Belgium: 2020 Article IV Consultation—Press Release; Staff Report; Staff Supplement; and Statement by the Executive Director for Belgium

2020 Article IV Consultation-Press Release; Staff Report; Staff Supplement; and Statement by the Executive Director for Belgium

Abstract

2020 Article IV Consultation-Press Release; Staff Report; Staff Supplement; and Statement by the Executive Director for Belgium

Context

1. Belgium has been without a full-fledged government for more than a year. Following the fall of the Michel government coalition in December 2018, the May 2019 election further widened the political divide between the Flemish and Walloon regions, resulting in a heightened political fragmentation of parliament. This has made it difficult to find the necessary common ground to form a new government. Past experience suggests that government formation could take time—it required 1½ years in 2010–11—with potentially negative consequences for consumer and market confidence, and thus for domestic activity (Box 1).

2. In this context, there has been no progress toward addressing Belgium’s long-standing challenges (Annex I). While the previous government advanced a number of structural reforms supporting employment and growth and contained the fiscal deficit,1 policymaking has been virtually paralyzed since end-2018. Budgets for 2019 and 2020 were not approved, and key measures under the planned jobs deal were not implemented. This has not been conducive to addressing Belgium’s remaining challenges stemming from high public and rising private debt burdens, an aging population, slowing productivity growth, and climate change.

3. The global coronavirus pandemic represents a new and urgent challenge. The virus has spread rapidly across the globe in recent weeks and months, leading to wide-spread economic disruptions and loss of human life. Belgium has also been affected more recently, with over 300 cases as of March 12. Financial market volatility has been elevated, with the main stock index having declined by about 23 percent since end-February. The rising rate of increase of cases domestically, together with the economy’s trade openness, make Belgium highly vulnerable to the negative consequences of this shock, which could be magnified by the lack of a full-fledged government at this critical time.

Recent Developments

4. Growth remained resilient in 2019, and the labor market continued to improve (Figure 1). Following revisions to the National Accounts data, growth was revised up historically, reaching an average of 1.7 percent over 2014–18. In 2019, growth remained robust, reaching 1.4 percent, supported by private consumption and investment, even as public investment normalized and exports slowed due to weak external demand. The 2019 outturn was above the euro-area average. Growth remained job-intensive, with strong job creation and unemployment falling to a record-low of 5.4 percent, in part reflecting previous labor market reforms. Financial conditions were relatively loose, with private-sector credit growth averaging 5.5 percent last year. Inflation declined to 1.2 percent in 2019, driven by declining energy and food prices, while core inflation picked up slightly to 1.5 percent.

Figure 1.
Figure 1.

Belgium: Political Fragmentation and Policy Uncertainty

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Output Growth Rates

(Percent, four-quarter sum year-on-year)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: IMF WEO.

Political Fragmentation and Policy Uncertainty

The 2019 election outcome deepened the political divide between the regions, complicating the formation of a new government. Traditional center parties lost ground to far right party Vlaams Belang in Dutch-speaking Flanders and to the green party Ecolo in French-speaking Wallonia, as well as to far-left party PTB/PvdA across the regions. Though regional governments have been formed within four months from the elections, federal-government formation negotiations have proven difficult and inconclusive, reflecting the heightened political fragmentation in the new parliament. As a result, Belgium has been governed by a caretaker government since December 2018.

Distribution of Seats in Parliament Across Parties

(2010, 2014, and 2019 legislatures, from inside to out)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: Belgium Ministry of Interior.1/ Crosses the language divide (not strictly a Walloon party).

Can the experience of the 2010–11 political gridlock provide any lessons for the current situation? The last time Belgium was governed by a caretaker government was in 2010–11, when government formation took more than 540 days, following the collapse of the Leterme government in April 2010 and the June 2010 elections. The political gridlock came at a critical juncture, as the euro area debt crisis was still ongoing, compounding Belgium’s vulnerabilities. While the impact of the political gridlock is difficult to isolate from external and other factors, some key lessons from this past episode are:

Output growth: During the 2010–11 period without a government, growth appears to have decelerated faster from its peak than in peer countries, mainly on account of declining private consumption, as consumer sentiment weakened. Business investment and confidence, however, were less affected by political developments. Consumer confidence has also been trending downward in the current period of political gridlock, but the deceleration of output has so far been less pronounced than in peers.

Market confidence: Belgium’s sovereign bond spreads widened sharply in 2010–11, as the ongoing political uncertainty compounded heightened concerns about high-debt economies during the euro-area crisis. This is also reflected in a measure of the domestic component of Belgium’s bond spread,1 which widened during the time of the political gridlock but narrowed subsequently. During the current period, Belgium’s spreads have remained at low levels. Nonetheless, prolonged political uncertainty in combination with negative shocks could put upward pressure on them.

Fiscal policy: Over the 2010–11 period (including the subperiod under a caretaker government), Belgium’s structural primary balance deteriorated by 0.4 percent of GDP, more than in neighboring countries (the euro area tightened fiscal policy on average). The current fiscal situation is markedly worse than in 2010–2011 and, with higher aging pressures than experienced during 2010–11 and a caretaker government without majority in parliament (unlike the previous 2010–11 episode), a much sharper deterioration is expected over the medium term in the absence of reforms.

1 The domestic component is estimated using a VAR analysis of sovereign-bond spreads in 14 European countries. See IMF Country Report No. 12/56.

5. The public finances, however, deteriorated sharply (Figure 2). Following a period of sustained consolidation since the global financial crisis, the fiscal deficit widened to an estimated 1.7 percent of GDP last year from 0.7 percent in 2018. This was primarily driven by a 1 percent of GDP fall in tax revenues, largely due to lower personal income taxes (PIT) related to the tax-shift reform and to a normalization in corporate income tax (CIT) receipts. Public spending remained broadly unchanged, as rising social benefits were largely offset by lower capital and interest spending. At close to 100 percent of GDP, public debt remained among the highest in the euro-zone.

Figure 2.
Figure 2.

Belgium: Macroeconomic Context

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Overall Balance

(Percent of GDP)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: NBB (Haver Analytics) and Staff calculations.

6. The current account deficit is estimated to have reached 1.2 percent of GDP in 2019 (Figure 3). The trade balance stayed around zero, while the income balance surplus was insufficient to offset the deficit due to current transfers. The external-balance assessment (EBA) model yielded a current account norm of 2.4 percent of GDP in 2019, implying a preliminary estimated current account gap of 3.5 percent below the norm. Unit labor costs (ULCs) increased in recent years, as wage growth picked up following earlier wage moderation, and productivity growth stagnated. Consequently, the ULC-based real effective exchange rate (REER) appreciated by 2.7 percent since 2016, compared to a 1.5 percent appreciation of the nominal effective exchange rate, while the export market share stabilized at a low level. Based on preliminary data and EBA model results, the 2019 external position is estimated to have been weaker than medium-term fundamentals and desirable policy settings would imply, subject to large statistical and model uncertainty (Annex II).2

Figure 3.
Figure 3.

Belgium: Fiscal Context

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: NBB (Haver Analytics), Belgian authorities, and Staff calculations.

Outlook

7. Growth is expected to decline to 0.8 percent this year due to the coronavirus outbreak. The outbreak is expected to affect both supply (through supply chains and a reduction of services, including transportation and tourism) and demand (through confidence and delayed purchases and investments) and shave off some 0.5 percent of growth this year. Domestic demand will be significantly affected in the first half of the year, as individuals reduce private consumption and firms postpone investment (in addition to an expected investment moderation from the peak achieved in previous years and in response to ongoing macro-prudential measures). Both exports and imports are also expected to remain subdued in the first two quarters of the year, with third quarter tourism also affected as individuals cancel planned travel. As a result, quarterly growth in the first half of the year is projected to stagnate relative to an average of 0.4 percent in the second half of 2019, with a gradual recovery envisaged toward the second half of 2020. Inflation is projected to stay subdued at around 1.1 percent this year. The baseline scenario is based on current policies and assumes a normalization of the political situation during 2020.

Belgium: Selected Economic Indicators, 2018–25

article image
Sources: Haver Analystics, Belgian authorities, and IMF staff calculations.

8. Over the medium run, growth is projected to stabilize at its potential rate of around 1.3 percent. Potential growth is expected to be supported by stable capital accumulation and continued employment growth, reflecting recent labor-market reforms. Total factor productivity growth is set to rebound from recently low levels but will contribute to medium-term growth only modestly in the absence of additional structural reforms.

Potential Growth Decomposition

(Annual Percent Change)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: IMF staff calculations

9. The outlook remains clouded by unusual uncertainty and downside risks (Annex III). Domestic and global projections are particularly difficult to make in the context of a rapidly changing situation related to the coronavirus outbreak and are magnified by uncertainty regarding behavioral responses (including panic) to the unfolding crisis. Thus, risks remain firmly on the downside, related to more prolonged and disruptive effects due to the coronavirus outbreak, weaker-than-expected global and European growth, trade tensions due to rising protectionism and uncertainty about the final Brexit arrangement,3 a sharp rise in risk premia, and a further build-up of financial vulnerabilities. Continued policy uncertainty and paralysis associated with further delays in the formation of a new government could weigh on confidence and activity in the near term and on potential growth in the long run. On the flipside, a successful conclusion of the formation process could see a freshly mandated government accelerate reforms that can support growth.

Authorities’ Views

10. The authorities broadly shared staff’s views on the outlook and risks. At the time of the mission, they generally expected slightly higher growth in the near-term (1.2–1.4 percent), as somewhat stronger domestic demand should offset a weaker external contribution. Over the medium run, the National Bank of Belgium (NBB) saw growth remaining below its potential level of 1.3 percent, largely due to subdued investment and continued loss of export market share. The authorities agreed with staff’s assessment of risks and noted their continued efforts to prepare for a no-deal Brexit, while monitoring emerging risks from the coronavirus closely.

Policy Discussions

11. Belgium is at a difficult crossroads: political gridlock paralyzes policymaking, while rising risks and medium- and long-term challenges put a premium on reforms. The cost of policy inaction rises over time and is compounded by emerging risks, such as the coronavirus outbreak. In the near term, the policy priority should be to contain the spread and damaging effects of the coronavirus through targeted temporary fiscal and financial support measures. A new government should use its fresh mandate to implement a comprehensive package of reforms to strengthen the economy’s resilience to future shocks and support higher, more inclusive growth. A policy mix focused on addressing high and rising fiscal risks through a growth-friendly medium-term fiscal consolidation, while continuing to monitor macro-financial risks and reinvigorating growth-enhancing structural reforms could help tackle vulnerabilities while supporting growth:

  • Rebuilding fiscal buffers and safeguarding sustainability: A credible, sustained, and growth-friendly medium-term consolidation strategy is needed to put the deficit and debt on a firm downward path by containing aging costs, improving spending efficiency, and reorienting the budget toward growth-friendly areas.

  • Achieving higher, more inclusive, sustainable growth: Additional reforms to increase participation in the labor market, especially for vulnerable groups, are needed, and should be followed by further labor-market reforms to strengthen work incentives, including for women, foster mobility, and improve flexibility, along with complementary reforms to reduce red tape, boost competition in key sectors, and support financing of innovative firms, will be key to support long-term growth. A comprehensive and coordinated policy strategy in support of climate targets is also needed.

  • Guarding against broader financial sector risks and continuing to bolster the resilience of the financial sector over the medium run: Elevated private-sector leverage warrants continued close monitoring and readiness to use macroprudential policies. Efforts should continue to improve reporting, bank resolution, and deposit insurance frameworks.

A. Rebuilding Fiscal Buffers and Safeguarding Sustainability

12. The fiscal deficit is projected to widen to around 3 percent of GDP in the medium run. In 2020, the deficit is expected to reach 2.3 percent of GDP, on account of lower revenues due to the pre-legislated CIT and employers’ social contributions reductions and rising aging-related social spending. Over the medium run, interest savings associated with lower interest rates will be insufficient to offset rising primary spending, driven by growing pension and health costs and a resumption of full-benefit indexation after recent freezes and cuts. This is expected to bring the deficit to just above 3 percent of GDP by 2025 (relative to the MTO of balance), representing a structural deterioration of the overall and primary balances of 1.2 and 1.8 percent of GDP, respectively. There are risks that the deficit could be even higher, given calls for hiking minimum pensions, lowering VAT rates for electricity, and the potential for overspending on regional investment programs without offsetting budgetary measures.

Baseline Fiscal Projections

(Percent of GDP)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: IMF Staff projections.

13. In the long run, public debt under the baseline scenario is on a rising trajectory. Over the medium run, public debt remains high (100 percent of GDP) and its dynamics, while currently supported by the negative interest-growth differential, are vulnerable to shocks, particularly a macro-fiscal or contingent liability shock (Annex III). More worrisomely, in the long run, baseline debt is projected to be on a rising trajectory due to large and increasing pension and long-term care costs due to population aging and generous benefit indexation.4 Thus, while Belgium’s ample access to markets at currently low interest rates allows for some fiscal space to deal with shocks, Belgium’s fiscal space is at risk when fiscal rules (and long-term considerations) are taken into account.5

Cost of Aging 2016–70 1/

(Percent of GDP)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: 2018 EC Aging Report.1/ Projected increase in spending on pensions, health care, and long-term care.

Public Debt and Primary Balance

(Percent of GDP)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: 2018 EC Aging Report and Staff estimates.

14. The policy priority should be to contain the damaging effects of the coronavirus through targeted temporary support measures. The caretaker authorities have recently taken targeted measures to support affected firms and individuals, including to facilitate access to temporary unemployment, redistribute and defer direct tax payments, provide financial support to the self-employed, and suspend penalties for delays by suppliers of the public sector. They should continue to monitor the situation closely and take further temporary measures as needed, including to bolster capacity and resources for the health system by making full use of the (recently increased) health envelope and continue to support vulnerable groups and firms affected by the outbreak, while allowing automatic fiscal stabilizers to work.

15. A credible medium-term consolidation strategy is essential to build fiscal buffers and restore long-term sustainability. Once a new government is formed, the authorities should design and implement a medium-term consolidation strategy that carefully balances near-term and long-term sustainability concerns. With the output gap closed but the coronavirus outbreak still developing, targeting a broadly neutral structural stance this year (net of emergency temporary measures related to the coronavirus outbreak), followed by an average annual structural adjustment of around 0.6 percent of GDP during 2021–24 could help attain the MTO by 2024 and put debt on a firm declining path in the medium and long term.6,7 This will still require a fiscal effort of around 0.4 percent of GDP this year to finance tax reductions and spending increases not related to the coronavirus emergency, and around 0.6–0.7 percent of GDP per year in 2021–24 relative to the baseline. The flat adjustment in structural terms under the baseline this year is appropriate, given the potential but temporary needs due to the coronavirus risk as well as the uncertainty regarding the time needed to form a new government and take structural adjustment measures (assumed in the second half of the year, when the economy recovers). Preserving policy credibility will be essential, including by specifying (and pre-legislating, to the extent possible) future medium-term reforms to safeguard medium-term deficit and debt sustainability objectives.

Belgium: Fiscal Projections

(Percent of GDP)

article image
Source: IMF staff calculations.

Assumes that the fiscal adjustment is expenditure-based.

16. Growth-friendly spending reforms should underpin the medium-term fiscal adjustment. At over 52 percent of GDP at end-2018, Belgium’s public spending was the third largest in Europe. Staff’s analysis indicates that spending on social benefits, subsidies, and the wage-bill exceeds that of peers, suggesting scope to rationalize and improve its efficiency (Annex IV). This can not only support the adjustment, but also help reorient the budget toward more growth-friendly areas, such as public investment, skill upgrading, and support for the integration of vulnerable groups in the labor market (see Section B). Moreover, as noted above, substantial aging-related costs pose an additional long-run challenge that must be addressed. In this context, efforts should focus on the following areas:

  • Health care: Healthcare spending is high relative to peers and is expected to rise further with population aging. While in the near term it will be essential to ensure that the health system has adequate resources to deal with the coronavirus emergency, in the medium run, a strategy is needed to contain costs by strengthening overall cost controls through binding spending ceilings, promoting preventive healthcare, and focusing reimbursements on generic medicines.

  • Pensions: Building on previous pension reforms, the new government should consider further measures to limit aging costs over the medium and long run, including by accelerating the pace of increase in the effective retirement age (now 61.1 compared to the OECD average of 64.6) and linking the minimum retirement age to gains in life expectancy (e.g. by introducing a sustainability factor linked to life expectancy), as well as revisiting the mechanism governing real increases in pension and other social benefits, which are generous by international standards.

  • Other social benefits: While in the near term, temporary and targeted measures will be essential to support individuals affected by the coronavirus outbreak, including as a result of sickness, loss of employment, etc., once the situation normalizes, there is scope to improve the targeting of social benefits while protecting the most vulnerable, including by reforming the unemployment system to strengthen incentives to return to work, tightening controls on sickness and disability benefits, which have increased rapidly in recent years, and better targeting family benefits, including to support women’s participation in the labor force.

  • Subsidies: With spending on subsidies, especially exemptions, having increased to levels well above peers, there is scope to improve their efficiency, including for R&D, where evidence suggests that overlapping schemes lead to decreasing returns.8 The company-car scheme, which is costly and adds to pollution, should also be revisited.

  • Wage bill: Reforms should focus on reducing fragmentation and duplication in the public administration, while streamlining the civil service, particularly at the subnational level.

Contribution to Spending Gap vis-à-vis EU14

(Percent of GDP, 2017)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Sources: Eurostat and IMF staff calculations.

17. Further tax reforms could provide space to reduce the labor tax wedge in a budget neutral way. Belgium’s tax burden remains among the highest in Europe, even after recent reforms. To create space to lower the labor tax wedge and support employment and growth in the medium run, reforms should focus on broadening tax bases and reducing exemptions. For example, tax expenditures have proliferated over time, eroding efficiency.9 Value-added tax expenditures are particularly high and could be reduced by harmonizing rates to improve efficiency. Moreover, the taxation on capital could be further simplified to restore neutrality between: (i) salary and dividends payments (e.g., by increasing dividend withholding taxes), (ii) distributed profits and retained earnings (e.g., by considering a personal capital gains tax or a deemed-distribution tax),10 (iii) rental and other forms of income (e.g., by taxing actual rental income net of expenses), and (iv) different asset classes (e.g., by reducing tax privileges for savings accounts and life insurance).11

Average Tax Wedge By Labor Income

(In percent of labor cost, for a single person with no child) 1/

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: OECD Tax Statistics.1/ Low income: 67 percent of average earnings.

Authorities’ Views

18. The authorities agreed with the need to put the deficit and debt on a sustained downward path. The caretaker authorities noted that the lack of a parliamentary majority makes it difficult to take consolidation measures in the near term, although, after the mission, they notified the urgent measures taken in response to the coronavirus outbreak. They concurred that the new government should implement a credible medium-term strategy to bring the deficit toward the MTO and reduce debt, while noting that some flexibility with regards to investment may be necessary, given Belgium’s important needs for infrastructure and green investments. The NBB stressed the importance of a relatively more ambitious structural adjustment in the near term to boost credibility and ensure adherence to European rules. Interlocutors agreed that the adjustment should be largely expenditure-based, aiming to improve spending efficiency and increase labor-force participation, including for older workers.

B. Raising Potential Output

19. A fragmented labor market and low productivity growth are constraining Belgium’s long-term potential (Figure 4). Despite past reforms, Belgium’s employment and labor-force participation rates remain among the lowest in Europe, particularly for the young, old, low-skilled, non-EU born, and women, reflecting limited flexibility of the labor market, obstacles to labor mobility, and skills mismatches.12 While Belgium’s labor-productivity level is relatively high, its growth rate has slowed over the last two decades, averaging around 0.9 percent, less than half its historical trend. This is primarily due to a decline in total factor productivity (TFP) growth, reflecting not only common trends across advanced economies (e.g. the shift from manufacturing to services, weaker technology diffusion across firms, and population aging), but also Belgium-specific factors, such as weak business dynamism, restrictions to competition in product and service markets (among the highest relative to peers), low public investment, and ineffective R&D spending.13

Figure 4.
Figure 4.

Belgium: Competitiveness

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

20. Additional labor market reforms are needed to boost labor-force participation and inclusiveness and boost flexibility. In the near term, efforts should focus on providing temporary support to individuals and firms affected by the coronavirus outbreak. Once the situation normalizes, the authorities should continue efforts to integrate vulnerable groups through active labor-market policies and more effective training and dual-learning programs. Over the medium run, the new government should implement further reforms to: (i) bolster female labor force participation by revamping parental leave policies (where Belgium has scope to align with peers) and reducing tax disincentives for secondary earners; (ii) strengthen work incentives by reforming the unemployment- benefit system (options that could be considered include increasing degressivity, limiting the duration of benefits, and bringing replacement rates closer in line with peers); (iii) support labor mobility by improving public transport across regions and reducing real-estate regulatory and tax barriers (e.g. by shifting from real-estate transaction to recurrent property taxes);14 and (iv) boost flexibility by aligning wages with productivity at the firm level (including via opt-outs and reducing the weight of seniority in compensation) and increasing the flexibility of collective dismissals.

Labor Productivity 1/

(Index, 1980=100)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

1/ Real GDP per hour worked.Sources: OECD and IMF Staff calculations.

Contributions to Labor Productivity Growth

(Percentage points)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: IMF Staff calculations.

Training Participation Rate of Low Educated, 2018

(Percent training lasting for four weeks)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: OECD 2018 Product Market Regulation Database.

Employment Rate by Group, 2018

(Percent)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Sources: Eurostat, Haver Analytics, and Staff calculations.

21. Complementary medium-term reforms are also needed to support business dynamism, boost competition, and green the economy. Following measures to widen the scope of the insolvency law, facilitate out-of-court restructuring, and streamline firm-incorporation requirements in 2018, new measures strengthening the competition authority were adopted in mid-2019. Building on these and the common ground across party-lines, the existing or new authorities should intensify reform efforts to: (i) further reduce red tape for start-ups and ease regulatory restrictions in retail trade and distribution and professional services; (ii) support innovation by reducing tax incentives for safe assets, making use of the Belgian growth fund to support venture funding of innovative firms,15 and improving the efficiency of R&D tax incentives (see paragraph 16); and (iii) increasing investment in infrastructure, fiscal space permitting.16

Product Market Regulation

(Indicator score)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: OECD PMR 2018.

Business Dynamism, 2017

(Percent of all firms) 1/

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

1/ Percent of employer firms for BEL, LVA, and NOR.Sources: OECD.

22. The new government should prepare a comprehensive and coordinated policy strategy to address climate change and take advantage of the opportunities from the transition to a green economy. Belgium has ambitious medium and long-term objectives for reducing emissions of greenhouse gases. However, progress has been limited, and current policies will be insufficient to attain the targets. Among policy options that could be considered by the new government, in collaboration with regional governments and EU institutions, are: (i) feebates or regulations to incentivize emissions reductions; (ii) introducing carbon taxes in an equitable manner, the revenues from which could be used to compensate vulnerable households and boost green investment; and (iii) extending the emissions-trading system (ETS) to cover more sectors (Box 2).

Initial Considerations on Climate-Mitigation Efforts in Belgium

Under the 2015 Paris Agreement, Belgium committed to reduce emissions of greenhouse gases by 80–95 percent by 2050. Under the new Green Deal, these targets could become even more ambitious and frontloaded (reductions by 50 percent by 2030). So far, Belgium has lagged behind its targets. In part, this reflects that only 37 percent of its emissions are priced via the EU Emissions Trading System (ETS). The remaining 63 percent is not subject to any explicit carbon price and is concentrated in the transport and the buildings sectors, followed by agriculture and others.

Emissions

(Percent of total CO2 emissions)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: European Commission.

Belgium’s main policy tools to reduce emissions are fuel excise taxes on road transportation, and, to a lesser extent, other transport taxes. Nonetheless, at 2¼ percent of GDP, Belgium’s overall environmental tax burden (relative to GDP) is relatively low compared to peers, and below the EA average. Belgium also uses a relatively lower level of environmental subsidies (1.4 percent of GDP) than peers.

Environmental Taxes, 2017

(Percent of GDP)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: European Commission, Eurostat.

Energy Subsidies, 2017

(Percent of GDP)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: IMF Country-level Subsidy Estimates Database, 2018.

Belgium has room to accelerate its efforts to facilitate the transition toward a low-carbon economy. According to the OECD’s carbon pricing-gap measure (capturing how much economies fall short of pricing carbon emissions in line with a carbon-price benchmark value), Belgium’s gap (65 percent) is the highest among peers. As suggested in the IMF October 2019 Fiscal Monitor, among the policy options that could be considered to reduce this gap are: (i) “feebates” (systems of fees and rebates on products or activities with above or below-average emission intensity) or regulations (e.g. emission-rate and energy-efficiency standards); (ii) carbon taxes, which are among the most efficient tools to incentivize a shift to cleaner energy consumption (already in use in several European countries), the revenues from which could be used to compensate vulnerable households and boost investment in green technologies; (; and (iii) extending the ETS to cover more sectors (e.g. industry).

Carbon Pricing Gap, 2015

(Percent deviation of carbon price from OECD benchmark value)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: OECD.

Authorities’ Views

23. The authorities agreed that boosting labor force participation and productivity growth is critical to lift potential growth and support fiscal sustainability in the medium run. They emphasized the employment gains from past reforms but recognized that more needs to be done to integrate vulnerable groups in the labor market and address skills mismatches. They pointed to positive results for improving access to venture capital, including through the Belgian Growth Fund, but acknowledged that further efforts are needed to reduce red tape and regulations. They also concurred with the need for a clear strategy to achieve emission reduction targets, noting the importance of strong coordination both across regions and with European partners and institutions.

C. Safeguarding Financial-Sector Stability

24. While resilient, the financial sector faces new challenges. The post-crisis deleveraging, de-risking and reorientation on the domestic market has strengthened banks’ resilience, while capital and liquidity buffers have been bolstered.17 Likewise, insurance companies have increased solvency ratios and reduced exposures to guaranteed rates. However, low interest rates have put pressure on profitability, leading banks to ease credit standards and insurers to reallocate assets toward corporate and mortgage-lending products.18 Should low interest rates persist, this could rekindle concerns about adequate pricing of risks and future loan performance, as well as about the sustainability of business models of smaller banks that have less options to diversify and less resources to adapt to digitalization.19 The coronavirus outbreak adds to the challenges, should individuals and firms face difficulties in repaying their loans.

Lending and Deposit Rates 1/

(In percent)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

1/ Deposits with agreed maturity.Source: ECB.

25. Strong credit growth has pushed up leverage, particularly for households. Household debt increased to 61 percent of GDP and 105 percent of disposable income by end-September 2019, due to strong mortgage lending.20 Credit-growth to firms also continued robustly last year (5.1 percent), albeit slower than its rate of 7.6 percent in 2018. Belgium’s non-financial corporate debt has remained around 120 percent of GDP on a consolidated basis, and 64 percent of GDP when adjusting for intragroup loans.21 In line with the National Bank of Belgium (NBB), staff assesses that bank credit to the non-financial private sector relative to GDP in 2019 was above its trend (Box 3).

Non-Financial Corporate Debt Ratio, 2018

(Percent of GDP)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Sources: Haver, NBB, and IMF staff estimates.

Non-Financial Private Sector Debt Ratio

(Percent of GDP)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: NBB and Staff calculations.

26. In this context, housing-market vulnerabilities continued to build during 2019 (Figure 5). House-price growth has been modest, but valuations remain stretched, with price-to-rent and price-to-income ratios still well-above their historical averages and estimated equilibrium values.22 The share of new mortgage loans with high loan-to-value ratios (LTV>90 percent) and/or debt-service-to-income ratios (DSTI>30 percent) has steadily increased in the past years, exposing banks to credit risk in case of a sharp house-price correction. While sizable household financial assets (close to 170 percent of GDP) mitigate risks, assets may not be evenly distributed across households, and new households (with typically lower assets) account for a sizeable share of new loans (43 percent in H12019), of which almost half had an LTV ratio exceeding 90 percent. The coronavirus outbreak could thus have a material impact on bank asset quality.

Figure 5.
Figure 5.

Belgium: Structural Barriers to Growth

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Figure 6.
Figure 6.

Belgium: Housing Market Vulnerabilities

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Mortgage Lending

(Year-on-year percent change)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: Haver (NBB) and Staff calculations.

Mortgage Loan-to-Value Ratios at Origination

(In percent, vintages up to 2019H1)

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: NBB.

27. To address these vulnerabilities, the supervisory authorities have taken additional macroprudential measures over the last year. Following measures taken in 2018 to increase risk weights on banks’ mortgage loans,23 in June 2019, the NBB activated the countercyclical capital buffer (CCyB), at a rate of 0.5 percent, allowing banks until July 2020 to comply. In October 2019, the authorities issued supervisory expectations setting limits on the share of high-risk mortgage loans that banks and insurers can issue,24 following the ESRB’s 2019 recommendation to address housing-market risks.

28. The authorities should remain vigilant and stand ready to take additional measures as needed to address near-term risks related to the coronavirus. The supervisory authorities should continue to monitor risks closely, especially given the rapidly evolving coronavirus outbreak. In this regard, their most recent decision to release the CCyB is welcome, as it can help free up capital buffers that can be used to absorb any potential loan losses and thus help to preserve financial stability during the current coronavirus crisis. Should banks face difficulties related to losses associated with the impact of the coronavirus, if needed, they could also support financial intermediation by considering additional temporary measures on capital relief. The authorities could also encourage banks to undertake loan restructuring as appropriate based on prudent risk management standards and in line with existing guidelines.

29. Staff welcomed progress in implementing other FSAP recommendations (Table 6). 25 Looking forward, efforts should continue to: (i) stand ready to use macroprudential policies as needed and revisit the framework for macro-prudential decision-making to ensure the ability to deploy macro-prudential policies effectively and timely (e.g. by granting the NBB the power to implement directly cyclical macroprudential policies without the need for prior approval by the Minister of Finance or government); (ii) complete the technical standards on the reporting of intra-group transactions, risk concentration, and capital adequacy for financial conglomerates; (iii) ensure the feasibility and effectiveness of bank-resolution strategies, including by maintaining a sufficient and consistent allocation of MREL as needed; and (iv) strengthen deposit insurance by legislating the segregation of the Guarantee Fund from the government funds, once the new government is formed. Finally, the authorities should encourage banks to continue to rationalize costs (e.g. related to staffing and dense branch networks), strengthen governance, and adapt their business models to support profitability and prepare for the challenges related digitalization and a potentially prolonged period of low interest rates.26

Assessing Belgium’s Position in the Credit Cycle

Identifying excessive credit growth is critical to prevent a build-up of systemic risk.1 The Basel Committee introduced the credit-to-GDP gap in 2010 to guide macroprudential policy decisions regarding the counter-cyclical capital buffer (CCyB). The credit gap measures the deviation of the credit-to-GDP ratio from its long-term trend, with widening positive gaps signaling growing imbalances that, left unaddressed, could result in a credit boom-bust.

For Belgium, standard BIS/ECB measures imply a large negative credit gap, while the NBB’s measure points to a positive credit gap since late 2017. Using BIS’s standardized HP-filter methodology based on total credit to the non-financial private sector and related ECB measure excluding external credit, Belgium’s credit-gap estimates hover around -19 to -24 percent (end-September 2019). The NBB’s measure, which employs the same methodology but includes only resident-bank credit to the non-financial private sector). yields a positive credit gap of 1.5 percent at end-September 2019, down from a peak of 2 percent in June, driven by credit to non-financial corporates (NFCs).

Standardized Credit to GDP Gap

(Deviation of credit-to-GDP from its long-term trend in percent) 1/

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Sources: ECB and BIS (Haver Analytics).1/ Credit to the non-financial private sector (BIS); excluding external credit (ECB).

Adjusted Credit to GDP Gap and Decomposition

(Deviation of credit-to-GDP from its long-term trend in percent) 1/

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: NBB.1/ Domestic bank credit (including securitized loans) to the non-financial private sector (HP filter consistent with BIS methodology).

Alternative credit-gap estimates developed by the IMF suggest a modest positive credit gap at end-2019. While the Basel credit-gap methodology has been widely used, it has limitations, including: (i) an inability to take into account financial deepening or liberalization; (ii) a tendency for large credit booms to inflate the trend; and (iii) statistical problems related to HP filters. IMF (2020) propose two complementary structural approaches: (i) a multivariate filtering (MVF) method that jointly estimates the cyclical component of credit and other macroeconomic variables; and (ii) a model-based method (ECM) that estimates the credit trend based on long-term fundamentals using panel regressions.2 Using the same credit definition as the NBB, the MVF approach yields a small positive gap of 1.1 percent (Sept. 2019), while the model-based empirical approach yields a somewhat larger positive gap of 7.3 percent (2018). The NBB’s financial condition index (FCI) capturing various dimensions of macroprudential risks in a single indicator3 comoves closely with the estimated MVF credit gap and confirms that cyclical systemic risks have lingered in Belgium in 2019.

Credit Gaps and Financial Condition Index (FCI)

(In percent (MVF) and log differences (ECM); index ranging from 0 to 1 (FCI))

Citation: IMF Staff Country Reports 2020, 091; 10.5089/9781513538839.002.A001

Source: Baba and others (2020) and NBB1/ Broad-based composite indicator of domestic financial conditions.
1 See Drehman and others, 2011; Drehman and Juselius, 2012; IMF, 2011; IMF 2013, and Lund-Jensen, 2012.2 See IMF Working Paper No. 20/63 The FCI is a broad-based composite indicator of domestic financial conditions covering credit growth, real estate, private sector debt, banking sector and financial market conditions, see Cordemans, N., Tielens, J and Ch. Van Nieuwenhuyze (2019).
Table 1.

Belgium: Selected Economic Indicators, 2018–25

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Sources: Haver Analytics, Belgian authorities, and IMF staff projections.

Contribution to GDP growth.

As of December 2019.

Table 2.

Belgium: Balance of Payments, 2018–25

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Sources: Haver Analytics, Belgian authorities, and IMF staff projections.
Table 3.

Belgium: General Government Statement of Operations, 2018–25

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Sources: Haver Analytics, Belgian authorities, and IMF staff projections.
Table 4.

Belgium: General Government Consolidated Balance Sheet, 2010–18

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Sources: Haver Analytics and IMF staff calculations.
Table 5.

Belgium: Financial Soundness Indicators for the Banking Sector, 2010–191

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Sources: National Bank of Belgium.

Consolidated data. Data are based on the IAS/IFRS reporting scheme.

Only loans to households as of 2014

Excluding saving certificates as of 2014

Deposits booked at amortized cost only.

Only household deposits as of 2014

Unconsolidated data.