Inflation to measure 6.0% in May

We project that inflation will remain flat in May, after falling sharply in April. It will continue to ease in coming quarters, albeit at a reduced pace.

We expect the consumer price index (CPI) to rise by 0.4% month-on-month in May, leaving headline inflation unchanged MoM at 6.0%. As before, the housing component will be the main driver of the increase, with the annual drop in airfares and other items pulling in the opposite direction.

The last imputed rent calculation using the current method

The housing component continues to be the main driver of inflation, as the housing market has heated up again considerably in the recent term. At present, housing accounts for about half of headline inflation. The May CPI measurement will be noteworthy in that it will be the last one compiled using the old method of calculating imputed rent. The new method will be used from June onwards. The change is discussed more fully here. We forecast that the housing component will rise by 1.03% (0.29% CPI effect), including a 1.4% increase in imputed rent (0.27% CPI effect). This 1.4% rise is due to the interest component (0.5%) and the market price of housing (0.9%).

The real estate market has grown quite a bit hotter in 2024 to date. Around mid-2023, twelve-month house price inflation fell to a local trough after soaring in the period beforehand, but it regained momentum when requirements for equity loans from the Housing and Construction Authority (HMS) were eased. Part of this increase is due to property purchases by Grindavík residents, but prices have risen far more in regional Iceland than in greater Reykjavík. Discourse about an imminent housing shortage has surfaced as well, including in the HMS’ monthly report, and has probably affected the market.

We think it most likely that the change in methodology will dampen fluctuations in imputed rent, but its impact on H2/2024 inflation is entirely uncertain. The new methodology is described here.

Airfares and car prices projected to fall

Airfares rose in March and April, as the Easter holidays straddled both months. The impact was largely the same in both March and April, although price hikes were slightly more pronounced in April. Airfares typically fall again in May, once the Easter holidays are past. We forecast that the travel and transport component will decline by 0.8% (-0.13% CPI effect), and we expect motor vehicle prices to continue their marginal decline as well. Petrol prices are likely to fall slightly, according to our measurement, and the fuels and lubricants item in the index will therefore decline by 0.26% (-0.01% CPI effect).

Near-term inflation outlook

Because the CPI rose more modestly in May 2023 than in the months beforehand, twelve-month inflation will not change much this time, and we forecast that it will hold steady at the current level. Prospects for the coming summer are similar, and we therefore expect headline inflation to remain broadly unchanged. According to our preliminary forecast, the CPI will rise 0.5% in June, 0.3% in July, and 0.4% in August, and twelve-month inflation will measure 5.6% in June and 5.9% in July and 5.9% August. Thereafter, the outlook is for continued disinflation, and if our forecast materialises, inflation could fall to 5.0% by the year-end.

There are several uncertainties, however, chief among them next month’s launch of the new method for calculating imputed rent. According to the survey taken by the Central Bank (CBI) just before the last policy rate decision, most market agents expect the change to lead to slower disinflation, citing the recent jump in the ratio of house prices to rent prices. On the other hand, the Governor of the CBI said recently that the risk to the inflation profile as a result of the change was symmetric.


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Birkir Thor Björnsson




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