DBRS Morningstar Confirms the Kingdom of the Netherlands at AAA, Stable Trend

DBRS Ratings GmbH (DBRS Morningstar) confirmed the Kingdom of the Netherlands’ Long-Term Foreign and Local Currency – Issuer Ratings at AAA. At the same time, DBRS Morningstar confirmed the Kingdom of the Netherlands’ Short-Term Foreign and Local Currency – Issuer Ratings at R-1 (high). The trend on all ratings remains Stable.

KEY RATING CONSIDERATIONS

The confirmation of the Stable trend reflects DBRS Morningstar’s view that credit fundamentals of the Netherlands remain solid, notwithstanding the economic shock brought about by the global Coronavirus Disease (COVID-19) pandemic and impact on the country’s fiscal position. While the Dutch economy is on course to post a sharp contraction in 2020, the decline is expected to be less severe than that of the euro area average. The budget position is also set to deteriorate substantially and the government debt-to-GDP ratio is projected to see a sharp increase, as the government has responded to the crisis with a sizable support package. DBRS Morningstar expects government finances to return to a sound position and the government debt ratio to decline over the medium term.

The ratings are supported by the Netherlands’ advanced, wealthy, and productive economy, its strong external position and its robust institutional framework. These credit strengths counterbalance the challenges associated with the economy’s exposure to external shocks given its high degree of trade openness and the economy’s relatively small size.

RATING DRIVERS

A downgrade is unlikely. A prolonged and severe deterioration in growth prospects or public finances, damaging the Netherlands’ resilience to shocks, would lead to a downgrade.

RATING RATIONALE

Dutch Economic Growth Has Been Hit by The Coronavirus Pandemic

The Dutch economy is set to contract sharply in 2020, followed by a partial recovery next year. Virus containment measures, imposed from mid-March to mid-May to limit the spread of the virus, together with disruptions in external trade, have had a severe impact on economic activity. However, in contrast to some other European countries, the virus outbreak was less severe and restrictive measures in the Netherlands were less stringent, with the construction sector in particular being the least affected so far. With the number of new daily cases declining significantly, most restrictive measures have been gradually lifted. So far total new cases amount to around 53,000 while new daily cases are hovering slightly above 100. In its latest forecast, the Netherlands Bureau for Economic Policy Analysis (CPB) is forecasting the Dutch economy to contract by 6.4% in 2020 under its baseline scenario. While deep, the economic contraction is set to be less severe than the -8.7% for the Euro area, projected by the European Central Bank and the European Commission. CPB forecasts then point to a growth rate for the Dutch economy of 3.3% in 2021, driven by the recovery in exports and consumption.

The economic outlook is subject to high uncertainty. It depends on the evolution of the pandemic, the recovery in global trade, and the effectiveness of the economic policy response. As an open economy and a major European trade hub, the Netherlands is exposed to a weaker-than-expected recovery in global trade or in the economies of key European trading partners, including Germany and the United Kingdom (UK). The UK is the Netherlands’ third-largest export destination in terms of value, and thus UK’s future relations with the EU at the end of the transition period remain a downside risk to the Netherlands’ economic outlook. Moreover, while DBRS Morningstar expects the policy response to the coronavirus crisis to be largely effective, the uncertainty over the outlook is considerable, as restrictive measures could be re-imposed if infections surge again in the Netherlands and in its trading partners.

To deal with the economic fallout, the government has implemented temporary measures to support affected businesses and households. These include wage cost subsidy schemes (the Temporary Emergency Measure to Preserve Employment, NOW, and the Temporary Support Scheme for Self-employed Persons, TOZO), which are aimed at limiting job losses. Despite this support, the CPB is forecasting the unemployment rate to increase from 3.4% in 2019 to 4.8% in 2020 and to 7.0% in 2021. This is in part because temporary contracts are unlikely to be renewed. Around 40% of workers in the Netherlands are on flexible contracts or are self-employed. Workers on flexible contracts have been more affected by the crisis compared to workers on permanent contracts, as flexible contracts are more common in the crisis-hit hospitality sector. Moreover, the wage subsidy schemes will expire in October 2020.

The Netherlands’ economy continues to benefit from high levels of employment, education, and productivity. GDP per capita is one of the highest in Europe, almost 20% above the Euro area average. The level of private sector savings is also sizeable. Households’ pension savings and insurance products account for just over 50% of total household assets, which are among the highest of OECD countries. Aggregate high incomes and savings provide the Dutch economy with an important degree of resilience.

The Netherlands’ external position is also very strong, largely reflecting its trade competitiveness. A robust trade performance and high net savings in the private sector have helped maintain the current account in surplus for decades. The surplus has averaged 9% of GDP over the past five years, which has contributed to the Netherlands’ large net external creditor position, on average at 66% of GDP since 2005. The strong external position provides the country with a significant buffer to absorb external shocks and supports its capacity for external adjustment. This supports DBRS Morningstar’s positive qualitative assessment for the ‘Balance of Payments’ building block.

The Netherlands Has Adopted A Sizable Fiscal Package

The Netherlands’ comfortable fiscal space and prudent fiscal policy have allowed it to implement a substantial package of measures to support the economy during the pandemic. In addition to the wage cost subsidy schemes, discretionary measures include direct support for affected sectors, liquidity assistance for businesses, loan guarantees, tax deferrals, and automatic stabilisers. The measures amount to an estimated 14% of GDP, about half of which is accounted for by state guarantees and loans.

The budget position will deteriorate this year, but DBRS Morningstar expects government finances to return to a sound position over time. After three years of fiscal surpluses, the Ministry of Finance is forecasting a fiscal deficit of 8.8% of GDP in 2020, reflecting the emergency measures and lower tax revenues. With some fiscal measures expiring later this year and assuming the economy remains on a recovery path, the fiscal deficit is projected to fall to 4.7% in 2021, according to CPB forecasts. Nonetheless, the fiscal outlook is subject to uncertainty. The government is expected to announce new measures to support the recovery of the economy in September 2020.

The government debt ratio is set to increase sharply in 2020. It reflects the large deficit, as well as tax deferrals and the EUR 1 billion loan to airline KLM. After falling below 49% of GDP in 2019, the Ministry of Finance is forecasting the debt ratio to reach 63.0%, still lower than the 2014 peak of 67.8%. Despite a higher level of debt, the government continues to benefit from very favourable financing conditions. Moreover, the Dutch Treasury has extended debt maturities in recent years and it is aiming to increase the average debt maturity towards eight years. A favourable debt profile supports the shock absorption capacity of public finances. The PBC forecasts point to a reduction in the debt ratio in 2021.

The long-term sustainability of public finances looks secure. Over the past decade, the Netherlands raised the minimum retirement age, adjusted pension entitlements, and restrained healthcare spending. These measures have helped lessen ageing-related spending pressures. For the longer term, the government adopted the Pension Agreement in 2019 with the aim of achieving a more robust pension system. It also adopted the National Climate Agreement aiming at a more sustainable economy. The country’s effective public institutions, together with a robust fiscal framework, support the sustainability of public finances and overall economic policies.

Risks to Financial Stability Remain Contained

Dutch household debt relative to income, while falling, remains one of the highest of OECD countries. Household debt was 207% of disposable income in Q1 2020. Debt partly reflects tax incentives and is largely in the form of mortgages. The aggregate net worth of Dutch households is also the highest among OECD countries at almost 700% of net disposable income. Nevertheless, high household debt could exacerbate an economic downturn in case of negative shocks. In particular, households with low incomes, flexible jobs and many first-time homebuyers are exposed to income shocks and declines in house prices. Vulnerability to increases in interest rates seems limited, as residential mortgages are largely fixed-rate.

At the same time, Dutch house prices have risen to high levels in recent years. Prices are above the 2008 peak levels and have risen at a stronger pace in the main Dutch cities. Housing investment has not kept up with housing demand. After moderating to 6.2% YoY in Q4 2019, house price growth was 6.6% YoY in Q1 2020. Under the current economic environment, house inflation could slow in the rest of the year. A housing market slowdown could worsen especially in the presence of a sharp decline in consumer confidence, high unemployment and low income growth. De Nederlandsche Bank (DNB) is projecting house prices to fall moderately by 2.1% in 2021 and 3.7% in 2022. The risk lies with the fact that house price falls and an economic downturn could reinforce each other.

Given the risks to financial stability and the economy posed by high household debt and rising house prices, and as part of the government’s tax reform, the Dutch authorities started to accelerate the reduction in mortgage interest deductibility in 2020, until the target rate of 37.05% is met in 2023. Moreover, debt amortisation has been a requirement since 2013 to benefit from tax deductibility on interest expenses. This requirement has contributed to the decline in interest-only mortgages, which now account for less than 50% of total mortgages. The limit on the loan-to-value ratio was also reduced in recent years, although to a still high at 100%.

While banks’ operating environment has deteriorated with the coronavirus crisis, Dutch banks have entered the crisis with resilient positions. Dutch banks are profitable and well-capitalised. In March 2020, in response to the current economic crisis the ECB Supervisory Board provided temporary capital relief measures for euro area banks to increase their capacity to lend to the economy. Subsequently, Dutch authorities lowered the systemic capital buffers and postponed the introduction of a floor for risk weights on banks’ mortgage portfolios. Combined, these measures freed up around EUR 8 billion in capital.

The Netherlands’ Public Institutions are Effective

The Netherlands benefits from effective public institutions and consensus-driven policies, which more than offset a somewhat fragmented political landscape. No single political party won a majority in the March 2017 elections. A new government took office in October 2017, after four parties (VVD, CDA, D66 and the Christian Union) presented their Coalition Agreement. The centre-right coalition agreed to reform the tax system with the aim of reducing the tax burden on households and firms, and to increase investment in education, defence, healthcare and infrastructure. At the moment, the main challenge the government is facing is supporting the economic recovery from the coronavirus crisis. The comparatively successful handling of the health coronavirus crisis seems to have contributed to a rise in popularity for the Prime Minister’s VVD party, as shown by recent voting intention polls. The next general election is due in March 2021.

ESG CONSIDERATIONS

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework and its methodologies can be found at: https://www.dbrsmorningstar.com/research/357792/.

For more information on the Rating Committee decision, please see the Scorecard Indicators and Building Block Assessments: https://www.dbrsmorningstar.com/research/364502/.

EURO AREA RISK CATEGORY: LOW

Notes:
All figures are in euro (EUR) unless otherwise noted. Public finance statistics reported on a general government basis unless specified.

The principal methodology is the Global Methodology for Rating Sovereign Governments (September 17, 2019) https://www.dbrsmorningstar.com/research/350410/global-methodology-for-rating-sovereign-governments.

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883/.

The sources of information used for this rating include the Government of the Netherlands, Ministry of Finance (Stability Programme 2020), Dutch State Treasury Agency (DSTA, Quarterly Outlook June 2020), Netherlands Bureau for Economic Policy Analysis (Centraal Planbureau CPB, June Forecast 2020), Netherlands Central Bank (De Nederlandsche Bank DNB, Economic Developments and Outlook June 2020), Johns Hopkins Coronavirus Resource Center, Dutch National Statistical Office (Centraal Bureau voor de Statistiek CBS), European Commission (EC), European Central Bank (ECB), Eurostat, Organisation for Economic Co-operation and Development (OECD), IMF, World Bank, UNDP, BIS, Haver Analytics. DBRS Morningstar considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

This is an unsolicited rating. This credit rating was not initiated at the request of the issuer.

With Rated Entity or Related Third Party Participation: YES
With Access to Internal Documents: NO
With Access to Management: NO

DBRS Morningstar does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar’s outlooks and ratings are under regular surveillance.

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see:
http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

The sensitivity analysis of the relevant key rating assumptions can be found at: https://www.dbrsmorningstar.com/research/364499/.

Ratings assigned by DBRS Ratings GmbH are subject to EU and U.S. regulations only.

Lead Analyst: Carlo Capuano, Vice President, Global Sovereign Ratings
Rating Committee Chair: Roger Lister, Managing Director, Chief Credit Officer, Global Financial Institutions Group and Sovereign Ratings
Initial Rating Date: May 12, 2011
Last Rating Date: January 24, 2020

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