December 8, 2016
PRESS OFFICER: Wiktor Krzyzanowski
Phone: +1 202 623-7100Email: MEDIA@IMF.org
Outlook—A Strengthening Recovery with Remaining Challenges
1. The economic recovery is broad-based and has been gathering speed . We forecast growth at about 2 percent in both 2016 and 2017. Consumption and investment are expected to remain the main drivers of growth, reflecting improving confidence and rising house prices, while net exports are expected to slow down owing to weak external demand. Sustained growth should allow for a further decline in the unemployment rate, albeit at a slower pace due to increasing labor supply. After bottoming out for households recently, credit growth is expected to slowly turn positive for SMEs as house prices, their main source of collateral, continue to recover. Inflation should remain low as wage pressures remain subdued. In the medium term, domestic demand is forecast to remain strong notwithstanding continuous deleveraging, prompting a gradual reduction in the current account surplus. The output gap should close by 2019.
2. The risks to the macroeconomic outlook are broadly balanced. Weaker than expected growth in the Euro area or emerging markets, as well as uncertainties surrounding Brexit negotiations, could still negatively impact the economy. On the other hand, current projections may underestimate the strength of domestic demand and the improvement in labor market conditions. Revenues have over-performed recently and the decline in the unemployment rate has accelerated.
Fiscal Policy – Modest Fiscal Space to Support the Recovery
3. Fiscal policy is expected to consolidate further in 2016 and 2017. Strong revenue collection and continued expenditure restraint are expected to result in a faster than planned reduction of the public deficit to 1.1 percent of GDP in 2016. The 2017 budget should bring down the deficit to 0.7 percent of GDP, implying further consolidation in structural terms. Public debt should decline to about 61 percent of GDP by the end of 2017.Financial Sector Policies — Increased Resilience, but More Can Be Done [1]
Banking Sector Policies – Strengthening Financial Resilience in a Challenging Environment
5. The banking sector is well-capitalized and resilient to risks, but faces challenges associated with low interest rates and continued reliance on wholesale funding . While net interest margins have been resilient so far, protracted low interest rates and slow credit growth are expected to weigh on banks’ profitability. The banking sector remains highly leveraged and reliant on wholesale funding. However, solvency stress tests show that a severe scenario would have a significant negative impact on Basel III fully loaded (risk-weighted) capital ratios, but banks would be able to maintain capital ratios above regulatory minima, although the leverage ratio for a significant bank could fall just below the 3 percent hurdle considered for the stress testing exercise. Banks can also withstand significant withdrawals of funding under severe macroeconomic shocks. These results reflect the response of the authorities after the global financial crisis and progress made towards greater financial resilience under the Single Supervisory Mechanism (SSM), while also underscoring the need for building up additional buffers and monitoring the business model of banks to prevent excessive risk-taking. The insurance sector’s profitability continues to be challenged by low interest rates.
Macro-prudential Policies – Accelerating Implementation
6. The implementation of macro-prudential measures should be accelerated to lessen financial vulnerabilities in the household sector. Households remain highly leveraged, with high debt-to-income ratios in a context where their assets remain mostly illiquid in the form of pension entitlements and housing. Also, about 20 percent of mortgages remain underwater despite improving house prices, reflecting the economic vulnerability of many homeowners. Thus, building on important steps taken in the last few years, the mission team recommends: (i) accelerating the phasing-out of mortgage interest deductibility to at least 1 percentage point per year, ultimately bringing it to a tax neutral level relative to the taxation of other assets; (ii) continuing to gradually lower the maximum limit on loan-to-value (LTV) ratios by at least 1 percentage point per year to no more than 90 percent by 2028 and consider reducing it to 80 percent afterwards; and (iii) introducing ceilings on debt-service-to-income (DSTI) caps by income category that would not be relaxed in periods of strong growth.Structural Policies – Important Reforms Implemented, but a Large Outstanding Agenda
Housing Market Policies – Promoting Efficiency and Flexibility
7. The provision of housing should be made more flexible to improve market efficiency. On the demand side, entrenched subsidies in the social housing and owner-occupied sectors stifle the development of the private rental market. In this context, social housing and associated support should be better targeted to low-income households through more thorough means-testing, and an acceleration of the ongoing process of rent differentiation across income categories. Increasing the share of local government spending financed by local taxes, which are generally on real estate, could be a move in the same direction. On the supply side, consideration should be given to relax existing regulations such as zoning that prevent construction from meeting housing demand.Tax Reforms – Promoting Growth and Resilience
8. Tax reforms should aim at improving efficiency and reducing the debt bias. In addition to the reduction of the MID, the economic efficiency of the Dutch tax system could be improved by shifting the tax burden away from labor and towards consumption and property, eliminating regressive features in asset taxation, and eliminating distortions associated with multiple VAT rates. Some progress was achieved through the tax reduction package embedded in the 2016 budget, which featured an increase in earnings-related tax credit at the lower end of the income distribution, but a more fundamental overhaul would be welcome. The tax system also features a strong debt bias, posing risks to macroeconomic and financial stability. The introduction of an allowance for corporate equity or limiting the deductibility of interest from corporate taxes – as for the MID – would encourage stronger equity building.Reform of the Second Pillar Pension System – Preserving Solvency
9. The reform of the pension system should focus on enhancing transparency, ensuring portability, and preserving fairness. The defined benefit second pillar of the pension system has come under increasing financial stress, as protracted low interest rates have pushed solvency ratios below the regulatory coverage requirements for about 90 percent of the occupational funds. More generally, ad hoc adjustments in contribution premiums and benefit indexation mechanisms in recent years have undermined predictability for both participants and retirees, who end up bearing most of the investment risk in a non-transparent manner. In this context, the reform of the pension system should focus on enhancing transparency as to how benefits and contributions would respond to economic circumstances and on ensuring greater portability when changing jobs, while preserving financial security at retirement. Some of these priorities could be addressed by personal pension accounts as suggested by the government in a memorandum presented to Parliament in July. These contracts could combine individual accounts with collective risk sharing so as to cushion individual risk taking and ensure viable payout options.Labor Market Policies – Addressing Dual Labor Markets and Boosting Productivity
10. The increasing importance of flexible work arrangements calls for policy responses . The last two decades have witnessed a rapid increase in the proportion of the labor force in self-employment, employment under temporary contracts or other flexible employment arrangements. These developments point to overly rigid social benefit requirements and employment protection legislation (EPL) frameworks covering permanent contracts and the too-extensive exemption of the self-employed from significant taxes and social benefits. Some greater harmonization would be welcome across the three main categories of workers in terms of EPL, pension and social benefit coverage, and taxation, in the context of a general move in the direction of more rather than less flexibility. For the self-employed in particular, a substantial share of the labor force is not contributing to, and not covered by, much of the social protection system. Further efforts should also be made to differentiate spurious from genuine self-employed workers, while recognizing that the choice of self-employment may be a legitimate one for certain professions.The mission team would like to thank the authorities for their hospitality and support, as well as for open and fruitful discussions.
[1] A separate IMF team visited Amsterdam and Frankfort on June 14 – 27 and September 20 – October 6, 2016, for the Financial Sector Assessment Program (FSAP) consultation. Some of the findings of that mission relating to the financial sector are reflected in this section.
