Rating action

Scope Ratings GmbH (Scope) has today affirmed the Republic of Austria’s (Austria) long-term local and foreign currency issuer and senior unsecured debt ratings at AAA and has revised the Outlook to Negative from Stable. Austria’s short-term issuer ratings have been affirmed at S-1+ in local and foreign currency, with Stable Outlooks.

Summary and Outlook

The revision of the Outlook on Austria’s AAA sovereign credit ratings to Negative from Stable reflects the following rating drivers:

1. The Austrian economy’s persistent reliance on Russian natural gas imports, leaving the economic and fiscal outlooks vulnerable to adverse developments in geopolitical tensions with Russia and/or to the non-renewal of the gas transit contract between Ukraine and Russia running to end-2024; and
    
2. Scope’s expectation of continued divergence in Austria’s fiscal fundamentals relative to that of other highly-rated sovereign peers in the wake of the Covid-19 crisis, given forecasts of sustained fiscal deficits and only a gradual reduction in public sector indebtedness. Scope expects structural fiscal pressures resulting from an ageing population to weigh substantially on medium-term fiscal performance, while the country’s complex system of fiscal federalism limits prospects of meaningful consolidation.

The Outlook revision reflects Scope’s updated assessments of Austria under the ‘domestic economic risk’ and ’public finance risk’ categories of its sovereign methodology.

The Negative Outlook represents Scope’s view that risks to the ratings are tilted to the downside over the next 12 to 18 months. The ratings could be downgraded if, individually or collectively: i) growth prospects continued to weaken due, for example, to heightened uncertainty around gas imports from Russia and/or a loss of international competitiveness; ii) the fiscal outlook worsened; and/or iii) risks in the banking sector re-emerged, increasing financial stability concerns and possibly creating the need for government intervention.

Conversely, the Outlook could be revised to Stable if, individually or collectively: i) the growth outlook improved substantially, including via an acceleration of reducing dependence on gas imports from Russia; and/or ii) the fiscal outlook improved, for example via a faster-than-anticipated reduction in general government deficits and debt-to-GDP.

Rating rationale

The revision of the Outlook on Austria’s AAA rating to Negative reflects the persistent risks related to the Austrian economy’s dependence on Russian energy imports, which adds significant uncertainty to the medium-term economic and fiscal outlooks.

Before the escalation of the Ukraine war in early 2022, Austria was among the EU member states most dependent on Russian gas imports, which covered around 80% of total natural gas imports. Gas imports from Russia decreased to 57% of total gas imports in 2022, following efforts to secure deliveries from alternative suppliers (notably with Norway and the United Arab Emirates) and reduce domestic consumption. The reduction was less drastic than what has been achieved in most neighbouring countries, and was partially reversed in recent months, with the share of Russian gas imports in total gas imports edging up to between 47% and 74% over January-April 2023, against around 10% for the EU as a whole. The share of natural gas in Austria’s energy mix was around 23% in 2021. A study commissioned by the Federal Ministry of Climate Action, Environment, Energy, Mobility, Innovation and Technology found that ending Austria’s import of Russian gas could only be achieved by 2027, and would require a combination of lower consumption, greater domestic production of fuels (including biogas and green hydrogen), and alternative suppliers.¹

The current contract under which Russian natural gas transits through the Druzhba pipeline via Ukraine to Central Europe is set to expire in 2024. Significant uncertainty remains around the future of gas deliveries through this route – the only functioning gas route from Russia to Austria following the halt in delivery through the Yamal pipeline and the destruction of the Nord Stream pipelines to Germany. Recent communications from Ukrainian authorities signal a low likelihood that the contract will be renewed.² In the absence of an agreement between Russia and Ukraine, transit could continue under alternative arrangements such as short-term capacity bookings, although these would likely lead to heightened volatility in prices and expose Austria to increased supply risk. Further, the Austrian energy company OMV AG (31.5% state-owned) secured European gas transit capacities on 5 July 2023, including for gas from Norway and imports via LNG terminals, of up to 40 TWh per year (almost half of Austria’s natural gas consumption in 2022) for the period from October 2023 to September 2026³.

While other European countries that were highly reliant on Russian energy imports before the full-scale war in Ukraine have made meaningful progress in reducing this dependence, Austrian authorities have not yet laid out a clear pathway to decoupling from Russian gas, as was recently underlined by the European Commission. Although near-term energy supply risks are mitigated by Austria’s sizeable natural gas stocks, including a strategic gas reserve of 20 TWh and totalling around 90% of annual consumption as of early-July⁴, the persistence of this dependence constitutes a significant long-term challenge for the Austrian economy, in particular for its manufacturing sector (which accounted for 57.1% of total gas consumption in 2022), exposing it to potential sharp increases in energy costs as well as to periods of heightened energy-security risks. Terminating energy ties could entail important fiscal costs, although they are difficult to estimate in view of the lack of transparency on the terms of the contractual ties between OMV AG and Russian state-owned Gazprom. The contract is set to run until 2040.

The Outlook revision on Austria’s ratings also reflects the divergence between country’s fiscal metrics and that of other AAA-rated sovereign peers, which is expected to persist over the forecast horizon after worsening as a result of the Covid-19 shock.

Scope expects the Austrian general government to generate persistent headline fiscal deficits over the coming years, averaging about 1.5% of GDP over 2023-28. The deficit declined to 3.2% of GDP in 2022, down 2.6pps of GDP from the previous year. This occurred in the context of strong revenue growth driven by robust nominal GDP growth and the phase out of pandemic-era measures. The government rolled out a set of policies aimed at alleviating the impact of inflation on the private sector in the wake of the escalation of the Ukraine war. These included reduced levies on energy and direct transfers to corporates and households, for a total budgetary cost of EUR 12.5bn (or 2.6% of expected GDP) in 2023 according to WIFO estimates⁵. Some of the measures implemented last year, including the indexation of personal income tax brackets and social benefits to inflation, will have a lasting impact on the Austrian government’s primary fiscal balance and materially slow down the fiscal consolidation process.

At the same time, the significant increase in interest rates that followed the acceleration of inflationary pressures and rapid monetary policy tightening since H2 2021 has led to a substantial increase in funding costs for the Austrian federal government. The yield on 10-year government bonds has stabilised at around 3.0% on average since 1 January 2023 – up from 1.1% in H1 2022. At the same time, Austrian funding spreads against Bunds have widened to around 66bps for the ten-year maturity in June 2023 –  above levels observed for highly-rated euro area peers. Over the first four months of 2023, cumulative interest payments in the federal budget had increased by nearly 56.5% from the previous year⁶. The European Commission expects interest payments to increase to 2.6% of general government revenue by 2024 (from an estimated 1.9% in 2022) – the former being the highest level among AAA-rated sovereigns.

Scope anticipates only a gradual reduction in Austria’s general government debt-to-GDP ratio over the forecast horizon. After declining to 78.4% in 2022 (down 4pps from the previous year) on the back of robust nominal growth, it is expected to trend downwards to about 70% by 2028 – slightly lower than the pre-pandemic ratio of 70.6%, but the highest such ratio among AAA-rated sovereigns. As of year-end (YE) 2022, Austria’s debt-to-GDP ratio stood around 39pp above the median for AAA-rated peers of 39%, up from around 31pps at YE 2019. Scope expects this gap to remain persistently above its pre-pandemic level in coming years, at around 37pps of GDP.

In addition, Austria’s long-term fiscal outlook faces budgetary and economic challenges posed by Austria’s ageing society. The old-age dependency ratio (the ratio of persons aged 65 and older to persons aged 20-64) is projected to increase from 30.7% in 2019 to 40.3% in 2030 according to the European Commission’s 2021 Ageing Report⁷. This will lead to an increase in ageing-related spending from an already high level of 26.7% of GDP in 2019 to 29.1% in 2030 – the third highest level in the EU and above AAA-rated peers such as Germany (24.8%) and the Netherlands (23.1%).

These demographic pressures constitute a significant challenge to the sustainability of Austria’s pension system. According to an analysis for the Austrian parliament⁸, general government spending on pensions will increase from around 13.4% of GDP in 2019 to 15.5% in 2035. The federal government’s spending on pensions is set to increase to EUR 32.8bn in 2026, around 58% higher than the EUR 20.8bn spent in 2020⁹. Austria runs one of the most generous pension systems in the EU, with a gross replacement rate of 74.1% of pre-retirement earnings in 2020 for men versus an EU-27 average of 54.3%. In addition, the effective retirement age is among the lowest relative to AAA-rated sovereign peers, at 61.6 for men and 59.7 for women.¹⁰ At the same time, Austria’s tax wedge is already elevated, the fourth highest in the OECD, leaving limited room to generate additional resources to balance the pension system through this channel.¹¹ As such, recent estimates of Austria’s “pension space” (i.e. the government’s leeway to fund public pensions from taxation of labour income) put it among the lowest vis-a-vis that of peer countries, and below that of highly-rated peers including Germany and the Netherlands.¹²

Moreover, population ageing will weigh on Austria’s potential growth over the medium-to-long term. Based on Eurostat projections, the working-age population, i.e. persons aged 15-64, is expected to shrink by around 0.3% on average each year between 2023-28. This will weigh on labour inputs to Austria’s potential growth. It is therefore crucial to increase participation rates for people aged 55-64 and women, which stand at 58.9% and 73.4% respectively in Q1 2023 and were lower than averages for the sovereign peer group. Other ageing-related challenges concern the Austrian labour market’s digital skills gap, which is exacerbated by an ageing workforce, and a large cohort of managers retiring in the coming years.

Finally, overall cost efficiency for the provision of public services such as healthcare could be improved via reforms to the complex federal fiscal framework. Austrian subnational governments have a rigid revenue and expenditure structure, and there is a significant misalignment between tax raising and spending powers that disincentivises more cost efficiency. Spending pressures are expected to rise steadily over the coming years, as a result of demographic trends and the sub-sovereign sector’s role in climate-related investments. The latest reform to the federal fiscal system introduced several corrective measures, however, implementation of these measures remains mixed, and the realisation of cost savings remains unclear. Negotiations for the Intergovernmental Fiscal Relations Act 2024 are currently ongoing and represent an opportunity for structural improvements to the country’s fiscal framework, although their ultimate outcome is uncertain.

Despite these credit weaknesses, Austria retains considerable credit strengths.

Firstly, Austria’s AAA ratings are supported by the country’s wealthy, highly-diversified economy. High GDP per capita (EUR 49,360 in 2022) supports economic resilience and exceeds per-capita GDP in Germany (EUR 46,180). The Austrian economy has displayed a track record of strong real growth rates in the period leading up to the pandemic, averaging 1.9% between 2015-19. Throughout this period, Austria benefitted from a favourable external environment, providing a significant uplift to its very open economy. It also benefitted from structural improvements, including a steady increase in labour-force participation and employment levels. The Austrian economy’s high degree of sophistication and diversification is reflected in favourable scores on the Observatory for Economic Complexity’s economic complexity indices, where Austria ranked 9th globally for trade, 3rd for technology and 19th for research.

After contracting by 6.5% in 2020, the Austrian economy registered a robust rebound in 2021 and 2022, with real growth rates of 4.6% and 5.0%, respectively. After experiencing strong growth in the first half of 2022, in part driven by a continued post-pandemic recovery in the tourism industry, the economic momentum decelerated sharply in the second half of the year. Quarterly growth rates stood at 0.0% and -0.1% in Q3 and Q4 2022 (QoQ), respectively, in a context of elevated inflation, heightened uncertainty and tightening funding conditions in the wake of the escalation of the Ukraine war.

Headline consumer-price-index inflation remains elevated, at 8.0% YoY in June (flash estimate), despite having moderated from a recent peak of 11.2% YoY in January 2023, amid declining energy and food commodity prices and more favourable base effects. Inflation rates are among the highest in the euro area, in part owing to the sizeable, largely untargeted inflation relief measures rolled out by the Austrian government in 2022 and 2023. Underlying price dynamics remain strong, with core inflation at 8.6% in May. This primarily reflects the persistence of elevated services-sector inflation, in a context of robust nominal wage growth and tight labour markets, with the unemployment rate at 4.6% in May 2023. The job vacancy rate was 4.7% as of Q1 2023 – the highest level in the EU. After weak growth in the first quarter of the year (0.1% QoQ), Scope expects growth momentum to remain subdued in 2023, before picking up in 2024. Moderating price pressures and strong wage growth following strong wage settlements this year should support a recovery in real household disposable income, in turn driving a rebound in private consumption. Real growth is forecast to decelerate to 0.2% in 2023, before edging up to 1.5% in 2024 and 1.7% in 2025, and to converge on a medium-term potential of around 1.5% in subsequent years.

Second, the AAA ratings are underpinned by Austria’s strong positive net international investment position, with low private-sector debt and a resilient banking system underpinning a favourable overall financial risk profile versus peers. Private-sector indebtedness stood at 121.6% of GDP as of Q4 2022 – the lowest level among similarly-rated peers. Austrian non-financial corporates benefit from moderate leverage levels (about 73% of GDP) and moderate debt-servicing costs (4.8% of gross operating surplus at end-2022 for domestic bank loans). While the latter have increased in recent months in line with rising lending rates and the high share of variable rate corporate loans (86% of new euro-denominated loans over 2013-22), refinancing risks are moderate in view of the low share of short-term loans (15% of total corporate loans). Household debt amounted to about 49% of GDP as of Q4 2022, slightly below pre-crisis levels.

Austria’s external debt is moderate at about 149% of GDP as of end-2022. This is below that of most sovereign peers, including Germany (156%) and the Netherlands (377%). The structure of external debt is favourable, with a high share of long-term debt (72% as of end-2022) and a moderate share of banking sector liabilities (28%). External deleveraging and recurrent current-account surpluses averaging 2.0% of GDP over the 2000-19 period led Austria’s net international investment position into positive territory in 2013. That figure increased to around 15% of GDP in 2022, representing a key rating strength.

Additionally, the Austrian banking sector continues to display resilience, having weathered the Covid-19 and energy shocks well. Asset quality remains strong, with a ratio of non-performing loans on a consolidated basis of 1.8% as of Q4 2022, down from 2.2% in 2019. The non-performing loan ratio for subsidiaries in the Central, Eastern and South-eastern Europe (CESEE) region declined to 1.8% in 2022, from 2.4% in 2019. Exposure to foreign-currency household loans has declined significantly as well, from 6.3% to 2.1% of total domestic loans between 2016 and 2022.

The Austrian banking sector has a large presence in CESEE countries, with subsidiaries in the region contributing about half of Austrian banking-sector profits in 2022 (40% of which were generated in Russia). This exposes banks to fallout from the war in Ukraine. At the same time, these subsidiaries benefit from a solid local funding base and robust capitalisation ratios, as reflected in aggregate common equity tier 1 (CET1) and loan-to-deposit ratios of 16% and 72% respectively, constituting significant buffers against a rise in credit risk in the region¹³.

The Austrian banking sector’s persistent linkages to Russia (amounting to about 10% of the sector’s assets in the CESEE region) are primarily related to Raiffeisen Bank International’s presence in the country, which generated more than half of the group’s profits last year. While the bank has indicated it was considering plans to sever ties with its Russian branch, a concrete exit strategy has not yet been publicly announced. The bank estimates that a split would cause a negative hit to its balance sheet of around EUR 1.8bn – a material direct impact which would, however, leave the bank’s CET1 ratio at around 14%, thus remaining above regulatory minimums, but also weigh on the bank’s profitability outlook in the medium-term.

A third key strength of Austria’s AAA ratings relates to the favourable structure of public debt and moderate funding costs, mitigating the risks of a relatively high stock of debt compared to AAA-rated peers. Supported by its euro area membership, deep European capital markets and the accommodative monetary policy stance adopted by the ECB during the pandemic, Austria financed its fiscal deficits in 2020 and 2021 at very favourable rates and long maturities. Austria’s central-government debt carried an average term to maturity of 11.7 years as of May 2023. In March 2023, Austria issued as the first sovereign worldwide green commercial paper which followed the launch of green treasury bills in October 2022. The inaugural green treasury bill auction was met with strong demand, reflecting continued excellent market access.

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 ‘aa-’. Austria receives a one-notch uplift to this indicative rating via the methodology's reserve-currency adjustment for its euro-area membership. Hence, the methodology allows the qualitative scorecard (QS) to adjust the ‘aa’ final indicative ratings by up to three notches, depending on the size of relative credit strengths or weaknesses versus peers based on analysts’ qualitative analysis.

For Austria, the following relative credit strengths have been identified via the QS: i) growth potential of the economy; ii) debt profile and market access; iii) current account resilience; iv) external debt structure; and v) financial imbalances. No relative credit weaknesses have been identified in the QS.

Combined relative credit strengths and weaknesses identified in the QS result in a positive adjustment of two rating notches. This indicates a sovereign credit rating of AAA for Austria.

A rating committee has discussed and confirmed these results.

Factoring of environment, social and governance (ESG)

Scope explicitly factors in ESG sustainability issues in its ratings process via the sovereign methodology’s stand-alone ESG sovereign risk pillar, with a significant 25% weighting under the quantitative model (CVS).

In the sovereign ESG pillar’s environmental risk subcategory, Austria scores comparatively well on the CVS vis-à-vis euro area peers and broadly in line with its indicative peer group on the economy’s carbon emissions per unit of GDP, natural disaster vulnerability and the ecological footprint of consumption relative to available biocapacity, while receiving comparatively poor marks for its level of greenhouse gas emissions per capita. Despite covering a relatively high share of its energy needs through renewable sources (about a third of its energy mix), Austria’s ambitious target of reducing greenhouse gas emissions not covered by the EU’s Emissions Trading System by 36% by 2030 compared to 2005 levels still needs significant policy action and investment. The government’s plan to allocate 59% of EU Recovery and Resilience Facility monies to climate objectives should facilitate the green transition, especially by focusing on cutting greenhouse gas emissions in the transport and housing sectors. Additionally, the country’s reliance on its tourism sector (which contributes about 7%-8% of annual GDP) makes it particularly vulnerable to climate change, primarily due to the negative impact of rising global temperatures on winter tourism¹⁴. Austria’s green transition policies are considered under the QS assessment of environmental risks, which is assessed at ‘neutral’ versus its indicative peer group.

As regards social risk factors, the CVS points particularly to the country’s ageing society, i.e., an elevated and increasing old-age dependency ratio, in line with trend for indicative peers. Income inequality in Austria is low under an international comparison and broadly comparable to levels for indicative sovereign peers. In addition, labour-force participation of around 77.6% of the active labour force is above the euro area average but below the indicative peer group average. The complementary QS assessment of social risks is assessed at ‘neutral’, indicating that social outcomes are strong and in line with that of the indicative peer group. This includes a low rate of people at risk of poverty or social exclusion of 17.5%. Challenges relate to a low labour-force participation rate via-a-vis indicative peers among the labour force aged 55-64 and among women, at 58.9% and 73.4% respectively. Other medium-term challenges relate to an ageing society weighing on growth prospects, with associated adverse fiscal implications. Total ageing-related costs are estimated by the European Commission’s 2021 Ageing Report to increase from an aggregate 26.7% of GDP in 2019 to 29.1% of GDP in 2030⁷.

Finally, under governance factors captured in Scope’s core variable scorecard (quantitative model), Austria has a very high score on a composite index of six World Bank Worldwide Governance Indicators. Furthermore, Scope’s qualitative scorecard evaluation of institutional and political risks indicates Austria is in line with its ‘aa+’ indicative sovereign peer group. Austria has a robust track record of a stable political environment despite a recent increase in political turnover. Karl Nehammer became Austria’s fifth chancellor in four years in December 2021 following the resignation of Sebastian Kurz amid a corruption probe. The ruling coalition currently comprises chancellor Nehammer’s conservative Austrian People’s Party (ÖVP) and the Greens as a junior partner. The next election is scheduled for 2024.

Rating committee
The main points discussed by the Rating Committee were: i) Austria’s dependence on Russian gas imports, ii) domestic economic risk, including growth potential and resilience; iii) public finance risk and budgetary outlook; iv) external risk; v) financial stability risk, including banking sector exposure to Russia; vi) ESG considerations; and vii) peer developments.

Rating driver references
1. BMK – Ausstieg aus russischem Erdgas           
2. Financial Times, 22 June 2023 – Russia gas flows through Ukraine could stop next year, Kyiv says        
3. OMV press release, 5 July 2023      
4. Gas Infrastructure Europe – AGSI database        
5. WIFO Research Briefs, 2023 – Austria's Anti-Inflationary Measures 2022 to 2026. How Targeted and Climate-friendly are They?      
6. Federal Ministry of Finance – Bericht zur Entwicklung des Bundeshaushalts Jänner - April 2023      
7. European Commission – The 2021 Ageing Report           
8. Budgetdienst – Langfristige Budgetprognose 2022       
9. Bundesfinanzrahmengesetz 2023 bis 2026         
10. European Commission – 2023 European Semester: Country Report - Austria     
11. OECD – Taxing Wages 2023      
12. CEPR – Pension system (un)sustainability and fiscal constraints: A comparative analysis     
13. Austrian National Bank – Financial Stability Report 45     
14. Financial Times, 22 November 2022 – Austria’s ski resorts feel the heat on climate change   

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.
The model used for this Credit Rating and Outlook is the Core Variable (version 2.1), available in Scope Ratings’ list of models, published under 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 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, Associate Director
Person responsible for approval of the Credit Ratings: Dr Giacomo Barisone, Managing Director
The Credit Ratings/Outlook were first released by Scope Ratings on January 2003. The Credit Ratings/Outlooks were last updated on 12 August 2022.

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

Conditions of use/exclusion of liability
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