(Bloomberg) -- Iceland’s central bank accelerated its easing campaign with a half-point reduction in western Europe’s highest borrowing costs as price pressure is slowing.
Policymakers at Sedlabanki in Reykjavik lowered the 7-day term deposit rate to 8.5% on Wednesday, the biggest cut in more than three years. The decision was in line with the expectations of the north Atlantic nation’s largest banks, Islandsbanki hf and Landsbankinn hf, as well as the central bank’s survey of market participants.
Icelandic consumer price growth has slowed to an almost three-year low, with inflation expectations also slowing in relief for the policymakers who last month delivered their first interest rate cut in almost four years.
The central bank now expects the tourism-dependent economy — which expanded by a fifth in 2021-2023 — to stagnate this year, a view shared by some other forecasters. It still expects output to rebound next year by 1.9% and by 2.3% in 2026, somewhat below its projections in August.
“The decline in inflation has been broad-based, and underlying inflation has fallen as well,” the rate-setters said in a statement. “Furthermore, inflation expectations have declined overall, and the real rate has therefore risen.”
Inflation is seen declining faster than the monetary authority estimated in August, with average consumer price growth declining to 3.4% in 2025 from an expected 5.9% this year. In 2026, inflation is projected at 2.7%, with the central bank’s target of 2.5% seen reached in 2027.
Housing price increases which have mainly driven inflation in the past years are slowing partly as the effects of a surge in demand following displacements triggered by volcanic eruptions start to wear off.
Repeated eruptions in Iceland’s south west corner in the last year have left 1% of the nation displaced and prompted the government to buy out all residential owners in the area in addition to other expenses related to the seismic activity.
Iceland is also set to vote on a new parliament at the end of the month after Prime Minister Bjarni Benediktsson disbanded his three-party coalition last month, which may raise uncertainty about the country’s fiscal policies.
The policymakers still warned that “persistent inflation and inflation expectations above target call for caution,” adding that “it is still necessary to maintain an appropriately tight monetary stance in order to bring inflation back to target within an acceptable time frame.”
(Updates with central bank’s economic forecasts from fifth paragraph)
©2024 Bloomberg L.P.