Netherlands: Trouble In Paradise?

Includes: AEG, ASML, ING, MT, PHG, RDS.A, UL
by: Shareholders Unite

The Netherlands is often seen as an economic province of Germany, and there is a good deal to be said about that. In monetary affairs, they are as uptight as the Germans, and they profit a great deal from trading with their bigger brother. Most of the Germans I've spoken to regard Dutch as a funny German dialect, and even for that there is something to be said.

Economically, Holland was a sort of trail-blazer, reinventing Germany's social market model in the 1980s and 1990s, with sensible economic reforms that got the economy going again. Some of this reform agenda has been introduced by Germany as well, with considerable success.

But make no mistake, Holland isn't Germany. The German economic backbone consists of the so called "Mittelstand," largely family owned small and medium sized industrial companies that excel in what they do. Often, they dominate their niche in world markets, producing capital goods with a reputation for quality and engineering excellence.

The Netherlands, on the other hand, hasn't much that is comparable. Its economy is dominated by a few big multinationals like Shell (NYSE:RDS.A) and Philips (NYSE:PHG), which increasingly look elsewhere for the thrust of their activities. They have one or two world-beaters, like ASM Litography (NASDAQ:ASML) and a couple of good companies like DSM and Fugro (a real pity neither of these are traded in New York).

Some excellence in the food business like Unilever (NYSE:UL) and large financial conglomerates like ING (NYSE:ING) and Aegon (NYSE:AEG), the headquarter of the biggest steel maker ArcelorMittal (NYSE:MT), but Holland is mainly a trading nation.

While the economy performed strongly during the 1990s, things aren't as good anymore, and the Netherlands is losing its edge. There are a number of indications of serious problems:

  • Economic growth was only 1.3% last year (compared to Germany's 3%) and the economy has sunk into recession the last quarter of last year.
  • Export (at 69% of GDP the most important motor under the Dutch economy by far) is increasingly going to less dynamic areas and not to the high-growth far East or even Germany, its neighbor. In 2011, Dutch export to the rest of Europe increased 10.4%, but its export to Germany only increased by 8%. To underline its importance, the latter is responsible for 12% of Dutch GDP.
  • The composition of the export is reason for concern. Much of it has rather low added value or is re-export, simply underlying the role of the Netherlands as a logistical hub.
  • Netherlands had the third highest increase in wages since 1999 (the introduction of the euro), after Greece and Portugal (see figure below on the left)
  • Netherlands has the highest private debt/GDP after Denmark (not featuring in the figure below), and a higher overall debt/GDP than either Greece or Italy (see figure below on the right).

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One could even argue that with respect to the large private debt, the slowly deflating housing bubble and the loss of competitiveness, the Netherlands resembles more a peripheral country, apart from the fact that it still has a trade surplus.

More embarrassing still for a country that invariably is as strict in applying the eurozone budget rules to other countries, their own public deficit is expected to hit 4.5% of GDP this year, well over the 3% limit and there is now a fierce debate running in the country whether they will have to embark on crash austerity to abide by the rules they so vigorously try to enforce on others.

The director of the CPB, the central planning agency, a quintessentially Dutch institution, the brainchild of the first Nobel prize winner in economics, Jan Tinbergen, and, more surprising perhaps, the director of the employers confederation, both urging caution not to overdo it on the austerity front.

So we see here the same policy split within the Netherlands as within the eurozone at large. Even Germany itself is practicing something quite different from what it preaches. As Der Spiegel noted recently, Germany failed to reach its own austerity goals in 2011 and will do so this year as well. Rather embarrassingly,

Calculations made by the influential Cologne Institute for Economic Research indicate that only €4.7 billion ($6.16 billion) of the €11.2 billion in austerity measures stipulated by the savings package actually took shape in 2011. The government is also falling behind on its targets for this year. Of the originally planned €19.1 billion in savings, less than half has been implemented. For the coming year, the concrete measures that have been agreed on so far cover just one-third of the announced amount of savings.

Perhaps the failure of implementing austerity in core countries like the Netherlands and Germany is for the best. After all, the experience with austerity during slumps in the euro zone isn't a particularly happy one (to put it mildly), but it does sound a tat hypocritical. More importantly, austerity in the core would undermine the periphery further. What they need is the center to embark on reflation, in order to help improve their relative competitiveness and increase demand for their export.

Despite all this, we wouldn't advise to short the Dutch AEX index. Although its politics has become a bit more heated than usual, they usually manage to work out some sensible compromise.
Most of the companies derive their revenues and profits from the rest of the world, so they are not very dependent on the domestic market at all.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.