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Scope Ratings GmbH has today affirmed the Kingdom of the Netherlands’ long-term issuer and senior unsecured local- and foreign-currency ratings at AAA, along with the short-term issuer ratings at S-1+ in both local and foreign currency. All Outlooks are Stable.

Rating drivers

Scope’s affirmation of the Kingdom of the Netherlands’ AAA rating reflects the country’s wealthy, diversified and competitive economy with a strong external position, prudent fiscal policy and favourable public debt profile and a resilient banking sector. In addition, the rating also considers structural challenges posed by labour market segmentation, persistent external imbalances and high household debt. The Stable Outlook reflects Scope’s expectation of a continuation of the government’s prudent fiscal policy, with public debt steadily declining over the medium term.

The Dutch economy experienced robust growth in 2018, although GDP growth expectations were revised downwards from 2.8% to 2.6% after a weaker than expected third quarter. Economic growth is set to moderate in 2019 around 2%, mainly driven by domestic consumption and investment with public consumption set to outpace private absorption. Compared to its peers and the euro area average, the Netherlands has preserved high potential growth, ranging close to 2%. While demographic challenges put constraints on public finances given a tight labour market and increasing pension and health care liabilities, the economy is highly competitive reflected in strong net exports and growing investment. Going forward, supply-side reforms to the labour market alongside higher fiscal spending could further contribute to raise capacity.

The Netherlands’ AAA rating is also underpinned by its strong record of fiscal consolidation, sound fiscal framework and favourable debt profile. Fiscal policy formulation benefits from a trend-based, multiannual approach as well as credible and independent macro-economic forecasts from the Bureau for Economic Policy (CBP). The fiscal balance has been increasing since 2009, shifting from a deficit of 5.1% of GDP to a 1.1% surplus in 2018. This positive trend has been supported by favourable economic conditions and decreasing debt costs. Recently, the fiscal stance has been slightly more pro-cyclical with rising expenditure in areas supporting growth. At the same time, the government’s plan to shift the tax structure away from direct to indirect taxes will reduce the labour tax wedge and improve the investment climate. These measures will be offset by increases in the VAT rate as well as higher excise taxes. Scope expects the budget balance to stabilise at around 1% of GDP for 2019 and remain positive in 2020 and 2021. As a result of consecutive budget surpluses, the debt-to-GDP ratio is expected to drop to around 47% of GDP in 2020 from 53% in 2018, below the level of Germany (54% of GDP) and well below the euro area average (83%). In addition, the Netherlands’ debt profile constitutes a credit strength with a long average maturity of more than 7 years, less than 9% of debt made up of short-term debt and limited foreign currency risk. The country also benefits from the euro’s reserve currency status and a low interest rate environment, leading to a decreasing cost of debt (interest payments amounted to 0.8% of GDP in 2018).

The AAA rating is furthermore supported by the soundness of the Dutch financial system. Strong regulatory and oversight frameworks as well as the benign economic environment have supported banking sector resilience. Prudential supervision undertaken by the central bank (De Nederlandsche Bank), alongside the ECB, is assessed as effective. Regulatory tier 1 ratios reached 18.6% of risk-weighted assets in Q3 2018 while NPLs declined to 1.7%, both below euro area averages of 15.4% and 3.4% respectively. In addition, Dutch banks’ profitability has been increasing as the sector has effectively adapted to the low interest rate environment and reduced costs. Return on equity (ROE) for the Dutch banking sector reached 8.8% in 2017, higher than that of German banks (2.9%) and the euro area average (6%). Scope expects the planned increase in buffers in 2019 for systemically important banks to support the sector’s resilience to shocks going forward.

Despite these credit strengths, Scope identifies three medium-to-long-term challenges. First, private sector indebtedness remains very high, at 286% of GDP. Vulnerability is particularly present with relation to household debt which amounts to 106% of GDP and lies well above the European Commission prudential threshold of 65%. Housing market inefficiencies, due to an underdevelopment of the private rental market have led households to turn to homeownership. At the same time, low financing costs and the existence of a generous mortgage interest deductibility mechanism have encouraged debt accumulation. As a result, households have increased leverage. The debt-to-income ratio for the Netherlands stood at 210% in Q3 2018, the highest among euro area countries. High levels of household debt present a macro-economic risk as economic shocks are exacerbated by budget-constrained households. Scope notes positively that the Dutch government has planned a gradual phase-down of the mortgage interest deductibility mechanism (MID), which is due to start in 2020 and will contribute to reducing the debt bias.

Second, the internal imbalances continue to be reflected in the external position. Although the current account surpluses that the Netherlands has generated consistently (annual averages of 8.8% since 2010) highlight the competitiveness of the economy, it is also a result of a widening domestic savings-investment gap. This is particularly true in the non-financial corporate sector which is characterised by high levels of profitability and low levels of domestic investments. Furthermore, external debt levels for the country are high, representing over 500% of GDP in 2018, significantly higher than the levels for peers. Scope notes that the widespread presence of multinational corporations in the country’s economic landscape is likely to have a strong influence on the external position of the Netherlands. These imbalances are mitigated by the country’s robust and increasing international investment position (at 65.3% of GDP in Q3 2018) and the ongoing deleveraging in the banking and government sectors, which have decreased their stocks of external debt by 44 and 22 percentage points respectively.

Finally, Scope notes that while the economy is officially close to full employment, the Dutch labour market shows strong duality with many part-time workers and self-employed persons who, on average, earn lower wages than full-time employees and have limited social protection. The European Commission and IMF have encouraged the government to implement policies, that help to reduce the current labour market segmentation and result in higher wage growth for low income groups. This persistent duality is also reflected in a widening gap between poor and rich households. While the average level of household wealth has increased between 2006 and 2017, the median declined over the same period. Thus, 50% of households are poorer in 2017 than they were in 2006. Scope considers this widening wealth gap as an emerging weakness, which is also reflected in increased political fragmentation.

Sovereign rating scorecard (CVS) and Qualitative Scorecard (QS)

Scope’s Core Variable Scorecard (CVS), which is based on relative rankings of key sovereign credit fundamentals, signals an indicative ‘AAA’ (‘aaa’) rating range for the Kingdom of the Netherlands. This indicative rating range can be adjusted by the Qualitative Scorecard (QS) by up to three notches depending on the size of relative credit strengths or weaknesses versus peers based on qualitative analysis.

For the Netherlands, the following relative credit strengths are identified: i) growth potential of the economy; ii) fiscal policy framework; iii) debt sustainability; and iv) market access and funding sources. Relative credit weaknesses include: i) vulnerability to short-term external shocks, ii) financial imbalances and financial fragility.

The combined relative credit strengths and weaknesses generate no notch adjustment and indicate a sovereign rating of AAA for the Netherlands.

A rating committee has discussed and confirmed these results.

Factoring of Environment, Social and Governance (ESG)

Scope considers ESG sustainability issues during the rating process as reflected in our sovereign methodology. Governance-related factors are explicitly captured in our assessment of ‘Institutional and Political Risk’, for which the Kingdom of the Netherlands achieves a high score according to the World Bank’s Worldwide Governance Indicators. Qualitative governance-related assessments in the ‘geo-political risk’ category of the Qualitative Scorecard are assessed as ‘neutral’ compared with sovereign peers. Socially related factors are captured in the Core Variable Scorecard in the Netherlands’ high GDP per capita (USD 53,106 in 2018) and low level of unemployment but increasing old-age dependency ratio. Qualitative assessments of social factors are reflected in ‘macroeconomic stability and sustainability’, for which Scope assesses the Kingdom of the Netherlands as ‘neutral’ given a relatively equal distribution of income but increasingly diverging wealth distribution. Although climate-relevant policies become increasingly relevant for the Netherlands as well as for other signatories of the 2015 Paris Agreement, we do not identify a material impact of environmental risks on the credit ratings of the Netherlands.

Outlook and rating-change drivers

The Stable Outlook reflects Scope’s view that the risks the Netherlands faces remain manageable given the economy’s inherent credit strengths.

The ratings/outlooks could be downgraded if: i) the Netherlands experiences a large global trade shock with a sharp decline in GDP and/or ii) fiscal consolidation were reversed leading to increasing debt levels and a deterioration in the fiscal balance. 

Rating committee
The main points discussed by the rating committee were: i) the Netherlands’ growth potential; ii) fiscal framework; iii) public debt sustainability; iv) external debt sustainability and vulnerability to shocks; v) private sector debt; vi) political developments; and vii) peer comparisons

Methodology
The methodology used for this rating and/or rating outlook, ‘Public Finance Sovereign Ratings’, is available on www.scoperatings.com.
Historical default rates of the entities rated by Scope Ratings can be viewed in the rating performance report on https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA. Please also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope’s definition of default as well as definitions of rating notations can be found in Scope’s public credit rating methodologies at www.scoperatings.com.
The rating outlook indicates the most likely direction in which a rating may change within the next 12 to 18 months.

Solicitation, key sources and quality of information
The rating was not requested by the rated entity or its agents. The rated entity and/or its agents did not participate in the ratings process. Scope had no access to accounts, management and/or other relevant internal documents for the rated entity or related third party.
The following material sources of information were used to prepare the credit rating: public domain and third parties. Key sources of information for the rating include: the Ministry of Finance of the Netherlands, the Central Bank of the Netherlands (DNB), the Bureau for Economic Policy (CBP), the Netherlands Court of Audit the BIS, the European Commission, the European Central Bank (ECB), the Statistical Office of the European Communities (Eurostat), the Statistical Office of the Netherlands (CBS), the IMF, the OECD, and Haver Analytics.
Scope considers the quality of information available to Scope on the rated entity or instrument to be satisfactory. The information and data supporting Scope’s ratings originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data.
Prior to the issuance of the rating, the rated entity was given the opportunity to review the rating and/or outlook and the principal grounds upon which the credit rating and/or outlook is based. Following that review, the rating was not amended before being issued.

Regulatory disclosures
This credit rating and/or rating outlook is issued by Scope Ratings GmbH.
Lead analyst: Dr Bernhard Bartels, Associate Director
Person responsible for approval of the ratings: Dr Giacomo Barisone, Managing Director, Public Finance
The ratings/outlook were first assigned by Scope in January 2003. The ratings/outlooks were last updated on 30.06.2017

Potential conflicts
Please see www.scoperatings.com for a list of potential conflicts of interest related to the issuance of credit ratings.

Conditions of use / exclusion of liability
© 2019 Scope SE & Co. KGaA and all its subsidiaries including Scope Ratings GmbH, Scope Analysis GmbH, Scope Investor Services GmbH and Scope Risk Solutions GmbH (collectively, Scope). All rights reserved. The information and data supporting Scope’s ratings, rating reports, rating opinions and related research and credit opinions originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data. Scope’s ratings, rating reports, rating opinions, or related research and credit opinions are provided ‘as is’ without any representation or warranty of any kind. In no circumstance shall Scope or its directors, officers, employees and other representatives be liable to any party for any direct, indirect, incidental or other damages, expenses of any kind, or losses arising from any use of Scope’s ratings, rating reports, rating opinions, related research or credit opinions. Ratings and other related credit opinions issued by Scope are, and have to be viewed by any party as, opinions on relative credit risk and not a statement of fact or recommendation to purchase, hold or sell securities. Past performance does not necessarily predict future results. Any report issued by Scope is not a prospectus or similar document related to a debt security or issuing entity. Scope issues credit ratings and related research and opinions with the understanding and expectation that parties using them will assess independently the suitability of each security for investment or transaction purposes. Scope’s credit ratings address relative credit risk, they do not address other risks such as market, liquidity, legal, or volatility. The information and data included herein is protected by copyright and other laws. To reproduce, transmit, transfer, disseminate, translate, resell, or store for subsequent use for any such purpose the information and data contained herein, contact Scope Ratings GmbH at Lennéstrasse 5, D-10785 Berlin.

Scope Ratings GmbH, Lennéstrasse 5, 10785 Berlin, District Court for Berlin (Charlottenburg) HRB 192993 B, Managing Directors: Torsten Hinrichs and Guillaume Jolivet.