Denmark IMF Executive Board Concludes 2018 Article IV Consultation

June 21, 2018

On June 20, 2018 the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Denmark,[1]  and considered and endorsed the staff appraisal without meeting. [2]

The Danish economy continues to enjoy solid growth and the output gap has seemingly closed for the first time since the global financial crisis. Unemployment is low and close to its estimated structural level with signs of labor shortages and capacity constraints in some sectors. Inflation remains subdued. Property prices in urban areas are rising swiftly and household debt remains elevated despite recent deleveraging. The increasingly binding constraints highlight Denmark’s reduced growth potential, reflecting structurally weak productivity growth and the post-crisis investment slowdown. The banking system remains sound and profitable.

The outlook is for continued robust growth, which is projected to exceed its trend in the near-term, reaching 2.0 percent in 2018 and 1.9 in 2019. Activity is expected to be driven by strong and balanced private demand. Consumption and investment will be stimulated by low interest rates, employment gains and higher asset prices. Investment will also be supported by the need to offset domestic capacity constraints. Exports are projected to remain robust due to favorable external growth, while imports are expected be backed by stronger consumption. Inflation should gradually rise, as capacity pressures intensify in the near term.

The risks around these forecasts are broadly balanced. Stronger than expected consumption growth could lead to widespread labor shortages, potentially intensifying wage pressures, eroding competitiveness, and hindering medium-term growth prospects. Higher than expected foreign demand could aggravate wage pressures. Conversely, international trade tensions and significant tightening of financial conditions, due to uncertainty surrounding monetary policy normalization by major central banks, could restrain the upswing.

Executive Board Assessment

The economy is performing well but potential growth remains weak. The output gap has seemingly closed and there are emerging signs of capacity constraints. Labor shortages and rising house prices coupled with elevated debt level are important domestic risks. External environment is favorable, but also involves risks. Benign macroeconomic environment provides conditions for renewing efforts aimed at raising potential growth and bolstering financial resilience.

Fiscal policy should draw on existing fiscal space to support growth-enhancing reforms, while remaining anchored on the medium-term objective. Fiscal space should be used to incentivize private investment through corporate tax reforms. Increasing growth-enhancing public spending to improve broadband access in rural areas, strengthen digital skills, and upgrade public and transport infrastructure—especially around inner-city areas experiencing strong house price growth—would help boost productivity and mitigate house prices pressures. Incentives to switch from social benefits to employment would support labor supply. However, a tighter fiscal stance may be called for in case of excessive demand pressures.

Monetary policy should focus on maintaining the peg. Lack of foreign exchange interventions is in contrast with past years and reflects the absence of currency pressures. A gradual reduction of Danish monetary policy spreads relative to the ECB would be desirable if market conditions permit.

House price pressures in urban areas coupled with elevated household debt call for coordinated policy action. Tightening of existing macroprudential measures would better protect families from house price declines and higher interest rates. Taking advantage of the current low interest rates, a further than envisaged reduction of mortgage interest rate deductibility should be considered. Reduction of rent controls and relaxation of zoning restrictions would encourage more housing supply and alleviate demand for housing.

Banks are well-capitalized and progress was made with upgrading the regulatory framework. Banks remain profitable notwithstanding low interest rates and modest aggregate credit growth. Additional increases of the countercyclical capital buffer may be warranted if risks continue building up. The operational independence of the DFSA should be strengthened and adequate resources should be ensured for continued effectiveness.

Employment rates continue rising on the back of past reforms, but there are untapped resources involving mainly young and migrants. Higher youth participation in the labor market could be achieved by reducing the duration of student grants and graduates’ access to unemployment insurance. The integration of migrants could be facilitated by improving the accreditation of foreign degrees, relaxing restrictions on employment rules for refugees, lowering the minimum remuneration requirement, and granting more exceptions to the pay limit scheme for residency permits.

Incentivizing private investment to boost productivity is a key challenge. The investment slowdown since the crisis suppressed capital accumulation, weighing on labor productivity growth. Product market deregulation efforts in retail, taxi, and utility sectors would boost competition and encourage more investment. The ongoing digitalization initiatives are also important. Capital income tax reforms in the areas of dividend taxation, losses carried forward, R&D deductions, and business asset taxation would support investment by startups and high-technology firms. An allowance for corporate equity would more generally reduce disincentives to invest and reduce the debt bias.

The external position is stronger than implied by fundamentals. However, this assessment is subject to large uncertainties. In recent years the surplus is increasingly driven by offshore trading activities and investment income. While the EBA model does not identify policy gaps that explain most of the excess current account surplus, structural policies that raise investment would help reduce the surplus.

It is recommended that the next Article IV consultation take place on the standard 12-month cycle.

Denmark: Selected Economic and Social Indicators, 2013–18

2014

2015

2016

2017

2018

2019

proj.

proj.

proj.

Supply and Demand (change in percent)

Real GDP

1.6

1.6

2.0

2.2

2.0

1.9

Final domestic demand

1.6

1.7

2.4

1.9

2.1

2.1

Private consumption

0.9

1.6

2.1

1.5

2.2

2.5

Public consumption

1.9

1.1

0.3

1.2

0.5

0.3

Gross fixed investment

3.1

3.1

6.0

3.7

3.8

3.4

Net exports 1/

-0.2

0.4

-0.3

0.4

0.1

0.0

Gross national saving (percent of GDP)

29.0

28.7

28.3

28.9

29.3

29.4

Gross domestic investment (percent of GDP)

20.1

20.0

21.0

21.0

21.5

21.8

Potential output

1.0

1.5

1.5

1.6

1.7

1.8

Output gap (percent of potential output)

-0.8

-0.7

-0.3

0.4

0.6

0.8

Labor Market (change in percent) 2/

Labor force

0.4

1.1

2.9

-1.3

0.5

0.6

Employment

0.9

1.5

2.9

-0.8

0.5

0.7

Harmonized unemployment rate (percent)

6.5

6.2

6.2

5.7

5.7

5.6

Prices and Costs (change in percent)

GDP deflator

1.0

0.7

0.0

1.6

1.8

1.9

CPI (year average)

0.6

0.5

0.2

1.1

1.4

1.7

Public Finance (percent of GDP) 3/

Total revenues

56.4

53.3

53.2

52.9

51.4

51.2

Total expenditures

55.2

54.8

53.6

51.9

52.2

51.8

Overall balance

1.1

-1.5

-0.4

1.0

-0.7

-0.5

Primary balance 4/

1.6

-0.7

0.1

1.2

-0.3

0.0

Cyclically-adjusted balance (percent of potential GDP)

1.8

-0.9

-0.2

0.7

-1.2

-1.1

Structural balance (percent of potential GDP) 5/

1.1

1.0

-0.1

0.2

0.1

0.2

Gross debt

44.3

39.9

37.9

35.5

34.9

34.1

Money and Interest Rates (percent)

Domestic credit growth (end of year)

0.7

0.1

1.6

1.5

…

…

M3 growth (end of year)

12.6

12.1

-3.9

3.8

…

…

Short-term interbank interest rate (3 month)

0.3

-0.1

-0.1

-0.3

…

…

Government bond yield (10 year)

1.3

0.7

0.3

0.4

…

…

Balance of Payments (percent of GDP)

Exports of goods & services

54.6

55.7

53.6

55.2

56.8

56.6

Imports of goods & services

47.7

48.4

47.4

48.2

49.8

49.9

Trade balance, goods and services

7.0

7.3

6.2

7.0

6.9

6.7

Oil trade balance

-0.1

-0.1

-0.2

-0.2

-0.4

-0.5

Current account

8.9

8.8

7.3

7.9

7.8

7.5

International reserves, changes

-2.1

-1.2

0.7

0.6

…

…

Exchange Rate

Average DKK per US$ rate

5.6

6.7

6.7

6.6

…

…

Nominal effective rate (2010=100, ULC based)

99.6

96.5

97.6

98.7

…

…

Real effective rate (2010=100, ULC based)

96.5

93.7

95.4

97.1

…

…

Memorandum Items

Nominal GDP (Bln DKK)

1981

2027

2066

2145

2228

2314

GDP (Bln USD)

353

301

307

325

…

…

GDP per capita (USD)

62729

53236

53774

56512

…

…

Sources: Danmarks Nationalbank, Eurostat, IMF World Economic Outlook, Statistics Denmark, and Fund staff calculations.

1/ Contribution to GDP growth.

2/ Based on Eurostat definition.

3/ General government.

4/ Overall balance net of interest.

5/ Cyclically-adjusted balance net of temporary fluctuations in some revenues (e.g., North Sea revenue, pension yield tax revenue) and one-offs.


[1] Under Article IV of the IMF’s Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country’s economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board.

[2] The Executive Board takes decisions under its lapse of time procedure when it is agreed by the Board that a proposal can be considered without convening formal discussions.

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