The Q1/2025 current account deficit totalled just under ISK 60bn. It is the second-largest deficit ever measured by the Central Bank (CBI), which published balance of payments figures for the quarter this morning, together with revisions of historical data. The only time the deficit was larger in ISK terms was in Q4/2024. This was expected, given there was a sizeable deficit on goods trade during the quarter, concurrent with a downturn in the number of tourists visiting Iceland. It is important to remember, though, that the fat goods account deficits seen in the past few quarters are due primarily to large-scale importation of investment goods. Most of the goods in question are inputs relating to development in export sectors and, as such, are not cause for concern in and of themselves.
Q1 current account deficit the second-largest on record
A hefty goods account deficit and a meagre surplus on services trade were the main contributor to the Q1/2025 current account deficit, the second-largest on record in ISK terms. Declining aluminium prices are reflected in positive developments in primary income as well as in a larger deficit on goods trade. After a thoroughgoing revision of data from prior years, the current account shows a sustained deficit dating back to 2021, although improvements are expected in the coming term.
The goods account deficit for the quarter totalled just over ISK 85bn, while the surplus on services trade came to a scant ISK 20bn. In addition to these was the usual deficit on secondary income, just over ISK 12bn, but this item is always negative, as it mainly reflects Iceland’s contributions to international cooperation, plus cross-border remittances sent by individuals.
The primary income balance flipped to a surplus, however, after a three-quarter deficit. The surplus, which reflects flows due to wage payments and remuneration for cross-border financing (such as interest payments and gains/losses on equity) totalled just over ISK 18bn.
The explanation for the turnaround can be found, as before, in financial income and expense due to inward and outward foreign direct investment (FDI). The operating performance of the three aluminium smelters plays an important role in this, as they are all foreign-owned. In the CBI’s balance of payments figures, the smelters’ operating performance is recognised under expenditures due to FDI. When the smelters generate operating losses, that figure is deducted on the expenditures side, as was the case this time.
The smelters’ earnings, of course, are closely linked to developments in global aluminium prices, which are also reflected in the value of exported aluminium products. As a result, there is usually a strong correlation between aluminium prices, on the one hand, and the balances on both goods and primary income, on the other.
Recent current account balance markedly changed after revision
As is noted above, historical balance of payments figures were revised back to 1995 and published alongside the figures for Q1/2025. The revision was carried out in parallel with a comparable revision of national accounts conducted by Statistics Iceland (SI), which we have discussed recently. On the whole, the revision resulted in a more favourable current account balance over the past 15 years or so. This was mainly due to updated estimates of services trade, which revealed an even larger surplus over the period than previously thought.
The exception is 2023, when the balance on primary income was revised downwards by about 3% of GDP. And indeed it was our good friend, inward FDI-related expenditure, that was the main cause of that revision. Presumably, it was due to an improved performance by the three smelters, although the CBI’s press release does not say so outright.
According to the revision, instead of a surplus measuring 0.8% of GDP, the current account showed a deficit of 1.3% of GDP in 2023. Because of this change, the current account has been in deficit continuously since 2021, according to the CBI’s new data. In addition, the 2024 deficit was larger than previously estimated, by 0.2% of GDP.
It should be noted, though, that not all movements in the current account balance are associated with currency flows. This is true not least of the primary income balance, where calculated profits or losses on capital are reflected only partially in foreign exchange market flows. To a degree, the same can be said of the trade balance, not least in the case of imported investment inputs or, for example, cross-border revenues and expenditures associated with intellectual property use. The appreciation of the ISK from its late 2020 trough concurrent with a four years of consistent current account deficits should be examined in this light.
In our recently published macroeconomic forecast, we review the outlook for the current account. According to that forecast, the current account deficit looks set to continue in the coming term. The goods account deficit will probably remain fairly large, and the outlook is for a smaller surplus on services than in 2024. We assume that the current account deficit will measure 2% of GDP, or approximately ISK 100bn.
In the latter two years of the forecast horizon, however, the current account looks set to be broadly in balance. We project a current account surplus of 0.2% of GDP in 2026 and 0.6% of GDP in 2027.
The improvement is due largely to a smaller goods account deficit, not least because of a temporary turnaround in investment and an increase in intellectual property and aquaculture exports. Also, we estimate that the surplus on services will widen slightly and that the primary income balance will be positive in the latter part of the forecast period. A slight improvement in terms of trade will help as well.
Nevertheless, underlying variables have little room for error if a more persistent current account deficit is to be avoided. If the ISK appreciates more than we expect in the coming term, for instance, it could stimulate imports and weaken Icelandic export sectors’ competitive position. There is also some risk that the trade war could suppress demand for exported goods and for travel to Iceland.
