Airfares push upwards, summer sales pull downwards

July is typically characterised by fluctuations in various CPI subcomponents, with international travel reaching its annual peak and summer sales kicking off in many retail stores around the country. According to our forecast, the main symptom of the summer travel bug is an 11.5% MoM rise in airfares (0.29% CPI effect), on the heels of an unusually steep increase in June. If our forecast materialises, the hike in airfares will be the main upward-pushing item this month. We then expect airfares to settle down again as they usually do, starting in August and continuing well into the autumn. The price of fuel, another subcomponent of the travel and transport component, will hold steady this month, according to our measurements. Most indicators suggest, however, that fuel prices will taper off over the course of the year. The global oil market has calmed down recently, after a period of heightened uncertainty associated with the war in the Middle East.

Widespread special offers and discounts suggest that summer sales will perform their usual role in July. The strongest effect will be on the price of clothing and footwear, which we expect to fall by 6.2% (-0.23%). Next in line in terms of sales effects is the price of furniture and housewares, which will decline by 1.6% MoM (-0.08%). If our forecast holds, summer sales will have the strongest downward impact on the CPI during the month.

Food prices and imputed rent to rise modestly

The surge in food and beverage prices has been perhaps the biggest surprise in H1/2025, as we have discussed recently. In H2, the outlook is for slower price hikes, and all else being equal, we think most of the increases have already come to the fore. The first indicators of this can be seen, among other things, in the Icelandic Federation of Labour (ASÍ) grocery price index, which rose by only 0.1% MoM in July. In our forecast, we assume a 0.3% increase for the month (0.05% CPI effect).

Another item that has outpaced forecasts more often than not is imputed rent. According to our projections, it will increase by 0.5% (0.10% CPI effect), making it the second-strongest upward-pushing CPI subcomponent for the month, although measurements are still somewhat uncertain. We expect rent prices to rise at a similar pace over the months ahead.

 Inflation set to remain erratic

According to our forecast, twelve-month inflation will dip below the upper tolerance limit again in July, to 3.9%. It will be a brief respite, however, as we expect an upward trend in the autumn, mainly because of base effects from one-off policy actions put in place last autumn – i.e., free school meals and the cancellation of university fees – which will drop out of twelve-month measurements. Our preliminary forecast for the next few months is as follows:

• August: CPI to rise 0.2% (twelve-month inflation 4.0%) – End-of-sale effects kick in, while airfares start falling. The cancellation of university fees drops out of twelve-month measurements.
• September: CPI to rise 0.2% (twelve-month inflation 4.5%) – Continued end-of-sale effects, mitigated by a sizeable drop in airfares. Various price hikes due to fee schedule revisions. Free primary school meals drop out of twelve-month measurements.
• October: CPI to rise 0.3% (twelve-month inflation 4.5%) – Seasonal effects have tapered off. Most items pull in the same direction, increasing marginally. Headline inflation holds unchanged from the previous month.

The inflation outlook has deteriorated in recent months, owing mainly to the measurement in June, when inflation rose far in excess of analysts’ forecasts. In recent months, we have noted repeatedly that inflation was likely to pick up this autumn because of the oft-cited one-time policy measures mentioned above. According to our forecast, it will measure 4.3% at the year-end and will not fall below the upper deviation threshold again until Q2/2026.

In our opinion, the biggest near-term uncertainty lies in imputed rent. We do not assume substantial hikes in rent prices in this forecast. Another uncertainty stems from airfares, which took us quite by surprise in June. In our estimation, airfares are a less significant source of uncertainty, as we expect price hikes to reverse to some extent. The geopolitical situation is yet another uncertainty, not least the effects of US tariffs on Iceland’s main trading partners.

The outlook is for inflation to sit stubbornly at or near the 4% deviation threshold in the near future. This is of major concern, and as we have discussed here, there is little chance of further policy rate cuts this year. The CBI’s Monetary Policy Committee (MPC) meets again in mid-August and will have the July measurement in hand when it weighs its next interest rate decision. Given the MPC’s forward guidance from May, and all else being equal, the likeliest outcome is an unchanged policy rate in August.

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