OECD Economic Outlook, Volume 2023 Issue 2

Denmark

GDP growth is projected to slow to 1.2% in 2024 before recovering to 1.5% in 2025. After a large surge since mid-2022, the growth of the pharmaceutical sector is expected to moderate and exports will lose momentum despite improving foreign demand. Tight financial conditions and weak economic prospects will keep investment low. Nominal wage growth will strengthen, supporting consumption and keeping core inflation above 2% into 2025. Unemployment will increase as firms adjust to higher labour costs and weaker demand. Key risks include a more severe correction in housing and real estate markets and the inflationary impact of labour market developments.

The central bank is expected to keep the interest rate high in line with the euro area to maintain the currency peg. Fiscal policy is projected to be broadly neutral in 2024 and 2025. If inflationary pressures persist relative to the euro area, the government should restrain public spending, for instance on public employment services and business support, while maintaining planned investment in priority areas, notably health, education, and energy infrastructure.

The economy has been running at two speeds

After a strong first quarter, GDP growth has slowed significantly. Outside the buoyant pharmaceutical sector, the economy is estimated to have contracted by 0.5% in the first half of 2023 as foreign and domestic demand weakened. Private consumption has stabilised thanks to receding inflation and improvements in confidence. However, private investment has declined partly due to lower business confidence and tighter credit conditions. After a sharp fall in prices and sales, since the spring the housing market has started to recover, but developments may be distorted by anticipation of the up-coming property tax reform. While employment has grown, unemployment has increased moderately. Headline inflation fell to 0.1% in October, reflecting strong base effects, while core inflation stood at 3.3%. Underlying price pressures persist as wage growth has strengthened following collective negotiations.

Denmark: Activity and economic growth indicators

Source: Statistics Denmark; and OECD Economic Outlook 114 database.

Statlink

Denmark: Demand, output and prices

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Economic growth has been mainly driven by a few firms with relatively weak links to the rest of the domestic economy. A surge in demand for medicines patented in Denmark, a significant share of which is produced abroad, has contributed to robust exports, large gains in export market share and a significant current account surplus (11% of GDP in the first half of 2023). By contrast, the weakening of global trade has affected other exporting sectors, including maritime transport. Estimates of productivity growth have declined if firms producing exports abroad (so-called merchanting) are excluded.

Monetary policy will remain tight and fiscal policy prudent

Financial conditions will remain tight due to high interest rates. Policy rates are expected to decline from 2025 to reach 3.1% at the end of the year. While the fiscal stance is expansionary in 2024 and 2025, the economic impact of fiscal policy is estimated to be broadly neutral over the next two years. Rising public spending on defence and aid to Ukraine, lagged adjustments of social transfers and public sector wages to reflect private sector wage growth, and the normalisation of tax revenues on capital gains will contribute to a decline in budget surpluses, but this will be partly offset by the withdrawal of energy support measures. Aid to Ukraine (around 0.5% of GDP in 2024) will not add to capacity pressures in the economy. In the longer term, population ageing and the green transition will weigh on the budget balance, gradually reducing the significant fiscal space. While spending on pensions is projected to decline thanks to past reforms, healthcare and long-term care will increase by around 0.5% of GDP by 2030.

A soft landing is expected, but uncertainty is high

GDP growth is projected to slow to 1.2% in 2024 before converging to its potential growth rate of 1.5% in 2025. Higher financing and labour costs will take a toll on activity and investment. Wages are projected to increase in line with the euro area and firms will adjust employment to maintain price competitiveness. Even though this and the reopening of the Tyra gas field in 2024 will support exports, they will moderate due to the fading contribution of the pharmaceutical sector and weak external demand. Despite rising debt servicing costs and a fall in employment, the elevated level of savings and wage growth will support the recovery of private consumption and housing investment. As in most other European countries, inflation will decline relatively slowly due to rising unit labour costs. Considerable uncertainty surrounds the outlook. Persistent tensions on the labour market would keep price pressures high, while a sharp adjustment of employment to restore productivity would ease them more than expected. A sharp fall in commercial real estate activity and a deeper correction of house prices would increase loan defaults and reduce credit supply from exposed banks.

An agile fiscal policy can support sustainable growth, while keeping inflation low

Monetary policy should ensure a moderation of inflation and the stability of the peg with the euro. The public finances are in surplus and public debt is low (29.8% of GDP in 2022). However, fiscal policy will need to be tightened if inflationary pressures persist relative to the euro area. Public spending should not be reduced in priority areas. Investment in the green transition should even accelerate to reduce dependence on fossil fuels and achieve decarbonisation targets. Funds allocated to vocational education and to address skills shortages in the public sector should be maintained. Savings could be achieved by improving efficiency in public support to businesses and active labour market policies by phasing out ineffective programmes and developing the digitalisation of services. In the longer run, achieving efficiency gains the public sector will help to maintain the quality of welfare services as costs increase and the fiscal space diminishes.