Netherlands Special October 2017

Netherlands

Netherlands: New government plans to target boosting economic growth at the expense of fiscal sustainability

October 23, 2017

After the longest process of government formation in Dutch history due to a fractured political scene, four political parties finally reached a deal on 10 October to form a fragile one-seat majority government led by Prime Minister Mark Rutte, who will likely be sworn in for another term by King Willem-Alexander at the end of October. The coalition agreement follows 208 days of negotiations and contains major reforms to the income tax system, labor market and mortgage interest rate deductions. In contrast to the prudent stance of the previous government, which sought to improve government finances, the new government is set to pursue a more expansionary agenda at a time when the economy is already firing on all cylinders, sparking concerns that short-term economic gains will be prioritized at the expense of long-term fiscal sustainability.

The coalition agreement aims to boost economic growth by reducing the tax burden on households to spur private consumption, as well as introduce some labor market reforms. The current four-bracket income tax system will be reduced to two tax brackets, with lower income taxation on the whole. To partly compensate for the loss of revenue, the lower band of Value-Added Tax (VAT), levied on essential goods such as food, will increase from 6% to 9%, meaning that the cost of living will go up. Under the new coalition, the tax burden will shift from income and wealth to consumption, following four years of austerity measures. The new government will also lower the maximum rate at which home owners can deduct mortgage interest payments from their tax obligations more quickly than previously planned. This measure will seek to help correct the high indebtedness levels among households, which is largely due to generous tax incentives on mortgage loans.

While the measures bode well for economic growth in the near term, some analysts worry that the plans might be too expansionary and not necessary given the economy’s already positive momentum. In the absence of a fully functioning government, the Dutch economy still managed to grow at its fastest rate of expansion since 1999 in the second quarter, also logging one of the fastest growth rates in Europe. The fiscal surplus is expected to remain broadly stable in the coming years, while public debt as defined by the Maastricht Treaty is likely to drop further below the crucial 60-percent line. However, the fiscal surplus is expected to be markedly lower compared to under the current policy. ABN AMRO’s research team commented, “The measures will hurt the long-term sustainability of public finances. […] This is attributable to a stronger rise in spending in the next decades than in government income. This can be interpreted that spending cuts or higher taxes may be necessary in the future.”

Although the fiscal surplus is expected to remain broadly stable in the coming years, the long-term projection has been downgraded due to the new government’s plans. In 2021, FocusEconomics analysts project a surplus of 0.6% of GDP, which is lower than the previous month’s forecast of a surplus of 0.8% of GDP. In 2018, our panel expects the fiscal surplus to reach 0.7% of GDP in 2018. For 2019, the panel expects the fiscal surplus to be stable at 0.7% of GDP.In terms of economic growth, the panel expects GDP to increase 2.1% in 2018, which is up 0.1 percentage points from last month’s estimate. For 2019, the panel foresee GDP growth at 1.8%.


Author:, Economist

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