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Country Commercial Guides FY 2000: Netherlands Report prepared by U.S. Embassy The Hague, released July 1999 Note*

CHAPTER II. ECONOMIC TRENDS AND OUTLOOK

Major Trends and Outlook

After growing above the trend rate for several years, the Dutch economy is currently showing signs of weakening activity, and growing tension in the labor market. Slackening world demand is forecast to slow the economy to average 2 percent predominantly consumer spending led GDP growth in 1999 and 2000. The cyclical downturn is expected to cause unemployment to reverse its downward trend, but soften consumer price inflation to slightly over one percent. Fiscal consolidation has reduced the budget deficit and the stock of public debt, ranking the Dutch among the pioneers of Economic and Monetary Union (EMU). The impact of lower world demand on economic performance is expected to be relatively mild because the Dutch early on addressed the issues of runaway public finances and stagnating job growth. Since the early 1980's, the Dutch have integrated various strands of economic policy encompassing goals including the improvement of the business climate and restoring fiscal discipline. Sharp cuts in subsidy and social security spending combined with consistent wage moderation and labor and product market deregulation have helped the Dutch economy to achieve sustained economic and employment growth. Reforms are continuing with a stronger emphasis on product market flexibility. Fueled predominantly by strong domestic demand and by an improvement in the Dutch competitive position in export markets, the economy grew a solid 3.8 percent in 1998. Continued strong consumer spending has compensated export demand and fueled much of three percent (year on year) GDP growth in the first quarter of 1999.

The expected economic downswing will have implications for job growth and employment. A forecast slowdown in manufacturing output will cause employment this and next year to grow by less than half the growth rate achieved in 1998. This is likely to reverse the current downward trend in unemployment, and cause the volume of jobless to edge up again from a low of slightly over five percent of labor force reached in 1998. Official labor market forecasts project unemployment to fall to just below five percent of the labor force in 1999, roughly half the EU average. Unemployment is expected to edge up again back to the 1998 level in 2000. Due primarily to government-imposed measures (including higher taxes and excises), the Dutch CPI is currently rising considerably faster than in the rest of the EU. There are, however, no signs that the economy will overheat, and the inflation outlook remains modest. Falling import prices are expected to soften the consumer price index from two percent in 1998, to just over one percent in 1999 and 2000. Led by a recent sharp decline of the Euro vis-a-vis the dollar, financial sector forecasts are less optimistic and expect the CPI this and next year to stabilize at around two percent. A strong merchandise trade surplus continues to fuel a current account surplus in excess of five percent of GDP. Low inflation and a relatively moderate increase in overall wage costs will be good news for the many firms that have already invested in the Netherlands, and for potential investors. Although slightly expansionary, public finances seem to be well under control. The general government deficit is forecast to fall to 1.5 percent of GDP from 1.7 percent in 1999, while the debt to GDP ratio in both years will contract to slightly over 67 percent. Both fiscal deficit and public debt are forecast to converge below or closer to EMU deficit and debt criteria in the near future. The Netherlands was among the initial wave of EU member states qualifying for Economic and Monetary Union in May of 1998.

Inflation

The Netherlands has one of the best track records in the EU for controlling inflation. Despite buoyant economic growth, relatively low interest rates, and alleged shortages in some sectors of the labor market, inflation continues to be modest. The level of real and potential output remains in balance, and an increase in real labor costs (an accumulated 1.5 percent real increase in 1999 and 2000) will be offset largely by a matching increase in labor productivity. Inflationary pressure in 1999 and 2000 is therefore expected to remain modest. In the absence of significant wage cost inflation and the positive effects of lower energy prices on import prices, upward pressure on the CPI in the coming two years will originate chiefly from public sector-initiated price increases. The Government forecasts CPI inflation to ease to well below three percent in 1999, and soften further to 1.5 percent in 2000. The OECD is more cautious and predicts firming wages in particular to exert an upward pressure on prices and catapult inflation to over two percent in 1999 and to 2.4 percent in 2000. Dutch commercial banks tend to lean more towards the OECD inflation forecast and predict CPI increases of well over 2 percent both in 1999 and in 2000. The largest commercial bank ABN Amro initially forecast a dollar/guilder exchange rate Dfl 1.97/$1 in 1999; however, the exchange rate had reached a level of Dfl 2.15/$1 by July 1999. Nominal and real interest rates have fallen to an historic low. Average yield on treasury issues is forecast to ease to four percent in 1999 and 2000 from 4.6 percent in 1998. Money market rates in both years will hover around 2.75 percent.

Labor Costs

Labor costs in the Netherlands represent a large part of overall production costs. One of the key economic policy objectives of a new coalition government is to further reduce the wage component in labor costs. A consistent policy of wage moderation combined with declines in the burden of social security contributions by the business sector has clearly borne fruit. During the past 15 years, labor costs in the Dutch manufacturing sector have largely remained unchanged. The biggest threat to sustained growth is the possibility that wage increases may exceed three percent. In the short term this may translate in higher consumption and higher growth. But in the long run, higher wage costs are likely to erode the Dutch competitive position and result in falling exports. So far, there is nothing to indicate an impending wage explosion. Wage bargaining in 1999 yielded an average contract wage rise of 2.7 percent (from average 2.8 percent in 1998), while the average contract wage rise for 2000 is forecast to ease to well below two percent. The wage rise in 1999 is likely to exceed productivity gains and lift per-unit wage cost increases to well over the 2.8 percent recorded in 1998. It has been argued that in the long run the Dutch will have to focus on raising labor productivity rather than wage-cost moderation.

Principal Growth Sectors

In addition to the "Best Prospects Sectors" listed in Chapter V, there are opportunities for American companies providing products and services which meet the requirements of planned Dutch infrastructure development projects, including: the Rotterdam Port and City Development Plan ("Havenplan 2010"), the Amsterdam Schiphol Airport Development Plan ("Masterplan 2003") which may lead to the construction of a new airport, and a new metro line in Amsterdam ("Plan-Zuid"). The construction of an all-freight rail line between Rotterdam and Germany ("Betuwelijn") and the planned construction of two high-speed passenger rail lines to link Amsterdam with Germany and France using the French TGV are well advanced. The rail links will include long underground sections resulting in extra infrastructure outlays of about $600 million, and special tunnel construction expertise.

Government Role in the Economy

Unresolved Problems

Deficit and Debt: When the current center-right government took office in 1994, it pledged to continue fiscal discipline, and to meet the Maastricht criteria in time for monetary union by 1999. Since 1994, the deficit as a percentage of GDP has fallen gradually to stay within the Government's and the EMU's deficit targets. The budget deficit, according to the "EMU definition", fell to 1.3 percent of GDP in 1997 and is forecast to decline slightly to over 1 percent of GDP in 1999.

Performance on the EMU public debt criterion is less favorable. The EMU target is a stock of debt of no more than 60 percent of GDP, or sustained progress toward that level. The stock of debt is forecast to fall from 78.5 percent in 1996, to 72 percent of GDP in 1998 and to 70 percent in 1999. The decline is largely the result of the denominator effect (resulting from higher GDP growth), which will contribute to a further substantial drop in the debt ratio. Still, the debt-to-GDP ratio is well above the 60 percent EMU criterion, and thus must be deemed to comply with the looser criterion of "sustained progress" towards 60 percent if the Netherlands is to meet this criterion.

Unemployment and Inactivity: With the creation of over 150,000 new jobs annually (190,000 in 1997), the Dutch labor market is currently outperforming those of other EU member states. The OECD observed that the performance of the Dutch economy in creating jobs has been impressive, and better than that of most other OECD countries except the U.S. In 1997, the OECD singled out the Netherlands as one of five OECD countries which successfully implemented recommendations made in the OECD's "Jobs Strategy" policy aimed at removing labor market rigidities. Wage moderation, flexible labor hours, and a cut in social security programs have all contributed to job growth of 21 percent between 1983 and 1996. The result has been a matching sharp decline in registered unemployment, to slightly over 4 percent of the labor force in the first quarter of 1998. This is well below the EU average, but still considered by many as too high. Strong employment growth in 1998 and 1999 is expected to generate an accumulated 250,000 new jobs. For some time employment growth has been exceeding an expansion of the workforce, causing unemployment to fall sharply. Average unemployment was 5.5 percent in 1998; the official forecast for 1999 is for a decline to just over 5 percent. This is in line with predictions for the Dutch labor market by the IMF and major commercial banks.

The "inactivity ratio", defined as the ratio between benefit recipients and economically active persons is also coming down but remains relatively high. The decline in the inactivity ratio since 1994 has been attributed primarily to sharply rising employment. Reforms in social security programs aimed at stricter criteria for disability and unemployment benefits are expected to further reduce the ratio from close to 83 (i.e., 83 economically inactive individuals supported by every 100 working people) in 1994, to 74 in 1999.

Consensus, Competition, and the Welfare State: Prominent observers inside and outside Government believe that the Netherlands should continue to deregulate, liberalize, and privatize. Political and public opinion is swinging behind the idea of a less generous welfare system, lower taxes, and more competition. Opinion polls show increasing public support for a smaller state sector and a "minimal" (Dutch definition) social security system.

The Netherlands leads its continental EU partners in liberalization and privatization in a number of areas, e.g., postal and telecommunication services, and public transportation, but there is more to do. As a first step towards liberalizing and privatizing the utilities sector, new electricity legislation in response to the EU electricity directive is now before parliament. New electricity legislation sets out a series of ambitious goals for the Dutch energy sector and aims to deregulate the Dutch energy sector through a step-by-step transition towards a complete free market. There is domestic and foreign interest in sectors where competition did not previously exist.

Balance of Payments Situation

A positive balance of payments situation continues to be one of the strong features of the Dutch economy. Real export and import growth of close to seven percent contributed to a merchandise and services trade surplus of 43 billion guilders (roughly $22 billion) in 1997. Dutch exports are biased towards recession-resistant food and agricultural products, and semi-finished products, notably chemicals. This has cushioned the Dutch economy from sharply weaker demand from major trading partner Germany and other EU countries during recessions. An increase in the demand for capital goods triggered by a recovery in world trade is, on the other hand, likely to be of less benefit to Dutch exports. With regard to the geographic distribution of Dutch trade, close to 80 percent of exports are destined for the EU, with a little less than 70 percent of Dutch imports originating from the EU. Trade relations with Asia on the other hand are relatively small (imports from Asia account for 17 percent of total imports, exports to Asia cover 7 percent of total exports). This is likely to limit the impact which the financial crisis in Asia will have on the Dutch economy. A large surplus in merchandise trade therefore continues to be the main contributor to a current account surplus of close to 7 percent of GDP, averaging $25 billion in both 1998 and 1999. Except for EU-wide impediments, there are no significant trade barriers. The U.S. has its largest trade surplus in the world with the Netherlands - almost $10 billion. The Dutch currently are our 9th largest trading partner worldwide, and third largest U.S. export market in Europe.

Infrastructure

The Dutch Government has been actively stimulating growth, employment, and competitiveness through infrastructure spending of more than 8 billion guilders (roughly $4.7 billion) a year beginning in 1994 and continuing to the end of 1998. In total, $23.5 billion was spent, financed predominantly by one-off proceeds of sales of state holdings including the Dutch State Mines (DSM), the Dutch PTT, and one-time windfall revenues from the sales of natural gas. Total infrastructure spending over the next five years may be higher if the Government succeeds in supplementing this amount with contributions from EU structural funds.

Because European Union rules have opened public procurement to U.S. firms, there may be attractive opportunities for U.S. companies to participate in the renewal of the Dutch physical infrastructure.