Slower rhythm suc­ceeds rap­id turn­around

We forecast 3.2% economic growth in Iceland this year, revising our forecast from October upward. The outlook is brighter for the travel sector, as the global economic slump does not appear to have materially detracted from travel and domestic demand continues to measure higher than we anticipated. Pervasive inflation, high above the Central Bank of Iceland’s (CBI) inflation target, and rising interest rate levels nevertheless make their mark on the economy. We expect interest rates to continue to rise, as there is much to be gained from getting inflation under control. Rising interest rates will play a large part in cooling the economy following the rapid post-pandemic turnaround. Interest rates were unusually low during the pandemic, savings accumulated quickly and demand exploded once restrictions were lifted. The economy overheated and inflation went rampant. We forecast a steady slow-down of the economy and for inflation to recede until a new balance is attained.

We forecast robust economic growth this year, yet not quite so much as last year. The outlook can be characterised as good, with the travel sector still growing after the pandemic and driving growth, albeit at a slightly slower tempo than before. We are more positive this year than in October, when we issued our last economic forecast. At that point, we assumed 2.1% growth this year - we have now revised our forecast upward, to 3.2%. This is a positive outlook in a global context, with the International Monetary Fund (IMF) forecasting 1.3% growth in developed countries this year, 0.8% in the Eurozone, 1.6% in the US and a 0.3% contraction in the UK.

These are among the highlights of the economic forecast of Landsbankinn Economic Research, looking forward to year-end 2025.

Highlights

• Our forecast assumes continued economic growth in the coming years, 3.2% this year, 2.7% in 2024 and 2.3% in 2025.
• We expect that 2.1 million travellers will visit Iceland this year, an increase from our October forecast. We expect that number to rise to 2.3 million in 2024 and 2.5 million in 2025, which would be a record year.
• Export increases by 8.4% between years this year, according to our forecast, and then by 4.7% next year. It will be driven by growing export of services.
• We anticipate slow appreciation of the Icelandic króna (ISK) and for the euro to cost ISK 146 at year end.
• Foreign trade will be more or less balanced to the forecast horizon, neither a significant surplus nor deficit. We expect a growing trade deficit over the forecast period but this will be offset by a growing surplus in services.
• After high growth in the past two years, we expect much more conservative growth in private consumption in coming years, or 2.4% this year and 2.7% in 2024.
• Salaries have risen sharply recently, driven both by labour market tension and newly concluded collective bargaining agreements. We expect to see an 8.7% salary increase this year and 7.8% in 2024. Purchasing power will remain almost stable between years this year and rise slightly next year.
• We are of the opinion that inflation has peaked and will recede but slowly to still hover above the upper tolerance interval of the CBI’s inflation target, or at 4.5%, in the last quarter of 2025.
• The CBI will need to continue raising rates and we expect the policy rate to attain a high point at 8.5% before beginning to decrease again in the second quarter of next year.
• The housing market has cooled significantly and we expect nearly unchanged prices throughout the rest of the year, but that average housing prices will be 4.8% higher this year than in 2022.
• Uncertainty in our forecast lies mainly in the factors that influence inflation, such as salary development in coming years, the ISK exchange rate and domestic demand.

These are among the highlights of the economic forecast of Landsbankinn Economic Research, looking forward to year-end 2025.