December 16, 2013

Describes the preliminary findings of IMF staff at the conclusion of certain missions (official staff visits, in most cases to member countries). Missions are undertaken as part of regular (usually annual) consultations under Article IV of the IMF's Articles of Agreement, in the context of a request to use IMF resources (borrow from the IMF), as part of discussions of staff monitored programs, and as part of other staff reviews of economic developments.

December 16, 2013

With financial stability risks receding, strengthening growth performance emerges as the critical challenge for Belgium. This challenge will need to be met by increasing the employment of underused labor resources and enabling the economy to strengthen its position in the global value chain. To that end, policy priorities should go to increasing the productivity of the economy and the capacity of enterprises to adapt to international competition, ensuring that wages are better aligned with productivity developments, and enhancing activation policies. High public debt and the fiscal cost of ageing call for continued steady fiscal adjustment, which should be rebalanced to support growth by limiting tax hikes that undermine incentives to work and invest and by preserving space for productivity enhancing spending.


1. We project real GDP growth of 0.2 percent in 2013 and 1.1 percent in 2014. This modest pick up is predicated on a recovery of export growth, as well as domestic demand. This improvement will still fall short of what is needed to reduce the unemployment rate, which we expect to remain roughly unchanged at current levels. Inflation should remain low on the back of declines in network industry prices (including the planned reduction of the VAT on electricity), and wage moderation.

2. Short term risks to macroeconomic stability are mostly related to external factors, while domestic risks are more medium-term. Chief among the external risks is that of protracted low growth in Europe, which would further complicate fiscal adjustment. Interlinkages between the sovereign and the banks remain a source of vulnerability in the event of renewed financial stress. In the medium term, the most significant domestic risk is a failure of structural reforms to keep up with international competitiveness requirements.

3. On the positive side, the Belgian economy has demonstrated considerable resilience. Private sector balance sheets remain healthy and the restructuring of the banking sector has not undermined the flow of credit to the economy. Combined with low interest rates, the absence of deleveraging pressures in the non-financial private sector should enable domestic private demand to respond apace with an improvement in external conditions. Another feature of Belgium through the crisis has been the countercyclical role played by social safety nets and job support measures. However, the sustainability of these countercyclical policies depends on making the social insurance and welfare system better targeted to social and inactivity risks and more cost efficient.


4. Since taking office, the government has taken positive measures to restore financial stability and improve economic performance, but structural challenges remain substantial. Market confidence has been restored, and structural measures are bearing fruit, notably in terms of labor activation among older workers, a marked lowering of energy and telecommunication prices, and wage moderation. Still, much more needs to be done in the face of an external environment that is itself becoming more competitive as other European countries engage in structural reforms. Given the weight of energy-intensive industry in Belgium, an added competitive challenge comes from the widening energy cost differential relative to North America, which reinforces the importance of economic diversification and innovation.

Raising productivity, adaptability, and activation

5. Growth impediments reflect the interaction of rigidities and distortions across a range of factors. Therefore, the growth strategy should be based on a comprehensive policy approach of mutually reinforcing measures covering wage setting, the efficiency of labor and product markets, supply side incentives (social benefits, activation, and taxation), and productivity and innovation capacity. The success of policies will determine whether external competitiveness will be restored by maintaining an edge in existing and new high productivity sectors. Failing that, wages will have to be adjusted more aggressively to compete on prices in traditional sectors.

  • Indexation. Through its indexation mechanism, Belgium remains exposed to diverging wage inflation relative to partners in the event of price changes of imported inputs, which enterprises cannot absorb without squeezing profits and shedding labor. A revision of the indexation mechanism to avoid this competitive handicap should be considered. More generally, by limiting the scope for wage differentiation and for relative price changes, indexation dampens price signals and thus the ability of the economy to adjust to new competitive challenges. Price indexation in product markets should be phased out, starting with government and market services.
  • Wage moderation. Based on the projected labor cost gap identified by the Central Council for the Economy (3.8 percent by end 2014), strict wage moderation should continue beyond 2014, until the gap is eliminated. Throughout this process, reductions in labor taxes (such as those planned under the competitiveness package adopted by the government) should be applied to labor costs reductions rather than be captured by higher wages. An important shortfall of the wage setting mechanism is that it does not take into account deviations in labor productivity developments relative to partner countries, on the assumption that productivity would converge over time. In fact, productivity growth in Belgium has fallen short of that of partner countries by a significant margin. A reform of the 1996 law on preserving competitiveness should consider correcting for deviations in relative productivity growth as an added safeguard against competitiveness losses.
  • Minimum wages. Minimum wages remain a constraint on employment of low-skilled workers. Its impact can be mitigated by labor tax exemptions and in-work benefits (such as the service voucher system). These instruments are effective but also costly.
  • Labor market institutions. Labor market arrangements are generally designed to protect existing jobs (through costly layoff procedures) and wage structures (through indexation). These features, however, also undermine labor mobility, raise the effective cost of labor, and impede entry and exit of enterprises, with adverse effects on overall productivity and ultimately job creation and real wage growth. In the context of sectoral labor agreements, greater scope for enterprise-level agreements in the face of structural challenges would increase capacity to adjust. Also, since the high cost of layoffs adds to the implicit cost of hiring without facilitating mobility, a partial redeployment of these resources to the financing of continuous professional training would have more beneficial social and economic effects.
  • Enterprise productivity. The counterpart to a more flexible labor market should be a more dynamic and innovative enterprise sector. Belgium has not performed very well in terms of innovation, and R&D is heavily concentrated in a few industries. There are encouraging signs of innovations and enterprise creation (for instance around Liège), and public resources (including universities) could be used more effectively to support enterprise innovation. Reducing the heavy administrative burden across all levels of government would also raise productivity.
  • Activation and adaptability. Considerable growth potential is foregone on account of Belgium’s structurally low employment rate, which also puts additional burdens on the social security system. Pension reform proposals under preparation offer an opportunity for reform, which needs to focus on lengthening working life. There is also considerable scope to strengthen activation by: (i) streamlining benefits that create inactivity traps or incentives to withdraw from the labor force (such as the interruption of career schemes and exemptions from job search requirements); and (ii) expanding in-work benefits and other financial incentives for employment (such as subsidized apprenticeships). Better alignment of education and lifetime professional training to market requirements would facilitate job mobility and adaptability.
  • Intergovernmental coordination. A new cooperation framework would help improve coordination among the various levels of government which have complementary responsibilities for economic and social policies. This would reduce the cost of doing business, and make for more effective and coherent policies, which in turn would facilitate fiscal coordination.

More strategic approach to fiscal adjustment

6. Structural fiscal adjustment in 2012-13 is projected at about 1 percent of GDP and at least another 2.5 percentage points are needed to meet the medium-term fiscal objective. We consider that annual average structural adjustment of 0.75 percent of GDP, as recommended in the last Article IV consultation, remains appropriate given the need to rebuild fiscal space, and to prepare for the rising cost of ageing. Given the very modest structural fiscal improvement projected for 2014, additional structural measures will be needed to meet the target.

7. Going forward, the quality of fiscal adjustment should be improved in terms of both composition and method:

  • On composition, adjustment will need to focus on reducing current spending and rationalizing subsidies and social transfers. This will preserve space for productivity enhancing spending in education, activation, and public infrastructure, e.g., in the overstretched transport network. On the tax side, the planned reductions in labor taxes should be integrated into a comprehensive tax shift, away from labor income toward indirect taxes (e.g., VAT), environmental taxes, and taxes on income from capital. In the same vein, the recently announced reduction of the VAT on electricity could, at some point, be converted into a generalized reduction in the labor tax wedge. A stabilization of tax policy is also needed to reduce the cost of uncertainty which weighs on investment decisions.
  • On method, adapting to the requirements of the Fiscal Compact creates an opportunity to move away from annual nominal deficit targets toward structural targets aligned to the medium-term objective of a structural surplus of 0.75 percent of GDP. This would reduce the need to repeated stop gap measures. This institutional reform is all the more challenging in that it coincides with a move toward further fiscal decentralization and a reallocation of the burden sharing across governments. The extension of the fiscal governance framework to all levels of government puts a premium on defining monitorable objectives that make for transparent and predictable fiscal policies.

Consolidating the improvement in financial stability

8. Banking sector restructuring has reduced financial vulnerabilities all the while preserving the ability of the banks to provide credit to the economy. Deleveraging has reduced the balance sheet of banks from 410 percent of GDP in 2008 to 268 percent in 2013Q2. Risks associated with legacy assets have declined and the remaining portfolio will be unwound gradually. Liquidity and solvency positions have continued to improve. Financial sector risks going forward are mostly related to low structural profitability and thus the ability of banks to build capital buffers from retained earnings, should the need arise. Pressures on profits come from high operating costs, the low interest rate environment and the structural constraint of operating in a mature, low-growth market. The National Bank has continued to strengthen supervision in line with FSAP recommendations, and the tightening of capital requirements on mortgage lending is a welcome preventive measure in a context where further outrunning of real estate prices relative to incomes could raise risks.

9. The banking law now under discussion would help safeguard financial stability, by strengthening the resolution framework and ring fencing risky trading activities. It would also adapt the regulatory and supervision framework to European requirements and is generally aligned with key FSAP recommendations. In line with international proposals to strengthen the resilience of the financial sector, the draft law will determine how banking activities should be delinked from pure risk taking activities. In defining the perimeter of permissible activities, care should be taken not to undermine the banks’ ability to compete with foreign banks in serving their clients’ needs. Attention also needs to be given to the implications of shifting these activities outside the supervised perimeter. The repercussion of front running common legislation in Europe on the priorities of bank creditors should also be weighed carefully because of possible competitive distortions. We continue to support a leveling of the playing field on the taxation of income from savings by extending the coverage of tax exemption on savings deposits to all financial assets. This would diversify the channels through which household savings are allocated to financing the real economy.


The IMF mission team wishes to thank the authorities for their generous hospitality and the open and constructive discussions.


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