Why inflation is lower in the Netherlands than elsewhere

Inflation in the Netherlands rose to 2,7% in September compared to a year earlier. That was 2,4% in August and 1,4% in July. Inflation is rising all over the world, including us. Of that 2,7%, 1,2 percentage points come from more expensive energy alone. Gas was 18,3% more expensive in September than a year earlier (was 13,4% in August) and electricity was 24,4% (was 16,3% in August).

That is actually not that bad, because the international gas price has gone upside down a few times since a year ago. The fact that the price increase for gas for consumers is much less is because only slightly more than 40% of the consumer price is determined by the gas price itself. The rest are levies, taxes and network management costs. There are also delays and it seems likely that consumer energy prices will continue to rise for the foreseeable future unless the government decides to cut tariffs and taxes. Incidentally, it is funny that some who are now calling for the loudest that something should be done about those prices in the longer term are in favor of higher energy prices to reduce consumption in the context of climate policy.

The graph nicely shows the difference between headline inflation and so-called core inflation, excluding energy, food, alcohol and tobacco. It turns out that those components are the main driver behind the rise in inflation.

Is our inflation in line?
If you think that the rest of inflation is not that bad in our country, I must correct you. Of course, in our country inflation rates are clearly lower than in many other countries. Inflation in the eurozone as a whole stood at 3,4% in September on the so-called HICP measure. The same benchmark was 3,0% in our country.

The difference between our inflation and the eurozone average is mainly due to government intervention in rents. The government has decided that housing rents in the social sector may not be increased for the next three years. House rents have a weight of 8% in the inflation basket. The year-on-year increase in residential rents fell to 0,8% in July, from 2,9% in June. Rents in the 'free sector' are also allowed to rise only slightly from July. As a result, the year-on-year increase in imputed rental property has fallen from 2,8% in June to 0,7% from July. It's ironic that while some argue that house prices should factor into inflation and then inflation would be much higher, the actual way of including housing costs is actually depressing the inflation rate. This component – ​​imputed rental of owner-occupied home – has a weight of 15,8% in the inflation basket. The intervention in the rents thus depresses the price level as calculated according to the CBS by approximately 0,5%. What such an intervention in the rents looks like becomes clear in the following picture. So, while others regularly argue to include house prices in inflation, I would suggest that rents and imputed rents be removed from the inflation basket in the short term. What will our inflation figure say if the government largely freezes the prices of almost 25% of the inflation basket?

Anecdotal evidence of rising inflation expectations
The discussion about the inflation outlook continues. Meanwhile, central banks and organizations like the IMF are recognizing that the rise in inflation is stronger and taking longer than they thought. The self-assurance with which they previously proclaimed that higher inflation would be temporary has taken quite a beating. They actually have no idea. Higher inflation naturally erodes purchasing power and thus affects economic growth in the short term. It is no coincidence that growth estimates for 2022 are under the magnifying glass and may then be lowered.

Economists often argue that inflation expectations are crucial for the development of inflation in the medium term. That's why central bankers are looking anxiously at various indicators, such as consumer surveys, professional forecasters, and also what you can infer from the pricing of various types of bonds and swaps. So far, the information thus found reassures them. However, you could also look at what is actually happening. I spoke to an entrepreneur from mechanical engineering this week. According to his own words, he is in the 'premium segment'. This means that his machines are among the best available and that customers consider quality even more important than price. Faced with cost increases, he is forced to implement price increases. When he tried to raise his prices in the past, the buyers vehemently resisted this. It's very different now, he says. High price increases are accepted without problem. And relatively quick successive price increases too. I think such a change is an indication that inflation expectations may be spinning after all. When I asked him if he would cut his prices again when costs drop back to normal levels, he laughed. He didn't intend to do that in advance: you shouldn't lower the prices of premium products…

German factory orders take a hit
For months I have been writing about the divergence of factory orders and production in Germany. Orders are flooding in, but German industry is unable to increase production accordingly. This has everything to do with supply problems with regard to raw materials, materials and semi-finished products. The automotive sector, which accounts for about 4% of the German economy, is particularly affected by the global shortage of memory chips.

It has always been the idea that activity and thus economic growth will explode once the supply problems have been resolved. And that remains the scenario that economists can best adopt, although no one knows when those problems will diminish, let alone be solved. The risk is that customers who do not receive delivery will cancel their orders and certainly no longer place new ones. I have therefore followed the development of the German factory orders with suspicion and even more interest than usual.

In August it finally happened. Factory orders fell by a whopping 7,7% compared to July. Now they had increased significantly in June and July and maybe there is a lot of noise in the numbers. But what happened in August according to the figures seems logical. And it's certainly not a good sign.

Not much better on the production side
August was also not a good month for the production side in Germany. Production decreased by 4,6% compared to July. Compared to August 2020, production was a mere 1,9% higher and compared to August 2019 and August 2018, production was 10,0% and 13,6% lower, respectively.

The problems in German industry are mainly caused by the automotive industry. The trouble there has actually already started with 'dieselgate' and the transition to other emission standards for the admission of cars. Also, automakers seem to have moved production abroad and have been late in developing and producing electric cars. Now that the German car companies are catching up in the latter area, they are being hit by the chip shortages. I am told that there are 50% more chips in electric cars than in cars with a combustion engine.

This is also nicely reflected in the following chart, which shows the indices of the manufacturing industry in Germany and the Netherlands. The hole is getting very big. Our average daily production in industry was 9,8% higher in August than a year earlier and 6,1% higher than in August 2019. That is quite a difference with the -10,0% in Germany. Although the Dutch industry is an important supplier to German companies, the declining production in Germany still has few negative effects on the production level here. Fingers crossed.

International economy cools down considerably
In recent weeks I have written regularly about the cooling of the international economy. We don't need to add much to that this week. The Federal Reserve in Atlanta publishes a weekly 'nowcast' (as distinct from a 'forecast') of US GDP. They call it 'GDPNow' (apparently they even patented that name). The figure is not a prediction, but a reflection of the economic figures published until then. The last chart shows a picture of this GDPNow for the third quarter.

When the figures for GDP in the third quarter started at the end of July, an (annualized) growth of more than 6% seemed likely. The estimate has since fallen to 1,3%. That is quite a tumble and is a reflection of disappointing figures in recent weeks. It also reflects that the growth rate has fallen sharply in the course of the third quarter. That doesn't bode well for the fourth quarter, which apparently started weakly. Incidentally, it is also striking how far apart the GDPNow and the forecasts of economists in the private sector, summarized in the Blue Chip Consensus, are. We'll see what it becomes.

Balance
This week's key economic indicators are a continuation of recent weeks: higher inflation and lower growth. Capital market interest rates have risen somewhat in response and the stock market has seen relatively sharp rises and falls within a few days. I think that the uncertainty that speaks of that is far from over. The big question is how far the economy will eventually sink. The risk that we will end up in a contraction, ie a recession, in the course of 2022 seems small to me, but the risk is increasing.

Hans de Jong

Han de Jong is a former chief economist at ABN Amro and now a resident economist at BNR Nieuwsradio, among others. His comments can also be found on Crystalcleareconomics.nl

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