The Monetary Policy Committee (MPC) of the Central Bank of Iceland has decided to raise the bank’s interest rates by 0.5 percentage points. This will bring the bank’s key interest rate —the rate on seven-day term deposits—to 5.5 percent.
The bank forecasts a GDP growth of just over four percent this year and about three percent per year for the two following years. Over the forecast period, growth will be about ½ a percentage point below the bank’s May forecast per year. It will be robust nevertheless, and a positive output gap will widen in the coming term, with GDP growth driven more by domestic demand than in recent years. Investment will be weaker than previously forecast, and labor demand will grow more slowly.
Inflation has risen in the recent term but is still below the bank’s inflation target, particularly if the housing component of the CPI is excluded. However, the inflation outlook has worsened considerably since the last forecast, due to recent wage settlements, and inflation expectations have risen. Inflation is expected to reach four percent in early 2016 and to remain between four and 4.5 percent in the next two years.