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

The Kingdom of Denmark’s long-term AAA/Stable ratings 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 as well as rising inflationary pressures and the subsequent higher interest rate environment following the escalation of the Russia-Ukraine war. Challenges relate to: i) vulnerabilities in the Danish financial system, including from high levels of household debt; and ii) banking sector vulnerabilities related to falling property prices.

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

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

Rating rationale

The first driver supporting Denmark’s AAA ratings is the country’s economic resilience. This has been demonstrated by the rapid recovery driven by a surge in container shipping demand following the post-Covid reopening of economies, as well as the continued growth despite rising inflationary pressure. As of Q2 2023, Denmark’s economic output stood 8.6% above pre-pandemic levels, outperforming all its highly-rated peer countries such as the Netherlands (+6.2%), Switzerland (+5.6%), Sweden (+5.2%) and Norway (+4.9%). Growth during the first half of 2023 was supported by continued strong output in the pharmaceutical industry, a strong labour market and a gradual improvement in consumer spending power as inflation started to ease. Growth is likely to slow during the second half of 2023 amid a challenging outlook for exports and the construction sector as house prices remain under pressure due to the higher interest rate environment. However, Scope still expects a soft landing for the Danish economy with robust growth in 2023 of 1.3%, slowing to around 1% in 2024, before returning to Denmark’s medium-term growth potential of around 1.5% per year in 2025.

Denmark’s resilience is supported by a highly competitive and flexible labour market. The unemployment rate fell to 4.5% in 2022, its lowest rate since the 2008 financial crisis. While the unemployment rate has started to increase during the first half of 2023, the employment rate remained near all-time highs at 78.2% in Q2 2023 supported by a rise in foreign nationals to the labour market. While there are continued labour shortages in some sectors, Scope expects the unemployment rate to rise moderately to 5.2% in 2023 and 5.3% in 2024. The tight labour market is leading to a rise in wages with the spring collective wage negotiations reaching an agreement of a 4.5% increase in 2023 and 3.7% rise in 2024.

Inflation (HICP) has fallen rapidly in 2023, reaching 2.3% in August 2023 compared with 9.9% in the same month in 2022. While core inflation (excluding energy, food, alcohol and tobacco) remains elevated at 4.5% in August, particularly prices for housing and transport have started to decline since May. Denmark’s central bank pegs its exchange rate to the euro. As euro area monetary policy targets an inflation rate of 2% over the medium term, the fixed-exchange-rate policy provides a framework for returning inflation to a low and stable level. However, limited monetary policy and exchange rate flexibility restricts the central bank’s ability to address financial imbalances, control the money supply and take unconventional measures such as quantitative easing. Danmarks Nationalbank increased its deposit rate to 3.60% in September 2023. This remains in line with the ECB’s monetary policy, whose interest rate on the deposit facility stood at 4.00% in September.

The second driver supporting Denmark’s AAA ratings is the country’s sound public finances and low level of public debt. The 2023 budget reflects a tightened fiscal policy with the aim of helping to contain inflationary pressures by reducing economic activity. This includes relatively small discretionary spending of around 1% of GDP to provide support for the Ukraine, temporary support to particularly vulnerable segments of the population impacted by rising prices, compensation measures for high energy prices and continued investment in healthcare.

General government finances have been in surplus for the past six years, with an average headline fiscal balance at 2.2% of GDP. Scope expects the fiscal balance to remain in surplus of around 2.3% this year and 1.4% in 2024, turning to a small fiscal deficit by 2026 as the government targets a deficit of 0.5% of GDP in the medium term. Following amendments to the budget law last year, the limit on the structural deficit was raised from 0.5% of GDP to 1% of GDP. This should allow for more effective use of Denmark’s large fiscal space while providing budget flexibility to accommodate increased military spending and fund large investments to support the green transition. Denmark’s long term fiscal outlook is further supported by its forward-looking pension policies given its ageing population. The retirement age increases to 67 this year and is expected to rise to 68 by 2030, after which it will be linked to future increases in life expectancy.

Scope expects the gross general government debt ratio to stay well below the pre-pandemic level of 33.7% of GDP, declining to 29.1% this year and falling to 27.7% by 2025. Spending pressures due to an ageing population and continued investment needs are likely to result in a slight increase, but very low and broadly stable public debt level over the next few years of below 30% of GDP.

In addition, the government retains significant financing flexibility through its liquidity buffer estimated at DKK 183bn (6.4% of GDP) at the end of 2023, well above the target band of DKK 50bn-75bn¹. The buffer supports the government’s efforts to maintain stable issuance volumes to investors and allows for some flexibility should market conditions result in a lower issuance than planned. The target for sales of domestic government bonds and short-term loan programmes in 2023 amounts to DKK 65bn (or 2.3% of GDP) and DKK 35bn (1.2% of GDP) respectively.

Denmark’s AAA ratings are further supported by its solid external position, driven by current-account surpluses that have been above the peer group average in recent years. Following the pandemic, the surplus was particularly driven by a surge in international freight rates with the world’s largest container shipping company headquartered in Denmark. Scope expects the strong performance of the pharmaceutical sector to result in continued large current account surpluses of around 10% until 2025. This follows more than two decades of persistent surpluses, reflecting Denmark’s large financial sector, very high domestic savings and strong exports of high-value goods and services.

Danish external debt declined from above 185% of GDP in 2010 to 124% in 2022 and relates mainly to debt in the financial institutions sector (70% of GDP). Both short-term debt (56.5% of GDP) and long-term debt (67.4% of GDP) fell to historical lows in 2022. Reflecting Denmark’s high level of domestic savings, the country’s external position remains sound, with a net international investment position of 60.8% of GDP as of Q1 2023, up from negative 5% in 2008. This is in line with the peer group average.

Denmark’s central bank has intervened repeatedly in foreign-exchange markets since October 2019 to support the krone's peg to the euro. It has succeeded in maintaining the peg in line with its primary mandate. Denmark’s credible commitment to maintaining its fixed exchange rate is backed by its large official reserves, totalling DKK 610.1bn (22% of 2022 GDP) as of August 2023. While the krone is not considered a global reserve currency, Scope assesses it positively as a regional safe-haven currency due to the longstanding exchange rate peg.

Despite these key credit strengths, Denmark’s ratings face the following challenges:

First, there are vulnerabilities in the Danish financial system, including from household debt, which is one of the highest among OECD countries at 210% of net disposable income in 2022. With mortgage loans accounting for around 80% of lending to households and businesses, high levels of debt increase vulnerability to rising interest rates, higher unemployment and sharp declines in house prices. Risks particularly relate to the high share of interest only loans to borrowers with high loan-to-value ratios as highlighted by Denmark’s Systemic Risk Council². Similarly, the IMF³ has noted that around one-third of all mortgages are in the form of variable-rate loans with deferred amortisation.

However, these risks must be viewed in the context of very high levels of household assets, a strong labour market and Denmark’s generous social security system, which provide a strong safety net against short-term income shocks. In addition, Denmark’s unique mortgage system has also helped to lower household debt over the past year from 252% of net disposable income in 2021 to 210% in 2022. As most mortgage bonds in Denmark that are tied to a loan are callable for borrowers at any time, a large share of fixed-rate borrowers was able to refinance their mortgages as interest rates increased. Since the rise in long-term interest rates caused the market prices of these bonds to fall, homeowners were able to convert their loan to a higher rate mortgage, but with lower outstanding debt.

Second, the banking sector is highly exposed to real estate markets, including commercial real estate. House prices in Denmark have decreased by around 6% from their peak in early 2022 but are still 12% higher compared with pre-pandemic levels. Transaction volumes have been supported by a change in property taxes that encourages purchases to be completed before 1 January 2024. Denmark’s central bank⁴ estimates that a 13% decrease in house prices would result in losses for credit institutions of around DKK 33bn driven by homeowner defaults, slightly below the systemic credit institutions’ profit before tax of DKK 36.7bn in 2022. However, exposures to commercial real estate remains a vulnerability for Danish banks and have previously resulted in large losses.

Properties tend to be mortgaged through mortgage credit institutions and Denmark’s high level of household savings and assets held in the pension system facilitated the development of the world’s largest mortgage-covered bond market. Mortgage banks’ real estate lending makes up around 45% of total Danish financial sector assets as of July 2023, while CRE debt accounts for around 30% of corporate debt in Denmark. The country’s highly interconnected financial system of mortgage credit institutions, pension funds and insurance companies can expose the financial system to global CRE market volatility. The risk of credit losses in case of a large shock is significant for banks as they tend to provide the financing to mortgage banks which ranks the lowest in terms of the underlying collateral in case of a default.

However, the banking sector has significant loss absorption capacity. The share of non-performing loans stood at a historical low of 1.3% in Q1 2023 (compared to a 1.8% euro area average), while regulatory Tier 1 capital to risk-weighted assets stood at 18.2% (compared to a 15.8% EU average) and profitability has improved in light of higher interest rates. Still, the central bank’s semi-annual stress test indicated that some systemic credit institutions would not be able to meet their total MREL requirement during a one-year period of restricted new debt issuance.

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. The qualitative scorecard (QS) can adjust this indicative rating by up to three notches depending on the size of relative qualitative credit strengths or weaknesses versus 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) resilience to short-term external shocks; iv) environmental factors; and v) governance factors. No relative credit weaknesses have been identified.

The combined relative credit strengths and weaknesses identified in the QS generate a two-notch positive adjustment to the ratings and indicate a sovereign credit rating of AAA for 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 ratings process via the sovereign methodology’s standalone ESG sovereign risk pillar, with a 25% weighting under the quantitative model (CVS) as well as in the qualitative overlay (QS).

With respect to environmental factors, Denmark receives high scores in CVS indicators measuring carbon emissions per unit of GDP and exposure and vulnerability to natural disaster risks, with lower scores for greenhouse gas (GHG) emissions per capita. Scope assesses Denmark’s QS adjustment for ‘environmental factors’ as ‘strong’. The country aims to reduce GHG emissions by 70% by 2030 (relative to 1990 levels), reach carbon neutrality by 2050 and use 100% green gas in heating by 2030. The country has earmarked 60% of its share of the EU’s Recovery and Resilience Facility for green initiatives, well above the EU’s 37% target. In addition, it has established a green twin bond framework following a similar move by Germany. Around 43% of energy consumption came from renewable sources in 2022, and coal consumption has declined rapidly in recent years, from 20% in 2010 to just 6% in 2022. The Danish Council on Climate Change noted in February 2023 that while the Danish government has adopted significant mitigation measures and climate initiatives, there is still a reduction gap of 20m tonnes of CO2 to reach the 70% emissions reduction target by 2030, and further policy initiatives will be required to fill this gap⁵. The council suggested introducing a general tax on GHG emissions as the basis of climate policy action in the run-up to 2030.

Factors related to Denmark’s social profile are captured in Scope’s CVS, where the country benefits from low income inequality and high labour force participation. Denmark benefits from high GDP per capita and an advanced social safety net, which contributes to low income inequality. However, an elevated old-age dependency ratio places rising demands on welfare services, particularly healthcare. The integration of non-EU migrants is improving with the gap the employment rates of ethnic Danes and foreign nationals gradually narrowing. Besides continued investment in education and digitalisation, the government plans to raise productivity and increase labour supply by offering tax cuts that encourage people to work more and by abolishing a public holiday to help fund higher military expenditure.

Governance-related factors are explicitly captured in Scope’s assessment of a composite index of six World Bank Worldwide Governance Indicators where Denmark has the highest CVS score in Scope’s rated sovereign universe. Denmark benefits from high quality institutions and a stable political environment. Prime Minister Mette Frederiksen leads a minority government following snap elections in November 2022 triggered by a scandal over the slaughter of the country’s entire mink population (17m animals) in 2020. Since gaining representation in parliament requires only 2% of the vote, many political parties are represented (currently more than 10), and minority governments are common, requiring broad coalition-building to pass specific pieces of legislation. A long history of consensus-building therefore supports longer-term policy continuity. The government passed the National Reform Programme in May 2023⁶ which includes welfare reforms aimed at increasing employment by 45,000 full-time persons by 2030, and sustainability goals under the Danish Recovery and Resilience Plan.

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

Rating driver references
1. Central government borrowing strategy 2nd half of 2023
2. Systemic Risk Council Meeting, June 2023
3. IMF Article IV, June 2023
4. Danmarks Nationalbank Financial Stability Report, June 2023
5. Danish Council on Climate Change: Status Outlook 2023
6. Denmark’s National Reform Programme 2023

Methodology
The methodology used for these Credit Ratings and Outlooks, (Sovereign Rating Methodology, 27 September 2023), is available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
The model used for these Credit Ratings and Outlooks is (Core Variable Scorecard Model 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.
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 Outlooks and the principal grounds on which the Credit Ratings and Outlooks are based. Following that review, the Credit Ratings were not amended before being issued.

Regulatory disclosures
These Credit Ratings and Outlooks are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and Outlooks are UK-endorsed.
Lead analyst: Eiko Sievert, Director
Person responsible for approval of the Credit Ratings: Alvise Lennkh-Yunus, Executive Director
The Credit Ratings/Outlooks were first released by Scope Ratings on January 2003. The Credit Ratings/Outlooks were last updated on 21 October 2022.

Potential conflicts
See https://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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