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Rating action

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

Summary and Outlook

The affirmation of Finland’s AA+ ratings reflects the following drivers:

1. Finland’s wealthy and modern economy, underpinned by a highly educated workforce and a strong infrastructure in the future economic areas of digitalisation and the environmental transition, which supports resilience to external shocks including the Covid-19 pandemic and Russia-Ukraine war;
    
2. High government debt affordability, excellent market access and the government’s ample net financial asset position; and
    
3. High institutional quality, with Finland ranking among the best countries globally in terms of respect for the rule of law, accompanied by a good record of proactively implementing reforms.

The ratings are constrained by structural fiscal pressures driving a sustained increase in the country’s debt-to-GDP ratio, which Scope considers a key credit challenge. Other rating challenges include the moderate medium-term growth potential compared with peers, and structural financial stability vulnerabilities including a concentrated banking sector reliant on wholesale funding.

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 upgraded if, individually or collectively: i) the fiscal outlook improved notably, resulting in a sustained debt reduction; and/or ii) the country’s economic growth outlook improved significantly.

Conversely, the ratings/Outlooks could be downgraded if, individually or collectively: i) the fiscal outlook notably weakened, resulting in a material increase in government debt; ii) the medium-term economic growth outlook deteriorated significantly; iii) financial stability risks were to crystallise, with damage to the financial and non-financial private sector balance sheets, significantly weakening the economic and fiscal outlooks; and/or iv) geopolitical risks were to escalate significantly, threatening macroeconomic stability.

Rating rationale

First driver of the rating affirmation: wealthy and modern economy, resilient to external shocks

Finland’s credit ratings are supported by the country’s high per capita GDP of about EUR 50,500, or 125% of the euro area average, which contributes to the country’s resilience to economic shocks. This was demonstrated during the Covid-19 pandemic, when the country recovered quickly from a comparatively mild recession, and during Russia’s full-scale invasion of Ukraine despite Finland’s important trade linkages with Russia.

Economic growth slowed in 2023 with output declining by 0.9% and Scope expects it to decline by a further 0.2% in 2024. The weak outlook reflects slow growth in Finland’s largest trading partners and the impact of higher interest rates on households and companies, particularly in the construction sector. With inflation falling significantly this year and interest rates declining during the second half of 2024, the economy is expected to grow by 2% in 2025 before returning to the medium-term trend growth of around 1.2%. The outlook is supported by a highly educated workforce and a resilient labour market with employment remaining stable as firms in most sectors continue to face skilled labour shortages.

The country’s resilience is also supported by its external and energy security. The escalation of the Russia-Ukraine war has changed the security environment for Finland, given its 1,300km shared border with Russia. Scope considers as very unlikely an escalation in geopolitical risks to the point of threatening Finland’s macroeconomic stability, thanks to the country’s strong ties to Western allies, further reinforced by its NATO accession. Investments in wind and nuclear energy have also boosted Finland’s energy security and independence. As of H1 2023, renewable energy sources were responsible for 42% of energy consumption while nuclear energy accounting for 26% and fossil fuels for 31%. Finland has one of the most ambitious emission reduction targets globally and aims to become carbon neutral by 2035 with increased investment in wind energy. The country is already a leader in key energy technologies including batteries and heat pumps.

Second driver of the rating affirmation: high government debt affordability, excellent market access and net financial asset position

Finland’s general government debt stood at around 75% of GDP at the end of 2023. While debt has been rising, it remains very affordable, as reflected in a moderate interest burden with interest expenditure at 1.9% of government revenue and at 1.0% of GDP. 10-year government bond yields fell to about 2.8% in March, down from 3.5% in October 2023, but still up from 0% at the beginning of 2022. Scope expects the interest expenditure to gradually rise over the next five years to about 1.8% of GDP. While Finland has a long average debt maturity of 7.6 years, average fixing of debt is shorter at 4.4 years, due to the use of interest rate swaps. While this reduces financing costs in stable market conditions when the yield curve is upward sloping, it increases financing costs more rapidly when interest rates rise.

Government debt holdings are supported by excellent market access and an ample, stable and well diversified investor base, by region and investor type. The Bank of Finland holds around 26% of the government debt and the Finnish Treasury operates a prudent liquidity management holding a sizeable cash buffer, which could cover around 25% of this year’s expected central government gross borrowing requirements. These favourable factors help mitigate risks related to structurally higher annual funding needs, expected at 14-15% of GDP in the next five years, against about 6-8% before the pandemic.

The government’s ample net financial asset position (55.1% of GDP) stemming from its public pension scheme is a further important element of resilience for Finland’s government finances. Most of these assets are earmarked to fund pension expenditures, resulting in the Finnish government being the wealthiest among euro area sovereigns. As of Q3 2023, the earnings-related pension assets totalled EUR 244bn (87% of GDP) of which EUR 154bn relate to private sector investment assets and EUR 90bn relate to the public sector.

Third driver of the rating affirmation: high institutional quality and good record of effective policymaking

Finland ranks above the 95th percentile in five out of six World Bank governance indicators including for the rule of law, control of corruption, voice and accountability, regulatory quality and government effectiveness. The country’s strong governance reflects a business-friendly environment and strengthens macroeconomic stability.

Finnish authorities have proved resolute in implementing structural reforms in recent years, strengthening the sustainability of the welfare system, addressing labour market rigidities, and by shifting the country’s foreign policy traditionally guided by the principal of neutrality towards full NATO membership. The landmark healthcare reform entered into effect in 2023, streamlining the structure of the healthcare system from the previous highly fragmented municipal sector to newly created county governments. This improves the central government’s abilities to steer the system and could contain costs in an area driving structural imbalances in Finland’s government finances.

The centre-right coalition government is led by Prime Minister Petteri Orpo from the National Coalition Party, in partnership with the far-right Finns Party, the Swedish People’s Party and the Christian Democrats. The government programme aims to balance Finland’s public finances by implementing expenditure cuts, tax increases and structural reforms worth around EUR 6bn (or 2% of GDP). This includes planned labour market reforms and proposed cuts to social welfare, which have led to widespread strikes. The government remains committed to the reforms, which aim to increase employment to ease structural fiscal pressures.

Rating challenges: rising fiscal pressures, modest growth potential and private sector vulnerabilities to rising interest rates

Finland’s credit ratings are constrained by a structural fiscal deficit and a challenging public finance outlook due to costs associated with rising defence expenditure and an ageing population reflected by the highest old-age dependency ratio in the euro area in line with Italy. Scope expects the fiscal deficit to remain elevated at 3.5% this year and 3.7% in 2025 before falling below 3% in subsequent years. The debt-to-GDP ratio is expected to rise gradually from 75% in 2023 to 87% by 2028, a key credit challenge.

Second, the economy has a modest medium-term growth potential, constrained by a declining working-age population, weak productivity dynamics and labour market rigidities. Total factor productivity has remained stagnant over the past 15 years and Finland’s medium-term growth potential of 1.2% remains below other Nordic economies and most highly rated peers.

Finally, Finland’s private sector is also exposed to structural financial stability vulnerabilities. While the domestic banking sector is well capitalised, it is also one of the largest in Europe relative to the size of the economy, being also concentrated and highly reliant on financing from international financial markets. The sector is also sensitive to disruptions in Nordic real estate markets, as loans backed by residential and commercial real estate account for almost 60% of outstanding bank lending. While households and corporates face lower debt than in other Nordic economies, the high share of variable-rate borrowing has weighed on debt service capacity.

Sovereign Quantitative Model (SQM) and Qualitative Scorecard (QS)

Scope’s SQM, which assesses core sovereign credit fundamentals, signals a first indicative credit rating of ‘aa-’ for Finland. Under Scope’s methodology, the indicative rating receives i) one positive adjustment from the methodological reserve-currency adjustment; and ii) no negative adjustment from the methodological political-risk quantitative adjustment. On this basis, a final SQM quantitative rating of ‘aa’ is reviewed by the Qualitative Scorecard (QS) and can be changed by up to three notches depending on the size of Finland’s qualitative credit strengths or weaknesses compared against a peer group of sovereign states.

Scope identified the following QS relative credit strengths for Finland: i) fiscal policy framework; ii) environmental factors; and iii) social factors. Conversely, the following credit weakness has been identified in the QS: i) long-term debt trajectory. On aggregate, the QS generates a one-notch positive adjustment for Finland’s credit rating, resulting in final AA+ long-term ratings. A rating committee has discussed and confirmed these results.

Factoring of Environment, Social and Governance (ESG)

Scope explicitly factors in ESG issues in its ratings process vis-à-vis the sovereign-rating methodology’s stand-alone ESG sovereign-risk pillar, which holds a significant 25% weighting under the quantitative model (SQM) and 20% weight under the methodology’s qualitative overlay (QS).

With respect to environmental factors, Finland receives high scores in most SQM indicators. These include carbon emissions per unit of GDP, the ecological footprint of consumption compared with available biocapacity, and the second highest ranking of the ND-GAIN index implying a low vulnerability and high readiness to adapt to climate change. Finland has however a relatively weak mark on emissions per capita. Scope assesses Finland’s QS adjustment for ‘environmental factors‘ as ‘strong’. Finland aims to become carbon neutral by 2035, one of the most ambitious emissions reduction targets globally. The Climate Change Act enforced in July 2022 has set targets to reduce emissions by 60%, 80% and at least 90% compared to 1990 levels for 2030, 2040 and 2050, respectively, which will require significant policy efforts and economic transformations. The 2023 Annual Climate Report indicates that the 2030 emission reduction targets are in reach. However, a significant effort is needed to strengthen the land use sector’s net carbon sink – to meet the 2035 carbon neutrality target, forests and other carbon sinks will have to absorb as much carbon dioxide as Finland produces. Finland benefits from ample, diversified and sustainable energy sources. Still, further efforts in improving energy efficiency would support the achievement of emission reduction targets and reduce import dependency on fossil fuels, which still account for about a third of the energy mix.

Regarding social criteria, in the SQM model Finland receives high scores on income inequality and labour force participation, and a weak mark on the old-age dependency ratio. The complementary QS assessment of ‘social factors’ is assessed at ‘strong’. Finland benefits from an advanced social safety net and a high-quality education system, reflected in one of the lowest income inequality levels among European countries, as well as a share of people at risk of poverty and social exclusion well below the EU average (16% versus 22%). Finland ranks first in the 2023 Sustainable Development Report, which assesses countries’ progress towards achieving the UN’s 2030 goals. Social risks relate to the country’s adverse demographic trends. Finland has the joint-highest old-age dependency ratio in the euro area, at 37.8% in 2023, up from 22.2% in 2000. According to the European Commission’s 2024 Ageing Report, the ratio will increase to about 45% by 2030, with negative implications in terms of social spending and growth potential.

In the SQM, Finland has outstanding scores in the World Bank’s Worldwide Governance Indicators and receives no negative adjustment for political risk. In the QS, Scope assesses Finland’s ‘governance factors’ as ‘neutral’ versus its sovereign peer group. Finland benefits from outstanding institutional quality. Scope expects a continuation of a proactive stance to structural reform as illustrated by the government’s ambitious reform plans for the labour market. Finland has been exposed to geopolitical risks since the escalation of the Russia-Ukraine war, given its 1,300 km long border with Russia. The country’s international ties to European and other Western allies, underpinned by the recent accession to NATO, strongly limit security risks.
 
Rating committee
The main points discussed by the rating committee were: i) Finland’s economic outlook and medium-term growth potential; ii) fiscal and debt sustainability developments; iii) external sector vulnerabilities; iv) banking sector and financial stability risks; v) ESG considerations; and vi) peer comparisons.

Methodology
The methodology used for these Credit Ratings and Outlooks, (Sovereign Rating Methodology, 29 January 2024), is available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
The model used for these Credit Ratings and Outlooks (Sovereign Quantitative Model Version 3.0), is 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    YES
With access to internal documents                                  NO
With access to management                                           YES
The following substantially material sources of information were used to prepare the Credit Ratings: public domain and the Rated Entity.
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 and Outlooks 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, Managing Director
The Credit Ratings/Outlooks were first released by Scope Ratings in January 2003. The Credit Ratings/Outlooks were last updated on 22 September 2023.
 
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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