Scope Ratings GmbH has today affirmed the Kingdom of Denmark’s long-term issuer rating at AAA and short-term issuer rating at S-1+. The sovereign’s senior unsecured debt is also affirmed at AAA. All ratings are expressed in both local and foreign currency. All Outlooks are Stable.

For the detailed rating report, click here.

Rating drivers

Denmark’s AAA ratings are underpinned by a wealthy and highly competitive economy, which is growing at full potential after recovering from the financial crisis of 2008-2009. GDP growth in 2017 reached 2.0% after 2.0% in 2016, with growth going forward expected at 2.0% for 2018 and 1.9% in 2019, supported by robust domestic demand. The broad-based recovery is primarily supported by both private domestic demand and exports, aided by falling unemployment, which is expected to decline to 5.5% in 2019 from 5.9% in 2017. The accommodative monetary policy, prescribed by the peg of the krone to the euro, is expected to continue to support demand, especially private investment.

The rating is also supported by sound public finances, which are characterised by low structural deficits and a moderate debt burden. Estimated at 38.6% of GDP in 2017, the debt to GDP ratio is expected to continue to decline gradually over the medium term, well below the EU average of 85% of GDP and the EU’s 60% reference value. A comfortable pre-crisis budget position (average budget surpluses of 4.5% of GDP on average during 2005-2008) provided Denmark’s government with adequate fiscal space to support the economy during the economic downturn. For 2018, Scope expects the headline deficit to remain around 1.0% in 2018 and 2019, with economic growth supporting the sound fiscal position. The fiscal stance was loosened slightly in order to support growth, but remains compliant with both EU Stability and Growth Pact rules and domestic budget law.

The rating is further underpinned by Denmark’s strong external position. The high current account surplus of 7.6% of GDP in 2017 is down from a recent peak of 9.2% in 2015, but remains robust, aided by continuing strong earnings on Denmark’s stock of foreign assets, and by the increasing focus of Danish companies towards external activities, and their integration into global value chains. Nonetheless, Scope expects this gradual decline to continue, driven by increasing private consumption and domestic investment, and thus higher import demand, and further reductions in North Sea oil and gas revenues. However, Denmark’s external position will remain solid with forecasted surpluses above 5% of GDP over the medium term. Denmark’s sound monetary policy, including the central bank’s prudent interest rate policy and commitment to maintaining the peg of the Danish krone to the euro, further provides the country with an adequate buffer against external shocks.

Denmark’s credit strengths are balanced by financial vulnerabilities in the form of high household debt and sectoral housing market pressures. Although Denmark’s household debt as a percentage of disposable income has declined in recent years, it remains the highest among OECD countries (at 289.6% in 2016). Risks surrounding a high private-debt burden are partially mitigated by sizeable household assets in the form of pension savings and housing assets resulting in a surplus in the aggregate household balance of DKR 1.23tn in Q2 2017. Moreover, Danish households benefit from a historically low interest burden of below 5% of disposable income in 2016, which is materially lower from a peak around 14% in 2008. Household credit has grown modestly in recent years, but with large regional differences. It’s Scope’s view that current sectoral housing pressures are contained as, in contrast with the pre-crisis period, recent major increases in house prices and mortgage lending have been concentrated in the wealthy region surrounding Copenhagen, reflecting fundamental drivers such as higher salaries and urbanisation.

Scope views positively the recent introduction by the Danish authorities of macroprudential measures aimed at strengthening credit quality by setting lending limits, for example, on new variable-rate residential mortgage lending. Reforms to property taxation are also expected to take effect from 2021 aimed at reducing the debt-bias in the tax system in favour of housing and credit needs.

Denmark is also facing labour market capacity constraints, with companies reporting labour shortages. Further, productivity growth has been declining after initial strong gains in the 1980s and 1990s. While labour force participation rates have picked up over the last two years, it has been outpaced by the demand for workers, with the construction sector most heavily affected. While migrants account for a substantial part of the increases in employment over the past several years, non-EU migrants experience high unemployment with persistent employment gaps relative to Danes due to job-wage mismatches. Some measures being taken may alleviate this, yet Scope anticipates labour shortages and job market mismatches may constrain growth going forward.

Denmark’s financial system is large (with assets of about 700% of GDP) and closely interconnected with that of Nordic neighbours. The banking sector is dominated by a few banks and exposed to the domestic housing sector, with real estate lending of mortgage banks comprised roughly half of the total Danish banking sector’s assets in 2016. In addition, mortgage banks are reliant on mortgage-covered bond funding with Danish pension funds the primary investors. The combination of sectoral housing market pressures, high and increasing household debt, and market reliance on continued investment of Danish pension funds into the mortgage covered bond market, poses potential financial stability risks. Furthermore, under Denmark’s implementation of the European Bank Recovery and Resolution Directive, Danish mortgage banks are exempt from having to meet an MREL (minimum requirement concerning the volume of eligible liabilities, i.e. debt that can be converted into equity to bear losses in a resolution situation).

Overall Scope views the Danish banking system to be resilient. Capital adequacy grew significantly to 2013, when the largest Danish banks met the fully-phased-in EU 2019 requirements, and has remained broadly stable since then. While the largest Danish banks have lower capital adequacy than other Nordic banks, their capital adequacy (Tier 1 capital ratio of 21% in 2017) is high compared to that of most large banks in Europe.

Sovereign rating scorecard (CVS) and Qualitative Scorecard (QS)

Scope’s Core Variable Scorecard (CVS), which is based on relative rankings of key sovereign credit fundamentals, signals an indicative “AA” (“aa”) rating range for the Kingdom of Denmark. This indicative rating range can be adjusted by the Qualitative Scorecard (QS) by up to three notches depending on the size of relative credit strengths or weaknesses versus peers based on qualitative analysis. For Denmark, the following relative credit strengths have been identified: i) economic policy framework, ii) macroeconomic stability and imbalances; iii) fiscal performance, iv) public debt sustainability; v) market access and funding sources, vi) external debt sustainability, and vii) financial sector performance. Relative credit weaknesses were macro-financial vulnerabilities and fragility. Combined relative credit strengths and weaknesses indicate a sovereign rating of AAA for Denmark. A rating committee has discussed and confirmed these results.

For further details, please see Appendix 2 of the rating report.

Outlook and rating-change drivers

The confirmation of the Stable trend reflects Scope’s view that risks to the ratings remain broadly balanced.

The ratings or outlooks could be downgraded if: i) structural measures failed to address potential housing risks, leading to markedly higher default rates in the mortgage market and escalating concerns about a build-up of systemic financial stability risks; ii) the Danish government were to intervene in domestic financial markets to support mortgage banks, ultimately leading to strong increases in public debt above expectations; and/or iii) Denmark experienced a protracted period of weak economic performance as a result of an severe external shock.

Rating committee

The main points discussed during the rating committee were: i) banking sector vulnerability and its interdependence with Nordic and Baltic banking sector; ii) growth constraints, in particular demographic issues, iii) housing market and policy initiatives, and iv) private debt sustainability considerations.

Methodology

The methodology applicable for this rating and/or rating outlook, ‘Public Finance Sovereign Ratings’, is available on www.scoperatings.com.

The historical default rates used by Scope Ratings can be viewed in the rating performance report on https://www.scoperatings.com/governance-and-policies/regulatory/esma-registration. Please also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope’s definition of default and definitions of rating notations can be found in Scope’s public credit rating methodologies on www.scoperatings.com.

The rating outlook indicates the most likely direction in which a rating may change within the next 12 to 18 months. A rating change is, however, not automatically a certainty.

Regulatory disclosures
This credit rating and/or rating outlook is issued by Scope Ratings GmbH.
Rating prepared by John F. Opie, Lead Analyst
Person responsible for approval of the rating: Dr Giacomo Barisone, Head Public Finance
The ratings/outlook were first assigned by Scope as a subscription rating in January 2003. The ratings/outlooks were last updated on 18.08.2017.
The senior unsecured debt ratings as well as the short-term issuer ratings were last assigned by Scope on 18.08.2017.

Solicitation, key sources and quality of information
The rating was initiated by Scope and was not requested by the rated entity or its agents. The rated entity and/or its agents did not participate in the ratings process. Scope had no access to accounts, management and/or other relevant internal documents for the rated entity or related third party.
The following material sources of information were used to prepare the credit rating: public domain and third parties. Key sources of information for the rating include: the Ministry of Finance of the Kingdom of Denmark, Danmarks Nationalbank, Statistics Denmark, Finanstilsynet (Danish Financial Supervisory Authority), World Bank, European Central Bank (ECB), Statistical Office of the European Communities (Eurostat), IMF, OECD, and Haver Analytics.
Scope considers the quality of information available to Scope on the rated entity or instrument to be satisfactory. The information and data supporting Scope’s ratings originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data.
Prior to publication, the rated entity was given the opportunity to review the rating and/or outlook and the principal grounds upon which the credit rating and/or outlook is based. Following that review, the rating was not amended before being issued.

Conditions of use / exclusion of liability
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