Fitch Affirms The Netherlands at ’AAA’; Outlook Negative

The agency has also affirmed The Netherlands’ Short-term foreign-currency IDR at ’F1+’ and the Country Ceiling at ’AAA’.

KEY RATING DRIVERS

The affirmation reflects the Netherlands’ strong underlying economic, institutional and credit fundamentals, including its consistent current account surpluses and positive net international investment position, as well as its strong financing flexibility. The Outlook remains Negative due to the weak GDP growth outlook. This will constrain fiscal consolidation, hampering public debt dynamics.

The affirmation also reflects the following key rating drivers:

The country’s flexible, diversified, high value-added and competitive economy benefits from strong domestic institutions, a track record of sound budgetary management and historically broad public and political consensus in support of fiscal discipline. Building this consensus has been more challenging of late, but political parties still achieved an agreement on the 2014 budget.

Fitch considers financing risk is very low, reflecting an average debt maturity of seven years, low borrowing costs and strong financing flexibility underpinned by The Netherlands’ status as a core eurozone sovereign issuer, with deep capital markets.

The banking sector has been resilient to the prolonged housing market decline and Fitch expects it should remain so. The main problems for Dutch banks’ asset quality are commercial real estate exposures and the SME segment. The former has been a concern, particularly following the nationalisation of SNS Bank in February 2013, and the latter has been hit by the extended period of weak economic conditions. However, Fitch does not expect these issues to be large enough to result in additional sovereign bail-outs.

House prices have fallen by 20% from the peak in 2008. This sharp adjustment has exacerbated the effects of the slump in gross disposable income and left around 25% of mortgages in negative equity. Fitch’s baseline is that the correction in the housing market will bottom out in mid-2014. Recent figures seem to support our view. The pace of decline slowed in 3Q13, accompanied by a pick-up in transactions. The negative wealth effect from the housing market should therefore ease in 2014.

The Negative Outlook on The Netherlands’ Long-term foreign and local currency IDRs reflects the following factors:

Public debt dynamics have worsened over time but remain within the tolerance for a ’AAA’ rating. Fitch’s public debt sensitivity analysis is broadly unchanged from the previous rating review (August 2013). Fitch forecasts general government gross debt (GGGD) to peak at 80% of GDP in 2018-19 and decline only slowly over the medium term, remaining at 76% of GDP by 2022.

In recent months, there have been some signs of recovery. In 3Q13, real GDP grew by 0.2% on a quarterly basis after nine consecutive quarters of decline (with the exception of 2Q12 when real GDP grew by 0.5% qoq). High frequency indicators suggest that growth should have accelerated further in 4Q. Nevertheless, Fitch expects the Dutch recovery to be slow due to headwinds from household deleveraging, declining house prices, and fiscal consolidation. Our latest forecasts are for the economy to stagnate in 2014 and to grow by 1% in 2015 (unchanged from our previous rating review). A strengthening economic recovery in the eurozone represents some potential upside risk to our forecast.

In Fitch’s view, households will remain a drag on recovery. Real disposable income has shrunk markedly since 2007 while household liabilities have continued to rise. Dutch households are highly leveraged and levels of debt have started to decline only in 2013. The unwinding of these large domestic imbalances is particularly challenging and will continue to weigh on domestic demand, significantly limiting the economy’s shock-absorbing capacity.

Gross household debt to income is substantially higher in The Netherlands relative to the eurozone average (250% vs 99%). Although gross household debt is high, it is more than offset by net household financial assets. Net financial wealth to income was 376% in 2012, the highest in the eurozone. To date, the strong net worth position of Dutch households has been unable to mitigate the negative wealth effects arising from the decline in house prices, reflecting the relatively low liquidity of individuals’ financial assets.

RATING SENSITIVITIES

The Negative Outlook reflects the following risk factors that may, individually or collectively, result in a downgrade of the ratings:

 Material deterioration in Fitch’s debt dynamics forecasts resulting in debt peaking higher and later relative to the current baseline (peak of 80% of GDP in 2018) or failing to be placed on a downward path thereafter.

 Material weakening in macroeconomic projections, for example caused by further deterioration in the housing market.

 Crystallisation of substantial amounts of contingent liabilities arising from a range of potential sources, including the banking sector (for example as a result of the ECB Comprehensive Assessment), the Nationale Hypotheek Garantie (NHG) mortgage guarantee scheme or eurozone bail-out packages.

 Adverse political developments leading to policy uncertainty, which could undermine confidence in fiscal and economic prospects.

Future developments that may, individually or collectively, lead to the Outlook being revised to Stable include:

 General improvement in macroeconomic performance including further signs of stabilisation in the housing market.

 Greater confidence that the GGGD/GDP ratio will stabilise in line with Fitch’s baseline and be placed on a downward path over the medium term.

KEY ASSUMPTIONS

There is uncertainty over near and medium-term projections for the economy. Fitch forecasts the Dutch economy to stagnate in 2014 and grow by 1% in 2015. Fitch’s forecast for 2014 is below consensus (0.4%) mainly due to a more pessimistic outlook for private consumption. The OECD is projecting a contraction of 0.1% for 2014. Conversely, our 2015 forecasts are in line with those of OECD and the European Commission (0.9%).

Fitch assumes that the nationalisation of SNS REAAL and its banking subsidiary SNS Bank will have had a one-off fiscal impact in 2013. Moreover, the agency is not factoring additional support to the banking sector in its debt sensitivity analysis from 2014 onwards.

Fitch assumes there will not be additional liabilities related to banks’ recapitalisations as a result of the ECB’s Comprehensive Assessment.

Fitch assumes that the Dutch sovereign will continue to access market funding at low interest rates. Under Fitch’s Sovereign Rating Criteria and model, eurozone sovereigns are assessed to have a somewhat lower debt tolerance for a given rating than non-EMU peers with their own reserve currencies and national central banks willing and able to intervene in sovereign debt markets.

Fitch assumes the gradual progress in deepening fiscal and financial integration at the eurozone level will continue; key macroeconomic imbalances within the currency union will be slowly unwound; and eurozone governments will tighten fiscal policy over the medium term. It also assumes that the risk of fragmentation of the eurozone remains low.