OREANDA-NEWS. December 16, 2015. Fitch Ratings has affirmed Sweden's Long-term foreign and local currency Issuer Default Ratings (IDR) at 'AAA' with a Stable Outlook. The issue ratings on Sweden's senior unsecured foreign and local currency bonds have also been affirmed at 'AAA'. The Country Ceiling has been affirmed at 'AAA' and the Short-term foreign currency IDR at 'F1+'.

KEY RATING DRIVERS
Sweden's 'AAA' ratings reflect high income per capita, strong governance indicators - even in comparison with 'AAA' peers - and a track record of sound economic policy implementation.

Economic growth has been robust this year, driven primarily by investment, and to a lesser extent, private and public consumption. Over the first three quarters of the year, real GDP rose by 3.4%. Fitch estimates that GDP growth this year will be 3.2%, outpacing the 'AAA' median of 1.8%. We expect the economy will expand at a similar pace (3.0%) over the next two years.

Strong GDP growth has not yet translated into a sharp fall in unemployment. We expect unemployment to fall back only marginally over the forecast horizon, to 7.2% by 2017, compared with a peer median of 5.7%. Consumer price inflation (on the harmonised HICP measure) will rise from 0.7% this year to 2.3% and 2.5% in 2016 and 2017.

The precise impact of a sharp increase in inward migration is very uncertain. Data from the Swedish Migration Agency indicate that in the year to November, just over 149,000 people had applied for asylum in Sweden - almost double the 2014 number and around 1.5% of the overall population. In the short term, it should boost economic growth through higher government spending, household spending, and construction. It will take time to absorb substantial inflows of migrants into the labour market; increased mismatch could push up equilibrium unemployment and push down average productivity.

The 2016 budget contained expenditure increases (mainly in investment and higher social benefits) totalling around SEK24.6bn (around 0.6% of GDP). These spending increases were matched by revenue rises, in line with the krona-for-krona principle followed by recent Swedish governments. Subsequently, the government amended the budget by allocating extra expenditure (totalling SEK11bn, around 0.3% of GDP) for the refugee crisis. This additional spending will be financed by new borrowing, and almost all of it will be directed to raising grants to local governments.

Overall, we estimate the general government deficit to be 0.8% of GDP this year, down from 1.7% in 2014. We then expect the deficit to fall back at a slower pace, reaching 0.4% of GDP by 2017. The general government debt to GDP ratio was 44.8% at end-2014. We expect the debt-to-GDP ratio to fall to just over 41% by 2017, slightly below the peer group median (43.5%).

Strong growth in incomes and moderate consumption growth have led to a further rise in the savings ratio. In the four quarters to 3Q15, the savings ratio averaged 15.0% up from 14.6% in the four quarters to 3Q14. High private savings and low public deficits translate to current account surpluses. We estimate that the current account this year will average 6.6% of GDP - in line with the 'AAA' median - and expect it to fall back slightly over the next two years.

Despite the recent strength in residential investment, house prices have continued rising (+15.1% on an annual basis in the 10 months to October), pushed up by strong real incomes growth and low interest rates. The household debt to income ratio has risen further, to 175.5% in 2Q15, up from 171.1% a year earlier. Fitch believes that high household indebtedness presents a risk to the macroeconomic outlook in Sweden.

The Swedish banking sector is large relative to the size of the economy, and is inter-linked and concentrated, with the four major banking groups' assets (including overseas) amounting to around 350% of GDP. Swedish banks are well-capitalised (the four major groups had an average Common Equity Tier 1 capital ratio of 18.4% at 3Q15) and have lower funding costs than many European peers. At the same time, they are structurally more reliant on wholesale funding, leaving them vulnerable to market funding shocks.

RATING SENSITIVITIES
The Outlook is Stable, which means Fitch does not expect developments with a high likelihood of leading to a rating change. However, future developments that could, individually or collectively, result in downward pressure on the ratings include:
-A severe macroeconomic shock - potentially originating in the household sector - leading to a pronounced deterioration in the public finances through higher deficits, rising debt and lower GDP growth.
-A sizeable systemic shock to funding conditions in the financial system could translate into pressure on the sovereign rating, given the relative size of the banking sector.

KEY ASSUMPTIONS
Fitch assumes that the Swedish authorities remain committed to the current fiscal policy framework.

In its debt sensitivity analysis, Fitch assumes on average a primary balance of 0.9% of GDP, trend GDP growth of 2.5%, GDP deflator growth of 1.8%, and a nominal effective interest rate of 1.9%. On the basis of these assumptions, the government debt to GDP ratio would fall back to 26.6% by 2024.