 proj.: 53.2; 2018 proj.: 53.1; 2019 proj.: 52.7
- Imports of goods & services (in percent of GDP): 2010: 43.2; 2011: 46.8; 2012: 48.2; 2013: 48.2; 2014 proj.: 48.8; 2015 proj.: 48.1; 2016 proj.: 47.6; 2017 proj.: 47.2; 2018 proj.: 46.8; 2019 proj.: 46.2
- Trade balance, goods and services (in percent of GDP): 2010: 5.6; 2011: 5.3; 2012: 5.1; 2013: 5.5; 2014 proj.: 5.4; 2015 proj.: 5.6; 2016 proj.: 5.8; 2017 proj.: 6.0; 2018 proj.: 6.2; 2019 proj.: 6.5
- Gross External Debt (Memorandum): 2010: 186.5; 2011: 179.2; 2012: 178.1; 2013: 173.6

### Financial sector and stability indicators (Tables 5–6)
- Net International Investment Position (percent of GDP): 2005: 3.7; 2006: -0.3; 2007: -5.7; 2008: -5.0; 2009: 3.5; 2010: 13.0; 2011: 27.4; 2012: 36.3; 2013: 38.3
- Regulatory capital to risk-weighted assets (percent): 2006: 13.8; 2007: 12.3; 2008: 14.1; 2009: 17.9; 2010: 17.9; 2011: 20.1; 2012: 22.1; 2013: 22.3
- Regulatory Tier I capital to risk-weighted assets (percent): 2006: 10.9; 2007: 9.2; 2008: 10.7; 2009: 14.6; 2010: 15.1; 2011: 17.2; 2012: 19.2; 2013: 19.5
- Core / Common Equity Tier 1 capital to risk-weighted assets: 2006: ..; 2007: 8.7; 2008: 10; 2009: 11.8; 2010: 12.2; 2011: 14.4; 2012: 16.3; 2013: 16.7
- Nonperforming loans to total gross loans (percent): 2006: 1.5; 2007: 1.2; 2008: 3.8; 2009: 7.9; 2010: 7.9; 2011: 8.3; 2012: 8.7
- Bank provisions to Nonperforming loans (percent): 2006: 51.7; 2007: 45.6; 2008: 42.1; 2009: 53.7; 2010: 55.2; 2011: 50.2; 2012: 50.8; 2013: 51
- ROA (aggregated data on a parent-company basis): 2006: 1.2; 2007: 0.9; 2008: -0.1; 2009: -0.4; 2010: 0.1; 2011: 0.1; 2012: 0.2; 2013: 0.4
- ROE (aggregated data on a parent-company basis): 2006: 19.7; 2007: 16.2; 2008: -2.9; 2009: -6.4; 2010: 1.7; 2011: 1.3; 2012: 2.7; 2013: 5.7

### Authorities’ response to past IMF policy recommendations (from 2012 consultation)
- Fiscal Policy:
  - IMF Board supported Denmark’s medium term fiscal consolidation plans and recommended allowing automatic stabilizers to operate fully and considering additional support if growth falls significantly below projections.
  - The deficit peaked at 3.9 percent of GDP in 2012 but was contained to 0.9 percent of GDP in 2013.
  - Denmark met the requirements for exiting the Excessive Deficit Procedure (EDP) with a consolidation of the structural deficit by 1.5 percent from 2010 to 2013.
- Financial Sector:
  - IMF Board welcomed authorities’ initiatives on macro-prudential and crisis resolution policies, including creating the interagency Systemic Risk Council.
  - The Board recommended stronger capital and liquidity buffers, risk-based deposit insurance premia, limits on deferred amortization mortgage loans, and reversing the decoupling of taxes from real estate values.
  - Authorities are implementing Basel III/CRDIV requirements to strengthen capital and liquidity buffers.
  - Authorities proposed supervisory guidelines for mortgage credit institutions, including a limit on deferred amortization loans with high loan-to-value ratios.
- Competitiveness and Productivity Growth:
  - Directors recommended further reforms to boost potential growth, including measures to increase competition and limit tax disincentives to work and human capital accumulation.
  - The Productivity Commission released its final report in early 2014 with more than one hundred specific recommendations.
  - Further reforms were included in the Growth Plan 2014 as a first response to the Commission’s recommendations.

### Annex I — Recent Labor Market Reforms
- Unemployment benefits:
  - July 2010 reform reduced maximum unemployment benefit period from four years within the last six years to two years within the last three years (however, a lower benefit for a subsequent two years is possible).
  - Effective July 2012, entry criteria tightened from 26 weeks to 52 weeks of employment to re-qualify.
- Disability pension:
  - January 2013 criteria tightened; options and rehabilitation support added.
  - Disability pension discontinued for persons under the age of 40 (with very few exceptions).
  - Access generally requires prior participation in at least one rehabilitation program.
  - Persons with substantially reduced work capacity will be offered individually-tailored rehabilitation and support measures for up to 5 years.
  - New flex-job scheme allows part-time work at the normal wage (paid by the employer) plus unemployment benefit-level pay for the rest of the working week.
  - The reform has so far been successful in cutting new entries to disability pensions in half.
- Social assistance:
  - January 2014 reform requires education for people below the age of 30 without training/education but with sufficient basic skills.
  - Social assistance for this group lowered to the same level as education support.
  - Those who have received training/education will be required to get a job.
  - More vulnerable groups will receive additional assistance (mentoring and a coordinating caseworker).
  - Since implementation, the reform helped reduce the number of young social assistance recipients below 30, with about half of the reduction from entering education and about half from employment.
- Sickness benefits:
  - July 2014 reform reduced maximum sickness benefit period from 12 to 5 months (with various exemptions) and provides additional support including potential access to a rehabilitation scheme (for up to several years) at a lower level of assistance.
- Active labor market policy (ALMP):
  - Reform expected in early 2015 emphasizing individual and job-focused effort, targeted training with focus on company demand, and improved cooperation between job centers and companies.
  - New funding system expected early 2016 aims to give municipalities greater incentives to help the unemployed find jobs; municipalities pay for unemployment benefits with state co-financing decreasing with longer unemployment duration.
- International recruitment:
  - Reform taking effect early 2015 expected to facilitate access to highly qualified foreign labor.
  - Key initiatives include allowing foreign employees in certified enterprises to start work before formal approval of residence and work permits, and easier access for foreign graduates with a Danish MA or PhD.

### Fund relations and statistical/administrative details (informational annex)
- Membership Status: Joined: March 30, 1946; Article VIII 1.
- Quota (SDR Million Percent Quota): Quota 1,891.40 100.00
- Fund holdings of currency (Exchange Rate): 1,463.69 77.39
- Reserve Tranche Position: 427.72 22.61
- SDR Department net cumulative allocation (SDR Million Percent Allocation): Net cumulative allocation 1,531.47 100.00; Holdings 1,422.89 92.91
- Projected payments to Fund (Charges/Interest, SDR Million): 2014: 0.01; 2015: 0.05; 2016: 0.05; 2017: 0.05; 2018: 0.05
- Exchange Arrangements:
  - Denmark participates in ERM II with a central rate at DKr 746.038 per €100.
  - Standard width of the fluctuation band in ERM II is +/-15 percent.
  - Denmark has entered into an agreement with the ECB and euro area member states on a narrower fluctuation band of +/- 2.25 percent.

*Prepared by European Department (In Consultation with Other Departments), November 13, 2014 — Staff Report for the 2014 Article IV Consultation: Informational Annex.*

### 762.824 per 100 euro and DKr 729.252 per €100.

### _cr14331 - 762.824 per 100 euro and DKr 729.252 per €100.

### Exchange system and international obligations
- Exchange rate quotes: 762.824 per 100 euro and DKr 729.252 per €100.
- Denmark has accepted the obligations of Article VIII, Sections 2(a), 3 and 4, and maintains an exchange system free of restrictions on payments and transfers for current international transactions, apart from those imposed solely for the preservation of national or international security, as notified to the Fund by the National Bank of Denmark in accordance with Executive Board Decision No. 144-(52/51).
- Article IV Consultation: Last consultation concluded by the Executive Board on January 16, 2013. The staff report (IMF Country Report No. 13/22) was published with Public Information Notice (PIN) No. 13/08 (January 24, 2013).

### Statistical issues and data practices
- Data provision is adequate for surveillance. The country has a full range of statistical publications, many of which are on the Internet. The quality and timeliness of the economic database are generally very good.
- Denmark subscribes to the Fund’s Special Data Dissemination Standard. Metadata are posted on the Dissemination Standards Bulletin Board.
- National Accounts:
  - Denmark adopted the European System of Accounts 2010 (ESA 2010) in September 2014.
  - Transition from ESA95 requires revision of national accounts data. New data sources incorporated; new estimates published in mid-September 2014. Historical data revised going back to 1966.
- Government Finance Statistics:
  - From September 2014, government finance statistics data are based on ESA 2010 methodology, including revisions of general government deficit and debt levels from 1995 onwards. Revised data series published in October 2014.
- External Statistics:
  - Starting in 2014, external sector statistics compiled according to BPM6 and in accordance with legal requirements of the ECB and Eurostat.
- Monetary and Financial Statistics:
  - Monetary data reported for International Financial Statistics are based on the ECB’s framework for collecting, compiling, and reporting monetary data.

### Outreach, publications, and mission activity
- Outreach: Team met with representatives of the private sector, labor and financial institutions.
- Press conference: Mission held a press conference after the concluding meeting on September 26, 2014.
- Publication: The staff report will be published.
- Technical Assistance: None.
- Resident Representative: None.

### Economic assessment, outlook, and projections
- Recent performance:
  - The Danish economy contracted slightly (by 0.1 percent) in 2013, and is estimated at 0.7 percent in 2014.
  - Domestic inflation is about 1.5 percent.
  - Deposit and lending rates remain very low; government bond rates are negative out to two year maturities.
  - Employment has increased and unemployment has been trending downward slightly over the past year.
- Growth projections:
  - Growth projected to increase to 1.4 percent in 2015, and trend to slightly above 2 percent thereafter.
  - Output gap is expected to largely close by 2018.
- Fiscal stance:
  - Fiscal policy turned slightly supportive in 2014 after substantial consolidation in 2013.
  - 2013 consolidation sufficient to exit from the Excessive Deficit Procedure.
  - Headline deficit expected to expand in 2014 and projected to widen further in 2015.
- Financial sector:
  - Financial system profitability is still low, in line with weak credit growth, but capitalization has improved.
  - Commercial banks: already-high capital ratios have risen further; liquid assets as a share of total assets have increased.
  - Mortgage credit institutions: capital ratios are high.
  - Weaknesses in some non-systemic banks warrant close monitoring and may require intervention.

### Downside risks and spillovers
- Identified risks:
  - Surges in global financial markets volatility (including disorderly exit from unconventional monetary policy) leading to a spike in market interest rates could depress consumption by increasing debt service on adjustable rate mortgages.
  - A protracted period of low euro area interest rates as Denmark recovers could create overheating pressures and overvalued asset prices.
  - A drop in confidence in Danish covered bonds could depress consumption through higher debt service on adjustable rate mortgages.
  - Tight integration of the Nordic-Baltic financial system: problems elsewhere could spill over into Denmark and outward spillovers from Denmark would most likely propagate through the financial system channel.

### Executive Board assessment and policy recommendations
- Board views:
  - Welcomed rebound in economic activity, steady decline in unemployment, and improved housing market.
  - Growth prospects favorable, underpinned by prudent macroeconomic policies and financial system stability; exchange rate peg continues to serve the economy well.
  - Vulnerabilities remain from elevated household debt and weak growth in Denmark’s main trading partners.
- Fiscal policy:
  - Directors commended substantial fiscal consolidation which kept debt-to-GDP at low levels and strengthened public finances.
  - Fiscal stance for 2015 considered broadly appropriate, consistent with medium-term goal of achieving a structural budgetary balance.
  - Supported authorities’ intention to start rebuilding fiscal buffers, taking due account of cyclical developments.
- Financial stability and macroprudential policy:
  - Further efforts needed to enhance resilience of the financial system given its large size and mortgage finance risks.
  - Priorities: developing macroprudential tools; strengthening prudential supervision and regulatory requirements for mortgage banks; improving crisis management and bank resolution.
  - Directors looked forward to continued close regional cooperation and full implementation of recommendations of the updated Financial System Stability Assessment.
- Household debt and housing:
  - Need to prevent excessive accumulation of household debt.
  - New supervisory guidelines for mortgage credit institutions, the down payment requirement, and the gradual reduction in mortgage interest deductibility expected to reduce risks and house price volatility.
  - These initiatives could be complemented by measures to rebalance tax incentives and deregulate the rental market.
- Structural reforms:
  - Directors encouraged additional reforms to enhance productivity growth and competitiveness, noting recommendations from the recent Productivity Commission warrant further consideration.
  - Continued efforts to increase labor market participation and improve labor market functioning urged.

### Key statistics and projections (selected figures from the Staff table)
- Real GDP growth: 2010: 1.6; 2011: 1.3; 2012: -0.8; 2013: -0.1; 2014 proj.: 0.7; 2015 proj.: 1.4; 2016 proj.: 2.0; 2017 proj.: 2.1; 2018 proj.: 2.2; 2019 proj.: 2.2.
- Net Exports contribution to GDP growth: 2010: 0.5; 2011: 0.6; 2012: -0.4; 2013: -0.4; 2014 proj.: 0.0; 2015 proj.: 0.4; 2016 proj.: 0.4; 2017 proj.: 0.5; 2018 proj.: 0.5; 2019 proj.: 0.5.
- Private Consumption growth: 2010: 0.8; 2011: 0.3; 2012: 0.2; 2013: 0.1; 2014 proj.: 0.6; 2015 proj.: 1.5; 2016 proj.: 1.8; 2017 proj.: 1.9; 2018 proj.: 2.2; 2019 proj.: 2.2.
- Potential output growth: 2010: 0.2; 2011: 0.2; 2012: 0.3; 2013: 0.5; 2014 proj.: 0.5; 2015 proj.: 0.9; 2016 proj.: 1.3; 2017 proj.: 1.6; 2018 proj.: 1.8; 2019 proj.: 2.1.
- Output gap (percent of potential): 2010: -1.7; 2011: -0.7; 2012: -1.7; 2013: -2.3; 2014 proj.: -2.1; 2015 proj.: -1.6; 2016 proj.: -1.0; 2017 proj.: -0.5; 2018 proj.: -0.1; 2019 proj.: 0.1.
- Harmonized Unemployment rate (in percent): 2010: 7.5; 2011: 7.6; 2012: 7.5; 2013: 7.0; 2014 proj.: 6.9; 2015 proj.: 6.6; 2016 proj.: 6.2; 2017 proj.: 5.7; 2018 proj.: 5.5; 2019 proj.: 5.3.
- CPI (year average): 2010: 2.3; 2011: 2.8; 2012: 2.4; 2013: 0.8; 2014 proj.: 0.6; 2015 proj.: 1.6; 2016 proj.: 1.8; 2017 proj.: 2.0; 2018 proj.: 2.0; 2019 proj.: 2.0.
- Central government balance (percent of GDP): 2010: -2.5; 2011: -2.1; 2012: -3.8; 2013: -0.9; 2014 proj.: -1.2; 2015 proj.: -2.5; 2016 proj.: -2.3; 2017 proj.: -1.7; 2018 proj.: -1.2; 2019 proj.: -0.9.
- General government gross debt (percent of GDP): 2010: 42.9; 2011: 46.4; 2012: 45.6; 2013: 45.0; 2014 proj.: 45.8; 2015 proj.: 46.9; 2016 proj.: 47.5; 2017 proj.: 47.3; 2018 proj.: 46.5; 2019 proj.: 45.5.
- Trade balance, goods and services (percent of GDP): 2010: 5.6; 2011: 5.3; 2012: 5.1; 2013: 5.5; 2014 proj.: 5.4; 2015 proj.: 5.6; 2016 proj.: 5.8; 2017 proj.: 6.0; 2018 proj.: 6.2; 2019 proj.: 6.5.
- Current account (percent of GDP): 2010: 5.7; 2011: 5.8; 2012: 5.8; 2013: 7.0; 2014 proj.: 6.8; 2015 proj.: 6.9; 2016 proj.: 6.8; 2017 proj.: 6.6; 2018 proj.: 6.7; 2019 proj.: 6.8.
- GDP per capita, USD (2013): $59,129.
- At-risk-of-poverty rate (2012): 19.0 percent.

*Source: IMF staff report and Press Release No. 14/558, December 9, 2014.*

### 2013. This reflects the fact that production in the private sector has risen by more than is

### _cr14331 - 2013. This reflects the fact that production in the private sector has risen by more than is

### Economic outlook
- In the first three quarters of 2014, GDP has been 0.7 percent higher than in the same period the previous year, whereas growth in the gross value added in the private sector, excluding mining and quarrying, has been 1.1 percent.
- Recent subdued growth in the Danish economy is linked to weaker-than-expected growth in the euro area.
- Consumer spending growth has been subdued despite an increase in consumer confidence; unusually low expenditures on energy consumption in 2014 have contributed to sluggish private consumption.
- Normalization of energy expenditures may lead to a higher contribution from consumption in 2015.
- Going forward, consumption is expected to grow in line with income.
- Outlook projections:
  - Growth in the Danish economy will continue and pick up in the coming years.
  - Exports, including to the euro area, are expected to be an important driver.
  - Domestic demand will contribute more to growth going forward.
  - Growth is expected to mainly take place in the private sector.
  - Decline in layoffs and increasing number of available jobs provide a basis for employment growth to continue.
- Preconditions supporting a pick-up in growth:
  - Adjustment of the Danish economy has come very far after overheating in the 2000s and the global downturn in 2008-09.
  - Competitiveness has been strengthened considerably in recent years.
  - Progress in the housing market is becoming more broad-based.
  - Households have consolidated their finances.
  - Government reforms and growth initiatives will support opportunities for growth.
  - Low interest rates reflecting a very accommodative monetary policy while fiscal policy remains supportive.
- Risks:
  - Close connection to the international economy, especially the euro area; slower-than-expected international growth would dampen Danish growth directly through exports and indirectly through confidence effects.

### Fiscal policy
- Authorities note staff’s view that the 2015 fiscal stance seems appropriate following additional policy measures announced in October; these measures do not affect the structural balance or the fiscal impulse but are aimed at creating a safety margin relative to the 3 percent deficit limit in the EU’s Stability and Growth Pact via intertemporal shifting of revenues related to tax-liable pension savings.
- Staff characterizes the fiscal impulse in 2015 as slightly contractionary, but subsequent data showing lower-than-expected spending in 2014 imply that planned spending in 2015 will be compared to a lower base; factoring in reprioritization in the 2015 budget accord, the fiscal stance for 2015 may now be better characterized as roughly neutral.
- In level terms, the fiscal stance for 2015 is supportive, i.e. the structural balance is below its sustainable medium-term level.
- Automatic stabilizers are high in Denmark, and the deficit is close to 3 percent excluding one-off measures; hence fiscal policy in level terms is still providing support to the economy.
- Medium-term needs:
  - There will be a need to start rebuilding fiscal buffers over the medium term, with the pace timed in relation to cyclical developments.
  - Fiscal policy has long been planned within a medium-term framework addressing longer-term challenges from population ageing and declining oil and gas revenues.
  - Major reforms of pensions and other spending mean fiscal policy is assessed by the government and independent institutions to be sustainable over the long term.
- Reforms since the onset of the global financial crisis:
  - Reforms of pensions, taxes, unemployment and cash benefits, disability benefits and more since 2009.
  - These reforms since 2009 are estimated to raise potential output in the medium term by up to 5 percent by 2020.
  - Measures to improve expenditure control have been implemented; since 2011 there has no longer been any expenditure slippage.
  - Expenditure control is backed by rolling 4-year expenditure ceilings covering the bulk of government spending (except public investment, interest payments and unemployment-related expenditure).
- Structural deficit path:
  - In the medium term, the structural deficit will gradually be reduced towards the medium-term structural balance target in 2020.
  - There are differing estimates of the current level of potential output and hence of the structural balance.
  - The government is strongly committed to achieve the aim of structural balance in 2020, which on current assessments is consistent with long-term sustainable policies.

### Monetary and exchange rate policy
- Authorities welcome the assessment that the fixed exchange rate policy continues to serve Denmark well, including periods when the interest rate on certificates of deposits has been negative without imposing significant burdens on the financial sector or on non-financial firms and households.
- The peg to the euro helps anchor inflation expectations and is a cornerstone of the stability-oriented economic policy.
- Inflation has been close to the rate of inflation in the euro area for many years.
- External competitiveness has improved, the current account surplus is relatively high and unemployment is relatively low despite a sharp fall in domestic and external demand.
- The peg facilitates trade with neighboring euro area countries; benefits are judged to outweigh the theoretical drawback that interest rates do not correspond fully to cyclical conditions in Denmark.

### House prices and household debt
- Authorities view household indebtedness as not posing a direct threat to financial stability; debt is concentrated among households with high incomes.
- Stress tests indicate most households are resilient to interest rate shocks and the number of families in arrears remains relatively low even in stress scenarios.
- Acknowledgement that the size of household balance sheets may imply some risks to macroeconomic stability if interest rates rise markedly, with potential spillovers to the financial sector.
- Mortgage credit system:
  - Primary source of financing for house purchases in Denmark.
  - System is highly developed and the average price of mortgage loans is among the lowest in Europe.
  - System has proven resilient even in periods with substantial financial stress.
  - Widespread use of occupational pension schemes is a key factor behind high levels of household debt.
- Flexible rate mortgages and mortgages with deferred amortization introduce additional risks, but variable rate mortgages have played an important counter-cyclical role during and after the financial crisis.
- Additional risks are being addressed by the new supervisory framework (“supervisory diamond”) for mortgage banks and by additional measures discussed in the section on financial sector policies.
- While steps could be taken to reduce risks (e.g. reducing LTV ratios for deferred-amortization mortgages), authorities do not see a case for legislation directly targeted at achieving a general reduction in mortgage debt.
- If credit to households were to expand rapidly relative to income in a future upturn, that would call for increased attention.
- Authorities are looking into options for improving data collection to better identify and monitor systemic risks.
- Gradual reduction in mortgage interest deductibility is a step toward reducing the pro-cyclicality of the housing market.
- Rental market:
  - Authorities acknowledge that rental market structure may affect demand for housing and mortgage debt.
  - Rental market performs a social role in providing affordable housing for low-income families.
  - Any changes to rental market regulations should be seen in conjunction with the treatment of owner-occupied housing.

### Productivity and labor market reforms
- Authorities welcome the assessment on productivity and labor market reforms and acknowledge recent actions addressing labor market challenges.
- Government targets:
  - Increase structural GDP by DKK 20 billion by 2020 through improved conditions for private companies and another DKK 20 billion through increased employment and increased educational attainment in the working age population.
- 2013 and 2014 growth packages:
  - Will contribute to raising GDP by DKK 11.5 billion by 2020 through improved conditions for private companies.
  - Labor market reforms will contribute to boosting employment and increase GDP by another DKK 19.5 billion by 2020.
  - These steps move toward fulfilling the 2020 growth targets presented in Growth Plan DK.
- Remaining challenge:
  - Further reforms and initiatives will be needed to achieve the remaining DKK 8.5 billion through improved conditions for private companies.
- Government measures:
  - Strengthen impact assessments of new legislation and reduce burdens of government regulation by another DKK 2 billion by 2020.
  - Established a committee to review rules for taxation of businesses at the company and owner level and a committee to review energy subsidies and taxes.
- Wage competitiveness has improved significantly since 2008, improving conditions for manufacturing jobs; advanced production and automation provide further potential for manufacturing as factors other than wages become increasingly significant.
- Staff recommends continued consideration of reforms to improve productivity, including all remaining recommendations by the Productivity Commission; productivity growth is the primary driver for sustained growth.

### Financial sector policies
- Authorities welcome the assessment of regulation and supervision of the Danish banking and insurance sectors and generally share the views and grading of most of the Basel Core Principles and Insurance Core Principles.
- Observations and recommendations in the assessment reports will be used to further improve regulation and supervision.
- Stress testing:
  - Recent European stress test and asset quality review confirm robustness of the largest Danish banks that together account for the main part of the banking sector.
  - On the insurance side, authorities commented that the assumptions in the stress tests are restrictive, with large negative effects on solvency positions in the scenarios; the Danish FSA concluded a robustness analysis in early November showing the sector in general is financially prepared for the transition to Solvency II under current market conditions.
- Supervisory diamond for mortgage-credit institutions:
  - Final version published by the Danish FSA on 2 December 2014.
  - Contains five indicators with corresponding limits on institution risk, including the proportion of loans without amortisation (interest-only) and the proportion of loans with frequent refinancing.
  - Will take effect in two steps in 2018 and 2020 and constitutes a significant step in creating a more robust mortgage system safeguarding financial stability.
- Macroprudential policies:
  - Authorities agree with staff that the arrangements on the Systemic Risk Council’s (SRC) transparency and accountability are sound; a review of the SRC is planned for 2016.
  - Staff recommends reviewing institutional arrangements more broadly, including appointment of the government as the designated authority.
  - Staff recommends further development of the macroprudential policy framework, for instance to develop LTV limits.
  - In September, the Danish FSA and Minister of Business and Growth put forward an initiative requiring a down payment of five percent when financing house purchases.
  - Staff recommends developing limits on the DSTI ratio; the government has no plans to introduce such a measure.
  - Legal basis for imposing sectoral capital requirements exists through the implementation of the European Capital Requirements Directive and regulation.
- Crisis management and bank resolution:
  - Authorities welcome staff’s recommendations which largely correspond to authorities’ priorities.
  - Main focus is full implementation of the BRRD in national law, expected to be completed in the first half of 2015.

*Source: _cr14331 - 2013. This reflects the fact that production in the private sector has risen by more than is*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2014/_cr14331.pdf_