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Fitch Affirms Finland at 'AA+'; Outlook Stable
August 11, 2017 / 8:08 PM / in 4 months

Fitch Affirms Finland at 'AA+'; Outlook Stable

(The following statement was released by the rating agency) LONDON, August 11 (Fitch) Fitch Ratings has affirmed Finland's Long-Term Foreign and Local-Currency Issuer Default Ratings (IDR) at 'AA+' with a Stable Outlook. The issue ratings on Finland's long-term senior unsecured foreign- and local-currency bonds have also been affirmed at 'AA+'. The Country Ceiling has been affirmed at 'AAA', and the Short-Term Foreign-Currency and Local-Currency IDRs at 'F1+'. The issue ratings on Finland's short-term debt have also been affirmed at 'F1+'. KEY RATING DRIVERS Finland's 'AA+' IDRs reflect the following key rating drivers: Finland's rating draws support from a high value-added economy, political stability and very strong governance and institutional strengths. Large pension assets also provide fiscal flexibility. However, a series of shocks and structural limitations has constrained GDP growth and strained the public finances, weighing on the ratings. Finland's recovery is mainly driven by cyclical factors. Real GDP is set to grow by 2.3% in 2017, its fastest pace of expansion in five years, supported by the upswing in global trade. This is above our previous forecast of 1.2%. Economic activity in 1H17 has accelerated above expectations. Exports have proved stronger than we had anticipated, helped by solid demand from Europe and the recovery in Russian GDP growth and improving external competitiveness. However, real GDP remains 3% smaller than it was in 2007 and medium-term growth challenges persist. Economic momentum is set to continue this year. Private consumption is supported by positive labour market developments, consumer confidence near record highs and low interest rates. Gross fixed investment growth is shifting from the construction sector towards tradable sectors. Investment in machinery, equipment and transport vehicles is picking up due to a rise in industrial capacity utilisation and a stronger outlook for both foreign and domestic industrial orders. Fitch expects GDP growth to slow gradually to 1.7% and 1.4% in 2018-19. Private consumption growth is set to moderate in 2018-19. Over the last two years, private consumption was partly supported by a rise in household debt and a decline in the saving rate. With the household saving rate near record lows, the potential for financing consumption through debt is limited, in Fitch's view. Conversely, employment growth should provide support to consumption. Investment growth in the construction sector should stabilise as approvals for new building starts reach a peak this year. Investment in the manufacturing sector will be supported by a recovery in export demand, rising capacity utilisation and improvements in cost competitiveness related to the implementation of the Competitiveness Pact. There is some evidence that the authorities' efforts to implement structural reforms are bearing fruit. The Competitiveness Pact (which came into force in January 2017) has further improved real exchange rate dynamics. In 1Q17, unit labour costs per hours worked declined sharply relative to the main trading partners (Sweden and Germany) and the eurozone. The pact is the cornerstone of the Finnish authorities' efforts to tackle high labour costs. The 2018 round of wage negotiations is due to start in September and this creates some uncertainty around future developments in external competitiveness. Fitch assumes that the outcome of the wage negotiations will not lead to deterioration in external competitiveness. The authorities continue to focus on implementing structural reform policies, which should help improve the growth outlook and public finances over the medium to long term. Reforms to the pension system are being rolled out this year, while the legal framework for a major reorganisation of health and social services around counties (SOTE) should be in place by 1H18, which would allow implementation to start by January 2020. The complexity of these changes creates challenges (in particular for SOTE), but risks are moderated by Finland's track record of sound policy implementation and strong commitment to reform from different political and social partners. The political backdrop remains broadly supportive for reform implementation. Following the decline in support for the populist/eurosceptic True Finns (from 19% in the 2015 parliamentary elections to 9%) the former leader Timo Soini resigned. His resignation triggered a leadership contest that was won by Jussi Halla-aho. Following the election, the prime minister Juha Sipila decided to oust the Finns Party from the three-party coalition due to Mr. Halla-aho's anti-immigration and eurosceptic views. The fall of the coalition government was averted after 20 of the 37 True Finns Party MPs split to form a more moderate group (New Alternative), which will continue to support the government. This reduces the risk of early elections and makes it more likely that SOTE will be passed through parliament. Public finance metrics are improving. Fitch expects the general government deficit to narrow marginally to 1.7% of GDP in 2017-18 from 1.8% of GDP in 2016. These outturns are better than what we anticipated at the previous rating review (-2.2% and -2.5% of GDP in 2016 and 2017 respectively). The general government deficit in 2016 was lower than expected due to higher unemployment insurance contributions and a lower government wage bill. In 2017, stronger GDP growth will drive deficit reduction despite a mildly expansionary fiscal stance. Public debt dynamics are gradually improving. Fitch expects GGGD/GDP at 63.5% of GDP in 2017, below our earlier estimates (65%) due to a lower general government deficit and stronger nominal GDP growth. We expect GGGD/GDP to peak at 64% of GDP by 2019 and to decline gradually thereafter. The general government primary deficit is set to improve gradually, moving to a balanced position after 2019. Downside risks would arise from any adverse developments on the reform agenda or from slower growth. SOVEREIGN RATING MODEL (SRM) and QUALITATIVE OVERLAY (QO) Fitch's proprietary SRM assigns Finland a score equivalent to a rating of 'AA+' on the Long-Term Foreign-Currency IDR scale. Fitch's sovereign rating committee did not adjust the output from the SRM to arrive at the final Long-Term Foreign-Currency IDR. Fitch's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three year centred averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch's QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM. RATING SENSITIVITIES The Stable Outlook reflects Fitch's assessment that upside and downside risks to the rating are currently balanced. However, future developments that could individually or collectively result in positive rating action include: - Evidence of an improvement in medium-term growth prospects and increased competitiveness. - Sustained downward trend in the government debt-to-GDP ratio. Future developments that could individually or collectively, result in negative rating action include: - Weaker nominal GDP growth, further affecting the sustainability of public finances. - Failure to stabilise public debt over the medium term, for example because of significant fiscal slippage or lower GDP growth. KEY ASSUMPTIONS In its debt sensitivity analysis, Fitch assumes a primary deficit averaging 0.0% of GDP, trend real GDP growth averaging 1.3% per year, an average effective interest rate of 2.1%, and GDP deflator inflation of 1.8%. On the basis of these assumptions, the debt-to-GDP ratio would peak at 64.0% in 2019 before edging back to 59.5% by 2026. Contact: Primary Analyst Michele Napolitano Senior Director +44 20 3530 1882 Fitch Ratings Limited 30 North Colonnade London E14 5GN Secondary Analyst Eugene Chiam Director +44 20 3530 1512 Committee Chairperson Tony Stringer Managing Director +44 20 3530 1219 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: peter.fitzpatrick@fitchratings.com. 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