Autumn chills for the Finnish economy

Economic growth is sputtering

The Finnish economy grew during the first half of the year on the back of growth in service demand. Meanwhile, the net exports figure improved because imports slowed down even more than exports. This was due to lower consumption of goods and a decreased need for imported electricity thanks to growth in domestic output.  Meanwhile, the slowdown in construction has already begun to curb investment.

The employment situation remained good in the first half of the year, wages were raised over the summer and inflation fell thanks to lower energy prices. All of these factors have gradually begun to improve consumer purchasing power, which is nonetheless still weak. In fact, households have continued to spend their savings to maintain their lifestyle. The recovery in household real income is expected to continue, but at the same time an uptick in unemployment will limit growth.

The economic outlook for the rest of the year and 2024 is still challenging, despite the good first half of the year. The slump in the housing market is causing a clear slowdown in residential construction. Similarly, order backlogs in the manufacturing sector have begun to dwindle and export prices are falling due to sluggish global demand, which is also weighing on the growth outlook for next year.

We reiterate our zero economic growth outlook for this year, and are lowering our growth forecast for next year to 0% due to a deteriorated outlook for manufacturing and construction. For 2025, we forecast economic growth of 1.5%. 

The growth in domestic energy generation, the new investment opportunities offered by clean energy and a recovery in consumer purchasing power will brighten the long-term outlook for the economy.

Inflation will fall considerably

The rise in consumer prices slowed down considerably in the first half of the year, thanks to a drop in energy prices. In July, the annual change in the consumer price index was 6.5%, compared to more than 9% at the end of last year. Using the EU’s Harmonised Index of Consumer Prices, inflation in Finland was 3.4% in August, but this figure doesn’t include the effect of loan interest on prices.

Inflation is expected to continue to decline for the rest of the year, and in 2024 full-year inflation is forecast to be as little as approximately 2%. The decrease in the cost of transportation, industrial products and energy, combined with weakening demand, will curb the rise in the prices of goods and food.

Increases in the prices of services, on the other hand, continue to be high at about 5%. Wage growth and strong demand for services are maintaining the rise in service prices.

The increase in the average mortgage interest rate will also have a large effect on the Finnish inflation indicator this year. Next year, the impact of interest rises on inflation will decrease considerably. Meanwhile, the drop in house prices has reduced living expenses.

FINLAND: MACROECONOMIC INDICATORS

Household spending is miserly

Household spending has been lacklustre since last autumn, as inflation and the rise in interest rates have eroded consumer purchasing power. However, the consumption of services has continued to grow while the goods trade has contracted. The strong performance of the service sector has kept up economic growth. The value added in Finland for every euro spent on services is higher than that spent on goods consumption because a smaller percentage of the value goes abroad through imports.

The weak purchasing power of households is gradually turning to slow growth due to falling inflation and the wage increases that took place in the summer. Wages will rise by about 3% on average this year, in addition to which workers were paid various one-off bonuses depending on the sector that amounted to around 1% of the total salaries and wages. Thanks to these increases, total salaries and wages grew rapidly over the summer. 

Despite a slight improvement in purchasing power, households will still be forced to spend their savings to maintain their consumption. Mortgage holders in particular have seen their expenses rise more than the rest, because the interest on their loans has increased in line with reference rates.

Labour market takes a turn for the worse

The employment situation remained robust in the first half of the year, partly boosted by high consumption of services. The latest observations from the labour market, however, indicate that the unemployment rate has exceeded 7% and that the employment rate has declined. The number of job vacancies has also begun to decrease markedly.

We expect unemployment to continue rising slowly for the remainder of this year. The slowdown in construction and manufacturing, in particular, will begin to increase temporary layoffs and unemployment.

The uptick in unemployment is expected to be moderate, however, and the unemployment rate is forecast to rise to 8%.

Exports suffering from stagnant global growth

The flow of new orders in the manufacturing sector has begun to dry up and the order backlog has shrunk, presaging a contraction in goods exports and, consequently, manufacturing output. The economic woes of Finland’s key export partners, namely Sweden and Germany, are hurting Finland’s exports.  Moreover, export prices have begun to fall, which will be reflected in the profitability of export companies.

In the foreign trade for services, imports have outgrown exports. One of the factors behind this is a weaker tourism balance, as Finns travelled abroad after the COVID pandemic while at the same time the number of Russian and Asian visitors to Finland has remained at a low level.

Domestic power generation has grown thanks to the new nuclear power plant in Olkiluoto and the construction of additional wind power, which has improved the trade balance. In fact, imports will decrease even more than exports this year, and the contribution of net exports to economic growth will be positive as the trade balance improves.

The moderate wage increases in Finland compared to many competitor countries, coupled with the drop in the price of electricity, will maintain the competitiveness of manufacturing.

Government begins to balance public finances

Finland’s public sector deficit was only 0.9% of GDP last year. The rapid growth in tax revenue continued in the first months of this year, but at the same time a growing need for services and rising costs have increased spending. The forecast increase in unemployment and temporary layoffs will also push expenses up towards the end of the year.

The new government programme includes major cost-cutting measures aimed at balancing public finances. In particular, the government plans various labour market reforms that would set stricter conditions for unemployment benefits. More detailed information on the reforms and their timetable will be made available in the government’s budget negotiations on 19 and 20 September. 

The public sector deficit is expected to increase to 1.2% this year. The deficit next year will largely depend on economic development and the government’s budget decisions. However, without any cost-cutting measures, the deficit is expected to grow next year as well. 

Public debt increased to 73% of GDP last year. The debt-to-GDP ratio is expected to continue to increase this year and next as deficits grow and nominal GDP growth slows down due to falling inflation.

This article first appeared in the Nordea Economic Outlook: Not there yet, published on 6 September 2023. Read more from the latest Nordea Economic Outlook.