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SEK (2009) 0187
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COMMISSION OF THE EUROPEAN COMMUNITIES

Brussels, 18 February 2009

SEC(2009) 187

Recommendation for a

COUNCIL OPINION

in accordance with the third paragraph of Article 9 of

Council Regulation (EC) No 1466/97 of 7 July 1997

On the updated convergence programme of Denmark, 2008-2015

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EXPLANATORY MEMORANDUM

ENERAL BACKGROUND

The Stability and Growth Pact is based on the objective of sound government finances as a

means of strengthening the conditions for price stability and for strong sustainable growth

conducive to employment creation. The 2005 reform of the Pact acknowledged its usefulness

in anchoring fiscal discipline but sought to strengthen its effectiveness and economic

underpinnings as well as to safeguard the sustainability of the public finances in the long run.

In particular, it introduced greater flexibility in the application of the rules governing the

excessive deficit procedure, notably with regard to definition of "exceptional circumstances"

and the setting of deadlines for the correction of an excessive deficit.

Council Regulation (EC) No 1466/97 on the strengthening of the surveillance of budgetary

positions and the surveillance and coordination of economic policies

, which is part of the

Stability and Growth Pact, stipulates that each Member State has to submit, to the Council and

the Commission, a stability or convergence programme and annual updates thereof. Member

States that have already adopted the single currency submit (updated) stability programmes

and Member States that have not yet adopted it submit (updated) convergence programmes.

ACKGROUND FOR THE ASSESSMENT OF THE UPDATED PROGRAMME

The Commission has examined the most recent update of the convergence programme of

Denmark, submitted on 8 December 2008, and its addendum, submitted on 19 December

2008, and has adopted a recommendation for a Council opinion on it.

In order to set the scene against which the budgetary strategy in the updated convergence

programme is assessed, the following paragraphs summarise:

(1)

(2)

the Commission Communication of 26 November 2008 (“A European Economic

Recovery Plan”);

the most recent assessment of the country’s position under the preventive arm of the

Stability and Growth Pact (summary of the Council opinion on the previous update of

the convergence programme).

The Commission Communication of 26 November 2008 (“A European

Economic Recovery Plan”)

2.1.

In view of the unprecedented scale of the global financial and economic crisis,

the European

Commission has called for a

European Economic Recovery Plan (EERP)

. The plan proposes a

co-ordinated counter-cyclical macro-economic response to the crisis in the form of an

ambitious set of actions to support the economy consisting of (i) an immediate budgetary

impulse amounting to € 200 bn. (1.5% of EU GDP), made up of a budgetary expansion by

Member States of € 170 bn. (around 1.2% of EU GDP) and EU funding in support of

immediate actions of the order of € 30 bn. (around 0.3 % of EU GDP); and (ii) a number of

priority actions grounded in the Lisbon Strategy and designed to adapt our economies to long-

term challenges, continuing to implement structural reforms aimed at raising potential growth.

The plan calls for the fiscal stimulus to be differentiated across Member States in accordance

OJ L 209, 2.8.1997, p. 1. The documents referred to in this text are available at:

http://ec.europa.eu/economy_finance/about/activities/sgp/main_en.htm.

Communication from the Commission to the European Council of 26 November 2008 - COM(2008)

800.

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with their positions in terms of sustainability of government finances and competitive

positions. In particular, for Member States outside the euro area with significant external and

internal imbalances, budgetary policy should essentially aim at correcting such imbalances.

The plan was agreed by the European Council on 11 December 2008. In this context, Member

States were asked to submit an addendum to their updated stability or convergence

programme, so as to reflect the measures taken in the context of the Recovery Plan. The

examination of how measures (budgetary measures as well as structural measures) contribute

to the recovery process in the short term is made in the opinions of stability and convergence

programmes.

2.2.

The assessment in the Council opinion on the previous update

In its opinion of 4 March 2008, the Council summarised its assessment of the previous update

of the convergence programme, covering the period 2007-2010, as follows. “The overall

conclusion is that the programme aims at maintaining a sound budgetary position fully

respecting the MTO throughout the period, consistent with the objective of long-term fiscal

sustainability. Foreseeing high, albeit rapidly declining, surpluses over the programme period,

the budgetary targets appear to be on the cautious side, in view of the better-than-expected

2007 outcome and the most recent projections. The risk to long-term sustainability is assessed

to be low. For the present, the most important policy challenge is to address labour shortages

and looming cost pressures through a mix of structural and macroeconomic policies. Further

measures need to be identified and implemented to stimulate labour supply. Meanwhile, the

fiscal stance should be considered carefully so as to avoid pro-cyclicality. Therefore,

containing public consumption expenditure growth, as foreseen in the programme, remains of

high priority”.

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Recommendation for a

COUNCIL OPINION

in accordance with the third paragraph of Article 9 of

Council Regulation (EC) No 1466/97 of 7 July 1997

On the updated convergence programme of Denmark, 2008-2015

THE COUNCIL OF THE EUROPEAN UNION,

Having regard to the Treaty establishing the European Community,

Having regard to Council Regulation (EC) No 1466/97 of 7 July 1997 on the strengthening of

the surveillance of budgetary positions and the surveillance and coordination of economic

policies

, and in particular Article 9(3) thereof,

Having regard to the recommendation of the Commission,

After consulting the Economic and Financial Committee,

HAS DELIVERED THIS OPINION:

(1)

(2)

On [10 March 2009] the Council examined the updated convergence programme of

Denmark, which covers the period 2008 to 2015.

Following a protracted upswing, Denmark's economic slowdown in 2008 has been

rapid and pronounced, driven mainly by the cooling housing market and mounting

financial turmoil. Going forward, weaker demand, both domestically and

internationally, will further exacerbate the downturn. With deteriorating external

conditions, ensuring financial stability and an orderly correction in the housing market

will be particularly challenging. In the short- and medium-term, the downturn and

anticipated developments in asset and energy prices will have significant adverse

implications for public finances. Specifically, downward pressure is expected on

revenue from the pension yield tax, corporate taxes and from the estimated declining

extraction of oil and gas in the North Sea. Warranted by a fiscally sound point of

departure, the budget adopted for 2009 entails a discretionary fiscal expansion of

around 1 percentage point of GDP, including permanent income tax cuts amounting to

�½% of GDP. Pressure on the Danish krone and drains on foreign exchange

reserves forced the Danish central bank to increase interest rates in October 2008. As

the ECB cut interest rates, this led to a widening of the policy interest rate spread with

the euro. The Danish central bank subsequently cut policy interest rates at the end of

2008 and early 2009, following ECB interest rate cuts, and implemented additional

cuts, leading to a gradual narrowing of the spread. However, the spread remains high

at 1 percentage point against 0.35 percentage point before the crisis.

Based on the underlying macroeconomic scenario, real GDP growth is projected to fall

from 0.2% in 2008 to -0.2% in 2009, recover subsequently to 0.7% in 2010, and

(3)

OJ L 209, 2.8.1997, p. 1. The documents referred to in this text can be found at the following website:

http://ec.europa.eu/economy_finance/about/activities/sgp/main_en.htm.

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average 1.7% over the rest of the programme period. The recovery in 2011-2012

reflects technical assumptions of output and unemployment gaps closing in 2012 as

calculated by the Danish authorities using national methodologies. The underlying

assumption is that capacity utilisation gradually increases to a normal level, supported

by an emerging recovery abroad as well as low interest rates. Assessed against

currently available information

, the scenario appears to be based on favourable

growth assumptions. In 2009, the slowdown in domestic demand appears

underestimated in light of the most recent developments. From 2011 onward, growth

appears on the high side in the light of historical productivity growth and estimated

potential growth. Inflation is foreseen to decrease substantially in 2009 to 1.3%, and

fluctuate around a level just below 2% over the rest of the programme period. The

cause of the fluctuations is unclear but the projected development in the GDP deflator

appears realistic.

(4)

For 2008, the general government surplus is estimated at 3.1% of GDP in the

Commission services’ January 2009 interim forecast, close to the target of 3.0% of

GDP set in the previous update of the convergence programme. Due to the lagged

reaction of the labour market to the downturn, employment and wage growth remained

robust for most of the year, resulting in higher income tax revenue and lower social

expenditure than foreseen. Meanwhile, the financial crisis led to markedly lower

revenue from the pension yield tax and corporate taxes. Moreover, expenditure

exceeded the projection due to higher intermediate consumption expenditure and a

one-off capital transfer to households as part of the 2007 reform of the pension yield

tax.

For 2009, the programme foresees a balanced general government budget, against a

projection of a deficit of 0.3% of GDP in the Commission services' interim forecast,

implying a negative swing of 3 percentage points of GDP. Automatic stabilisers

account for about 1 percentage point of the overall decline. In addition to the

discretionary fiscal expansion of about 1 percentage point of GDP, including income

tax cuts of 0.5 percentage point of GDP, the decline in energy and asset prices is

anticipated to reduce particularly volatile revenues by around 1�½ percentage points of

GDP compared with trend levels. While projecting a structural surplus, the change in

the structural balance, based on the cyclically-adjusted balance recalculated by the

Commission services using the commonly agreed methodology and on the

Commission service's definition of one-off and other temporary measures, estimated at

around 2�½ percentage points of GDP, indicates a markedly expansionary fiscal

stance

A further deterioration in the headline balance is foreseen for 2010, partly due to

automatic stabilisers, but mainly due to another planned one-off capital transfer to

households as part of the 2007 reform of the pension yield tax. The programme aims

to achieve its medium-term objective (MTO) of structural surpluses, i.e. cyclically

adjusted net of one-off and other temporary measures, in the range of ¾ - 1¾% of

GDP until 2010. After 2010, Denmark is revising its MTO downwards to a structural

balance as a minimum, which it plans to maintain and achieve until 2015. The MTO

respects the minimum benchmark of a deficit around �½% of GDP and adequately

(5)

(6)

The assessment notably takes into account the Commission services' January 2009 forecast, but also

other information that has become available since then. .

Differences in the definition of one-offs and temporary measures imply that estimates for the structural

balance are not readily comparable with the Commission services' January 2009 forecast.

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reflects the debt ratio and the average potential growth in the long run. Consequently,

the new objective is assessed to be appropriate and in line with the Stability and

Growth Pact. The programme projects the general government balance to return to a

small surplus in 2011. This largely hinges on the technical assumptions of output and

unemployment gaps closing in 2012, resulting in a cyclically determined revenue

increase. The targets are based on a scenario requiring unspecified structural reform

measures to improve the general government balance permanently by 0.7% of GDP

toward 2015 to ensure fiscal sustainability according to the national methodology.

Over the programme period, the structural surplus calculated according to the

commonly agreed methodology is foreseen to decrease by around 3�½ percentage

points of GDP, but stay in positive territory. In addition to the financial stability

measures taken in autumn 2008 and outlined in the update, the Credit Package of 18

January 2009 implies temporary hybrid capital injections of up to DKK 100 billion

(5�½% of GDP) from mid-2009, which will have an immediate impact on the debt

developments of the update and a potential impact on the general government balance

over the programme period.

(7)

The budgetary outcomes projected in the programme are subject to several risks. The

downside risks due to favourable growth assumptions and uncertainty about measures

to deliver the structural reforms required are not outweighed, despite the positive

budgetary track record, by upside risks linked to potentially higher revenues in the

event of higher energy prices and lower interest rates. Moreover, measures launched to

address financial stability entail a significant increase in risk exposure.

The long-term budgetary impact of ageing is lower than on average in the EU, notably

thanks to the recent pension reform. Moreover, the budgetary position in 2008 as

projected in the programme, with a large structural surplus, contributes to the

reduction of gross debt. Maintaining high primary surpluses over the medium term

would contribute to limiting the risks to the sustainability of public finances, which are

currently at a low level.

As reflected in its budgetary track record, Denmark has benefited from a relatively

strong fiscal framework, notable for its wide coverage and the transparency and

visibility of its fiscal rules. General government consumption expenditure has,

however, been prone to exceeding targets. Recent initiatives involving economic

sanctions could enhance incentives for local governments to adhere to agreed targets.

Furthermore, some actions have been initiated to strengthen focus on cost-

effectiveness of public spending. Nevertheless, further measures will be needed to

curb expenditure growth in line with the Government’s targets.

With a view to support financial stability, the Danish authorities have adopted a range

of measures including amending the regulatory framework of the pension and life-

insurance sector, the Financial Stability Act of October 2008 and the Credit Package

mentioned above. The Financial Stability Act effectively provides an unlimited

government-backed guarantee for unsecured creditors until 30 September 2010, where

participating banks cover claims up to DKK 35 billion (2% of GDP), and the state

cover any exceeding claims. From 1 October 2010 a deposit insurance threshold of

DKK 750,000 is foreseen. The Credit Package addresses the mounting pressure on the

solvency of banks and mortgage institutions in order to contribute to a normalisation

of lending policy.

In line with the EERP agreed in December by the European Council, Denmark

proceeded to implement a discretionary fiscal expansion of around 1 percentage point

(8)

(9)

(10)

(11)

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of GDP with the adoption of the 2009 budget, including permanent measures that

enhance work incentives (income tax cuts) and improve the growth potential

(investment in R&D). Part of the expansion is due to large public sector wage

increases, which are expected to sustain private consumption. A green transport

infrastructure plan agreed on 29 January 2009 is foreseen to provide a further fiscal

stimulus of DKK 5 billion (¼% of GDP) spread over 2009 and 2010. These measures

are related to the Lisbon medium-term reform agenda as reviewed by the Commission

on 28 January 2009.

(12)

Based on the information in the programme update, the structural balance is foreseen

to deteriorate by 2�½ percentage points in 2009 and a further 1 percentage point over

the remaining programme period. In part, the decline reflects lower revenue from

particularly volatile and transitory sources. In view of the fiscally sound point of

departure and the strong automatic stabilisers at play, the planned expansionary fiscal

stance appears to be an adequate response to the economic downturn. Throughout the

programme period, the budgetary projections indicate that Denmark's fiscal position is

fully in line with the criteria of the Stability and Growth Pact.

The programme update provides all required and most of the optional data

(13)

The overall conclusion is that, at the current juncture and given the comfortable fiscal

position, the overall fiscal stance is considered adequate in view of the discretionary fiscal

expansion of around 1 percentage point of GDP in 2009. The programme foresees a reduction

in the general government surplus by around 3 percentage points of GDP in 2009 and about

1¼ percentage point further in 2010, also as a consequence of the relatively strong automatic

stabilisers. The programme's growth assumptions are favourable. The budgetary targets aim to

achieve the MTO throughout the programme period, thus maintaining a sufficient safety

margin to the reference value. Following a period of high budgetary surpluses, benefiting

from a relatively strong fiscal framework, general government gross debt has declined to a

low level.

In view of the above assessment, Denmark is invited to

(i)

(ii)

implement the planned measures in line with the EERP;

identify the required structural reform measures to achieve budgetary targets in the

outer years.

In particular, the total revenue and total expenditure figures and some subcomponents do not

correspond to the harmonised definitions, complicating the assessment. Moreover, a specification of the

stock-flow adjustment is missing among the optional data.

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Real GDP

(% change)

HICP inflation

(%)

Output gap

(% of potential GDP)

Net lending/borrowing vis-à-vis the

rest of the world

(% of GDP)

General government revenue

4, 6

(% of GDP)

General government expenditure

4, 6

(% of GDP)

General government balance

(% of GDP)

Primary balance

(% of GDP)

Cyclically-adjusted balance

(% of GDP)

Structural balance

3, 5

(% of GDP)

Government gross debt

(% of GDP)

CP Dec 2008

COM Jan 2009

CP Dec 2007

CP Dec 2008

COM Jan 2009

CP Dec 2007

CP Dec 2008

COM Jan

2009

CP Dec 2007

CP Dec 2008

COM Jan 2009

CP Dec 2007

CP Dec 2008

COM Jan 2009

CP Dec 2007

CP Dec 2008

COM Jan 2009

CP Dec 2007

CP Dec 2008

COM Jan 2009

CP Dec 2007

CP Dec 2008

COM Jan 2009

CP Dec 2007

CP Dec 2008

COM Jan 2009

CP Dec 2007

CP Dec 2008

COM Jan 2009

CP Dec 2007

CP Dec 2008

COM Jan 2009

CP Dec 2007

2007

1.6

2.0

1.7

1.4

1.8

1.0

0.7

1.7

54.5

55.4

53.4

49.9

50.9

49.6

4.5

3.8

6.1

5.2

3.6

3.3

3.1

3.7

3.3

3.5

26.3

25.6

2008

0.2

-0.6

1.3

3.6

2.4

0.0

-0.1

0.3

1.7

1.3

53.2

54.8

52.9

50.2

51.6

49.8

3.0

3.1

3.0

4.2

4.5

4.2

3.0

3.2

2.8

4.0

3.8

3.4

30.3

21.6

2009

-0.2

-1.0

1.1

1.3

1.6

-1.4

-2.1

-0.4

1.8

1.5

1.9

51.2

52.8

52.0

51.2

53.1

50.0

0.0

-0.3

2.0

1.5

1.2

3.0

0.9

1.0

2.3

2.6

1.1

2.5

27.9

28.4

19.2

2010

0.7

0.6

0.5

2.1

1.9

-1.8

-2.4

-1.5

2.3

1.5

2.2

51.5

53.4

51.7

52.8

54.9

50.5

-1.2

-1.5

1.2

0.2

0.0

2.1

0.0

0.1

2.2

1.7

0.9

2.5

26.3

27.0

18.6

2011

1.9

n.a.

1.4

n.a.

-1.2

n.a.

2.6

n.a.

52.1

n.a.

51.8

n.a.

0.3

n.a.

1.6

n.a.

1.1

n.a.

1.3

n.a.

25.4

n.a.

2012

1.7

n.a.

1.8

n.a.

-0.8

n.a.

2.6

n.a.

51.8

n.a.

51.7

n.a.

0.1

n.a.

1.3

n.a.

0.6

n.a.

0.6

n.a.

24.6

n.a.

2015

1.6

n.a.

1.8

n.a.

-0.5

n.a.

1.8

n.a.

51.5

n.a.

51.6

n.a.

-0.1

n.a.

0.7

n.a.

0.2

n.a.

0.2

n.a.

22.6

n.a.

Notes:

Output gaps and cyclically-adjusted balances from the programmes as recalculated by Commission services on the basis

of the information in the programmes.

Based on estimated potential growth of 1.8%, 1.4%, 1.0% and 0.9% respectively in the period 2007-2010.

Cyclically-adjusted balance excluding one-off and other temporary measures. One-off and other temporary measures are

-1.0% of GDP in 2008, -1.7% in 2009 and 2010, and -0.2% in 2011, all deficit-reducing/surplus-increasing, according to the

most recent programme, and -0.5% of GDP in 2008, -0.2% in 2009 and -0.8% in 2010, all deficit-reducing/surplus-

increasing, according to the Commission services' January 2009 Interim economic forecast.

The programme data for revenue and expenditure differ from the data reported to Eurostat, following the harmonised

approach (cf. Commission Regulation No. 1500/2000), on which the Commission services' forecast is based. The difference

relates primarily to the treatment of public sales of goods and services and of the consumption of fixed capital. The balance

is, however, unaffected.

Using the recalculated cyclically-adjusted balance, based on the information in the programme, and the definition of one-

offs and other temporary measures applied by the Commission services, the structural balance would be 3.6% of GDP in

2008 and 1.1 in 2009, and 0.9 in 2010.

For 2007, the figures differ from those reported to Eurostat in the October 2008 EDP notification. The figures used

reflect more recent, revised data published by Statistics Denmark, which has not yet been validated by Eurostat.

Source:

Convergence programme (CP); Commission services’ January 2009 interim forecasts (COM); Commission services’

calculations

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