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, with Stable Outlooks. The short-term issuer ratings have been affirmed at S-1+ in both local and foreign currency, with Stable Outlooks.

The affirmation of Switzerland’s long-term ratings reflects a wealthy and well-diversified economy that is further underpinned by a highly skilled labour force and institutional strengths, all supporting the resilience of the economy. The rating is further strengthened by prudent fiscal management and the authorities’ high commitment to longer-term debt sustainability in addition to a strong external position. Switzerland’s main credit challenges relate to contingent liability risks arising from a very large banking sector in relation to GDP and persistent imbalances in the real estate market.

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Key rating drivers

A wealthy, diversified, and highly competitive economy. Switzerland’s economy is one of the wealthiest globally, with GDP per capita at USD 89,243 in 2023. Its institutional strengths, including a stable, consensus-oriented and effective policy framework, underpin a high degree of economic resilience. After below-potential growth of 0.7% in 2023 amid weak external demand and tight financing conditions, economic activity has picked up in the first half of 2024, and Scope expects full-year growth of around 1.5%, followed by 1.6% in 2025, broadly in line with its potential. The main growth driver is higher private consumption, supported by a pronounced decline in inflation, which averaged 1.4% in the 12 months to August 2024. Given very subdued inflation dynamics, the Swiss National Bank (SNB) cut the policy rate by 25 basis points to 1.0% on 26 September 2024.

Very robust public finances. Switzerland’s credit ratings are further anchored by strong fiscal fundamentals, driven by a strong commitment to longer-term debt sustainability and stringent and constitutionally anchored budgetary rules, in addition to favourable financing conditions. 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 Covid-19 led to temporary deficits of 3.1% of GDP in 2020 and 0.3% in 2021, but measures were effective and targeted. The fiscal balance returned to a surplus of 1.3% of GDP in 2022 and 0.2% in 2023. Further fiscal surpluses are expected over the forecast horizon, supporting a gradual downward trajectory in the general government debt-to-GDP ratio, reaching a projected 30% in 2029 from 38% in 2023. At the same time, population ageing is putting pressure on the budget, but increases in ageing-related expenditure are broadly in line with peers, with elevated future spending on healthcare, but lower future costs on pensions. To support the financial viability of the pension system, a reform on the system’s first pillar, i.e. the state pension, was implemented at the beginning of 2024. The reform aligns the pension reference age at 65 for both men and women, creates incentives for employment past the reference age, and increases the flexibility of pension payments. In addition, pensioners will receive a 13th monthly payment starting in 2026 which is planned to be financed by an increase in the value added tax rate by 0.7 percentage points.

Strong external position. Finally, Switzerland’s AAA ratings are underpinned by its strong external position. The country has recorded persistent current account surpluses, amounting to 6.5% of GDP in 2023, after 9.4% in 2022. Switzerland’s current account resilience is underpinned by highly specialised, price-insensitive exporting industries, such as pharmaceuticals, which made up around 39% of goods exports in 2023. Switzerland is an external creditor nation, with a net international investment position of 111.7% of GDP as of Q1 2024. External debt is comparatively high at 244% of GDP in Q1 2024, mostly comprising short-term debts, but its level has gradually declined over the past years from highs of over 300% of GDP in Q1 2021. External risks are mitigated by the Swiss franc’s safe haven status. In addition, the SNB holds large foreign currency investments of CHF 720bn as of July 2024, which represents over 90% of 2023 GDP.

Rating challenges: large banking sector, persistent imbalances in real estate sector, some uncertainty about relations with the EU

The large size of the Swiss financial system, at roughly CHF 3.3trn or 407% of GDP as of Q2 2024, and its high concentration represents a contingent liability risk to public finances, as highlighted by the Credit Suisse crisis in March 2023. Additionally, domestically focussed banks mostly engage in mortgage lending, which represents around 90% of credit volumes, increasing sensitivities to real estate repricing and interest rate risks. Amid higher interest rates, domestically focussed banks’ profitability improved markedly in 2023, restoring net interest margins.

Financial stability risks are mitigated by several factors. First, the merger of Credit Suisse and UBS in response to the Credit Suisse crisis avoided spillover risks and stabilised the financial system. Contingent risks to the Swiss Confederation related to guarantees given during the merger did not materialise, with all guarantees terminated and all emergency liquidity repaid in August 2023. At the same time, the merger created a more concentrated banking system, with UBS’ total assets of USD 1.57trn at the end of June 2024 representing 175% of 2023 Swiss GDP. Further, measures implemented following the events strengthen financial stability, including establishing the public liquidity backstop, new liquidity requirements for systemically important banks, strengthened supervision of UBS and an extension of access to emergency liquidity assistance (ELA) to all banks against mortgages as collateral.

Regarding domestically focussed banks, borrower-based measures were introduced to limit risks, including an increase in the minimum down payment for mortgages to 25% of the lending volume for residential investment properties and an increase in the sectoral countercyclical capital buffer for residential and real estate markets. System-wide capitalisation remains comfortable, with a CET1 ratio of 17.5% at the end-2023 (vs. 17.0% at end-2022) and the non-performing loan ratio remains very low.

Further, growth in real estate prices has moderated from levels seen in 2021/22. Prices for single-family houses grew by 2.5% YoY in Q1 2024 and prices for privately owned apartment by 3.5%, down from 7.2% and 6.7%, respectively, on average during 2021/22. Vulnerabilities persist as pass-through of higher interest rates may not yet be complete. Growth in bank’s mortgage lending slowed to 2.4% YoY between January and July 2024, down from 2.9% in 2023 and 3.3% in 2022.

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. After an earlier breakdown of negotiations in May 2021 on the institutional framework agreement with the EU, Switzerland and the European Commission are in ongoing negotiations and Scope expects overall constructive relations with the EU to continue, not least due to the importance as respective trading partners. Switzerland is the EU’s fourth-largest trading partner and accounted for 6% of the EU’s overall trade volume in 2023. The EU is Switzerland’s largest trading partner by far. In 2023, the EU accounted for 59% of Swiss trade volume.

Outlook and rating sensitivities

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

Downside scenarios for the rating and Outlooks are (individually or collectively):

1. Financial stability risks materialised with significant negative implications for the economic growth and public finance outlook; and/or
    
2. The economic outlook worsened materially, for example due to a significant deterioration in relations with the EU and trade disruptions.

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

Scope’s SQM, which assesses core sovereign credit fundamentals, signals a first indicative credit rating of ‘aaa’ for Switzerland. Under Scope’s methodology, the indicative rating receives 1) no positive adjustment from the methodological reserve-currency adjustment; and 2) no negative adjustment from the methodological political-risk quantitative adjustment. On this basis, a final SQM quantitative rating of ‘aaa’ is reviewed by the Qualitative Scorecard (QS) and can be changed by up to three notches depending on the size of Switzerland’s qualitative credit strengths or weaknesses compared against a peer group of sovereign states.

Scope identified the following QS relative credit weaknesses for Switzerland: 1) banking sector performance; and 2) financial imbalances. Conversely, Scope identified the following QS relative credit strengths for Switzerland: 1) macro-economic stability and sustainability; 2) fiscal policy framework; 3) debt profile and market access; 4) current account resilience; 5) resilience to short-term external shocks; and 6) social factors. On aggregate, the QS generates a positive one-notch adjustment for Switzerland, resulting in final AAA long-term ratings.

A rating committee has discussed and confirmed these results.

Environment, social and governance (ESG) factors

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).

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 a moderate score for its footprint of consumption relative to available biocapacity. The government is aiming for a 50% reduction in carbon emissions by 2030 relative to 1990 levels and net carbon neutrality by 2050. In March 2024, a revised version of the CO2 Act was adopted, laying out the policy framework for reducing emissions during the 2025-2030 period. Furthermore, the country imposes a carbon levy on fossil fuels of CHF 120 per ton of CO2. 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 SQM 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 83% of the active labour force (ages 15-64) is well above the euro-area average and compares favourably to its peer group average. The ‘social factors’ component of the QS assessment is evaluated as ‘strong’, indicating social outcomes are strong and outperform sovereign peers. This reflects a low risk of poverty (8.2% of the population affected by income poverty in 2022) 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 2022 PISA results. Challenges are associated with a high share of part-time labour among women (almost 60% in 2023), 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 effective from 2024 improves the system’s long term financial viability, mainly by raising the pension age and contributions of women.

Finally, under governance-related factors captured in Scope’s SQM (quantitative model), Switzerland scores highly on a composite index of five 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. This drives Scope’s ‘neutral’ assessment.

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; iii) latest macroeconomic and fiscal developments; and iv) peer considerations.

Methodology
The methodology used for these Credit Ratings and/or 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/or Outlooks is (Sovereign Quantitative Model Version 4.0), 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/or Outlooks and the principal grounds on which the Credit Ratings and/or Outlooks are based. Following that review, the Credit Ratings and/or Outlooks 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 rating: Eiko Sievert, Senior Director
The Credit Ratings/Outlooks were first released by Scope Ratings on 29 September 2017. The Credit Ratings/Outlooks were last updated on 27 January 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, as well as a list of Ancillary Services and certain non-Credit Rating Agency services provided to Rated Entities and/or Related Third Parties.

Conditions of use / exclusion of liability
© 2024 Scope SE & Co. KGaA and all its subsidiaries including Scope Ratings GmbH, Scope Ratings UK Limited, Scope Fund Analysis 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.