Inflation tapers off slightly in February

The CPI rose more steeply in February than forecasters had anticipated. Even so, headline inflation dipped marginally, to 6.6%. This month’s surge is due mainly to end-of-sale effects, which we expect to be commensurably weaker in March. In addition, waste collection fees soared during the month. According to our forecast, inflation will continue to fall in coming quarters.

According to newly published figures from Statistics Iceland (SI), the CPI rose 1.3% month-on-month in February, lowering headline inflation from 6.7% to 6.6%. Twelve-month inflation excluding housing fell also, from 5.2% to 4.7%.

The February CPI measurement exceeded all published forecasts, which provided for increases ranging from 0.8-1.0%, including our own forecast of 0.8%. The item that took us most by surprise was the unexpected strength of end-of-sale effects, which we expect will be correspondingly weaker in March.

Surge in waste collection fees a major factor in the CPI rise

The housing component weighed heaviest in the February rise in the CPI. But that alone does not tell the whole story, as the increase in imputed rent was relatively modest, at 0.7% (0.13% CPI effect). What did push the housing component sharply higher was the subcomponent bearing the elegant name “other services relating to the dwelling”, which increased by 11% (0.18%), mostly because of a 17% jump in waste collection fees.

The rise in imputed rent was in line with our forecast. The interest component of imputed rent increased 0.6% this month, while the market price of housing rose only 0.1%. This is a radical change from the time – not too long ago – when house prices were the main driver of CPI increases.

It will be interesting to keep abreast of developments in the housing market in the months to come. We expect the Government buyback of homes in Grindavík to have some upward impact, as we discussed in our most recent macroeconomic forecast. House prices on the Suðurnes peninsula could rise more than prices elsewhere, as it appears that many Grindavík residents want to live in that area. If prices in the region do increase, housing market prices as calculated by SI will probably climb faster than the house price index compiled by the Housing and Construction Authority (HMS), as SI’s measurements cover the entire country, while the HMS house price index is restricted to greater Reykjavík.

Strong end-of-sale effects

The end of seasonal sales pushed the CPI sharply upwards, after deep discounts in January. Clothing and footwear rose in price by 8.4% MoM (0.30% CPI effect) and furniture and housewares prices were up 5.5% (0.31%). Recreation and culture rose in price by 1.2% (0.12% CPI effect), mainly reflecting the end of winter sales on television sets, computers, and so forth.

Other items that increased this month were food and beverages, up 0.7% (0.10%), and airfares, which rose 2.3% (0.04%) after plunging in January. Hotel and restaurant prices increased as well, by 0.6% (0.03% CPI effect).

Underlying inflation declines

Perhaps the best news in this month’s inflation figures is the drop in underlying inflation by all measures. Underlying inflation excludes volatile items and is among the indicators the Central Bank (CBI) monitors closely in its assessment of inflationary pressures during the run-up to its policy rate decisions.

Of February’s 6.6% headline inflation figure, 3% stems from housing, 1.9% from services, 1% from domestic goods, and 0.9% from imported goods. This, too, is a major change from the time when housing and imported goods were the main catalysts of inflation.

The near-term outlook

Despite the unexpected spike in the CPI in February, headline inflation has eased ever so slightly. It looks as though end-of-sale effects have passed through to the CPI measurement virtually in their entirety, which suggests that they will be less pronounced in March. According to our forecast, inflation will taper off quickly in coming months, and we have therefore made a minor update to our preliminary forecast. We expect the CPI to rise by 0.4% in March instead of the previously projected 0.6%, followed by increases of 0.7% in April and 0.3% in May. If this forecast is borne out, twelve-month inflation will measure 5.7% in May. The main uncertainties in our short-term forecast are the ISK exchange rate and house prices. SI plans to publish an article on its new imputed rent calculation method in March, so that measurement is another key uncertainty in the near future.

According to our long-term forecast, inflation will average 5.6% in 2024, 3.3% in 2025, and 3.1% in 2026. Based on these projections, inflation will not converge with the CBI’s target during the forecast horizon but will move close to it in the latter half of the period. Further ahead, we consider developments in wage negotiations to be the main uncertainty.


Bergthora Baldursdóttir