Investeringen in woningen (CEP 2009)

• Large current account deficits, especially in the US, stand in contrast to major savings surpluses particularly in China and the OPEC countries – and the Netherlands.
• These surpluses have largely found their way to the US capital market, driving down the cost of credit on that market.
• Financial innovations led to credit risks being in effect concealed.
• Regulation and supervision failed to prevent this.
• As a result, speculative bubbles were created, in particular on the US housing and securities markets.

This year the Dutch economy is projected to shrink by 3½%. A contraction is on the horizon for next year as well, albeit only ¼%. The most important reason behind the economic downturn is the slump in relevant world trade. This year this trade is expected to decline by an unprecedented 9¾%. Export, traditionally a driving force for the Dutch economy, is declining sharply in the wake of this development. The shortage on the labour market is rapidly disappearing as a consequence of declining production. Unemployment is expected to increase to an average of 5½% of the labour force in 2009 and will subsequently rise further to 8¾% in 2010. The EMU government budget balance is rapidly deteriorating: from a surplus of 1.0% GDP in 2008 to a deficit of 5.6% GDP expected in 2010.

These are the main points of the Central Economic Plan (CEP) 2009 presented today. In addition to analyses and projections for the Dutch and world economy in the years 2009 and 2010, CPB Netherlands Bureau for Economic Policy Analysis discusses in detail the causes and effects of the credit crisis as a special topic. A number of topical issues are also discussed in various boxes, such as sectoral differences in production and employment developments, and the coverage ratio of pension funds. An extensive summary in English of the Central Economic Plan 2009 is also available (appendix).

Heavy global recession
Heightened financial unrest at the end of last year led to an especially sharp decline in expenditure and production in the United States and Europe. Partly as a result of increased trade flows in the past decade, the rest of the world was hit hard soon thereafter. Especially in Asia, exports took a dive at the end of last year, falling tens of percentage points. The first monthly figures and leading indicators available indicate that the strong global decline in production will continue during the first half of 2009. In the euro area, gross domestic product (GDP) is projected to fall this year by 3¼%. From the summer onward, the expansive macroeconomic policy and presumed improvement on the financial markets are expected to gradually lead to a turn for the better. World trade will grow once again in 2010, by 1½%, but this pace is far below the long-term average. Economic growth in 2010 will therefore also be too small to prevent a further rise in unemployment. In the euro area unemployment is expected to reach almost 12% in 2010, much higher than the peak in the downturn in the early years of this century.

Contraction of Dutch economy will set post-war record
The tough international economic conditions will not leave the Netherlands unscathed. The Dutch economy may have grown by 2% year-on-year in 2008, but the economy was already shrinking in the last three quarters, from a quarter on quarter perspective. In the fourth quarter in particular, economic activity declined drastically. This development will continue to an even stronger degree throughout the first half of 2009. After that the economy will very gradually pick up again, but on balance the Dutch economy will shrink both this year and next. This year the negative growth will reach 3½%, the largest contraction since 1931 (not including the war years). Next year the decline in production volume will be slighter, at ¼%.

Uncertainties largely originating from financial sector
It is uncertain whether the low point of the global financial crisis has already passed and whether the most drastic events are behind us. Foreclosures, domino effects, the infection of other parts of the financial sector and new bail-out operations continue to be a real possibility. Moreover the deep recession is now backfiring on the financial sector via greater losses on outstanding loans. The credit crisis and the worldwide recession could persist longer than envisaged in the central projection. An uncertainty scenario shows how economic development could suffer even more if world trade declines even more severely.

High savings, expansive monetary policy and failing regulation caused the credit crisis
The credit crisis has plunged the global economy into the deepest recession since World War II. This calls for a profound analysis of the underlying causes and effects. It is not possible to point to a single cause: the crisis is the result of a combination of several macro and microeconomic factors. Major macroeconomic imbalances were able to develop in a period of decreasing volatility. Excessive savings in China, the oil exporting countries, but also the Netherlands, found their way to the United States, where savings were short. This savings deficit was partly the result of low interest rates and an underestimation of risks. This created a bubble in house prices, securities and other assets. The bubble became even more inflated thanks to the combination of new financial instruments and poor regulation, allowing banks in particular to take more and more risks.

The current crisis is the result of the bubble deflating, which forced banks to swallow enormous losses. A disastrous chain reaction was started on the financial markets as a result, which in turn led to a worldwide drop in demand and a deep global recession. International imbalances will continue to exist in the future. Monetary policy will have to focus more on macro-financial stability and governments will have to devote more attention to the dangers of large structural capital flows between countries. The damaging results of the creation and deflation of bubbles are too serious to ignore.

Regulation of banks in need of reform
Governments will also have to improve their regulation of banks in order to prevent similar dramatic consequences in future. In these reform efforts, however, we must not lose sight of the fact that properly functioning financial markets increase prosperity. The Dutch financial sector - which has undergone significant growth and internationalisation - has also been hard hit by the financial crisis. Unprecedented levels of state support are keeping many large parts of the sector afloat. Along with taking emergency measures, the biggest challenge for Dutch policymakers is to ensure that the international regulation of the financial sector improves. Reducing the role of the government in the Dutch banking sector will be a major national challenge in a later stage.

Credit crisis can have damaging effects on the Netherlands in the medium term
The credit crisis not only means that the Dutch economy is in a deep recession at the moment - it can also have damaging effects for the medium term. This has happened to other countries that have experienced financial crises as well. It is therefore not unlikely that production in the Netherlands will remain at lower levels for a long time to come.

Situation cannot be compared to the 1980s
Because of the unrest on the international financial markets, risk premiums on corporate bonds have reached inconceivably high levels. Investors have a strong preference for relatively safe government bonds. If the governments do not draw on these savings, by allowing deficits to increase, a classic situation of Keynesian drop in demand will ensue. In that respect this crisis is entirely different from the recession of the first half of the 1980s, when wages were too high and profits too low, when the difference between benefits and wages was so small that it was hardly worth one’s time to work, when inflation was out of control and the government finances were structurally . Thus, the policy response to the current recession must therefore also differ from that of the 1980s.

Export facing serious setbacks
The heavy global recession is hitting the Netherlands mainly via exports, traditionally a driving force behind the Dutch economy. Goods exports will suffer this year severely in the wake of declining world trade. The export of goods is expected to drop by 11¾%. This kind of decline has never before taken place in many decades. Falling export accounts for no less than 3 percentage points of the contraction in GDP. Next year, if world trade shows a slight recovery with growth of 1½%, exports will also show modest growth of 1½%.

Consumers keeping a hand on the purse strings
Dutch households lost about 60 billion euros in the past year as the result of falling share prices. The projection foresees a drop in average house prices this year, and dividends are expected to decrease by half. This is in contrast to the fact that purchasing power is expected to rise by an average of 2% this year, since inflation will be considerably lower than assumed when the collective labour agreements for this year were concluded. On balance this will lead to private consumption falling by an expected ¼%. It is primarily durable consumer goods that are expected to suffer strong decline. Consumer spending by households will drop further, by an expected ½%, next year.

Investments drop sharply
Enterprises are facing drastic decreases in domestic and especially foreign demand. Capacity utilisation will decline this year as a result. Since companies cannot immediately downsize their workforce, labour productivity will decrease substantially in 2009. This puts pressure on profitability. There will be little need for investments in expansion therefore. Banks have also tightened up their credit conditions, making it more difficult to get credit. These developments will result in an 11% decrease in business investments in 2009. Next year, when production in the market sector once again decreases, investments will decline further, by as much as 12%.

From shortage to overcrowding on the labour market
The unemployment rate was 4.0% on average last year, while the number of job vacancies rose to record highs in mid 2008. A record number of people were in employment at the end of 2008. In a word, the labour market was dominated by shortage. Due to rapidly falling production, the number of job vacancies fell significantly however in the last quarter of last year, while unemployment is expected to start to rise this year. On average unemployment for 2009 is expected to come to 5½% of the labour force. The rise will continue next year, to no less than 8¾%, thus ending a period of labour shortages.

Inflation decreases, wage increases limited
Inflation can diminish from 2.5% in 2008 to 1% in both assessment years. The most important reason for the strong decrease this year is the substantial decline in the crude oil price over the past several quarters. From mid 2009 the gas and electricity prices in the Netherlands will also fall. Low inflation and the drastic rise in unemployment will keep the average market sector contract wage increase in new collective labour agreements limited to about 1%, the level of inflation. Since some of the collective labour agreements have already been concluded for this year and next, the average contract wage increase will come to 3% for this year and 1½% for next year.

Large budget deficit
Last year the budget showed a surplus of 1% GDP. This year the surplus is expected to turn into a deficit of 2.8% GDP. In 2010 the budget balance will deteriorate further to a deficit of 5.6% GDP. The drastically worsened economic conditions are the main reason behind this. On the one hand the revenue from taxes and social premiums will decline, on the other hand expenditure on unemployment benefits will increase substantially. Added to this is the fact that natural gas revenues will decline from 2.4% GDP in 2008 to 1.1% GDP in 2010. Partly because of the government’s interventions in the financial sector, the EMU government debt ratio will increase to 62% GDP in 2010.

Risks for government finances in the long term
The long-term risks for government finances stemming from the credit crisis can roughly be divided into two categories: wealth effects and effects on structural growth. As the EMU debt increases as a result of the credit crisis, interest payments will also increase. In the current projection, the EMU debt ratio in 2009 and 2010 will feel an upwards effect of more than 8% GDP solely because of the budget deficits. In addition to this, the government may lose out on tax revenues when households and pension funds see their net worth decrease. Furthermore, the potential GDP growth may be substantially affected by the credit crisis. If this loss in GDP is not compensated, government expenditure, which is determined in advance for the whole government term, will be structurally higher as a percentage of GDP in case no additional measures are taken. No higher government revenues will balance this out automatically however, so the budget balance would deteriorate structurally.