Operating environment - State Treasury

Economic growth in Finland remained rather brisk in 2019. Export growth continued and consumption increased steadily, while investment growth was rather modest. The favourable cycle in the Finnish economy towards the end of the decade has improved the state of public finances. Both general and central government debt in relation to GDP decreased also in 2019.

Finland’s GDP increased by 1.6% in 2019, according to the Ministry of Finance’s December forecast. World trade growth was weak in 2019 due to trade conflicts and cyclical reasons, but the volume of Finnish exports still rose by 4.0% in 2019. The current account showed a deficit of 1.2% in relation to GDP. The unemployment rate declined to 6.7% and the employment rate increased to 72.6%. Inflation in Finland remained subdued at 1.1%.

The graph shows information on the annual change in GDP and employment in Finland. The employment rate has increased in recent years.

Public finances

The favourable economic cycle in the Finnish economy in recent years has improved the state of government finances. However, as the economic cycle cools, the improvement of the budgetary position of public finances has come to a halt. The challenge of balancing public finances is compounded by population ageing, which is driving up pension expenditure as well as health care and long-term care costs. In particular, local government finances are weakened by the rising health and social services expenditure.

The graph shows the financial balance of the Finnish general government. Social security funds are running a surplus while central and local government show deficits.

General and central government finances have showed rather small deficits in recent years, resulting in decreasing debt ratios. At the end of 2019, the general government debt ratio was 58.5% in relation to GDP. The central government debt was clearly smaller at 43.9%.

The graph shows the volume of Finland's general government debt. In 2019, the general government debt was EUR 142 billion. The debt-to-GDP ratio was 58.5%.

Finland’s relatively strong public finances and modern economy, among many other things, are reflected in Finland’s high credit ratings. The central government of Finland has solicited credit ratings from three credit rating agencies: S&P Global Ratings, Moody’s Investors Service and Fitch Ratings. For long-term debt, they are AA+, Aa1 and AA+, respectively. In 2019, S&P and Moody’s assigned a stable outlook on the rating and Fitch a positive outlook. In January 2020, Fitch revised the outlook from positive to stable.

Interest rate developments

Monetary policy turned accommodative in the United States with three policy rate cuts by the Federal Reserve in 2019 starting in July. The European Central Bank did not start policy tightening as inflation did not accelerate. These policies resulted in a fall in government bond rates. The sharpest drops in both the United States and core European rates took place in the summer, with a slight reversal later in the year still leaving rates lower than the start of the year. Also, the spread between the United States and core European rates tightened somewhat during the year. The German yield curve flattened post-summer and the 10-year Bund yield bottomed in August at a record low of around -0.70%.

The graph shows the 10-year government bond yields of Germany, Finland and the United States in 2010–19.

In European government bond markets, the spreads versus Germany were on a tightening trend overall, particularly in the periphery. In semi-core countries the development was more stable with even some slight widening in the final quarter thus resulting in an overall convergence of euro-area spreads.

The secondary market trading levels of Republic of Finland government bonds (RFGBs) in the 10-year segment remained relatively stable in 2019, offering a pick-up over the Netherlands and Germany, while remaining tighter to France and broadly in line with Austria.

The graph shows the 10-year bond spreads of Finland, the Netherlands, Austria, France and Belgium against Germany.

The Eurosystem’s public sector purchasing programme (PSPP) continued in 2019 with reinvestments of bond redemptions amounting to approximately EUR 5–30 billion per month. In September the ECB governing council announced a range of accommodative monetary policy measures including reinstating net purchases in all four Asset Purchases Programmes, including PSPP. The monthly pace of net purchases – in addition to reinvesting redemptions – was announced at EUR 20 billion. The net purchases were resumed in the final quarter of 2019. The monetary policy tool of outright bond purchases, in use since 2015, has been instrumental in keeping interest rates range bound at very low levels. Finnish government euro benchmark bonds have exhibited negative yields for a broad range of maturities, mid-year almost out to 30 years and consistently up to 10 years in the latter half of the year.

Secondary market developments

Secondary market liquidity for RFGBs, i.e. the euro benchmarks, has not been significantly affected by the increasing central bank holdings. Some signs of repo specialness and a reduction in ticket sizes have been observed particularly at the longer end of the curve, but the market remains well accessible to investors due to a committed Primary Dealer network.

PRIMARY DEALERS 2019

BofA Securities
Barclays Capital
BNP Paribas
Citi
Crédit Agricole
Danske Bank
Deutsche Bank
Goldman Sachs
HSBC
J.P. Morgan
NatWest Markets
Nomura
Nordea
Société Générale

It is a priority for the State Treasury to actively work with the Primary Dealers to maintain and further enhance the liquidity of the Finnish government bonds. Finnish government benchmark bonds can be traded on the following interdealer platforms: MTS Finland, BGC eSpeed, and ICAP BrokerTec. The State Treasury does not participate in secondary market activity, and the interdealer trading is based on the activity of the Primary Dealers and other market participants. In 2019, the nominal interdealer trading volume was on average EUR 7.9 billion per month showing a substantial increase from the previous year (EUR 5.2 billion).

The State Treasury actively follows the Primary Dealer quoting activity in the secondary markets. There are guidelines for the Primary Dealers on quoting for different maturities in the interdealer market, where the bid-offer spread of the price quotes is observed and tracked. The average bid-offer spread of all the market makers is calculated and each Primary Dealer benchmarked against the average. On a weekly basis, the State Treasury reports the analysed spread data for the benchmark bond quotes back to the individual Primary Dealer banks. In 2019, the bid-offer spreads in the interdealer market remained on average close to the levels of the previous year and in line with peer sovereign countries.

Primary dealers report customer trade volumes to the State Treasury within the Euro Market Activity Reporting (EMAR). The reporting takes place on a monthly basis, and the data is consolidated and used for monitoring and analysis. According to the EMAR data, the monthly secondary market customer turnover volumes have increased from the previous year. The average monthly turnover volume (sales and purchases) was EUR 8.7 billion in 2019 (EUR 7.6 billion in 2018). In relative terms, the monthly average turnover volume is around 10.1% of the outstanding euro benchmark bond stock (9.0% in 2018).

The graph shows the secondary market volumes of Finnish government bonds in 2016–19. In 2019, the nominal interdealer trading volume was on average EUR 7.6 billion per month. The average monthly customer volume was EUR 8.4 billion.

Overview of central government risks and liabilities

MINISTRY OF FINANCE, AUTUMN 2019

The good economic development in recent years has strengthened the general government finances, but at the same time, the risks of general government finances have grown. Direct government liabilities have grown considerably in ten years. In 2008, central government debt amounted to EUR 54 billion, compared to EUR 105 billion at the end of 2018. During the same period, government contingent liabilities have grown strongly. Central government guarantees and collateral in effect totalled EUR 57 billion at the end of 2018. The corresponding figure in 2010 was EUR 23 billion.

In addition to the direct and contingent liabilities referred to above, there are also implicit liabilities that might potentially affect the central government finances. Firstly, certain structural factors in the Finnish banking sector contribute to its sensitivity to disruptions and systemic risk. They include the large size of the banking sector, a high degree of concentration in the banking system, and strong links with the other Nordic countries. An effort has been made to reduce taxpayers’ liability in future banking crises through the EU Banking Union and new crisis resolution legislation on banks. Despite the extremely low interest rates in recent years, the financial situation of the banks operating in Finland has remained fairly good on average. Although the average solvency dropped clearly in late 2018 as a result of Nordea’s relocation, it was stronger than the European average. Finnish banks also have an extremely good short-term liquidity position on average.

Local governments are another major implicit liability. Under the Constitution of Finland, municipalities have wide-ranging autonomy and central government is not directly responsible for their financial liabilities. However, local government finances are part of general government finances and economic problems in municipalities would probably also have an impact on central government finances. Like central government, municipalities have substantially increased their loan and guarantee portfolio over the past ten years. Despite this, it is unlikely that the municipal loan portfolio would currently constitute a material risk factor for local government finances or, indirectly, for the central government.

Pursuing an active policy limiting the growth in contingent liabilities and tackling the problems of weak productivity development and ageing population are keys in the risk management. When assessing the central government’s ability to bear the risks of direct and contingent liabilities, it is important to also account for its financial assets. These assets work as a buffer against the liabilities and can be realised if necessary to meet the central government’s financing needs.

FURTHER INFORMATION

Overview of central government risks and liabilities

MINISTRY OF FINANCE, AUTUMN 2019

FURTHER INFORMATION