Macroeconomic forecast of Íslandsbanki Research


Íslandsbanki Research has issued a new macroeconomic forecast as follows: We forecast that output growth in Iceland will measure 1.7% this year, which is slightly more than the 1.4% measured in 2012. It is also stronger than is expected in our main trading partner countries, where output growth is forecast to average 0.8% this year. In this context, however, it should be noted that year-2012 growth in Iceland was well below the 30-year average of 2.5%. The same can be said of Iceland’s trading partners, where growth has been weak as a result of the debt crisis, although it has shown signs of picking up in the recent term. 

Our output growth forecast for 2013 is somewhat more upbeat than our forecast from June, which provided for 1.2% growth this year. In part, the upward revision is due to the fact that in the interim, Statistics Iceland (SI) revised its output growth figures for 2011 and 2012 downwards by a combined 0.4%. Therefore, at constant prices, GDP in 2013 has been revised upwards by only 0.1% since the June forecast.

We expect this year’s output growth to be driven primarily by exports, which we forecast to grow by 2.5%. In turn, export growth will be driven to a large extent by the tourism sector, where we expect exports to grow by 4.8% this year. In addition, we expect marine product exports to increase by 2.2% during the year. Private consumption growth has been weak recently, and we project it at only 1.6% for the year. The rise will be driven primarily by real wage growth of 1.5%, although the labour market recovery and rising asset prices are factors as well. According to our forecast, domestic demand will shrink this year, owing to a 14.1% contraction in business investment, 

The slack that developed in the economy with the onset of the crisis in 2008 has narrowed considerably, as can be seen, for instance, in the unemployment rate, which has fallen sharply since peaking in 2010. In spite of weak output growth this year, we expect the output slack to diminish still further. We forecast unemployment at 4.6% this year, as opposed to 5.8% in 2012. We expect inflation to remain relatively high and persistent, the exchange rate to rise slightly from last year’s level, and the Central Bank to hold the policy rate unchanged throughout this year. 

Growth gains pace in 2014 and 2015 

 We expect output growth to gain momentum over the course of next year, measuring 2.6% in 2014 and 2.7% in 2015. Growth for both years will be slightly above the long-term average and will somewhat outpace trading partner countries, although growth among trading partners is expected to gain momentum as well. If the forecast materialises, year-2015 GDP at constant prices will be just above the level in 2008, when the banking system collapsed. According to the forecast, the economy will have taken seven years to recover the output level prevailing before the banking and currency crisis struck in 2008. 

As a result, we expect output growth to be rather broadly based in the next two years. We anticipate an upturn in private consumption, a surge in investment, and growth in goods and services exports in excess of output growth in both years. The turnaround will be strongest in business investment, which we expect to flip from a contraction this year to a sharp rise in 2014 and 2015. Concurrently, there will be an increase in the investment level, which has been extremely low in the recent past. 

We forecast continued inflation persistence, with an inflation rate of 4.0% in 2014 and 3.8% in 2015, and we expect the CBI to respond next year with nominal interest rate hikes totalling about 0.5%. We expect the ISK to depreciate somewhat, and we anticipate that the capital controls will remain largely in place during the forecast horizon, although some relaxing of the controls may well be implemented. Real wages should continue to grow and real house prices to inch upwards, as they have in the recent past.

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