For the updated report accompanying this review, click here.

Rating action

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

Summary and Outlook

Switzerland’s AAA ratings are underpinned by: i) its wealthy and well-diversified economy, highly skilled labour force, and institutional strengths including a stable, consensus-oriented, effective policy framework, which, in aggregate, underpin a high degree of economic resilience, including in the current economic and geopolitical environment, although growth is expected to slow materially in 2023; ii) prudent fiscal management and the authorities’ strong commitments to longer-term debt sustainability, underpinned by stringent, constitutionally anchored budgetary rules and favourable financing conditions; and iii) a significant net external asset position, highly competitive exporting industries and the reserve currency status of the Swiss franc.

Challenges include: i) a very large banking sector in relation to GDP, posing contingent liability risks to public finances; and ii) persistent imbalances in the real estate market, with high levels of residential overvaluation after the continued increase in residential property prices since 2020, making the sector more vulnerable to market corrections. The current increase in interest rates however can help correct imbalances in the real estate sector. In addition, financial risks are mitigated by the Swiss banking sector’s strong credit fundamentals, significant household wealth and the Swiss Financial Market Supervisory Authority’s prudent supervisory framework.

Switzerland’s withdrawal from negotiations on the institutional framework agreement with the EU in 2021, which was supposed to consolidate existing bilateral trade agreements, represents a moderate longer-term risk to the Swiss economic outlook, as it complicates the process for establishing future trade agreements with one of its main trading partners.

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

The ratings/Outlooks could be downgraded if, individually or collectively: i) financial stability risks materialised with significant negative implications for the economic growth and public finance outlook – for example, via a sharp correction in the housing market or large, persistent losses weakening banks’ balance sheets; and/or ii) there was a significant worsening of the economic outlook, for example due to a significant deterioration in relations with the EU and trade disruptions.

Rating Rationale

First, Switzerland’s credit profile benefits from its wealthy, diversified and highly competitive economy, with an expected GDP per capita at a high USD 92,434 at the end of 2022. After average robust growth of 1.9% from 2015-19, real GDP declined by a relatively moderate 2.5% in 2020 due to the Covid-19 pandemic, compared to the 6.4% decline in the euro area. Economic activity rebounded in 2021, growing by 4.2% in real terms, driven by a recovery in private consumption and net exports. Growth momentum has slowed in 2022 to 0.7% YoY in the third quarter, amid a global economic slowdown which weakened foreign demand and higher energy prices, both repercussions of the full-scale war in Ukraine. Inflationary pressures will persist in the short- to medium-term, likely spreading across a broader set of categories of goods and services and will thus continue to curb private consumption, foreign trade and investments. Scope expects real GDP growth of 2.0% in 2022, followed by 0.6% in 2023 and 1.9% in 2024. The country’s growth potential remains solid at an estimated 1.5%.

Inflation has historically been very low in Switzerland due to structural factors and deflationary pressures stemming from Swiss franc appreciation making imports relatively cheaper. Inflation averaged around 0% from 2015 to 2020. Towards the end of 2021, higher energy prices led to higher CPI inflation which persisted in 2022, peaking at 3.5% YoY in August¹. Following energy and international price dynamics, inflation slowed down slightly in the last months of 2022, to 2.8% YoY in December. At the same time, Swiss core inflation was relatively moderate at 1.7% on average in 2022, especially when compared to levels in peer euro area economies such as Germany. The Swiss National Bank (SNB) has normalised its monetary policy stance in 2022, having raised the key policy rate by a total of 175bps by December 2022 to 1%, from previously negative 0.75%. The SNB holds a large amount of foreign currency investments, totalling CHF 883bn as of November 2022, although significantly reduced compared to CHF 1.07trn in May 2022.

The Swiss labour market performed robustly over 2020/22, supported by the Swiss economy’s low reliance on industries affected by pandemic containment measures, a high adaptability to telework and a short-time work scheme, which covered 1.08m people (around 21% of total employment) at its peak in April 2020. Labour market conditions are currently tight, resulting in a high number of vacancies and companies that are experiencing difficulties in recruiting personnel. Total employment has increased since the second half of 2020, and surpassed its pre-pandemic level, while the unemployment rate reached a low 1.9% in December 2022. Amid the expected growth slowdown, Scope projects the unemployment rate to increase to 2.7% in 2023 and 2.9% in 2024.

Switzerland’s AAA credit ratings are further anchored by very robust public finances. The central government’s debt brake and debt brakes in most cantons call for balanced budgets over the economic cycle. This has resulted in general government budget surpluses averaging 0.9% of GDP over 2015-19.

The government’s fiscal response to the Covid-19 crisis was effective, targeted and sizeable, amounting to CHF 40bn between 2020 and 2022 (5.5% of 2020-22 average GDP), leading to general government deficits of 3.1% of GDP in 2020 and 0.5% of GDP in 2021. Scope expects the 2022 fiscal balance to return to a surplus of around 0.3% of GDP, driven by continued robust tax receipts and lower pandemic-related spending, as well as sizeable SNB dividend pay-outs of CHF 6bn, or 0.8% of GDP. For 2023, budgetary margins should tighten again, as the SNB will not pay out dividends given its 2022 net loss of CHF 132bn, a slowdown in the growth dynamic for tax revenues, and moderate cost increases, related to housing and integrating Ukrainian refugees and higher defence spending, set to reach 1% of GDP by 2030². Scope expects broadly balanced general government fiscal accounts in 2023/24. Any future surpluses, together with SNB dividend pay-outs, would be used to reduce Covid-19 debt amounting to CHF 20.3bn at YE 2021, expected to be around CHF 25bn at YE 2022.

Finally, a reform to support the financial viability of the country’s pension system’s first pillar, the AHV system, was recently approved by popular referendum and will be implemented from 1 January 2024. Elements of the reform include aligning the pension reference age at 65 for both women and men, incentives for employment past the reference age, as well as an increase in the value-added tax, earmarked for financing the pension system.

Switzerland’s general government debt-to-GDP ratio is on a downward trend, having decreased from 43.3% in 2020 to 42.1% in 2021. Gradual improvements in the headline fiscal balance support the declining trend of the debt ratio, which Scope expects to further decline to 37.0% in 2024, before converging towards 33.3% by 2027. A high GDP deflator (assumed at around 2% on average between 2022 and 2027) and a low average cost of debt support debt dynamics. Debt affordability metrics remain strong, with interest expenditures amounting to 0.15% of GDP in 2021, expected to modestly increase to around 0.25% over the medium term, and a relatively contained increase in the 10-year government bond yield from an average -0.2% in 2021 to 1.1% as of 19 January 2023.

Switzerland’s AAA ratings are bolstered by a strong external position. Current account surpluses were consistent over 2015-19, averaging 6.2% of GDP. The current account declined to 0.4% of GDP in 2020, but has steadily improved over 2021/22 to reach 12.4% of GDP in Q3 2022, driven by a 15.9% of GDP surplus in goods trade. Switzerland’s current account resilience is underpinned by highly specialized, price-insensitive exporting industries, such as pharmaceuticals, which made up around 38% of goods exports in 2021. Switzerland is an external creditor nation, with a net international investment position of 96.5% of GDP as of Q3 2022, declining from a 131% of GDP peak in Q1 2021, but in line with pre-pandemic levels. External debt is comparatively high at 285% of GDP in Q3 2022, mostly comprising short-term debts. External risks are mitigated by the Swiss franc’s safe haven status. In addition, the SNB holds large foreign currency investments of CHF 805bn as of November 2022, around 104% of expected 2022 GDP.

Despite these credit strengths, Switzerland’s credit ratings face the following credit rating challenges.

First, the large size of the Swiss financial system, at roughly CHF 3.7trn or 485% of GDP as of Q3 2022, represents a contingent liability risk to the government. In particular, the two globally active banks UBS and Credit Suisse are very large compared to the Swiss economy (both with total exposures between 120% and 140% of GDP), due to the global reach of their wealth management and investment banking activities. Credit Suisse’s profitability was negatively affected by extraordinary items such as provisions for litigation and the reduction in risk and exposure of the investment banking units after the losses associated with the default of the US hedge fund Archegos. However, capital adequacy has been improving for both banks, due to earnings retention in the case of UBS and thanks to both a reduction in risk-weighted assets and capitalisation for Credit Suisse, reflecting ongoing restructuring efforts at the bank. Losses related to the war in Ukraine remained limited, amounting to CHF 0.1bn for UBS and CHF 0.2bn for Credit Suisse in the first quarter of 2022³.

Domestically active banks mostly engage in mortgage lending, which represents around 90% of their loans, increasing sensitivities to real estate repricing and interest rate risks. Amid the economic recovery and the pandemic-related support measures, profitability and capitalisation metrics improved in 2021, supported by earnings retention.

However, Scope acknowledges several factors mitigating financial stability concerns. First, UBS and Credit Suisse, as systematically important banks, must comply with “too big to fail” regulation, requiring them to maintain higher capital and liquidity ratios and recovery and emergency plans. In addition, the Swiss Financial Market Supervisory Authority oversees resolution planning.

Second, domestically active banks face increasing scrutiny of their mortgage lending, as underpinned by the increase in minimum down payments for mortgages of 25% of the lending volume - from the previous 10% - for residential investment properties. Additionally, the sectoral countercyclical capital buffer targeting the residential and real estate markets has been increased to 2.5% of risk-weighted exposure as of September 2022, helping to increase buffers in case of more significant re-pricing in the real estate market. System-wide capitalisation remains comfortable, with a CET1 ratio of 18.7% at the end of September 2022 and the non-performing loan ratio was at a low 0.6% of aggregate loans.

More broadly, the Swiss financial system shows signs of persistent imbalances in the real estate market, resulting in significant overvaluation compared to historical averages in the residential and apartment real estate segments. The current increase in interest rates, however, contributes to containing these vulnerabilities via smoother housing price corrections. House price growth has slowed in H2 2022, to 5.5% YoY for single-family homes in the last quarter of 2022, from almost 8.7% at the beginning of 2022, and 5.2% for owner-occupied apartments, from 7.5%. Banks’ mortgage lending grew in line with its long-term trend at 3.3% YoY in October 2022. The country’s mortgage-to-GDP ratio reached 153% at the end of 2021, down from 156% in 2020. Private debt is high at around 279% of GDP as of Q2 2022, although this is matched by high household wealth, reported at 415.5% of GDP at the end of 2021.

Finally, as a highly open economy, Switzerland is sensitive to global trade shocks and relies on favourable trade relations with its main trading partners, such as the EU. The breakdown of negotiations in May 2021 on the institutional framework agreement with the EU, to consolidate bilateral agreements that govern Swiss-EU trade relation and access to the EU’s single market, represents a moderate longer-term risk to the Swiss economic outlook, as it complicates the process for establishing future trade agreements. The three main sticking points that ultimately led to the Swiss decision to end negotiations were on the EU’s Citizens' Rights Directive, wage protection and state aid provisions. Recent exploratory talks have been constructive, with the two counterparties reciprocally recognizing the importance of stable and mutually beneficial relations^4,5.

Trade relations between the EU and Switzerland are of macroeconomic importance for both parties. Switzerland is the EU’s fourth largest trading partner and accounted for 8.7% of the EU’s exports and the fifth largest partner for imports, with a share of 6.4% in 2021. The EU is Switzerland’s largest trading partner by far. The EU accounted for around 47% of Switzerland’s exports and 61% of imports in 2021. A study by BAK Basel Economics found that a lapsing of agreements collected under the ‘Bilaterals I’ umbrella would leave the Swiss economy around 5%-7% smaller by 2035 than with the agreements in place.

Scope expects overall constructive relations with the EU to continue, even as selective mutual recognition agreements lapse and/or are renegotiated. This is underpinned not only by the rejection in 2020 of a popular initiative that would have ended free movement of persons between Switzerland and the EU, but also the importance as respective trade partners. Ignazio Cassis, President of the Swiss Confederation, re-affirmed the constructive stance of the Swiss government towards the EU in November 2021.

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 credit rating of ‘aaa’ for Switzerland. The ‘aaa’ 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 Switzerland, the following relative credit strengths have been identified via the QS: i) macro-economic stability and sustainability; ii) fiscal policy framework; iii) debt profile and market access; iv) current account resilience; v) resilience to short-term external shocks; and vi) social factors. Conversely, relative credit weaknesses have been identified with regards to financial sector performance and financial imbalances.

Combined relative credit strengths and weaknesses identified in the QS indicate a sovereign credit rating of AAA for Switzerland.

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 25% weighting under the quantitative model (CVS) and the methodology’s qualitative overlay (QS).

In the sovereign ESG pillar’s environmental factors sub-category, Switzerland’s performance is in line with that of indicative sovereign peers. This is due to a high score on the natural disaster risk assessment vis-à-vis the World Risk Index, a high score for the economy’s carbon intensity (Scope’s proxy for transition risk to a greener economic model), and relatively poor performance in terms of its footprint of consumption relative to available biocapacity. The last of these is below indicative sovereign peers, given that Switzerland is a relatively small economy that imports most of its natural resources. The government is aiming for a 50% reduction in carbon emissions by 2030 relative to 1990 levels and net carbon neutrality by 2050. Furthermore, the country imposes a carbon levy on fossil fuels, which was increased to CHF 120 per ton of CO2 (around USD 130) in 2022 from CHF 96 in 2021. Environmental policies and challenges are considered under a QS assessment of ‘environmental factors’, which is evaluated as ‘neutral’ against the sovereign peer group.

As regards social factors, Switzerland’s CVS score reflects an ageing society via an elevated and increasing old-age dependency ratio, although this development will not be as rapid as in some peer economies, such as Germany and Finland. Income inequality – captured by the ratio of the income share of the bottom 50% of the population – is in line with that of Switzerland’s sovereign peer group. In addition, labour force participation of around 84% of the active labour force (ages 15-64) is well above the euro-area average and compares favourably to the ‘aaa’ peer group average. The ‘social factors’ component of the QS assessment is evaluated as ‘strong’, indicating social outcomes are strong and outperform ‘aaa’ sovereign peers. This reflects a low risk of poverty (8.5% of the population affected by income poverty in 2020) and strong educational outcomes, as shown by a high share of persons with tertiary education and high average performance in mathematics, reading and sciences according to 2018 PISA results. Challenges are associated with a high share of part-time labour among women (almost 60% in 2021), reflecting high cost for child-care, but also high wages; and a relatively high unemployment rate among foreigners. In the longer term, an ageing population will make the pension system’s first pillar, the AHV system, more costly. At the same time, a reform to improve the system’s long term financial viability was recently approved by popular referendum and will be implemented from 1 January 2024.

Finally, under governance-related factors captured in Scope’s core variable scorecard (quantitative model), Switzerland scores highly on a composite index of six World Bank Worldwide Governance Indicators. This reflects stable political conditions based on consensus-oriented, effective policy making. As a direct democracy, key political issues are decided by popular referenda. The federal council consists of seven members from the four major political parties, each heading one government department, and takes decisions based on consensus. Next elections will be held in October 2023.

Rating Committee
The main points discussed by the rating committee were: i) globally active and domestically focussed banking sector dynamics; ii) latest developments of the EU-Switzerland relations after breakdown of negotiations on the framework agreement; iii) latest macroeconomic and fiscal developments; and iv) peers considerations.

Rating driver references
1. Swiss National Bank 
2. Federal Finance Administration -FFA
3. Swiss National Bank 
4. Swissinfo.ch 
5. Swissinfo.ch 

Methodology
The methodology used for these Credit Ratings and/or Outlooks, (Sovereign Rating Methodology, 27 September 2022), is available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
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-governance/definitions-and-scales. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://scoperatings.com/governance-and-policies/regulatory/eu-regulation. 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-governance/definitions-and-scales. 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://scoperatings.com/governance-and-policies/rating-governance/methodologies.

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: Julian Zimmermann, Senior Analyst
Person responsible for approval of the Credit Ratings: Alvise Lennkh-Yunus, Executive Director
The Credit Ratings/Outlooks were first released by Scope Ratings on 29 September 2017. The Credit Ratings/Outlooks were last updated on 18 February 2022.

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
© 2023 Scope SE & Co. KGaA and all its subsidiaries including Scope Ratings GmbH, Scope Ratings UK Limited, Scope Fund Analysis GmbH, Scope Investor Services GmbH, and Scope ESG Analysis GmbH (collectively, Scope). All rights reserved. The information and data supporting Scope’s ratings, rating reports, rating opinions and related research and credit opinions 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. Scope’s ratings, rating reports, rating opinions, or related research and credit opinions are provided ‘as is’ without any representation or warranty of any kind. In no circumstance shall Scope or its directors, officers, employees and other representatives be liable to any party for any direct, indirect, incidental or other damages, expenses of any kind, or losses arising from any use of Scope’s ratings, rating reports, rating opinions, related research or credit opinions. Ratings and other related credit opinions issued by Scope are, and have to be viewed by any party as, opinions on relative credit risk and not a statement of fact or recommendation to purchase, hold or sell securities. Past performance does not necessarily predict future results. Any report issued by Scope is not a prospectus or similar document related to a debt security or issuing entity. Scope issues credit ratings and related research and opinions with the understanding and expectation that parties using them will assess independently the suitability of each security for investment or transaction purposes. Scope’s credit ratings address relative credit risk, they do not address other risks such as market, liquidity, legal, or volatility. The information and data included herein is protected by copyright and other laws. To reproduce, transmit, transfer, disseminate, translate, resell, or store for subsequent use for any such purpose the information and data contained herein, contact Scope Ratings GmbH at Lennéstraße 5 D-10785 Berlin.