For the updated report accompanying this review, click here.

Rating action

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

Summary and Outlook

Denmark’s long-term ratings of AAA/Stable are underpinned by the following credit strengths: i) the country’s wealthy and competitive economy; ii) sound public finances and a low level of public debt; iii) a solid external position driven by consistent current-account surpluses; and iv) a strong institutional framework and stable governance. These factors increase the country’s resilience to economic shocks, including from the Covid-19 pandemic, and provide the government with fiscal space to support the economy with countercyclical fiscal measures. Challenges relate to: i) vulnerabilities in the Danish financial system, including from high levels of household debt; and ii) banking sector vulnerabilities related to high and rising property prices.

The Stable Outlook reflects Scope’s view that risks to the ratings over the next 12 to 18 months are balanced.

The ratings/Outlooks could be downgraded if, individually or collectively: i) a severe economic shock resulted in a material decline of medium term growth prospects; ii) the fiscal outlook deteriorated resulting in a significant upward trend of government debt-to-GDP ratios; and/or iii) banking system risks increased and resulted in broader systemic risk, leading to the materialisation of contingent liabilities on the government’s balance sheet.

Rating rationale

The first driver for the affirmation of Denmark’s AAA ratings is the country’s wealthy and competitive economy. It has one of the highest GDP per capita ratios in Europe and ranked third in the 2021 IMD World Competitiveness Ranking¹. Economic output proved resilient during the Covid-19 pandemic, contracting sharply during the first half of 2020 only to rebound equally fast during the second half of the year. The government reacted quickly in response to the second Covid-19 wave with lockdown causing a contraction of 0.4% in Q1 2021, followed by strong growth of 2.8% in Q2 and continued buoyant activity expected in the second half of 2021. Denmark’s vaccination roll-out was among the fastest in the world and it became one of the first EU countries to remove all domestic Covid-19 restrictions in September 2021. The resulting increase in consumption is a key driver for the economic recovery alongside Denmark’s high-value added economy which benefits from strong growth in key export markets. With economic output already exceeding pre-pandemic levels by the end of Q2 2021, Scope expects the Danish economy to expand by 3.9% in 2021 which is broadly in line with other AAA-rated peer countries. On aggregate, Scope does not expect any significant permanent economic scarring as a result of the pandemic as continued growth of around 2.8% in 2022 will place Denmark back on its pre-pandemic growth trend.

The wage compensation scheme introduced at the onset of the pandemic helped limit the rise in the unemployment rate to only 0.6pp reaching 5.6% in 2020, well below the peer country average of a 1.1pp rise. Scope expects that the strong economic rebound will help reduce the unemployment rate to 5.1% in 2021 but still to remain slightly above the pre-pandemic level of 5.0% in 2022. This is largely driven by continued labour market frictions across manufacturing, construction and the private services sectors, as well as government efforts to increase labour force participation rates, which stands at 78.8% as of Q2 2021. Danmarks Nationalbank (central bank) expects continued upward pressure on wage growth over the next two years, although inflation is expected to remain moderate rising to 1.7% in 2022 and 1.6% in 2023 as supply chain disruptions ease and consumption returns to pre-pandemic patterns.

The central bank’s monetary policy remains accommodative, including a certificates-of-deposit rate and current-account rate at -0.6%. Denmark has a long-standing peg of the Danish krone to the euro. Since euro area monetary policy targets an inflation rate of 2% over the medium term, the fixed-exchange-rate policy provides a framework for low and stable inflation. In Scope’s view, the limited monetary policy and exchange rate flexibility, due to the peg to the euro under ERM II, restricts the central bank’s ability to control money supply and take unconventional measures such as quantitative easing. However, while no quantitative easing measures were taken during the pandemic, the central bank was still able to make monetary policy more accommodative by introducing an extraordinary lending facility in March 2020 and allowing counterparties to borrow at an interest rate of -0.35%, 40bps below the standard facility. These actions should support the recovery and growth prospects going forward.

Scope believes that Denmark’s medium term growth potential stands at around 1.5% which is only slightly below the AAA-rated peer average (around 1.6%). Potential output growth is supported by increased public sector investments related to the green transition, digitalisation and infrastructure, as well as initiatives focussed on increasing labour supply. The “Denmark Forward” initiative is a DKK 160bn (7.7% of 2020 GDP) infrastructure investment plan to improve existing transport infrastructure and enhance connectivity until 2035.² This will be further supported by DKK 11.5bn (0.6% of GDP in 2020) Denmark is expected to receive under the EU’s Recovery and Resilience Facility. In light of an ageing population, supportive labour market initiatives include an increase in pension age from 66 in 2020 to 67 in 2022 which is expected to increase the workforce by 15,000 and by 17,000 respectively.³ The pension age is then expected to rise to 68 by 2030, after which it will be directly linked to any future increases in life expectancy. The government also introduced the “Denmark can do more” reform plan⁴  which aims to better integrate foreigners into the workforce and increase structural employment over the next decade.

The second driver supporting Denmark’s AAA rating is its strong fiscal framework, sound public finances and a low level of public debt. Denmark’s fiscal framework, with its focus on realistic medium-term budgetary targets, is seen as supportive by Scope for the country’s credit rating. Targets are consistent with both the Budget Law, which states that fiscal deficits should be limited to 0.5% of GDP except during severe economic downturns, and the EU’s Stability and Growth Pact. Furthermore, Scope recognises the role of the Danish Economic Council, which monitors compliance with fiscal rules and expenditure ceilings at each governmental level in addition to evaluating long-term fiscal sustainability. In its autumn 2021 report, the council highlighted the risk of an overheating economy, while supporting the phase-out of any remaining pandemic-related support measures and noting that fiscal policy should be tightened in 2022 in light of the strong economic growth.⁵

Against this background, the country’s general government debt ratio declined in the years before the pandemic falling from 46.1% in 2011 to 33.6% in 2019. Fiscal support measures caused the ratio to increase to 42.1% in 2020 which compares favourably to an average of around 50% in AAA-rated peer countries. While Scope expects a fiscal deficit of 1.9% in 2021, the strong rebound in GDP will lower the government debt ratio to 38.7%. Spending pressures due to an ageing population and continued investment needs are expected to result in public debt levels to remain broadly stable over the next few years and rise slightly to 39.4% by 2026. Here, Scope also notes positively the government’s favourable debt structure and excellent market access with the country’s 10-year yield remaining low at -0.01% and the average maturity of government debt as of October 2021 at 8.0 years, longer than most governments in Denmark’s sovereign peer group.

To cushion the impact of the pandemic on the Danish economy, the government made large fiscal support measures available in addition to already strong automatic stabilisers. From the onset of the pandemic until mid-2021, support measures amounting to DKK 683bn (around 30% of GDP) were made available although less than half of these were actually taken up.⁶ The fiscal support included direct budgetary measures such as grants to businesses (DKK 34bn), employment support and unemployment benefits (DKK 31bn), as well as other measures such as temporary liquidity provided through tax deferrals and government guarantees (DKK 401bn) and loans (DKK 264bn). Given the strong economic recovery, many support measures such as the wage compensation scheme and the support provided to self-employed and individual businesses have already been withdrawn.

The third driver underpinning Denmark’s AAA rating is the country’s strong external position. Denmark has generated a current account surplus in each year since 1998. The decline in Danish goods and services exports in 2020 caused the current account surplus to decrease slightly from 8.8% in 2019 to 8.2% in 2020 and the IMF projects the surplus to be 7.0% in 2021 and remain above 6% over the next five years. Danish external debt has declined from above 180% of GDP in 2010 to around 140% in 2019, before increasing again to 158% in 2020. This relates mainly to debts of the financial institutions sector (99% of GDP). Short-term debt relative to total gross external debt has also declined, from 52% in 2010 to 43% in 2020. As a result, Denmark’s external position has improved considerably with the net international investment position at 74.3% of GDP as of 2020, up from -5% of GDP in 2008.

Scope also notes positively Denmark’s credible commitment to maintaining its fixed exchange rate – operating within +/-2.25% of DKK 7.46 per euro – backed by large official reserves. At the onset of the pandemic, official reserves decreased from DKK 431bn in February 2020 to DKK 374bn in March before recovering quickly, amounting to DKK 496bn (23.7% of GDP) as of October 2021. The large official reserves have ensured that the currency peg could be maintained during periods of intense market pressure. This provides the country with a credible safeguard against external shocks, even if the fixed exchange rate also limits the economy’s adjustment capacity.

Finally, Denmark benefits from a strong institutional framework and stable governance. Denmark ranks among the top countries globally in governance indicators and has a strong track record implementing structural reforms to balance the country’s economic competitiveness and favourable business environment with its progressive and comprehensive social welfare system.

Despite these credit strengths, Denmark’s ratings face important medium-term credit challenges.

First, there continue to be vulnerabilities in the Danish financial system from high levels of household debt. Household debt amounted to 257% of net disposable income during 2020, being the highest among OECD countries. Most household debt consists of bank and mortgage debt which increases vulnerabilities stemming from rises in interest rates, increases in unemployment and/or sharp declines in house prices. However, risks surrounding high household debt burdens have to be viewed against very high levels of household assets resulting in a household net worth of 803% of net disposable income in 2020. Danish households’ total assets consist of real estate (49%) and financial assets (51%) primarily in the form of private pensions and equity holdings. Large house price revaluations and interest rate rises remain a vulnerability and a significant portion of household financial assets are illiquid with life insurance and pension schemes accounting for half of the total. However, the large financial assets still provide a strong safety net against short-term income shocks and Scope believes the credit risk of Danish residential mortgages remains low on aggregate.

Scope views positively the introduction by Danish authorities of macroprudential measures to address the build-up of risks in the financial system. In June, the Systemic Risk Council recommended the government reactivate the countercyclical capital buffer at a rate of 1.0% from September 2022 and this recommendation was followed. However, the Council’s recommendation to restrict homeowners’ access to interest only mortgages was not followed by the government.⁷ Under the recommendation, interest only mortgage loans would not be granted to borrowers where the loan-to-value ratio exceeds 60%. While there are signs of slowing house price growth during the second half of the year, Scope believes that the increased vulnerability of highly indebted homeowners with interest only mortgages will need to be monitored carefully.

Second, and related, the banking sector faces vulnerabilities related to high and rising property prices. House prices increased by around 21% by Q2 2021 since the onset of the pandemic according to Eurostat, while the percentage of loans to highly indebted homeowners also grew. The financial system is exposed to the domestic housing sector, with real estate lending of mortgage banks comprising around 48% of total Danish financial sector assets. Denmark’s large household savings and mandatory pension contributions have resulted in large amounts of assets held in the pension system which facilitated the development of the world’s largest mortgage covered bond market. The combination of elevated house prices, high and increasing household debt, and market reliance on continued investment of Danish pension funds into the mortgage covered bond market poses financial stability risks. A sharp correction in the housing market could weigh on consumption and result in spill-over effects in Denmark’s highly interconnected financial system of mortgage credit institutions, pension funds and insurance companies.

Finally, the 2021 EBA stress test included three Danish banking groups (Danske Bank, Nykredit, and Jyske Bank), covering around 90% of Danish banking sector total assets.⁸ Using end-2020 as a starting point, the scenario assumed a decline in GDP (-4.3%), large decreases in residential (-21.9%) and especially commercial real estate (-36.6%) prices, and sharply rising unemployment (11.4%). The capital positions of the Danish banking groups were significantly affected in the adverse scenario, with the average CET1 ratio falling by around 6-7% to a range of 11.5-13.9%. In this scenario, Danske Bank would not fulfil CET1 capital requirements (1.6% shortfall) but fulfil solvency need and SIFI buffer requirements with comfortable margins. Other banks maintain excess capital to the CET1 and the leverage ratio requirements. Nonetheless, Scope views the Danish banking system on the whole as resilient. Regulatory tier 1 capital stood at 20.3% in Q2 2021, remaining stable throughout the pandemic. Similarly, non-performing loans, at 1.9% of total loans as of Q2 2021, increased only marginally.

Core Variable Scorecard (CVS) and Qualitative Scorecard (QS)

Scope’s Core Variable Scorecard (CVS), which is based on the relative rankings of key sovereign credit fundamentals, provides an indicative rating of ‘aaa’ for the Kingdom of Denmark. This indicative rating can be adjusted by the Qualitative Scorecard (QS) by up to three notches depending on the size of relative qualitative credit strengths or weaknesses against a peer group of countries.

For the Kingdom of Denmark, the following relative credit strengths have been identified: i) macroeconomic stability and sustainability; ii) fiscal policy framework; iii) strong resilience to short-term external shocks; iv) low environmental risks; and v) low institutional and political risks. Relative credit weaknesses are: i) macro-financial vulnerabilities and fragility due to financial imbalances.

The combined relative credit strengths and weaknesses indicate a sovereign rating of AAA for the Kingdom of Denmark.

A rating committee has discussed and confirmed these results.

Factoring of Environment, Social and Governance (ESG)

Scope explicitly factors in ESG sustainability issues during its rating process via the sovereign methodology’s stand-alone ESG sovereign risk pillar, with a 20% weighting under the quantitative model (CVS) as well as in the qualitative overlay (QS).

With respect to environmental risks, Denmark receives high scores in all CVS indicators. These include carbon emissions per unit of GDP, exposure and vulnerability to natural disaster risks, and the ecological footprint of consumption compared with available biocapacity. Scope assesses Denmark’s QS adjustment for ‘environmental risks’ as ‘strong’. Denmark aims to reduce greenhouse gas emissions by 70% by 2030 (relative to 1990 levels) and to reach carbon neutrality by 2050. The country has earmarked 60% of its share of the EU’s Recovery and Resilience Facility on green initiatives, well above the 37% expenditure target required by the conditions of the funding. Around 78% of electricity comes from renewable sources and around 30% of the country’s primary energy needs are met through renewables. Energy consumption from coal has declined rapidly over the past decade from 22% in 2009 to only 6% in 2019. The Danish Council on Climate Change noted in February 2021 that existing initiatives would lead to a carbon reduction of only 54% and that new initiatives are therefore needed.⁹ Since then, further climate policy initiatives have progressed including parliament’s agreement to binding carbon emission targets for the agricultural industry.

Denmark benefits from high GDP per capita and from an advanced social safety net, contributing to low income inequality, although the country faces an elevated old-age dependency ratio with increasing demands on welfare services in general and healthcare in particular. Non-EU migrants experience a high jobless rate with persistent employment gaps relative to Danes due to a lack of sufficient job qualifications. The “Denmark can do more” reform plans and increased investments in education and digitalisation should help to increase labour market participation in future.

Denmark benefits from the high quality of its institutions and a stable political environment. Since gaining representation in parliament requires only 2% of the vote, the large number of political parties represented (currently more than 10 parties) means that minority governments are common, requiring broader coalition building to pass specific pieces of legislation. A long history of consensus building therefore supports longer-term policy continuity.

Rating Committee
The main points discussed by the rating committee were: i) domestic economic risk, including growth potential and resilience; ii) public finance risks, including fiscal framework and debt dynamics; iii) external risks; iv) financial stability risks, including housing market and household debt; v) ESG considerations; and vi) peer developments.

Rating driver references
1. IMD World Competitiveness Ranking, June 2021 
2. Danish government, “Denmark Forward” infrastructure plan, April 2021 
3. Ministry of Finance, Economic Survey August 2021 
4. Ministry of Employment, “Denmark can do more” reform plan, September 2021 
5. Report from the Chairmanship of the Danish Economic Councils, Autumn 2021 
6. IMF Article IV 2021, June 2021 
7. Systemic Risk Council, Follow-up on recommendation from the Systemic Risk Council, September 2021 
8. Financial Supervisory Authority, Results of the Danish participants in the EU-wide stress test 2021, July 2021 
9. Danish Council on Climate Change, Status Outlook 2021 – Denmark’s national global climate efforts, February 2021 

Methodology
The methodology used for these Credit Ratings and/or Outlooks, (Rating Methodology: Sovereign Ratings, 8 October 2021), is available on https://www.scoperatings.com/#!methodology/list.
Scope Ratings GmbH and Scope Ratings UK Limited apply the same methodologies/models and key rating assumptions for their credit rating services, while Scope Hamburg GmbH’s methodologies/models and key rating assumptions are different from those of Scope Ratings GmbH and Scope Ratings UK Limited.
Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other Services’, published on https://www.scoperatings.com/#!governance-and-policies/rating-scale. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA. 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 Ratings’ definitions of default and Credit Rating notations can be found at https://www.scoperatings.com/#governance-and-policies/rating-scale. Guidance and information on how environmental, social or governance factors (ESG factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://www.scoperatings.com/#!methodology/list.
The Outlook indicates the most likely direction of the Credit Ratings if the Credit Ratings were to change within the next 12 to 18 months.

Solicitation, key sources and quality of information
The Credit Ratings were not requested by the Rated Entity or its Related Third Parties. The Credit Rating process was conducted:
With Rated Entity or Related Third Party participation NO
With access to internal documents                               NO
With access to management                                        NO
The following substantially material sources of information were used to prepare the Credit Ratings: public domain.
Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instrument to be satisfactory. The information and data supporting these Credit Ratings originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data.
Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Ratings and/or Outlooks and the principal grounds on which the Credit Ratings and/or Outlooks are based. Following that review, the Credit Ratings were not amended before being issued.

Regulatory disclosures
These Credit Ratings and/or Outlooks are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and/or Outlooks are UK-endorsed.
Lead analyst: Eiko Sievert, Director
Person responsible for approval of the Credit Ratings: Alvise Lennkh, Executive Director
The Credit Ratings/Outlooks were first released by Scope Ratings on January 2003. The Credit Ratings/Outlooks were last updated on 26 July 2019.

Potential conflicts
See www.scoperatings.com under Governance & Policies/EU Regulation/Disclosures for a list of potential conflicts of interest related to the issuance of Credit Ratings.

Conditions of use / exclusion of liability
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