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Has inflation peaked?

We assume that inflation peaked in February and will ease in March. If our forecast materialises, it will fall to 10%. Inflationary pressures are unusually widespread at present, and the near-term outlook is highly uncertain. Nevertheless, we expect inflation to taper off in the months to come.

We project that the consumer price index (CPI) will rise by 0.7% month-on-month in March. lowering twelve-month inflation from 10.2% to 10%. The main drivers of this month’s rise are food prices and airfares. We project that the February measurement will turn out to have been the peak and that inflation will subside in coming months, albeit more slowly than we had previously thought. Statistics Iceland (SI) will publish the CPI for the month on 28 March.

Most CPI items set to rise month-on-month

The item weighing heaviest in March is the increase in food prices, which our measurements suggest will rise by 1.4% (0.21% CPI effect) between months. Food and beverage prices are up nearly 4% in 2023 to date, as a number of food importers announced price changes at the turn of the year. These year-end increases are showing in prices now and will probably keep doing so over the next several months, but more slowly. We hope that the price of food will rebalance this spring, all else being equal. Foreign commodity prices, for instance, have been on the decline recently.

Another key driver of inflation in March is airfares, which are set to rise by 10.1% (0.20%), according to our measurements. Airfares generally rise around Easter, which comes in early April this year. Presumably, fares will fall less in April than often before, as SI’s April CPI measurement is scheduled for publication late in the month, after the Easter holidays.

In addition, clothing and footwear prices are set to rise, by 2.9% (0.09% CPI effect), as are furniture and housewares prices, by 1.2% (0.08%).

Other upward-pushing items are recreation and culture (0.05% CPI effect); hotels and restaurants (0.04%); and other goods and services (0.04%).

House prices put a damper on inflation

The silver lining inside this month’s inflation cloud is the housing market. The market price of housing has fallen two months in a row and has counteracted the rise in the CPI. Of course, the mortgage interest component, which is based on indexed lending rates, has pushed imputed rent upwards in recent months. But this time we forecast that imputed rent will fall by 0.1% (-0.01% CPI effect), its first MoM drop since November 2020. We expect it to keep falling incrementally in coming months, with the two underlying components – housing market prices and the interest component – still engaged in the tug-of-war we have seen in the recent term.

Other items falling under the housing component are also expected to rise MoM: paid rent is set to increase by 0.9% (0.04%) and home repair and maintenance by 0.7% (0.01%), according to our forecast.

So inflation is about to fall … or is it?

In February, headline inflation hit double digits for the first time since autumn 2009. Inflationary pressures are virtually ubiquitous at present: all measures of underlying inflation rose in February, and they are all well above the CBI’s inflation target.

In fact, closer scrutiny shows that all items except housing have risen in the recent term. Of February’s 10.2% headline inflation figure, 3.3% stems from housing, 2.9% from imported goods, 2.2% from services, and 1.8% from domestic goods.

We have been too optimistic about the inflation outlook, as have other analysts, and near-term prospects are highly uncertain. But months with hefty increases are set to drop out of twelve-month inflation calculations in the next several months, and we therefore expect these positive base effects to lower the headline figure. According to our preliminary forecast, we expect the CPI to rise by 0.4% in April, 0.3% in May, and 0.5% in June, bringing headline inflation to 7.6% in June. This is a slower decline than we have previously anticipated, though.

A long journey lies ahead, and a number of factors must be in sync in order to bring inflation back to the CBI’s target. In our policy rate forecast, published yesterday morning, we project that the CBI will raise its key interest rate by 0.75% at next week’s rate-setting meeting in a bid to pull inflation back into line.


Bergthora Baldursdottir




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