Finland: 2021 Article IV Consultation-Press Release; Staff Report; and Statement by the Executive Director for Finland

1. The pandemic interrupted a protracted recovery from a sequence of shocks in the late 2000s. Labor productivity growth in Finland has been low, partly because the relatively rigid labor market (IMF 2018) and inefficient matching (IMF 2020) hindered reallocation of resources. Finland’s population has also been rapidly ageing, weighing on growth and public finances.


1. The pandemic interrupted a protracted recovery from a sequence of shocks in the late 2000s. Labor productivity growth in Finland has been low, partly because the relatively rigid labor market (IMF 2018) and inefficient matching (IMF 2020) hindered reallocation of resources. Finland’s population has also been rapidly ageing, weighing on growth and public finances.

Pandemic Context: Strong and Effective Policy Response

A. Background

1. The pandemic interrupted a protracted recovery from a sequence of shocks in the late 2000s. Labor productivity growth in Finland has been low, partly because the relatively rigid labor market (IMF 2018) and inefficient matching (IMF 2020) hindered reallocation of resources. Finland’s population has also been rapidly ageing, weighing on growth and public finances.

B. Recent Developments

2. COVID containment and mitigation strategies have been effective. The authorities moved swiftly to contain the spread of the virus and the re-opening strategy has been flexible and tailored to regional epidemiological developments. Vaccination has advanced, with nearly 82 percent of the target population having received two doses by December 1st. This helped contain the fallout from the recent increase in cases, which is less pronounced than in other countries and the death rate remains low. However, Omicron variant infections have been discovered in Finland.

3. Policy measures cushioned the impact of the pandemic (Annex V). In addition to strong automatic stabilizers, during 2020–21 the authorities deployed discretionary fiscal support amounting to 4.8 percent of 2020 GDP, combined with below-the-line support equivalent to about 8 percent of GDP. Labor market measures—including temporary layoff schemes and better income security for the unemployed—helped protect jobs and incomes. Support for the corporate sector—including temporary reductions of corporate tax burdens and social security contributions, grants, equity injections, and commercial paper purchases—helped mitigate liquidity and solvency risks. The government also temporarily limited creditors’ right to petition for bankruptcy based on temporary insolvency, thus preventing a wave of bankruptcies.

4. The 2020 recession was one of the mildest in Europe, followed by a swift recovery (Figure 1). GDP declined by a relatively modest 2.9 percent in 2020, and a strong vaccination campaign and the removal of restrictions helped restore confidence among businesses and households in 2021, helping the economy growata 9 percent annualized rate in Q2 and bringing GDP back to its pre-pandemic level. The labor market continued to improve in the first half of 2021. Labor market shortages—amid rising vacancies—and supply chain bottlenecks are, however, weighing on activity.

Figure 1.
Figure 1.

Finland: Real Sector Developments

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

5. Headline inflation has increased markedly in 2021, but remains below the level in the Euro Area. HICP inflation has averaged 2 percent (y-o-y) year to date, hitting 3.7 percent in November 2021. This reflects higher raw materials prices (even though the impact of energy price increases is cushioned by relatively low import dependency) and pandemic-related production bottlenecks. Core inflation has also risen in the first quarter, averaging 1.3 percent year to date. While inflation remains lower than in the euro area, the recent increases are starting to be incorporated into consumers’ inflation expectations.

6. The current account has hovered around balance and is broadly in line with fundamentals (Figure 2). The current account increased from -0.3 in 2019 to 0.8 percent of GDP in 2020, on the back of a pandemic-related compression of imports and a large improvement in the primary income balance, driven partly by banks holding off from dividend distributions. Staff assess the external position in 2020 to have been broadly in line with medium-term fundamentals and desirable policies, and preliminary results indicate the same for 2021 (Annex III).

Figure 2.
Figure 2.

Finland: External Developments

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

7. Banks weathered the pandemic well. Banks are well-capitalized, liquid, and profitable, and the lowering of structural capital buffer requirements at the onset of the pandemic provided additional lending and loss-absorbing capacity. Furthermore, corporate and household balance sheets appear to have been relatively unscathed from the pandemic, as indicated by only a modest pickup in Stage 2 loans (those with significantly increased credit risk) after the expiry of support measures. Banks were not particularly exposed to contact-intensive sectors.


IFRS9 Stage 2 Loans

(Share of total loans at amortized cost)

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

Sources: European Banking Authority.

Fall in Value Added and Bank Lending by Industry


Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

Sources: FIN-FSA, Eurostat1/ CRE includes housing company loans.

8. But some vulnerabilities in the banking sector were amplified by the pandemic (Figure 3). Even though Finland’s membership in the Single Supervisory and Single Resolution Mechanism is a mitigating factor, the banking sector is large and highly concentrated, more so with Nordea re-domiciling in 2018. Banks are highly exposed to residential and commercial real estate, the latter—especially office and retail—facing headwinds from the pandemic. Close regional financial system interlinkages expose banks to potential regional spillovers. This vulnerability is amplified by banks’ reliance on wholesale funding, a large share of which is external. The banking sector is also exposed to ML/TF risks from cross-border financial flows, and the FATF mutual evaluation report highlighted AML/CFT vulnerabilities (including in the supervision of financial sector) that need to be promptly addressed.

Figure 3.
Figure 3.

Finland: Banking System Indicators

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

9. The increase and changing composition of household debt continues to pose borrower-side vulnerabilities. Pre-pandemic, real estate prices were not overvalued, but household debt was increasing (although still low relative to Nordic peers). Much of this new debt was in the form of housing company loans—loans that finance buying shares of a housing company that may be connected to a specific apartment instead of purchasing it directly—which mask risk exposures for households.1 Unsecured consumer credit was also on the rise. As the pandemic struck, the authorities relaxed loan-to-collateral (LTC) requirements for housing loans. This was accompanied by an increase in highly leveraged borrowing, and housing valuations rose throughout Finland. Housing price growth has begun to moderate somewhat in the second half of 2021.


Household Debt to Disposable Income

(Percent, 2019)

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

Source: OECD.

Decomposition of Household Debt Growth

(Percent y-o-y)

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

Sources: Statistics Finland, IMF staff calculations.

10. Progress with the implementation of previous Fund advice—addressing longer-term challenges and vulnerabilities—has been uneven. To place public finances on a more sustainable footing given long-term demographic challenges, the government planned to stabilize debt by 2023, but this was deferred to the middle of the decade due to the pandemic. There has been some progress with structural policies to boost employment and growth but measures to improve tax and benefit incentives are pending. On macrofinancial policies, measures to address the vulnerabilities of borrowers are being discussed (See Annex II).

C. Political Situation

11. The five-party center-left coalition (in place since December 2019) shares a program with the aim to build a ‘socially, economically, and ecologically sustainable welfare state’. Policy discourse is currently dominated by structural reforms needed to boost employment, linked in the authorities’ plan to fiscal consolidation and achieving Finland’s climate goal. The next parliamentary elections will be held in 2023.

Outlook and Risks

12. The near-term outlook is for the rebound in activity to continue. The pickup of consumption is expected to continue into 2022 as more confident households draw down savings. Investment is also expected to accelerate as uncertainty declines and global growth prospects brighten. Public consumption is expected to retreat with fiscal adjustment. Net exports are projected to play a limited role in the rebound, with imports recovering in tandem with consumption and investment. The labor market will continue to improve, supporting wages and consumption. The output gap is projected to close in 2022 and, given the strong rebound, the pandemic-induced scarring should be minimal. Headline inflation is expected to continue to rise this year reaching 2 percent and remain slightly higher in 2022 on the back of higher projected energy prices. Corporate and household defaults may still increase from current levels, but banks are adequately provisioned and have buffers to absorb larger-than-expected losses.2

13. But risks are high amid pandemic-related uncertainty. Growth could be stronger with a faster unwinding of precautionary and forced savings, even though this could result in higher and more persistent inflation (given continued supply-side disruptions and as second-round effects on wages arise in the ongoing bargaining round). On the other hand, pandemic-related downside risks to growth increased with the Omicron variant, and could impact Finland both directly and through global demand given its openness and integration in global value chains. Furthermore, structural transformations triggered by the pandemic could be protracted and costly as labor market rigidities impede resource reallocation. A tightening of global financial conditions could also reverberate in Finland, weighing on the real estate market and private consumption and investment; the impact could be amplified by banks’ reliance on external wholesale funding and large real estate exposures.

14. Medium-term growth prospects are less strong, due to adverse demographics and low productivity—trends that precede the pandemic. Staff forecast potential growth to converge to 1.3 percent in the medium term, similar to pre-pandemic forecasts. The contribution of labor to potential growth would decline over the medium term due to the shrinking working-age population, offset by a slight increase in labor productivity. But there are downside risks to the paths of both labor supply and productivity as both rely on a successful implementation of structural reforms.

Authorities’ Views

15. The authorities broadly agreed with the assessment of outlook and risks. They noted that the strong growth this year is likely to continue in 2022 when the output gap could balance or even turn positive. However, they saw the balance of risks tilted to the downside. A prolonged pandemic and persistent supply chain bottlenecks represent downside risks to growth and upside risks to inflation. Uncertainty regarding the wage bargaining framework has ebbed, but negotiations with public sector employees in early 2022 may be difficult, posing some risks to the outlook. The authorities also acknowledged risks from a tightening of global financing conditions, but consider the higher-than-average income and financial assets of more indebted households as mitigating factors. They agreed that medium-term growth prospects are challenging, noting the increase in long-term unemployment during the pandemic as additional risk to potential growth.

Policy Priorities

In the near term, the policy priority is to support the recovery. Over the medium term, government objectives are to boost employment (to increase employment rate to 75 percent by 2025) and growth, which would help stabilize public debt in the ‘middle of the decade’ and build the foundation for achieving broader sustainability objectives in the 2030s (which include further strengthening public finances and a target of net-zero emissions by 2035). But the medium-term fiscal objective would fall short under current policies, and would not be enough to prepare for aging-related pressures and to rebuild buffers. Staff recommend a moderately faster fiscal adjustment—provided the recovery is firmly on track—relying on a broader set of policy measures. Enhancing the macroprudential toolkit would strengthen macro financial resilience.

A. Unwinding Pandemic-related Support and Securing Fiscal Sustainability

16. The fiscal stance in 2022 is broadly appropriate. The planned unwinding of COVID-related measures, together with the projected recovery and some new tax measures, will reduce the fiscal deficit from 3.4 percent in 2021 to 2.1 percent in 2022. The structural primary deficit will adjust less (2.5 percent in 2021 compared to 2.2 in 2022), still providing considerable support to the economy together with spending from Next Generation EU grants (of around 1 percent of GDP, with ½ percent of GDP frontloaded during 2022–23). If downside risks materialize, fiscal policy should stand ready to deploy additional support through temporary and targeted measures, including those related to labor markets.

17. But the medium-term fiscal path leaves Finland vulnerable to shocks and unprepared to cope with long-term challenges.

  • Over the medium term, the fiscal position is projected to stay weaker than before the pandemic. This reflects higher discretionary spending (relative to the Spring 2019 government plan) on environmental protection and climate action, reforming employment services, education and research, and health and social services reform (transferring delivery from municipalities to new, larger ‘well-being counties’ to ensure equal access to services). This additional spending in support of government program objectives amount to around 1 percentage point of GDP in 2022 and ½ of a percentage point in the medium term. At the same time, staff project the revenue ratio to decline below the pre-pandemic level in the medium term, as a reduction in indirect taxes (partly from climate-related measures) more than offset 2022 budget tax measures (¼ percent point in revenues by 2027) and fiscal gains from measures to increase employment (0.1 percent of GDP by 2027). The structural primary balance will remain at around (¼ percent of GDP in 2023–27, which is about -1¾ percentage point below the pre-pandemic level.

  • Public debt is on an increasing trajectory, but sustainable in the medium term. Public gross debt is expected to reach 74½ percent of GDP by 2027 (from about 60 percent in 2019). Analysis from the new DSA framework (MAC SRDSF)3 suggests public finances to be sustainable, with a high probability of debt stabilizing over the medium term. That said, some DSA scenarios generate steeper debt trajectories and much higher debt levels, particularly in the contingent liability shock scenario, which is highly relevant for Finland given sizeable government guarantees (Annex IV).

  • Longer-term sustainability is not secured. Aging-related fiscal pressures are projected to intensify, arising mainly from health and long-term care spending (and to a lesser degree from pensions, as the retirement age is linked to life expectancy). The current fiscal path would bring the intertemporal net worth of the public sector—a comprehensive indicator of fiscal sustainability incorporating aging-related costs4—into negative territory.

18. The authorities aim to stabilize debt in the middle of the decade, mainly through measures to boost employment.

  • Key employment measures aim to reduce disincentives to work and strengthen job-assistance. To close routes to early retirement of older workers, the minimum age for additional days of unemployment insurance has been raised, and the government plans to further close the routes that exist via disability benefits. The Nordic employment services model (tying unemployment benefits to job applications, combined with more intensive and individualized job search support) will replace the unpopular “activation model” (linking unemployment benefits to part-time employment and other employment-related activities). This will be supported by transferring employment services to municipalities, with greater funding for case workers, but more financial responsibility for unemployment benefits to incentivize job-matching. According to MOF estimates, these measures are expected to generate fiscal savings of about 0.2 percent of 2020 GDP by the end of the decade.

  • While beneficial, other measures may not bring significant medium-term fiscal gains. Other employment measures include a reduction in early childhood education fees (to incentivize employment of caregivers), reforms to continuous learning and adult education allowance (to target support to low-skilled), expansion of the wage subsidy program, extension of compulsory education (to boost skills of labor market entrants), and measures to encourage migration and facilitate integration of migrants. The MOF expects that fiscal impact of these measures would be small, be realized only over a longer horizon. Based on current policies, there would still be a residual gap to achieve the government’s medium-term fiscal adjustment objective, which the authorities remain committed to fill in with additional employment or, if necessary, fiscal measures.

19. A moderately faster consolidation over the medium term would help build buffers and place public finances on a more sustainable footing. Provided that the recovery is firmly on track, additional growth-friendly consolidation measures should aim to bring public debt on a declining path and the intertemporal financial net worth to a level considered as safe given potential shocks (above 30 percent of GDP, Brede and Henn (2018)). An illustrative staff scenario (assuming a mix of measures discussed in H21, mostly cuts in government consumption and transfers) indicates that these objectives could be achieved by gradually reducing the structural primary deficit to the pre-pandemic level by 2027.


Public Debt: Baseline vs Adjustment

(Percent of GDP)

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

Sources: IMF staff estimates

Primary Balance: Baseline vs Adjustment

(Percent of GDP)

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

Sources: IMF staff estimates

20. Part of the adjustment could come from additional measures to boost employment. The government is committed to find employment measures to generate 110 million euro of additional fiscal savings (less than 0.1 percent of GDP). Staff recommend continuing to close routes to early retirement for older workers and, more broadly, better targeting of in-work and out-of-work benefits, which could generate larger fiscal gains and improve labor supply incentives (IMF 2020).

21. But additional fiscal measures may be needed, including a recalibration of policies to support climate goals. Current and planned policies—e.g., related to energy-intensive industries, transportation sector, green investment under the Next Generation EU—aim to incentivize a fossil-free transition. Some of these measures, however, would steer towards lower tax bases, reducing indirect taxes (as share of GDP) over the medium term. Alternative measures could include more cuts in environmentally-harmful subsidies (e.g., rolling back of the recent extension of tax-free part of the use of peat) and higher climate-related taxation (a €125 per ton carbon price in Finland recommended by staff would raise extra revenues of about 0.3 percent of GDP by 2030;IMF (2021)). Besides climate-related policies, the tax base for the standard-rate VAT could be broadened and there is some scope to increase property tax revenues, as these are low in Finland relative to other countries. But, as taxation overall is already high, the adjustment effort should focus on reducing expenditure: a spending review could help identify efficiency gains and fiscal savings, including in the context of ongoing health and social services reform (which is consistent with the government strategy inSustainability Roadmap (2021), outlining longer-term adjustment strategy to achieve the government sustainability objectives).


Actual/Potential VAT Revenue Ratio1

(Percent, 2018)

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

Source: OECD.1 VAT Revenue Ratio, VRR=VRB /(B*r); VRB = actual VAT revenues; B = potential tax base and r = standard VAT rate.

Property Tax Revenue

(Percent of GDP, 2020)

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

Source: OECD.

22. Returning to expenditure ceilings would enhance fiscal credibility. The spending limits system is not a statutory instrument (MOF 2020). It applies to about 80 percent of central government budgets (excluding, among other categories, automatic stabilizers) and is set in the government program at the start of each four-year parliamentary term. The limits were appropriately suspended in 2020 to respond to the COVID emergency. Direct COVID-related costs were also excluded from the limits in 2021–23, together with additional COVID-related emergency spending of 500 million euros in both 2021 and 2022. Beyond the pandemic-related changes, the limits were further increased by 900 million euros for 2022 and 500 million euros for 2023 (0.3 and 0.2 percent of GDP respectively), partly to accommodate additional spending in the government program. The government already plans to permanently reduce expenditure of EUR 370 million under the spending limit from 2023 onwards (into the next parliamentary term), but staff recommend returning to the original limit in the context of the medium-term adjustment. The national fiscal objective—including the speed and the timeline of consolidation—should be adjusted based on how EU budget rules unfold.

Authorities’ Views

23. The authorities agreed that the fiscal stance in 2022 is broadly appropriate and shared staff’s concerns of longer-term sustainability. They concurred with staff that fiscal policy should remain flexible, deploying temporary and targeted measures as needed in response to adverse shocks. They also shared staff’s assessment of longer-term fiscal pressures and risks and remain committed to stabilizing debt in the medium term (while acknowledging that a moderately faster consolidation may be appropriate if the strong cyclical rebound continues). They stressed that structural measures to boost employment are key to achieve this objective, and they broadly agreed with staff on policy priorities in this area. They also recognized that direct fiscal measures may still be needed to stabilize debt and, in this context, agreed that a spending review could be one possible, however laborious, tool to enhance spending efficiency. The authorities shared staff’s view that uncompromised respect for the spending limits system and the expenditure limit set would enhance fiscal credibility.

B. Structural Reforms

24. Reforms to boost growth will help achieve the government’s sustainability objectives, but payoffs are uncertain and will materialize only in the long run. To increase productivity, the government objective is to increase R&D spending to 4 percent of GDP by 2030; in addition to public R&D, including through increased tax deductions to incentivize private R&D. These plans are welcome, but implementation remains key (scaling up may not be cost-effective if the capacity to absorb is limited). The reform to streamline university admission procedures (recent changes include requiring at least half of university admissions based on matriculation exam results) could help address skill shortages, but should be complemented by more permanent plans to increase university resources (OECD 2020). To alleviate labor shortages, the government seeks to attract skilled foreign labor by streamlining residency permits, but language barriers remain an issue and employment gains may be realized more slowly. In this area, more should be done to encourage employment among women with care responsibilities—for instance by better targeting the home care allowance and housing benefits while further improving access to childcare. Also, reflecting its relatively more centralized wage bargaining system, wages in Finland are compressed and misaligned with productivity across sectors, adding to labor market rigidities and further weighing on productivity (Annex VI). To support employment and productivity, staff recommend a system where high-level agreements set broad framework conditions, but with more flexibility in firm-level contracts.

Authorities’ Views

25. The authorities broadly agreed on priorities for other structural reforms to boost growth. They noted though that reducing home care benefits would be politically difficult, especially as ensuring equal access to daycare would be costly and not achievable quickly. Relative to staff’s assessments, they are more optimistic on other measures, such as attracting foreign labor, improving education, and increasing R&D spending. They agreed that more flexibility in the wage bargaining framework would be beneficial but emphasized that the current system has served Finland well, providing social stability and largely ensuring competitiveness.

C. Achieving the Goal of Net-zero Emissions

26. A more comprehensive suite of policies is needed to reach the climate goal of net-zero emissions by 2035. Apart from supporting climate goals, current and planned measures, discussed above, may enhance growth, including through technology spillovers, and reduce pollution-related mortality and morbidity. However, estimates from the Ministry of Environment indicate that the current measures would not be sufficient to bring emissions to the net-zero target (a shortfall of about 40 percent than required). Additional policies could include strengthening carbon pricing through higher and more harmonized pricing across sectors, reinforced by fiscal incentives across different sectors including the use of feebates (IMF 2021).

Authorities’ Views

27. The authorities concurred with staff that more needs to be done to meet the climate target. They acknowledged emission shortfalls relative to the target under current policies. They mentioned that additional measures to reduce emissions are being planned.

D. Enhancing Financial and Macroprudential Policies

28. The authorities are taking steps to mitigate vulnerabilities in household finances. Following the recent increase in highly leveraged mortgage borrowing, the authorities tightened the LTC limit to pre-pandemic levels. Parliament will discuss in the spring of 2022 a draft bill on borrower-based macroprudential tools including maturity limits for housing and housing company loans, and loan-to-value (LTV) limits for housing company loans (a debt-to-income (DTI) cap was removed from the draft bill due to strong industry and political opposition). Additionally, an electronic registry of housing company shares should be operational by end-2022, making it easier to assess risks of investing in housing companies. But implementation of the planned comprehensive credit registry has been delayed to 2024 due to technical constraints.

29. Staff recommend that more steps be taken to enhance the macroprudential toolkit and strengthen macrofinancial resilience. The macroprudential toolkit could be enhanced further to include: (i) a DTI cap in line with recommendations from the government-appointed working group and reflecting growing household debt vulnerabilities; and (ii) supplementing the DTI cap with a debt-service-to-income cap once the new comprehensive credit registry is operational. Features of the tax code that create incentives for investors to favor housing company loans should be addressed so as to mitigate compositional changes in household debt (the recent MOF review concluded that separating the treatment of housing company shareholders’ loans’ amortization costs from interest and other expenses could help balance incentives). In this context, data relating to consumer credit and housing companies should be improved.

30. Structural and cyclical capital-based macroprudential tools should also be strengthened.

  • Structural capital-based tools. Pre-pandemic, the systemic risk buffer (SyRB) requirement ha d been imposed due to structural risks of the banking system, including its size, concentration, and interconnectedness. At the onset of the pandemic, the authorities removed the SyRB and lowered Other Systemically Important Institution (O-SII) buffer requirements for one institution, thereby lowering requirements by 1 percentage point across institutions (Text Table 1). Yet the risks against which structural buffers were built remain. Given the strength of the recovery, staff recommend that the SyRB requirement of 1 percent be re-introduced across all institutions to return structural buffer requirements to pre-pandemic levels. In addition, the CRDV/CRR2 framework permits the use of a sectoral SyRB to build resilience against specific exposures, including based on borrowers’ riskiness. The authorities could consider this tool in building resilience against adverse real estate shocks. These decisions should be made in the context of the 2022 EU review of the macroprudential regulatory framework and the Basel III reform (the introduction of the output floor from 2028 is projected to increase capital requirements for some Finnish banks).

  • Cyclical capital-based tools. Currently, there are no obvious signs of a buildup in aggregate cyclical systemic risk and staff do not see a basis for increasing the CCyB from 0 percent on purely cyclical grounds. However, considering a broad range of risks, staff recommend that to provide policy space the authorities should consider introducing a positive neutral countercyclical capital buffer in the medium term (Annex VII).

Text Table 1.

Finland: COVID-19 Macroprudential Policy Relaxation (March 2020)

article image
Sources: ESRB; IMF Macroprudential Database; IMF staff calculations.

The range of buffer requirements across institutions are shown, where applicable. Strikeouts indicate policy changes at the onset of the covid-19 pandemic.

Finland has a higher cap for first time home borrowers.

The SRB for Denmark was used as a O-SII buffer for systemically important institutions under CRD IV, thus limiting crosscountry comparability.


House Prices and Household Credit to GDP

(Index, 3M average, 2015=100, All building types)

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

Sources: BIS; Haver Analytics; and IMF Staff calculation.

Finland: Vulnerability Indicators

(Ihs: Percent of GDP; rhs: Percent)

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

Sources: BIS, OECD, Statistics Finland

31. The mission discussed other financial sector and related issues:

  • Corporate sector. Staff urge the authorities to continue careful monitoring of credit quality, NPLs, and insolvencies, as pandemic-related support is unwound. Also, staff recommend that the authorities improve CRE data collection efforts assuggested by the ESRB.

  • AML/CFT. Staff welcome recent enhancements to the AML/CFT framework including, inter alia, increased AML supervisory and legal resources, adopting a ML/FT risk-based model, and imposing sanctions for AML breaches. Legislative improvements have led to two of the ratings being upgraded by the Financial Action Task Force. Staff encourage the authorities to advance the reform implementation, including by addressing ML/TF risks from non-resident and cross-border financial activity.

  • FDI screening. Staff welcome the authorities’ intention to maintain a positive attitude toward foreign investments in the context of amendments to the Act on the Screening of Foreign Corporate Acquisitions. The amendments were introduced for national security reasons but did not change the scope of the Act. The screening mechanism in most cases does not considerably delay the planned acquisition.

Authorities’ View

32. The authorities broadly agreed with staff’s assessment of the financial system and recommendations to enhance macrofinancial resilience. They agreed that the financial system is sound, but structural vulnerabilities remain. The central bank and the FIN-FSA saw scope for income-based borrower measures to enhance the macroprudential toolkit, but the government ultimately decided that these are outweighed by costs–potentially limiting homeownership for young and low-income households. The Ministry of Finance noted that introducing these measures could be reassessed when the comprehensive credit registry—which will facilitate the calibration of borrower-based measures for specific groups—is in place. The authorities agreed that returning to pre-pandemic structural capital requirements is desirable and are assessing the overall level of macroprudential buffers in the context of Basel III and CRDV. They saw merit in a positive neutral CCyB, but noted that its implementation requires legislative changes and for now consider using a broader set of indicators in the CCyB framework to identify cyclical systemic risks earlier. The authorities underlined that substantial resources have been invested to strengthen their AML/CFT framework and reaffirmed their commitment to continued enhancement of the AML/CFT supervisory regime.

Staff Appraisal

33. Finland has been highly successful in containing the pandemic. The government’s reopening strategy has been flexible and adaptive to developments in the evolution of the pandemic. Vaccination is well advanced, and, despite a fourth wave of infections, the death rate has remained low.

34. The 2020 recession was one of the mildest in Europe, followed by a swift recovery. Output is now above its pre-pandemic level. The employment rate has also returned to its pre- crisis level. Labor shortages—amid rising vacancies—and supply chain bottlenecks are starting to weigh on activity. Consumer prices increased markedly in 2021, reflecting the global rise in raw materials prices and production bottlenecks.

35. The economic recovery is expected to continue, but risks remain. GDP growth in 2022 will remain strong, buoyed by the strong rebound in domestic demand. Given the strong rebound, pandemic-induced scarring is expected to be minimal. The recovery could be stronger with a faster unwinding of household savings, but pandemic-related risks to global growth are still high and could negatively impact Finland. Medium-term growth prospects are less strong, due to adverse demographics and low productivity.

36. Fiscal policy provided timely and needed pandemic support, but public debt would increase in the medium term. Public debt has increased given pandemic-related support, and would remain on an increasing trajectory in the medium term, largely reflecting permanent spending increases in the government program. In the near term, fiscal policy should remain flexible, providing support as needed. But given aging-related pressures and the need to rebuild buffers, staff recommend a moderately faster fiscal consolidation over the medium term, with a focus on reducing expenditures. Returning to the original spending limit in the context of medium-term fiscal adjustment would enhance policy credibility.

37. Structural policies to boost employment and productivity would help boost potential growth. These include improving employment prospects of women with care responsibilities, improving tertiary education, and addressing skill shortages. It is important that the wage bargaining system support employment and productivity.

38. A more comprehensive strategy is required to meet Finland’s ambitious climate goal of net-zero emissions by 2035. This includes strengthening carbon pricing through higher and more harmonized pricing across sectors, reinforced by fiscal incentives across different sectors including the use of feebates.

39. The external position in 2021 was broadly in line with medium-term fundamentals and desirable policies. The current account has hovered around balance following a pandemic-related compression of imports and a large improvement in the primary income balance. A moderate weakening is expected as domestic demand strengthens.

40. The financial system is sound, but extra measures are needed to enhance macrofinancial resilience. The banking sector is large, concentrated, and highly exposed to real estate. Furthermore, the increase and changing composition of household debt creates some vulnerabilities in household finances. Returning structural capital requirements to pre-pandemic levels and enhancing the macroprudential toolkit with targeted borrower-based measures would strengthen macrofinancial resilience. Introducing a positive neutral CCyB in the medium term would build macroprudential policy space. Addressing features of the tax code that create investor preference for housing company loans would ease demand for these kinds of loans.

41. It is proposed that the next Article IV consultation with Finland be held on the standard 12-month cycle.

Figure 4.
Figure 4.

Finland: Real Estate Market Developments

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

Figure 5.
Figure 5.

Finland: Labor Market Developments

Citation: IMF Staff Country Reports 2022, 025; 10.5089/9798400201011.002.A001

Table 1.

Finland: Selected Economic Indicators, 2019–27

article image
Sources: Bank of Finland, BIS, International Financial Statistics, IMF Institute, Ministry of Finance, Statistics Finland, and Fund staff calculations.

A negative value indicates a level of actual GDP that is below potential output.

Fiscal projections include measures as specified in the General Government Fiscal Plan.

Adjusted for interest expenditures and receipts.

Not adjusted for COVID-related one-off measures.

Adjusted for interest expenditures and receipts. Not adjusted for COVID-related one-off measures.

Defined as the negative of net financial worth (i.e., debt minus assets).

CPI-based real effective exchange rate.

Table 2.

Finland: Balance of Payments, 2019–27

article image
Sources: Bank of Finland, Statistics Finland, and Fund staff calculations.

Large inward FDI flows in 2014 and 2015 are mainly due to large mergers and acquisitions (M&A) in those years such as Microsoft’s purchase of Nokia’s handset business (worth 2.6 percent of GDP) and various M&A deals in the energy, manufacturing and shipbuilding sectors worth more than 0.5 percentage points of GDP each.

Table 3.

Finland: International Investment Position, 2011–20

(Percent of GDP)

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Sources: Statistics Finland and Fund staff calculations.Changes to the NIIP since the 2014 Article IV are mainly due to the switch to the BPM6 statistical standard.
Table 4.

Finland: General Government Statement of Operations, 2019–27

(Percent of GDP, unless otherwise indicated)

article image
Sources: Eurostat, Government Finance Statistics, International Financial Statistics, Ministry of Finance, and Fund staff.

Adjusted for interest expenditures and receipts.

Not adjusted for COVID-related one-off measures.

Adjusted for interest expenditures and receipts. Not adjusted for COVID-related one-off measures.

Defined as the negative of net financial worth (i.e., debt minus assets; excludes all pension liabilities).

Table 5.

Finland: Public Sector Balance Sheet, 2014–20

(Percent of GDP)

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Sources: Finnish Centre for Pensions; Ministry of Finance; and IMF staff calculations.

Data for public corporations is provided by the Ministry of Finance, except for 2020, which are Fund Staff estimates.

This is the net present value of already-accrued liabilities for work performed in the past, based on data (and discount rates) of the Finnish Centre for Pensions (ETK), except for 2020, which are Fund Staff estimates. These pension liabilities represent a contractual obligation to public sector employees. For private sector employees, rules governing the pension system could potentially be altered to change the present value of payouts.