How could housing policy reform increase economic efficiency and reduce volatility?
The large increases in real house prices in the late 1990s followed by the sharp slowdown continues the pattern of recent decades in which there have been large increases in house prices in relation to disposable incomes and high volatility in real house prices by international comparison, amplifying business cycles.
The low price elasticity of housing supply has contributed to both large increases and high volatility in house prices. Housing supply has not been very responsive to demand owing to tough zoning rules, which have restricted the supply of residential building sites, to the growing quantity and complexity of building regulations and to the costliness of acquiring private building sites. The government should ease these constraints, as it is considering doing.
High tax subsidies for owner-occupied housing, especially mortgage financed, and a change in banking policies in the 1990s that increased the amount that could be lent to the increasing number of two-income households, have magnified swings in demand and may have contributed to price volatility. More importantly, the tax subsidies have reduced economic efficiency, notably by raising the excess burden of taxation, and are unlikely still to achieve equity objectives. While the government has taken several steps to limit mortgage interest deductibility when owner occupiers withdraw housing equity, it should go much further, terminating tax subsidies for additional purchases of owner-occupied housing (i.e., grandfathering tax subsidies on existing mortgage loans). This would also reduce the need for rental subsidies (including through rent regulation) to attenuate the effect of high property prices on rents, reducing the efficiency costs of taxation while still achieving social equity objectives.
What is being done to strengthen pension fund supervision and enhance transparency?
The increase in pension fund contribution rates from below the cost-covering level to above it has increased the “tax-like” element of contributions and hence the economic efficiency cost (i.e., excess burden) of pension arrangements and has accentuated the economic downturn. A new supervisory framework in the context of a new Pension Act that will come into effect in January 2006 will reduce the risk of another large solvency crisis occurring. The Principles of the Financial Supervision of Pension Funds that came into effect in March 2004 (and will be elaborated in the Pension Act) will require adequate buffers and should induce more prudent behaviour. For an average pension fund, the Principles require it to restore capital coverage of its nominal (i.e. not indexed) liabilities to 130 per cent within a period of 15 years. This solvency ratio is compatible with the requirement that pension funds should be able to honour their pension liabilities one year ahead with a probability of 97.5 per cent. These Principles should keep the Dutch pension system sustainable.
One of the casualties of the solvency crisis has been indexation of accrued entitlements and pensions. Pension fund boards, which are governed by employers and employees, have judged that the contribution rate increases required to maintain full wage indexation would be unduly harmful to labour market performance. Accordingly, they prefer only to commit to nominal pension liabilities, with price or wage indexation usually conditional on fund performance. In addition, they have agreed to a major shift from final salary to average salary schemes in recent years. This has markedly increased trustees’ discretion to reduce pension replacement rates if fund returns are poor as not only pensions, but also accrued entitlements may end up being only partially indexed. Transparency on these issues should be improved as members need to be able to appreciate their significance and to make supplementary arrangements if necessary. This improvement of transparency should occur now that the Principles have come into effect as they stipulate stringent transparency conditions if a pension fund wants to grant indexed pensions rights while solvency requirements are not fully met. The emphasis in the Principles on transparency regarding indexed pension rights will contribute to making Dutch pension arrangements more understandable for pensioners and the general public.
The full edition of the OECD Economic Survey for the Netherlands is available from:
Return to the OECD Economic Survey - Netherlands 2004 homepage.
A printer-friendly Policy Brief (pdf format) may also be downloaded. The Policy Brief contains the OECD assessment and recommendations, but does not include all of the charts available from the above pages.