House prices surge unabated

In keeping with the recent pattern, the housing component weighed heavily in this month’s jump in the CPI. Imputed rent, which is derived largely from house prices, rose by 2.9% MoM (0.56% CPI effect), the largest single-month increase since house prices started rising in the wake of the pandemic.

House prices overall leapt 3.2% MoM, according to SI data, the biggest jump in a single month since September 2016. Capital area condominium prices rose the most (3.3%), while capital area single-family home prices rose the least (2.7%), and housing in regional Iceland rose in price by 3.2% MoM.

House prices nationwide have risen by 22.9% in the past twelve months. Prices outside greater Reykjavík have climbed the fastest, at 23.8%, followed by multi-family homes (22.8%) and single-family homes (22.1%) in the capital area.

House price inflation appears to be soaring unimpeded at the moment. SI calculates a three-month moving average of house prices, which for the June measurement covers March, April, and May. Clearly, then, house prices skyrocketed in May. It will be interesting to see how prices develop over the summer, as interest rates have risen sharply and the housing market tends to calm down during the summer months.

Petrol and food prices rise between months

Apart from the housing component, the main driver of inflation in June was fuel prices, which rose 10.4% (0.39% CPI effect) and are now up 26.5% year-to-date, according to SI numbers. Another item in the travel and transport component – airfares – rose as well, this time by 2.3% (0.05%).

Food and beverage prices rose 0.8% MoM (0.11%), owing mainly to a 2.8% increase in meat prices (0.08%). Other upward-pushing items included hotel and restaurant services, up 1.9% (0.09% CPI effect), and other goods and services, up 0.5% (0.04%).

Stubbornly high inflation still on the horizon

Domestic inflation is now at its highest since October 2009. At present, as in the recent past, the housing component and imported goods are the main drivers of the trend. The outlook is for imported inflation and house prices to keep rising in the near term, pushing headline inflation still higher, if our forecast materialises. In our short-term forecast, we project that the CPI will rise by 0.4% in July, 0.6% in August, and 0.4% in September, and that inflation will measure 9.2% in September.

This short-term forecast assumes that house prices will keep rising strongly, albeit not as much as in the June measurement. If they rise more than we have projected, as they indeed did this month, headline inflation will presumably be higher than we have forecast here:

• If house price inflation continues at the rate measured in June, our short-term CPI forecast will increase to 0.6% in July, 0.8% in August, and 0.7% in September, pushing twelve-month inflation up to 9.9% in September.
• By the same token, if the housing market cools off swiftly this summer, inflation will probably be lower than our short-term forecast indicates. For example, if imputed rent rises by 0.5% in coming months, our short-term CPI forecast will decrease to 0.1% in July, 0.4% in August, and 0.2% in September, leaving twelve-month inflation at 8.4% in September.

We think the middle-of-the-road scenario is the most likely to materialise, however, with imputed rent continuing to rise in coming months, but at a slower pace than in June. If the pace does ease, it will take time for the slowdown to affect SI measurements. For its July measurement, SI will calculate house price movements in April, May, and June. It is already clear that prices rose steeply in April and May, and hopefully the summer will be somewhat better. If it is, the shift will start to show as soon as the August measurement.

According to our long-term forecast, inflation will average 8.1% in 2022, 6.4% in 2023, and 4.1% in 2024. The situation is highly uncertain, of course, as regards both the housing market and foreign inflation. One of the main assumptions underlying our long-term forecast is that house price inflation will lose momentum later this year, thereby offsetting higher imported inflation. Another important assumption behind our forecast is that the wage negotiations set for late this year do not result in excessive pay rises.