Can the government continue to compensate citizens and businesses?

Current issues related to economy, (responsible) investment, pension and income: every week an APG expert provides a clear answer to the question of the week. This time: Charles Kalshoven, macroeconomist and expert strategist at APG, on the question of to what extent the government can continue to allocate money to compensate citizens and businesses.

So far, 90,000 households have applied for compensation for their energy bills from the Temporary Emergency Energy Fund. The fund is the latest example of a government support measure, after The Hague already assisted during the Covid crisis and with the energy price cap. The government estimated the cost of the price cap at 23.5 billion euros, although the actual amount is probably under 10 billion. The support package the government used to help businesses through the Covid crisis exceeds 30 billion. What do these expenditures mean for the national debt?

Surprising
The effect on government debt of the cost of the Temporary Emergency Energy Fund, some 24.5 million, is negligible. But the measures during Covid and the energy price cap also seem to have had little to no impact on public finances, Kalshoven says. “Public debt was just under half of national income before Covid and this is the case again. In the interim, it was a little higher. The fact that we are back at the old level is quite amazing, when you consider the amounts that have been spent. So, what happened? National income went up a lot because of inflation, so the debt as a percentage of that income remained almost the same, despite the extra spending. And a national debt below 50 percent is not a reason to worry.”

Still, there are reasons not to be too lavish with support measures such as the energy cap, Kalshoven continued. “We import energy so it leads to national welfare loss (after all, the money for the energy flows to other countries, ed.). If a government offsets the cost of energy for citizens, you keep passing the hot potato. Somewhere, the loss has to be taken, and it will eventually have to be paid for through tax money, raised by citizens and businesses.” Current inflation is also avenging itself here. “When the government is generous with compensation measures, it ends up driving inflation. When people get some of their energy costs back, they can use that money to buy other things or continue to use the same amount of energy. That stimulates the economy, even though it doesn’t need a stimulus at this time.”

Incentive
And then there is the incentive argument. “The best cure for high energy prices is high energy prices,” Kalshoven argues. “With a measure against high energy costs, you take away the incentive for people to save energy.” Therefore, it’s better to encourage citizens to take energy-saving measures or generate their own energy with solar panels, for example through temporary subsidies. “Assuming that energy prices remain high for an extended period of time, that works better than long-term financial compensation for citizens."

When rigging government support measures, the IMF and central banks say three criteria are important. They must be timely, temporary and targeted. “By timely is meant that citizens receive the financial support quickly. Now that the high spikes in energy prices are behind us, the argument of timeliness is less relevant. A measure should ideally also be temporary, to prevent people from becoming dependent on it. Otherwise, you take away the incentive to save energy in the longer term. And then there is targeting: we have now all received a 190-euro rebate on our energy bills, which you can hardly see as a targeting of public money. But it had to be done quickly, and at the expense of precision. In contrast, the Temporary Emergency Energy Fund targets a much smaller group of people, and is therefore targeted. This is fine because it allows you to prevent major debt problems among poor families without driving inflation.”

Compensation society
Thus, the impact that the various support measures have on the national debt is not so bad. However, they do have other drawbacks. The main ones are the driving effect on inflation and - in the case of the energy cap - the possible delaying effect on the energy transition. Kalshoven believes it would therefore be better to opt for green subsidies and carbon pricing. You can also only distribute a national welfare loss. It is by definition impossible to compensate everyone - because who will pay for it? Compensation for one must ultimately come from the other, now or - if it is through national debt - in the future.

That the Netherlands is now somewhat like a compensation society, as CPB director Pieter Hasekamp wrote a year ago, is also a consequence of the financial crisis, Kalshoven concludes. “At that time, the adage was cut spending, which the government went overboard with, and more people became unemployed than necessary. We did learn from that. The danger now is that the government is compensating too much, and wants to solve every social problem with a bag of money. That is not a long-term solution. As Hasekamp also says: raising the whole of the Netherlands one meter so farmers don’t have to bend over as much – that’s not going to work.” On Thursday, the Council of State also warned that there is a limit to financial compensation of citizens by the government.