We project a 0.5% rise in the CPI in September

We project that the consumer price index (CPI) will rise by 0.5% month-on-month in September, raising headline inflation from 1.7% to 1.8%. 

The medium-term inflation outlook is broadly unchanged from our last forecast, as key assumptions are similarly unchanged. Inflation now looks set to remain below the Central Bank’s (CBI) 2.5% inflation target through this year and then average roughly 3.0% throughout 2019. 

End-of-sale effects, house prices, and petrol push the CPI upwards

The end of summer sales, a major determinant of the CPI each September, is one of the main upward-pushing items in our forecast. That said, we expect the combined price increase for the categories of goods that usually go on sale (clothing, housewares, household appliances, etc) will be generally smaller than the price reduction resulting from the sales; therefore, prices of such goods should decline overall in Q3, even though the ISK has depreciated. Increased competition is probably a factor here and will most likely continue to offset the higher wholesale price paid by retailers as a result of the weaker ISK. 

Clothing and footwear prices rose unusually little in August, in comparison with recent years. For September, however, we expect this item to rise by about the same as in previous years (0.22% CPI effect). In other goods categories, we expect end-of-sale effects to raise the index by 0.06% during the month. 

The housing component of the CPI has been the strongest driver of inflation in the recent term, but now there are signs that pressures in the housing market are easing. We expect imputed rent, which largely reflects house prices, to increase by approximately 1.0% in September (0.17% CPI effect), as opposed to an average of 1.8% per month in the first half of the year. On the whole, we expect the housing component to push the CPI upwards by 0.2% in September. 

Petrol prices have risen somewhat since SI’s last measurement, owing to the depreciation of the ISK and to rising global oil prices (0.03% CPI effect). Increased food prices will also push the CPI upwards in September, by 0.03%. 

Airfares and accommodation pull downwards

The outlook is for the usual seasonal decline in airfares; however, our survey indicates that this month’s reduction will be smaller than often before in September (-0.08% CPI effect). We also expect hotel accommodation prices to fall (-0.02% CPI effect), now that the peak travel season is over. 

Inflation to rise in coming monthsThe outlook is for a slight uptick in inflation over the next few months. We forecast that the CPI will rise 0.2% in October, 0.1% in November, and 0.3% in December, leaving headline inflation at 2.3% by the end of the year. 

On average, the housing component will be the main driver of the rise in the CPI over the period, contributing about 0.2% per month. Even so, this is considerably less than in the first half of the year. The depreciation of the ISK since early June will show in higher prices of various imported goods in coming months. Increased competition will tend to have a countervailing effect, although exactly how much is uncertain. 

Inflation slightly above target in coming years

The outlook is for domestic inflation to remain moderate over the forecast horizon, as long as the ISK does not weaken unduly. We expect the ISK to remain broadly unchanged from its year-to-date average for the rest of the forecast horizon. We also expect the housing market to cool and wage pressures to ease as the forecast period progresses. 

We expect inflation to rise somewhat over the coming winter but to settle next spring at just above the 2.5% target. We project that it will average 3.0% in 2018 and 2.8% in 2019.