Robust economic recovery in 2021

Last year’s GDP growth, measuring 4.3%, is due mainly to a surge in domestic demand, supported by increased export growth. Growth in business investment hit a six-year high in 2021, and private consumption is noticeably above its pre-pandemic level. The outlook is for robust output growth in the coming term, but short-term uncertainty has mounted because of the war in Ukraine.

According to Statistics Iceland’s (SI) newly published preliminary figures, GDP grew by 4.3% in 2021, which is well in line with our estimate of 4.1%, published in January. The rebound in 2021 comes on the heels of a 7.1% contraction in 2020, which SI’s earlier figures had estimated at 6.5%. As a result, even though GDP grew strongly year-on-year in 2021, it was 3% less than in 2019. Last year’s growth was due primarily to a surge in domestic demand, although export growth was brisk as well. Strong import growth pulled in the opposite direction, though, and actually, the contribution of net trade to GDP growth was negative in 2021, as imports grew faster than exports.

GDP per capita measured 2.5% in 2021, as the population grew by 1.8% during the year, according to SI estimates. This variable is important in the calculation of the forthcoming GDP growth supplement provided for in the Living Standards Agreement, as the supplement is based on the aforementioned GDP per capita estimate.

GDP growth eased in Q4

Output growth subsided somewhat in Q4, after a picking up strongly Q2 and Q3. This is due mainly to base effects, as the contraction in GDP was much steeper in Q2 and Q3/2020 than in Q4/2020. Actually, SI’s preliminary quarterly national accounts figures have a tendency to change markedly once more accurate data on the quarterly distribution of individual subcomponents become available, so we consider it wise to avoid overinterpreting the preliminary numbers. That said, private consumption growth was very strong in Q4, which accords well with payment card turnover data. On the other hand, investment and exports eased between Q3 and Q4, while import growth gained pace.

Exports turned around, but import growth was strong

Exports turned around last year, after a steep contraction in 2020. In all, export volumes grew by 12.4% in 2021. The largest single driver of growth was services exports, which jumped by a fifth, owing largely to the 44% YoY increase in tourist numbers and a shift in travel behaviour that boosted value creation per tourist relative to previous years. In addition, goods exports grew nearly 8% during the period. But as is noted above, all of this was outpaced by import growth. Total imports grew by over 20% in 2021, with imports of goods and services carrying roughly equal weight.

The explanation for strong import growth in 2021 lies mainly in private consumption and investment, the latter of which is usually quite import-intensive. For instance, investment in ships and aircraft is reflected entirely in import figures, and a similar thing can be said of all kinds of machinery and equipment. Furthermore, construction of all types requires large-scale importation of inputs. With all of this in mind, we are not deeply concerned that external trade should have dampened the pace of growth in 2021, as the outlook is for a turnaround this year, and the ultimate purpose of imported investment goods is to support growth in exports and output further ahead.

Investment growth spurt

After a two-year contraction, investment picked up strongly in 2021, with total investment growing by 13.6%. Business investment was the main driver of growth, as it generally outweighs residential and public investment combined. Last year, it grew by more than 23%, the fastest pace since 2015. YoY growth was unusually strong for investment in all types of transport equipment. Investment in ships and aircraft grew 154% YoY, for instance, and investment in passenger vehicles – which includes rental cars and long-distance coaches – was up 118%. Furthermore, importation of heavy machinery grew by 28% between years. Growth in construction-related investment was much weaker, at around 6%.

Public investment also grew strongly in 2021, with SI figures showing an increase of 12% relative to 2020. On the other hand, residential investment shrank by more than 4% in 2021, after growing by just over 1% in 2020. SI points out, however, that in spite of last year’s contraction, residential investment was strong in historical terms, as it had been in 2019 and 2020. As a share of GDP, it measured 5.5% in 2021, well above the twenty-year average of 4.1%. The number of flats in the first stage of construction doubled during the year, according to SI figures, from 1,400 in Q4/2020 to over 3,000 in Q4/2021, indicating healthy growth in supply further ahead.

Private consumption growth driven by imports

Private consumption rallied last year, after contracting by 2.9% in 2020, and YoY private consumption growth measured 7.6% in 2021 . Actually, private consumption in 2021 exceeded the year-2019 total by 4.4% in real terms, so it is safe to say that Icelanders’ consumption has more than recovered from the pandemic. Growth was especially rapid in imported consumption, which played a major role in last year’s import growth, as is mentioned above. For example, Icelanders’ spending abroad grew by over 29% YoY in real terms, and new motor vehicles were up by a third between years.

GDP growth outlook positive, but uncertainty has escalated

The outlook is for GDP growth to remain strong in the coming term. In our macroeconomic forecast from January, we projected output growth at 4.7% in 2022, followed by approximately 3% in 2023 and another 3% in 2024. If anything, growth prospects for 2022 have improved since January, as the outlook is for a more rapid rise in tourist numbers than we assumed at the beginning of the year. If our forecast materialises, GDP will be nearly 2% higher this year than in 2019, before the pandemic struck.

The growth rate in our forecast is based largely on the assumption that strong export growth, a continued rise in consumption, and a modest increase in investment. On the other hand, it goes without saying that near-term uncertainty has escalated sharply with Russia’s invasion of Ukraine, although it would be premature to try to predict effect of the invasion on either the domestic or the global economy.


Jón Bjarki Bentsson

Chief economist