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 are solid. The Netherlands has so far weathered the energy price shock comparatively well. Economic growth dynamics remained strong over the past year and the fiscal position improved on the back of higher tax revenues. Looking ahead, economic growth is expected to weaken due to the recent tightening in financial conditions and an economic slowdown in important trading partner economies. At the same time, a strong labour market and the recent step-up in fiscal support measures will likely support domestic demand. The government is projected to incur moderate budget deficits over the next few years due to temporary fiscal support measures and higher public investment. In DBRS Morningstar’s view, however, the Netherlands has ample fiscal space to accommodate the projected moderate budgetary deficits over the next few years without putting pressure on the AAA ratings. Government debt is at a moderate level and debt servicing costs are very low.

The Netherlands’ AAA ratings are supported by its highly productive 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 Have Been Very Strong Over The Past Two Years But Are Expected To Slow In 2023

The Dutch economy has so far weathered the energy shock well. Real GDP expanded by a strong 4.5% in 2022. Growth was driven by private consumption which rose by 6.6% on an annual basis notwithstanding weak consumer sentiment. While the strong increase in consumer prices of 11.6% weakened purchasing power, particularly for low income households, overall private consumption was supported by high accumulated savings, pent-up demand for services and a very strong labour market. Furthermore, growth dynamics benefitted from rising exports of goods and services and higher gross fixed capital investment. On the supply side, growth was driven by services, most notably by trade, business services and contact-intensive services (e.g. transportation, hotels, restaurants). Overall, growth of the Dutch economy has been comparatively strong in the aftermath of the COVID-19-shock. In Q4 2022, real GDP stood 5.9% above its 2019 Q4 level compared to an increase of just 2.4% for the total Euro Area. DBRS Morningstar does not expect scarring effects from the COVID-19 pandemic and the energy price shock.

Looking ahead, we expect a cyclical weakening of growth dynamics given the tightening in financial conditions and economic slowdowns in important trading partner economies. Tighter financial conditions have started to weigh on housing investment, as indicated by a marked decrease in building permits over the past few months. Furthermore, private consumption growth is expected to decelerate as some of its main drivers over the past two years, such as pent-up demand for services, are likely to have run their course. Nevertheless, private consumption particularly of low-income households is being supported by fiscal support measures. In addition, domestic demand is likely to benefit from the strong condition of the labour market. The unemployment rate was just 3.6% in January 2023. Recent forecasts from the Netherlands Bureau for Economic Policy Analysis (CPB) put real GDP growth at 1.6% in 2023 and 1.4% in 2024. The main risks to the economic outlook are an escalation of the conflict in Ukraine and a stronger-than-expected tightening in financial conditions. The latter could lead to strong downward pressure on house prices and weaken private consumption through a negative wealth effect.

Government Is Expected To Incur Moderate Budget Deficits Over The Next Few Years

The government budget deficit continued to narrow in 2022 but is projected to widen going forward on the back of fiscal support measures and higher public investment. The general government budget deficit narrowed to 0.7% of GDP in 2022 from 2.6% in 2021, as strong growth dynamics and high inflationary pressures boosted the government’s nominal revenues. Taxes and social security contributions rose by 8.5% in 2022, clearly exceeding the 4.3% increase in government expenditure.

Budgetary pressures are projected to increase in 2023 as the government has stepped up fiscal support to cushion the impact of inflation on households’ purchasing power. These measures include raising certain social benefits and allowances (old age pensions, child benefits, housing allowances), temporary energy tax cuts (e.g. reduction fuel excise tax) and the introduction of a temporary cap on energy prices for households and SMEs (electricity, gas, district heating). The fiscal cost of support measures is estimated to increase to 2.9% of GDP in 2023 from 1.1% in 2022. Taking into account higher support measures, CPB forecasts the general government budget deficit to widen to 3.0% of GDP in 2023. Although most energy support measures are planned to be phased out during the course of this year, the general government budget deficit is projected to narrow only moderately to 2.6% of GDP in 2024 as government spending particularly on climate transition and nitrogen reduction is expected to increase. The government has agreed on an ambitious investment agenda (e.g. climate change, education, defence) in its coalition agreement, which envisages a net increase in public spending of around 2.5 % of GDP in 2024 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 moderate budgetary deficits. Fiscal space benefits from moderate government debt levels and a very low interest burden. General government debt amounted to 49.3%% of GDP at end 2022. Despite the projected widening of the government budget deficit, CPB forecasts the debt-to-GDP ratio to decline modestly to 48.7% in 2024 as debt dynamics benefit from elevated nominal GDP growth. Despite the recent strong increase in government bond yields, the government’s interest burden is projected to increase only modestly to a still very low 0.7% of GDP in 2024 from 0.5% in 2022. In this regard, the government benefits from the extension of debt maturities over the past years. The average maturity of the central government debt was 8.1 years in December 2022 up from 6.0 years in December 2017. Potential fiscal risks emanate from contingent liabilities, including state guarantees for companies affected by COVID-19. The government estimates the total stock of public guarantees at 23.4% of GDP in 2022. In addition, the government is exposed to indirect guarantees which amounted to 33.4% of GDP in 2021 and mostly relate to the government’s role as an indirect guarantor for the Homeownership Guarantee Fund. At end 2021, around 28% of all outstanding mortgage loans were covered by a guarantee from the Homeownership Guarantee Fund.

Financial Condition Of Banking Sector Is Good But Pockets Of Vulnerability Might Emerge From The Recent Increase In Interest Rates

DBRS Morningstar regards the financial condition of the domestic banking sector as good. The non-performing loan (NPL) ratio amounted to a low 1.6% in December 2022. Furthermore, banks have strong capital buffers which provides them with an important cushion against some potential weakening in asset quality. The average Tier 1 capital adequacy ratio stood at 18.0% in December 2022. The sharp increase in interest rates since summer 2022 is likely to impact banks in different ways. While higher interest rates are set to raise banks’ net interest income, they might strain the repayment capacity of some borrowers. This applies particularly to banks’ exposure to non-financial corporates (28.5% of domestic private credit in December 2022) due to a broad-based increase in lending rates. The average lending rate of outstanding bank loans towards non-financial corporates has risen markedly from 1.6% in June 2022 to 2.9% in January 2023.

In contrast, interest rates on outstanding mortgages loans, which accounted for 54.6% of domestic private credit in December 2022 have increased at a much slower pace due to the fixed-rate nature of most mortgages. At the same time, the recent increase in interest rates has raised asset quality risks for mortgage lending as a potential future downturn of elevated house prices would decrease the collateral values of mortgages. This applies particularly to housing loans that were granted at the end of the recent housing boom. Over the past few years, the financial capacity of homebuyers has been increasingly strained by the sharp upswing in housing prices, as prices have increased at a much faster pace than incomes. Between December 2015 and September 2022, the price-to-income ratios for residential mortgages in the Netherlands rose by a comparatively large 49%. At the same time, repayment capacity of Dutch mortgage borrowers is supported by the strong condition of the domestic labour market.

External Strength Is Bolstered By The 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 structural current account surplus which narrowed to a still large 6.5% of GDP in 2022 from 7.2% in 2021 on the back of strong domestic demand and deteriorating terms of trade. The CPB forecasts the surplus at 6.6% of GDP in 2023. The main driver of the current account surplus is a very high goods trade surplus which reflects not only the highly competitive nature 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 CPB, 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. In September 2022, the Netherlands’ net international investment position amounted to 84.0% 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 Worldwide Governance Indicators as it is characterised by strong rule of law, low levels of corruption and stable economic and political institutions. These strengths 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 current coalition government consists of the same four parties as the preceding government, the current government has changed direction in certain policy areas. In particular, the government seeks to raise public 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/410952.

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). In addition, DBRS Morningstar uses 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) in its consideration of ESG factors.

The sources of information used for this rating include the Government of the Netherlands, Ministry of Finance (2023 Draft Budget, September 2022), Dutch State Treasury Agency (Monthly Report State Debt (various issues); Outlook 2023), De Nederlandsche Bank (DNB; Economic Developments and Outlook, December 2022; Financial Stability Report, Autumn 2022; Statistics portal), CPB Netherlands Bureau for Economic Policy Analysis (Central Economic Plan, March 2023; 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), PBL Netherlands Environmental Assessment Agency (Climate and Energy Outlook 2022, December 2022), European Commission (Commission Opinion on the Draft Budgetary Plan of The Netherlands, 22 November 2022; European Economic Forecast, February 2023; 2022 Summer Forecasts), Statistical Office of the European Communities, European Central Bank (ECB), IMF (2022 Article IV Consultation with the Netherlands, March 2023; Selected Issues, March 2023; World Economic Outlook October 2022; International Financial Statistics), OECD (Housing Prices), ESRB (Risk Dashboard, November 2022), International Energy Agency, Social Progress Index, World Bank, BIS, 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/410951.

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: Michael Heydt, Senior Vice President, Global Sovereign Ratings
Initial Rating Date: 12 May 2011
Last Rating Date: 7 October 2022

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