Iceland Economic Forecast

Annual GDP growth likely waned further in the first three months of 2023, after more than halving from the prior period in Q4 2022. Price pressures accelerated and averaged the highest since Q3 2009 in Q1. Moreover, the unemployment rate rose in the quarter, pressuring consumers’ budgets and likely restraining spending; annual growth in goods imports waned to 9.0% in Q1—less than a third of Q4’s figure. Meanwhile, interest rates increased at a steeper pace, which likely dampened credit and investment growth. Additionally, merchandise exports declined in Q1, deteriorating from Q4’s over 18% year-on-year increase. More positively, the all-important tourism industry strengthened at a quicker pace: Total hotel stays grew an average of about 53% year on year in Q1, up over ten percentage points from the prior quarter.

Inflation softened to a six-month low of 9.5% in May (April: 9.9%) due to slower price increases for food, and transport. Headline inflation is expected to decline this year on slowing activity and tighter monetary policy. However, price pressures will average markedly above the Central Bank’s 2.5% target. Currency weakness and robust domestic demand pose upside risks.