Why does the Netherlands conduct trend-based fiscal policy?

The Sustainable Public Finances Act (Wet Houdbare overheidsfinanciën – HOF) stipulates that the Minister of Finance conducts trend-based fiscal policy, in compliance with European budgetary rules. Trend-based fiscal policy is characterised by a fixed expenditure and revenue framework, allowing tax revenues to move with the economy, and a main budget decision-making moment.

This contributes to three goals: control of public finances, macroeconomic stabilisation and efficient allocation of public resources. We therefore recommend continuing this trend-based fiscal policy.

Control through a fixed expenditure and revenue framework

At the start of the government's term, an expenditure framework is set. This is an annual ceiling for real government spending which may not be exceeded. A revenue framework is also agreed on, which sets out the taxes and contributions the government will levy each year. The government lays down these frameworks in its Budget Memorandum (in Dutch).

Policy revenue and expenditure changes must be offset within the frameworks during the government term. This involves a separation of income and expenditure. Revenue windfalls may not be used to increase government spending and vice versa. This ensures fiscal discipline and control over public spending and the collective tax burden.

Macroeconomic stabilisation via tax revenues moving with the economy

During the government term, tax revenues and unemployment spending are allowed to move with the economic cycle. If the economic situation deteriorates, there will be less tax revenue and unemployment spending will increase. Because the government deficit is allowed to increase, there is no need for immediate budget cuts. This cushions the harmful effects of an economic contraction and ensures a stable policy for households and businesses. From a monetary perspective, stabilising fiscal policy also makes it easier to keep inflation at the target rate. Conversely, in times of economic growth, government balances improve and debt decreases. This creates a buffer to absorb economic setbacks in the future.

Efficient allocation through a main decision-making moment

Each spring, there is one main decision-making moment when the cabinet decides on spending for the following year. Also, every year in August, the cabinet decides on the taxes and social insurance contributions for the following year. A fixed decision-making moment makes the decision-making process more balanced, allows for an integral weighing up of different policy preferences and contributes to policy stability. This ensures efficient allocation of public funds, meaning that every euro is spent as efficiently as possible.

Trend-based fiscal policy thus contributes to control, stabilisation and efficient allocation. But what does it take to conduct trend-based fiscal policy?

European rules as a safety net for trend-based fiscal policy

The Netherlands must abide by European budgetary rules, as set out in the Stability and Growth Pact (SGP). For example, the budget deficit should not exceed 3% of gross domestic product (GDP) and public debt should not exceed 60% of GDP. Even with the recent review (in Dutch only) of the SGP, these rules remain in place.

If the Netherlands does not comply, there is a chance that Brussels will intervene. European rules thus serve as a safety net for trend-based fiscal policy: if the budget deficit exceeds 3%, the budget can no longer move with the business cycle. In that case, additional budgetary measures are needed. Such procyclical policies are undesirable because they reinforce an economic downturn.

Sufficient distance from European rules is important

In its coalition outline agreement, the current government is steering closely to the 3% limit. This means it has little room for manoeuvre to absorb setbacks, increasing the likelihood of procyclical policies and administrative turmoil. This is why the Working Group on Fiscal Space – of which DNB is a member – recommends a fiscal course correction to an actual deficit of around -2% of GDP, or structural budget cuts of around €17 billion from 2028 onwards.

This is necessary to maintain trend-based fiscal policy in the future, and to prevent the government from having to make immediate budget cuts in case of setbacks and pass on bills to future generations. The Working Group also highlights the importance of predictability and stability for the budgeting and decision-making process.