After a strong surge in 2021-2022, the pace of GDP growth started to ease last year. Íslandsbanki Research projects the growth rate for 2023 as a whole at 3.0%. GDP growth is forecast to measure a historically weak 1.9% in 2024, marking a turning point in the business cycle. Intrayear developments will probably mirror those in 2023, with exports the main driver early in 2024 and consumption and investment to gain momentum later in the year. Output growth is then forecast at 2.6% in 2025 and 2.9% in 2026.

The pivot from rapid growth in domestic demand to a contraction is reflected in an improvement in the CA balance. More favourable external trade and other factors help buttress the ISK. According to our forecast, the ISK will be approximately 7-8% stronger at the end of the forecast horizon than it was at the end of 2023.

Inflation has begun to subside after the recent spike, mainly because the housing market has rebalanced and foreign prices are more stable. Tension in the labour market is easing gradually, and real wages will rise concurrent with falling inflation. Persistent inflation calls for a tight monetary stance from the Central Bank, and the outlook is for the policy rate to remain high in the coming term. The monetary tightening episode is probably at an end, however, and a slow easing phase could begin around mid-2024 if inflation develops in line with the ÍSB Research forecast.