After several years of rapid economic expansion with relatively little inflationary pressure, the performance of the Dutch economy has deteriorated markedly since early 2000. Real GDP growth is expected to fall to around 1½ per cent in 2001, compared with nearly 4 per cent on average over the 1997-2000 period. The downturn appears to have been primarily due to external factors, as is typically the case in the Netherlands. But the way it gathered momentum early 2001 suggests that the abrupt slowdown of the US economy and the fall in global stock markets may have directly affected the Dutch economy through household and business confidence. These negative effects have more than offset the impact of the introduction at the beginning of the year of a major income tax reform, which included a shift from direct to indirect taxes and entailed a sizeable one-off boost to disposable income. As measured by the harmonised index of consumer prices (HICP), inflation started rising rapidly in 2000 and further accelerated at the beginning of 2001 due to the increase in the VAT rate and environmental taxes in the tax reform. HICP inflation seems to have passed its peak, but at 5.0 per cent (year-on-year) in October 2001, it still remained among the highest in the euro area, and also very high by Dutch standards. Core inflation (excluding food, energy, government levies and indirect taxes) has increased less strongly but it has nonetheless trended up to nearly 4 per cent in the course of 2001, reflecting the pass-through of rapidly rising labour costs.

The macroeconomic performance of the Dutch economy has deteriorated markedly over the past few quarters. Real GDP growth, which had already decelerated sharply before the September attacks, is expected to fall to 1.4 per cent in 2001 – compared with an annual average of nearly 4 per cent in 1997-2000. At the same time, HICP inflation has accelerated strongly, owing to external and oneoff factors, but also to labour costs increases. While inflation seems to have passed its peak according to this measure, it remains the highest in the euro area, and core inflation – i.e. excluding food, energy, government levies and indirect taxes – has also increased significantly. Moreover, reflecting a long period of very tight labour market conditions, wages and labour costs have surged and the competitive position of the Netherlands vis-à-vis the euro area and its partner countries as a whole is expected to deteriorate markedly in 2001. The outlook is highly uncertain and rather gloomy at the moment. A plausible central scenario would seem to entail a period of a few quarters of slow growth with relatively high wageprice inflation and rising unemployment, followed by no more than a weak recovery beginning in the second half of 2002. The key domestic risk is that labour costs increases may remain too high.

The good performance of the Netherlands economy over the latest business cycle was also made possible by a sound medium term framework for macroeconomic policy. Monetary policy has been aimed at price stability and fiscal policy has successfully put public finances on a sustainable long-term path, taking into account budget pressures associated with population ageing. The short-term challenge in the current conjunctural situation arises from the combination of a sharply slowing economy, a tight labour market and a benefit system that generates hysteresis effects. With monetary policy anchored in the euro area and fiscal policy abstaining from activism, it will be crucial to avoid an overshooting adjustment process triggered by backward looking wage claims. In this respect, fiscal policy should let the automatic stabilisers work and rely on the incentive effects of the tax reform.

Productivity growth, along with employment, is the motor that drives higher living standards. Indeed, for the coming century, this probably will be the only factor contributing to rising living standards as demographic factors mean that labour force is likely to be stable (see Chapter V). This makes it particularly important to ensure that policies support high productivity growth, including through the diffusion of information and communications technology (ICT). Such policies should be part of a comprehensive productivity growth strategy, as described in the OECD Growth Project, including action aimed at promoting entrepreneurship, making capital markets more flexible and increasing the availability of human capital. This chapter reviews recent developments in productivity growth and focuses on one aspect of increasing productivity growth – diffusion of ICT. The chapter assesses the extent to which the "new economy" is already apparent in the data and concludes with suggestions for reforms – drawn from the OECD Growth Project – most likely to facilitate an increase in productivity growth.

Until the recent deterioration in its macroeconomic situation, the Dutch economy had recorded a period of nearly two decades of virtually uninterrupted rapid growth with relatively few tensions. This good performance has undoubtedly reflected persistent and wide-ranging efforts of structural reform in the labour, product and financial markets, as well as in the social security system41 which have interacted with appropriate macroeconomic policies and wage moderation.  As a result, output growth and job creation have exceeded the EU averages, without – until recently – any major inflationary pressures (Table 13). Also, the unemployment rate has fallen to around 2 per cent, one of the lowest among Member countries. At the same time, however, the Netherlands continues to have a very large number of "inactives" – i.e. jobless people not seeking a job and on welfare. Hence, total working-age "benefit recipients not in employment" (inactives plus unemployed seeking a job) are still close to 1.5 million (in full-time equivalents), or nearly 20 per cent of the corresponding labour force. This largely explains why the participation rate and the employment rate (also in full-time equivalents) are still below the levels of the early 1970s, before the so-called "Dutch disease" set in. In other words, the socio-economic framework which was introduced in the early 1980s, and which is often referred to as the "Dutch model", has led to a remarkable recovery of the economy in general but, as yet, not to a commensurate decrease in the number of "inactives".

The Netherlands’ population is rapidly ageing, as is occurring in other OECD countries. The number of persons aged 65 and over relative to the working age population is set to double between 2010 and 2030. This will reduce economic growth and increase resource transfers to the elderly, placing pressure on the retirementincome and healthcare insurance systems. The Netherlands is better placed than most other OECD countries to meet these pressures as it has a large, funded occupational pension system. This reduces fiscal pressures from population ageing, although they remain substantial. Pre-funding these budget pressures, enhancing productivity growth, prolonging working lives and containing the increase in transfers to the retired population would reduce the economic costs of this demographic shock. Such reforms would also reduce the exposure of the pension system and, through tax-deductible pension contributions, the budget position to capital market risk. This chapter examines the problem of population ageing in the Netherlands and considers policy options for attenuating the adverse economic effects.