CPB Report: Dutch economic recovery tough and uncertain
Still, this outcome is likely to remain below the euro area average (1.25% in 2003 and 2.75% in 2004), due above all to a steady loss of the Dutch export market share as a result of high labour cost increases in recent years. Unemployment is likely to rise steeply, from 3.9% of the labour force in 2002 to 6.25% in 2004.
Uncertainties about the economic developments on the short term are mainly caused by international tensions. However, if the war in Iraq is short and contained, an improvement of sentiment and a drop in oil prices is expected in the second half of this year. In that case, economic growth is likely to rebound quickly. Should the war be prolonged, the industrial countries may experience a brief recession.
These are some of the headlines in CPB's Economic Outlook in CPB Report 2003/1. CPB Report is the Dutch quarterly magazine of CPB Netherlands' Bureau for Economic policy analysis. The complete issue will be published at the 10th of April 2003.
Risks and uncertainties
In the central projection, it is assumed that international tensions will ease in the first half of this year after a short war in Iraq. However, a prolonged war, possibly accompanied by terrorist attacks, cannot be ruled out. A scenario has been developed in which the oil price climbs to an average of 50 dollar per barrel this year, and consumer and producer confidence are strongly affected. As a result, the industrial countries experience a recession. In the scenario, next year oil prices drop to 37.5 dollar per barrel and the world economy picks up. The impact on the Dutch economy also means a recession in 2003. Lower exports, rising inflation, falling purchasing power, and decreasing investments will result in a fall of the GDP by 0.5%, i.e. 1.2%-point lower than in the central projection for this year. In 2004, the economy is likely to recover somewhat and the GDP will grow by about as much as in the central projection, not making good for the loss incurred in 2003.
Growth of world trade likely to accelerate
As a result of the projected rebound of the economy in the second half of 2003, the average GDP growth in the industrial countries is expected to pick up from 1.5% in 2002 to 2% in 2003 and 3% in the next year. World trade growth will probably accelerate from 3.1% in 2002 to 7% and 9.5% in 2003 and 2004 respectively. With a more limited upswing in Europe, export market growth relevant for Dutch exporters will accelerate less, from 1.9% in 2002 to 5.25 this year and 7.75% next year.
The United States are likely to lead the economic rebound. Initially, the demand was depressed by corporate governance and accounting malpractice and was subsequently weakened by the international tensions around Iraq. Based on the assumption that current geopolitical tensions will largely disappear in the coming months, real GDP growth in the US is projected at 2.75% this year, accelerating to 3.75% in 2004. Accommodating monetary policy and further fiscal stimulus will support economic growth, the severe drop in share prices, however, will dampen it.
Since the beginning of 2002, the real GDP of the euro area has increased moderately in every quarter. For this year the GDP growth is projected at 1.25% (once again: under the assumption that international tensions will fall quickly), rebounding to 2.75% in 2004. The major factors behind this upswing are the improvement in business and consumer confidence, the easy monetary policy stance, and inflation that is likely to drop below 2 percent in the second half of 2003, on to 1% next year. The recent substantial appreciation of the euro will reduce export growth. The stock market plunge will affect private consumption, not only through diminishing wealth, but also because of the negative impact on disposable income of a substantial rise in pension premiums. In 2003, the slow economic growth will have serious budgetary consequences. The budget deficits in the euro area are likely to rise. For the whole area a deficit of 2.5% of the GDP in 2003 is projected.
Dutch growth continues to lag behind the euro area
In the 1990s, Dutch growth expanded well above the euro area average. In the period 2000-2002 the GDP growth came out 0.3%-points per year below this average. In 2003 and 2004 this negative difference will be even larger, 0.75%-points per year. The major explanation for this turnaround lies in the relatively high employment growth in the Netherlands during the 1990s, which led to a tight labour market. Since 1997 the Dutch unit labour costs in manufacturing have risen faster than the euro area average, not only because of the strong increase in compensation per employee, but also because of a lower labour productivity growth. The resulting loss of price competitiveness has clear repercussions for the domestically produced exports.
Growth is expected to pick up from the second half of this year. The main factors behind this upturn are the strong growth of residential investment, and exports. The decreases of the private non-residential investments will come to a halt. Consequently, the GDP growth in 2003 and 2004 will probably come out at 0.75% and 1.75% respectively.
Dutch exporters continue to lose market share
Domestically produced export growth is likely to lag no less than 5.5%-points behind the world market growth this year, and again more than 5%-points in 2004. The main reason for this is the erosion of price competitiveness because of the sharp rise in unit labour costs in recent years. However, in 2004 unit labour costs in manufacturing are expected to fall by 1.75%, against an average fall by 1% for foreign competitors. But it will take some time before this turnaround will translate into larger export market shares.
Private consumption growth moderate but stable
Given the unfavourable development of purchasing power and employment, the consumption growth of 0.75% for this year will be somewhat better than might be expected. The effects of stock market losses and falling house prices are affecting consumption less than in previous years, interest rates continue to fall, and employees spend part of the unblocked saving schemes balances. For 2004, a further acceleration to 1.75% is projected.
Investment ratio reaches rock-bottom since the early eighties
The volume of non-residential private investment is expected to fall this year for the third year in a row. The projected contraction of 3% is smaller than in preceding years, but the investment ratio will reach its lowest value since the early 1980s. Investment activity is tempered by the cyclical downturn, a relatively low capacity utilisation rate, and a pessimistic view on economic growth by entrepreneurs. Also, income from international investments has fallen. Solvency ratios are relatively low, so that businesses experience some difficulties in financing investments from their own resources. Thanks to a cyclical growth of the labour productivity, next year the corporate profitability in the Netherlands is expected to increase. This will create some more financial scope for investments. Together with accelerating output growth, non-residential investments in the commercial sector are expected to increase by 1% in 2004.
Inflation and wages will fall steadily
This year, the consumer price index is likely to increase by 2.25%. The developments in labour costs, import prices and indirect taxes, which led to a high inflation rate in recent years, reduce inflation this year and, especially, next year, with inflation in 2004 projected at only 1%. If the euro appreciates any further, this figure may even come out at a lower level. On the other hand, an upward risk lies with oil prices that could temporarily shoot up much higher.
Contractual pay increases are levelling off under the influence of falling inflation and the surge in unemployment. In the projection an increase of 2.75% this year and 1.75% in 2004 is foreseen. The hike in pension contributions in particular will push up the compensation per employee more than contractual pay increases. In 2003, average compensation per employee is projected to increase by 4%, next year by 2.5%. Purchasing power will clearly decrease this year, because of the increases in taxes and social security premiums and the hike in health insurance and pension contributions. Employees' purchasing power will decrease by 1.75% on average this year. Next year, purchasing power will grow by 1% on average, but (tax) measures taken by the new cabinet might change this picture.
EMU deficit widening apace Although government consumption is not expected to increase this year, real gross public outlays will probably grow by 1% in 2003 and by 1.25% in 2004. The increase in unemployment in 2003 and 2004 will spark a sharp rise in social security spending. The dependency ratio will continue to rise to nearly 71% in 2004. The increases in tax deductibles, in particular pension premiums and interest paid on residential mortgages, slow down the tax receipts and social insurance contributions. Despite substantial increases in tax rates and cuts in public spending, the EMU deficit is projected to rise to 1.6% of the GDP in 2003 and to 2.4% in 2004 on current policies. As a result, the EMU debt ratio will increase for the first time since 1995, to 52.6% of the GDP. The structural deficit, computed according to the method of the European Commission, is estimated to increase from 0.7% of the GDP in 2003 to 1.5% in the projection for 2004. Additional policies will be required to satisfy the requirements of the Pact for Stability and Growth.
Sectoral developments
After last years's stagnation in world trade, which especially struck manufacturing, a moderate recovery of production growth in the commercial sector is foreseen of up to 0.25% in 2003. Within the commercial sector energy, construction, and commercial services show above-average growth. For 2004, a further recovery of production growth in almost all parts of the commercial sector is likely. Only the construction sector is expected to face hardly any growth next year. The ICT sector is expected to recover too but growth will not be as abundant as in the second half of the nineties.
The commercial services sector is expected to increase moderately by 0.5% in 2003, and next year's growth will be more substantial, 2.5%. For the temporary employment agencies both 2000 and 2001 were disappointing years. The branch was doubly struck by shortages on the labour market. On the one hand, the supply of temporary workers stalled, as there were plenty of competing vacancies offering employment on a permanent basis. On the other hand, firms kept their personnel as they feared to find themselves short on qualified workers once the economy recovered. At the end of this year and the beginning of 2004, the demand for temporary workers, due to the upturn of foreign demand for goods and services, is expected to pick up again in advance of economic recovery. In the telecommunications sector, continued growth for this year and the next is projected, mainly due to the expected growth of traffic in data communications both to fixed and mobile connections.