Year 2023: a current account surplus and a vastly improved international investment position

Iceland showed a current account surplus measuring 1% of GDP, after two years of deficits. Favourable developments in external trade reflect economic rebalancing after a brief expansionary period. Iceland’s net external assets grew considerably in 2023, and the medium-term outlook for the country’s external balance is favourable.

According to newly published figures from the Central Bank (CBI), Iceland recorded a current account deficit of ISK 28.6bn in Q4/2023. It had already been established that the goods account deficit for the period came to ISK 77.5bn, while the surplus on services trade totalled ISK 28.5bn. CBI figures added primary and secondary income data to the mix, with primary income showing a surplus of ISK 34bn and secondary income showing a deficit of ISK 13.5bn. The outcome for the quarter somewhat exceeded our expectations, owing mainly to a more favourable primary income balance.

Balance on income fluctuates with aluminium prices

It is always interesting to dig down into the CBI’s primary income data, which illustrate flows of income and expenditures due to cross-border movement of labour and capital. In other words, the primary income account reflects wage payments to and from Iceland, as well as interest income and expense and dividends on direct and indirect shareholdings.

As the chart shows, developments in dividends from inward and outward foreign direct investment (FDI) are a major determinant of the primary income balance as a whole. Of particular importance is the profit or loss generated by the three aluminium companies, all of which are foreign-owned. Fluctuations in aluminium prices have a strong impact on the aluminium smelters’ operating results at any given time. Because of this, there has been a strong correlation in recent years between aluminium prices and the primary income balance, as can be seen in the chart. In 2021-2022, for instance, aluminium prices surged and the aluminium smelters’ profits followed suit, while the primary income balance deteriorated commensurably. The recent decline in aluminium prices has been unfavourable for the smelters, although Iceland’s balance on income has improved.

But it would be erroneous to assume that the Icelandic economy profits from lower aluminium prices. When aluminium prices fall, export revenues decline and the deficit on goods trade grows wider. This inverse relationship between aluminium prices and the balance on income is due mainly to the fact that the value added by aluminium production in Iceland varies much less than actual smelter operations do. In a sense, then, we are protected to a large degree from the impact of aluminium price volatility on the domestic economy.

Current account surplus after a two-year deficit

Iceland’s current account showed a surplus of just over ISK 41bn in 2023, a major shift after two years of deficits. In 2022, for instance, the current account was in deficit by more than ISK 65bn. The ensuing rebound is due not least to the resurgence of tourism as the mainstay of Iceland’s export revenues, but with assistance from continued growth in other services exports, which we have discussed recently.

In our macroeconomic forecast from late January, we assumed that the year-2023 current account balance would be broadly in equilibrium. The outcome – a surplus equalling roughly 1% of GDP – is therefore a bit more favourable than we had anticipated. In our forecast, we had assumed small current account surpluses in 2024 and 2025. These projections are unchanged after the publication of the aforementioned figures.

Significant increase in net external assets
The CBI also published data on Iceland’s year-end 2023 international investment position this morning. External assets net of external liabilities came to ISK 1,614bn at the end of 2023, or 37.7% of GDP. Foreign assets totalled ISK 5,753bn and foreign liabilities ISK 4,139bn, an improvement of ISK 326bn quarter-on-quarter, as external assets grew well in excess of external liabilities during the period.

There is a marked difference in the composition of external assets, on the one hand, and external liabilities, on the other. As the chart shows, net external assets in the form of equity securities and unit shares totalled ISK 2,735bn, and the item labelled as Other, which mostly reflects the CBI’s net international reserves, was positive by ISK 600bn.

On the other hand, interest-bearing debt in excess of interest-bearing assets totalled ISK 1,210bn, and inward FDI exceeded outward FDI by ISK 512bn.

Icelanders’ net holdings in equities and unit shares derive mainly from the pension funds’ foreign assets. These assets totalled ISK 2,739bn at the end of 2023, after growing by ISK 247bn during the final quarter of the year. Buoyant foreign securities markets played a major role in the final months of 2023, as we have discussed recently.

Signs of an improved external balance

Overall, it is safe to say that the above-mentioned figures strike a positive note as regards Iceland’s external balance. Among other things, they reflect the economy’s shift from an expansionary period to an adjustment. After two years of current account deficits, Iceland’s external revenues are starting to offset external expenditures, and with room to spare.

It need hardly be said how important a positive external asset position is for a small open economy with a small, floating currency. After a period of sustained current account deficits and external debt accumulation in the early years of the Republic of Iceland, the situation changed radically for the better in the wake of the 2008-2009 financial crisis. Although we think a return to the fat current account surpluses of the 2010s an unlikely prospect, we do expect the current account to develop favourably in coming years, and we envision that Iceland’s external position will improve rather than deteriorate. That puts Iceland in an enviable position relative to its neighbours abroad.


Jón Bjarki Bentsson

Chief economist