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 the credit fundamentals of the Netherlands remain solid despite economic and fiscal headwinds from energy price inflation. The 2023 central government budget that was presented last month includes a substantial increase in support measures, which aim at lowering households’ energy costs and, more broadly, supporting purchasing power. As a result, CPB Netherlands Bureau for Economic Policy Analysis (CPB) currently forecasts the general government budget deficit to widen to an albeit still moderate 2.5% of GDP in 2023 from 1.1% of GDP in 2022. In the medium-term, DBRS Morningstar foresees the government continuing to incur moderate budget deficits due to the planned increases in government spending, particularly on climate transition and nitrogen reduction. At the same time, DBRS Morningstar views the country’s ample fiscal space as sufficient to accommodate the projected moderate budgetary deficits over the next years. Fiscal space benefits from moderate government debt levels and a very low interest burden. Furthermore, despite the increase in nominal bond yields over the past months, DBRS Morningstar continues to view the Dutch government’s financing conditions favourably.

The Netherlands’ AAA ratings are supported by its highly developed and competitive economy, its strong external position and a high institutional quality. 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. Furthermore, contingent liabilities, emanating from state direct and indirect guarantees for domestic companies and the financial sector as well as fiscal burden sharing within the currency union could eventually weigh on public finances.

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

RATING RATIONALE

Economic Growth Dynamics Remained Strong Over The Past Months But Economic Headwinds Are Increasing

The Dutch economy continued to grow strongly in recent months. After rebounding by a large 4.9% in 2021 from the COVID-19-related contraction of 3.9% in 2020, real GDP rose by 0.4% and 2.6% on a quarter-on-quarter basis in Q1 and Q2 2022, respectively. The strong growth dynamics in Q2 2022 were driven by marked increases in gross fixed capital formation and exports. In addition, private consumption continued to expand, albeit at a slightly slower pace than in Q1 2022. In view of the strong growth in the second quarter, CPB raised its real GDP growth forecast for this year to 4.6% in August 2022 from 3.6% in March 2022.

The growth outlook is clouded with uncertainty. Potential headwinds are likely to emanate from the continued strong deterioration of confidence particularly among households. The consumer confidence indicator released by Statistics Netherlands dropped to an all-time low in September 2022. This can be ascribed to the economy’s comparatively strong inflationary pressures with annual inflation standing at a very high 17.1% in September 2022, driven by a spike in energy prices (+113.8%). Furthermore, similar to other EU economies, the Dutch economy is exposed to important downside risks such as a potential further tightening of European energy supplies particularly next winter which would most likely aggravate economic uncertainty and weigh on industrial production in the domestic economy and in important trading partner economies. CPB currently forecasts real GDP to expand by 1.5% in 2023 taking into account the government’s recently announced energy support measures, which are likely to dampen the adverse impact of energy inflation on households’ purchasing power over the next year. In general, the credit profile continues to be supported by the economy’s highly developed and competitive nature and the economy’s position as a major trading hub in Europe. These credit strengths counterbalance the challenges associated with the economy’s exposure to external shocks given its high degree of trade openness and its relatively small size.

Government Is Expected to Incur Moderate Budget Deficits Over the Next Years

Fiscal accounts have improved over the past two years, but are likely to deteriorate again due to the recently announced expansion of support measures in the next year. In 2021, the general government budget deficit narrowed to 2.6% of GDP from 3.7% in 2020 related to a rebound in tax revenues and a gradual decrease in COVID-19 support measures. These favourable fiscal dynamics continued in the current year, as still strong growth dynamics and high inflationary pressures led to a marked increase in tax revenues. During the first seven months of 2022, central government revenues rose by 14.0% (y-o-y) whereas total expenditure declined by 4.9%. As a result, the CPB forecasts the general government budget deficit to narrow to 1.1% of GDP in 2022.

The fiscal burden of energy support measures has so far been moderate, but is set to rise in 2023. For full year 2022, the fiscal cost of energy support measures is estimated at 0.8% of GDP. The most important support measures have been a temporary cut in energy taxes, an increase in the energy allowance for low-income households and decreases in the VAT rate for energy and excise duties on diesel and petrol. The fiscal cost of support measures will rise next year as the 2023 central government budget extends not only most existing energy support measures, but also introduces additional measures, which aim to support households’ purchasing power (e.g. decrease in tax on labour, rising social benefits). Taking into account these budgetary measures, CPB now projects a general government budget deficit of 2.5% of GDP in 2023. DBRS Morningstar notes that these forecasts do not include the recently announced price caps on electricity and gas for Dutch households the details of which, however, still need be finalized. In the medium-term, DBRS Morningstar expects the government to continue to incur moderate budget deficits due to the government’s ambitious investment agenda, particularly with regard to climate transition measures, nitrogen reduction, defence and education. The coalition agreement of the government envisages a net increase in public spending of around 2.0-3.0% of GDP between 2023 and 2025. The government’s stability program published in April 2022 projects a general government average annual deficit of 2.6% of GDP between 2023 and 2025.

Fiscal Space is Large due to Moderate Debt Levels and Very Low Interest Burden

In DBRS Morningstar’s view, the Netherlands has ample fiscal space to accommodate the projected moderate budgetary deficits over the next years. Fiscal space benefits from moderate government debt levels and a very low interest burden. General government debt amounted to a moderate 52.4% of GDP at end-2021. Taking into account the recent increase in inflationary pressures, CPB forecasts the government debt-to-GDP ratio to decrease to 48.8% by the end of 2023. In addition, the government’s latest stability programme projects annual interest expenditure to remain very low at 0.3% of GDP over the next four years. DBRS Morningstar notes that the government has extended debt maturities in recent years in order to lock in historically low rates. The average maturity of the central government debt amounted to 8.6 years in June 2022, up from 6.0 years in December 2017. Furthermore, the increase in nominal yields on Dutch government bonds in recent months has been less pronounced than for other euro area governments. Overall, DBRS Morningstar continues to view the Dutch government’s financing conditions favourably. Potential risks for public finances emanate from contingent liabilities, for example state guarantees for companies affected by COVID-19. The total stock of public guarantees amounted to 24.6% of GDP at end-2021. In addition, the government was exposed to indirect guarantees of 33.4% of GDP at end-2021, most of which relate to the government’s role as an indirect guarantor for guarantee obligations by the Homeownership Guarantee Fund. At end-2021, around 28% of all outstanding mortgage loans were covered by a guarantee of the Homeownership Guarantee Fund.

Financial Condition Of Banking Sector Is Sound But Risks Might Emerge From Elevated Housing Prices

DBRS Morningstar regards the financial condition of the domestic banking sector as sound. The banking sector has so far weathered well the impact of COVID-19. Despite the contraction of real GDP in 2020, asset quality metrics have improved over the past two years, which partially can be attributed to substantial government support measures to affected households and businesses. The non-performing loan (NPL) ratio amounted to a low 1.6% in June 2022, compared to 1.9% in December 2019. Going forward, the economic repercussions of Russia’s invasion of Ukraine might lead to a deterioration in asset quality metrics. DBRS Morningstar, however, expects a potential detrimental impact to be manageable as the size of banking sector exposures to affected sectors is moderate. Furthermore, DBRS Morningstar regards the banking sector’s good-to-moderate capital position as sufficient to absorb some weakening in asset quality. The Tier 1 capital adequacy ratio averaged 17.8% in June 2022, down from 18.9% in December 2019. The sector’s profitability remains moderate with the average return on assets amounting 0.7% in financial year 2021.

DBRS Morningstar views the real estate market as the most important risk factor for financial stability due to elevated housing prices and high debt stocks of Dutch households. Mortgages accounted for around 54% of domestic private sector credit at end-2021. Housing prices have risen markedly over the past years, clearly exceeding the increases in rents and incomes. According to the OECD, the price-to-rent and the price-to-income ratios for residential mortgages in the Netherlands rose by a comparatively large 59% and 46%, respectively between December 2015 and March 2022. Moreover, household debt, albeit declining, remains high from a cross-country perspective. Household debt in the Netherlands amounted to 101% of GDP at end 2021 compared to an average of 60% for euro area countries. At the same time, the aggregate net worth of Dutch households is also comparatively high at 253% of GDP at end 2021 compared with the euro area average of 170%. The vulnerabilities of mortgage debtors to increases in interest rates is limited as residential mortgages are largely fixed rate. However, DBRS Morningstar notes that around a quarter of mortgages mature over the next five years. In view of elevated housing prices and a recent moderate pick-up in mortgage loan growth, the Dutch central bank announced an increase in the countercyclical capital buffer for banks to 1% in May 2022, which is to be implemented until May 2023.

External Strength is Bolstered by Large Structural Current Account Surplus and High Net External Creditor Position

DBRS Morningstar assesses the external strength of the Dutch economy as strong. The economy’s external position benefits from a large and structural current account surplus which rose to a very high 9.0% of GDP in 2021, up from 7.1% in 2020 related to higher service exports and lower net outflows in the primary and secondary balances. Going forward, the CPB forecasts the current account surplus to narrow to an albeit still high 7.2% of GDP in 2022 and 6.8% in 2023. The principal driver of the current account surplus is a very high goods trade surplus which stood at 7.3% of GDP in 2021. This very large surplus reflects not only a high international competitiveness of Dutch manufacturing industries but also the Netherlands’ role as a global trading hub and associated re-export activity particularly in the Port of Rotterdam. According to estimates by the Netherlands Bureau of Economic Policy Analysis, re-exports account for around 50% of the surplus in the goods trade balance. While the gross value added of single re-exports is small due to a high import content, the huge scale of re-export activity renders the net contribution to the trade balance large. Furthermore, the external position is strengthened by the economy’s large net external asset position. At end-2021, the Netherlands’ net international investment position amounted to a high 92.5% of GDP. The strong external position provides the country with a significant buffer to absorb external shocks and supports its capacity for external adjustment. This underpins DBRS Morningstar’s positive qualitative assessment for the ‘Balance of Payments’ building block.

High Institutional Quality is a Key Strength of the Rating

The Netherlands’ rating is underpinned by a high institutional quality. The country is a strong performer on the World Bank’s Governance Indicators as it is characterised by a high rule of law, low levels of corruption and stable economic and political institutions. These strengths clearly offset a somewhat fragmented political landscape. The latter partially results from a very low electoral threshold of 0.7% for parliamentary elections. The March 2021 general elections led to the election of 20 different political parties to the Dutch parliament and were followed by lengthy coalition negotiations with the new coalition government sworn in only in January 2022. Although the new coalition government consists of the same four parties as the preceding government, the new coalition agreement signals a change of direction in certain policy areas. In particular, the government seeks to raise government investment in different fields (e.g. climate transition, nitrogen reduction, education, defence). Despite this change of direction in certain policy areas, DBRS Morningstar assesses overall policy continuity as high particularly with regard to fiscal and foreign affairs.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS

There were no Environmental/ Social/ Governance factors that had a significant or relevant effect on the credit analysis.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings (17 May 2022).

For more information on the Rating Committee decision, please see the Scorecard Indicators and Building Block Assessments. https://www.dbrsmorningstar.com/research/403824.

EURO AREA RISK CATEGORY: LOW

Notes:
All figures are in 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,
https://www.dbrsmorningstar.com/research/401817/global-methodology-for-rating-sovereign-governments (29 August 2022). Other applicable methodologies include the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings, https://www.dbrsmorningstar.com/research/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings (17 May 2022).

The sources of information used for this rating include the Government of the Netherlands, Ministry of Finance (Stability Programme April 2022), Dutch State Treasury Agency (Monthly Report State Debt (various issues); Outlook 2022), De Nederlandsche Bank (DNB; Economic Developments and Outlook, June 2022; Financial Stability Report, Spring 2022; Statistics portal), CPB Netherlands Bureau for Economic Policy Analysis (Macro Economic Outlook, September 2022; Macro Economic Outlook, August 2022; Central Economic Plan, March 2022; A fresh look at the Dutch current account surplus and its driving forces, September 2019), Statistics Netherlands (CBS), Government of the Netherlands (2021-2025 Coalition Agreement), European Commission (2022 Summer Forecasts), Statistical Office of the European Communities, European Central Bank (ECB), IMF (World Economic Outlook April 2022), IMF (International Financial Statistics), OECD (Housing Prices), International Energy Agency, Climate Action Tracker, BP (Statistical Review of World Energy), Social Progress Index, World Economic Forum Global Competitiveness Index, World Bank, BIS, Our World In Data, Haver Analytics. DBRS Morningstar considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

With respect to FCA and ESMA regulations in the United Kingdom and European Union, respectively, this is an unsolicited credit 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.

The conditions that lead to the assignment of a Negative or Positive trend are generally 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: https://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. DBRS Morningstar understands further information on DBRS Morningstar historical default rates may be published by the Financial Conduct Authority (FCA) on its webpage: https://www.fca.org.uk/firms/credit-rating-agencies.

The sensitivity analysis of the relevant key rating assumptions can be found at: https://www.dbrsmorningstar.com/research/403832.

This rating is endorsed by DBRS Ratings Limited for use in the United Kingdom.

Lead Analyst: Yesenn El-Radhi, Vice President, Global Sovereign Ratings
Rating Committee Chair: Nichola James, Managing Director, Co-Head of Sovereign Ratings, Global Sovereign Ratings
Initial Rating Date: 12 May 2011
Last Rating Date: 8 July 2022

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