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Finnish economic outlook: Growing pains

Finnish economic outlook: Growing pains

The Finnish economy will continue its strong recovery this year and next. The economic recovery has improved employment rapidly, but a labour shortage is already holding back growth. The manufacturing sector is starting to invest on the back of strong growth in its order books. The public finances will face challenges in terms of fiscal policy as well as structural policy.

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The economy continues to recover

Economic Outlook September 2021 cover image showing a butterflyThe economic recovery in Finland picked up over the summer, as second-quarter GDP grew by 2.1% from the previous quarter and 7.5% year-on-year, exceeding its pre-coronavirus crisis level.

The service sectors in particular have seen brisk growth since the spring when coronavirus restrictions began to be lifted. The construction sector, meanwhile, has been boosted by continued strong demand in the housing market. Growth in world trade has brought a slew of export orders for the manufacturing sector, triggering new investment.

The swift recovery of the economy has also quickly improved the employment situation. There are now a record number of job vacancies, and a shortage of skilled labour has begun limiting economic growth potential. We delve into the labour market conditions in more detail in our Finland theme article.

The economic recovery is expected to persist through the autumn, albeit at a slightly slower pace than in the summer. We forecast that the economy will grow by 3.5% this year and 3% in 2022. In 2023, we expect GDP growth to slow down to 2% as the period of recovery comes to an end. The coronavirus vaccination programme has eased the load on hospitals even though the spread of the delta variant sharply increased infections by the end of the summer. The fear of contagion is making consumers more cautious. The risks related to the coronavirus have therefore not disappeared from the economy even though they have somewhat abated.

Economic growth after the pandemic 

Following the recovery, and beginning from next year, tried-and-tested means will once again be needed to maintain economic growth: people, ideas and businesses.

There are plenty of people in the world, and Finland should increase its efforts to attract foreign labour. In addition, efforts should be made to better involve the large reserve of unemployed and people outside the labour market in the employment. The cure for this is more systematic adult education and various reforms that improve incentives for those on social security. As businesses and academic institutions create new ideas, a sufficient amount of public funds should be invested in them because their benefits in terms of higher productivity outweigh their costs. To invest in Finland, companies also need predictable and competitive regulation and taxation, which, along with skilled labour, are important advantages when it comes to global competition.

Finland: Key figures

2019 2020 2021E 2022E 2023E
Real GDP, % y/y 1.3 -2.9 3.5 3.0 2.0
Consumer prices, % y/y 1.0 0.3 1.9 1.7 1.7
Unemployment rate, % 6.7 7.8 7.8 6.8 6.4
Wages, % y/y 2.1 2.0 2.2 2.2 2.4
Public sector surplus, % of GDP -0.9 -5.4 -3.5 -2.5 -2.0
Public sector debt, % of GDP 59.5 69.2 70.2 70.8 71.5
ECB deposit interest rate (at year-end -0.50 -0.50 -0.50 -0.50 -0.50
Graph: A / Production is on the rise in all the main sectors B / The labour market will recover quickly

Domestic consumption makes a comeback

Households have been consuming actively over the summer, as reflected by the improved conditions in the service sectors. The increase in domestic travel over the summer brought a welcome pickup in sales for the hotel, restaurant and culture sectors.

Domestic card payments for services increased in July clearly above the level seen before the coronavirus crisis, although in August this growth slightly levelled off following the end of the holiday season and the spread of the delta variant.

Consumer confidence is still high and the quick recovery in employment has increased the wage bill, which is up by 6.5% compared to two years ago. Despite the growth in consumption, the household savings rate is still elevated, so there is plenty of room for further growth. Private consumption is forecast to grow by 3.2% this year and 3.5% next year.

Consumer prices are on the rise

Rising inflation will curb some of the growth in purchasing power. In July, consumer prices rose by 1.9%. Inflation has accelerated on the back of a rise in the prices of oil products and living expenses as well as higher taxes on alcohol and tobacco. So far, the prices of other goods and services have risen moderately, but growing demand, a tightening labour market and higher transportation costs are likely to increase prices for these items as well.

The upcoming wage negotiations this autumn will have a profound impact on long-term inflation and the competitiveness of the export sector. If wages are raised more than in competitor countries and to an extent that would also exceed the growth in productivity, Finland’s exports will become less competitive and inflation will rise. However, we forecast that the outcomes of the wage negotiations will be moderate, and next year wages will rise by 2.2% and consumer prices by 1.7%.

Beginning from next year, tried-and-tested means will once again be needed to maintain economic growth.

Juho Kostiainen, Economist

Manufacturing sector embarking on an investment programme

Global economic growth has been a powerful driver of Finnish exports this year. Order books in the manufacturing sector have already exceeded their pre-coronavirus crisis volumes. Despite a minor slow patch in the spring, growth in exports is forecast to continue through the rest of the year. The growth in manufacturing output is broad-based, with the metal industry faring the best overall, although the forest industry too has enjoyed growth this year. Logistical problems and a shortage of components and other production inputs have limited production somewhat in Finland, as elsewhere.

The capacity utilisation rate in the manufacturing sector is now as high as 88%, so there isn’t much room for growth without additional investment. In fact, businesses have already launched some investments this year, and strong demand and very favourable financing terms are likely to accelerate investment next year. Investments will also be supported next year and in 2023 by funding from the EU’s recovery fund. Investments in clean energy generation, in particular, are clearly on the rise. More than 200 wind turbines will be built in Finland this year, worth more than one billion euros in total.  In addition, the construction of a bioproduct mill in Kemi and a battery materials plant in Vaasa are projects that will provide plenty of employment in the construction stage and create new production capacity once they are finished.

Housing market is finding a balance

Homes were sold at a record pace in the first half of the year, and their prices rose across the country. Prices have risen the most in the growth centres, as well as in their suburbs, where detached houses in particular have been selling at much higher prices than before. Demand in the housing market is expected to cool off by the end of the year. The number of transactions slightly levelled off in July while at the same time there was a slight uptick in the number of homes listed for sale.

New housing starts already began growing in autumn last year. The growth in production has continued this year, and as a result, a much higher number of new homes will be completed this year than in the previous few years. In the growth centres, the number of new homes is outpacing population growth, which will moderate increases in home prices. Higher employment and the persistent low interest rates will continue to support the housing market in the future.

There are still more rental flats on offer than normally, especially in university cities, and rents have risen moderately this year. As higher education institutions return, at least partially, to contact teaching and employment conditions in the service sectors improve rapidly, there will be more demand for rental flats, which will balance the rental market.

The volume of office and commercial construction remains about 40% below pre-pandemic levels. The return of workers to the office is being delayed, so there is a limited need for new business premises. The volume of industrial and logistics construction, on the other hand, is already close to what it was two years ago. The biggest growth has occurred in recreational construction, with an increase of up to 60% compared to two years ago, but as a whole, the segment is small in the construction sector.

Graph: C / Home sales are levelling off D / Government deficit remains large

Public finances will not balance without reforms

The public sector deficit grew to 5.4% of GDP last year, almost all of which came from the central government’s finances. This year, the government’s finances will be in better shape as the pick-up in the economy has increased tax revenues and lower unemployment has decreased the costs arising from social transfers. The public sector deficit is forecast to be 3.5% of GDP this year and public debt is estimated to rise to 70.2% of GDP. Next year, the deficit will shrink further, although it will remain much bigger than it was before the coronavirus crisis. This despite the fact that the rest of the economy will have almost fully rebounded from the damage caused by the crisis. The proposal of the Ministry of Finance for next year’s  state budget is EUR 6.7 billion on deficit. The budget is stimulative, as the government decided in its budget framework session in the spring to increase government spending by EUR 900 million above the spending limit next year. As the economy is rapidly returning towards its potential output, there are few good reasons to continue with an expansionary fiscal policy next year, especially when the increase in expenses is more due to permanent costs than investments that increase productivity.

The government is still able to take on very cheap debt, so the financial markets will not force it to adjust its finances. However, the ageing population will pose great challenges to the public finances, so it would be wise to start balancing the budget when the economy is doing well.

This article first appeared in the Nordea Economic Outlook: A new phase, published on 1 September 2021.


Juho Kostiainen, Senior Analyst, Finland
Juho Kostiainen, Nordea Economist

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