According to newly published figures from Statistics Iceland (SI), GDP contracted by 1.7% year-on-year in Q1/2021, mostly because of a negative contribution from net trade, which in turn is due to the sharp contraction in tourism. Exports declined by 20% and imports by 11.3% during the quarter. Because exports contracted considerably more than imports, the contribution of net trade to output growth was negative.
GDP contracted in Q1/2021
GDP shrank in Q1/2021, owing mainly to the collapse of tourism, as well as the contraction in residential and business investment. It appears that the downturn is at an end and that GDP growth will turn positive in Q2.
It is worth noting that even though GDP contracted in Q1/2020, the effects of the Corona Crisis did not emerge in full until Q2/2020. The contraction in 2020 as a whole measured 6.6% in real terms, the bulk of it occurring in Q2 and Q3. It is therefore likely that figures for this quarter give a distorted view of the year as a whole. We expect GDP growth to gain steam again in the latter half of the year, and actually, the outlook is for positive growth this quarter as well. In our new macroeconomic forecast, we project GDP growth for 2021 at 2.7%.
Service exports shrank, as expected
As is mentioned above, exports contracted by 20% year-on-year and imports shrank by 11.3%. Most components of external trade suffered a downturn, although the largest contraction, 52%, was in services exports. On the other hand, goods exports increased by 4.6%.
The contraction in services exports is due to the situation in the tourism sector, which has been virtually in a coma since the pandemic struck. In 2020 as a whole, 475,000 tourists visited in Iceland, the vast majority of them (around 330,000) in Q1, which explains the abrupt year-on-year contraction.
In our macroeconomic forecast, we project that roughly 700,000 tourists will visit Iceland this year. Even though this projection is only a third of the 2019 total, it will be pivotal in determining whether, and how quickly, the economy rights itself.
Investment driven by the public sector
Investment has sagged for two years running, after a period of relatively robust growth in the 2010s. In 2020, total investment shrank by 6.8%, in line with the contraction in GDP, and in Q1/2021, it contracted by 2.9% year-on-year.
Residential investment declined the most during the quarter, or by 8.8%. Business investment fell by 4.9%, although according to SI figures, business investment excluding ships, aircraft, and energy-intensive industry rose by 5.3%. On the other hand, public investment jumped 18.7% during the period, and we expect it to be the main driver of investment growth for the year as a whole, as the Government’s pandemic-related investment initiative is in full swing at present.
As is mentioned above, residential investment declined by nearly 9% in Q1/2021, as a record number of newly completed flats were put on the market in 2020. According to the tally conducted by the Federation of Icelandic Industries, it appears that new residential construction slowed markedly when the pandemic hit. If this proves to be correct, it gives some cause for concern, as demand for flats is very strong at the moment. It will therefore be interesting to see how residential investment develops in the quarters to come.
Private consumption growing once again
Private consumption is an important factor in Iceland’s GDP growth. It grew by 0.8% in Q1, after contracting for three quarters in a row. According to SI, private consumption within Iceland increased, whereas Icelanders’ consumption abroad shrank markedly year-on-year. This accords with the pattern in 2020, when private consumption contracted by 3.3% because of the plunge in consumption abroad and in the services affected most severely by public health measures. Overall, however, consumption within Iceland more or less held its own.
In our opinion, the contraction in private consumption was limited to 2020, and household consumption will start growing steadily once again In our macroeconomic forecast, we projected this year’s private consumption growth at 2.9%. This assumption is supported by rising real wages, strong growth in domestic payment card turnover, and increased optimism among Icelanders.