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IMF Executive Board Concludes 2019 Article IV Consultation with Iceland

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Via IMF (Den Internationale Valutafond)

IMF Executive Board Concludes 2019 Article IV Consultation with Iceland







December 19, 2019















On December 19, 2019, the Executive Board of the International Monetary
Fund (IMF) concluded its 2019 Article IV consultation

[1]

with
Iceland.

After years of robust growth, economic activity has significantly weakened.
Supply disruptions in tourism, the engine of recent growth, and the
associated uncertainty have triggered a drop in domestic demand and an
increase in unemployment. A swift policy response, with fiscal relaxation
and monetary easing, has stabilized expectations and cushioned the effects.
A moderate but fragile growth recovery is expected in 2020. Significant
downside risks weigh on the outlook, including world trade tensions, weaker
than expected global growth, the UK’s still uncertain Brexit process, and
further worsening in tourism activity. Over the medium term, growth is
projected to recover to about 2 percent, inflation is expected to remain
close to the 2.5 percent target, and the current account balance is
projected to narrow but remain positive.

Executive Board Assessment[2]

The authorities’ swift policy response to Iceland’s weaker economic growth
has been appropriate. Supply disruptions in tourism, the engine of growth
over the past five years, and the associated increase in uncertainty has
triggered a drop in domestic demand and an increase in unemployment. Fiscal
relaxation and monetary easing have stabilized expectations and cushioned
the effects of the tourism shock, averting a deeper growth slowdown. The
recent collective wage agreement, completed with active government
involvement, has dampened the negative impact on employment.

Solid economic fundamentals have also allowed the economy to weather the
downturn, although significant downside risks remain. Public and private
balance sheets are comfortable. Fiscal surpluses have contributed to the
rapid decline in public debt. The current account is in surplus, net
external assets are positive, and international reserves are ample.
Iceland’s external position is broadly in line with fundamentals and
desired policies. Inflation expectations are at the CBI’s target. Banks’
balance sheets show high capital adequacy and strong liquidity ratios. In
this context, growth is poised to recover to 1.6 percent in 2020 and 2
percent over the medium term.

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Policy space is available, and further easing would be warranted if risks
materialize. With output close to potential, there is no urgency for
further policy easing. However, growth remains fragile, and negative
spillovers from global risks and further worsening in tourism activity
could still tilt the economy into a recession. The authorities’ medium-term
fiscal plan is appropriate in view of the weakening of the economy, and
there is some fiscal space to provide further support if needed. Further
room for monetary easing is also available if economic conditions
deteriorate significantly, and inflation expectations fall well below
target.

Confidence in Iceland’s policy framework continues to build. The inflation
targeting regime—with CPI as a monetary policy target—has worked well. The
CBI’s foreign exchange arrangement has preserved exchange rate flexibility
and maintained adequate international reserve buffers. Iceland’s fiscal
framework has helped gain credibility and some fiscal space. Refining its
implementation could make discretionary fiscal actions more effective in
smoothing economic cycles. In the medium-term, completing the planned
government spending reviews and active public sector balance sheet
management could expand the options for more growth-friendly spending.
Macroprudential policies are helping to preserve buffers for managing
financial stability risks. Looking forward, the macroprudential policy
toolkit could be expanded to include loan-to-value limits for commercial
real estate loans and income-based measures to contain potential risks in
the loan portfolio over the medium term.

The ongoing merger of the CBI and FME should achieve greater efficiency,
operational independence, and powers in financial oversight. It should provide for an integrated approach to
policymaking, enhancing the synergies between the oversight, lender-of-last
resort, and resolution functions, while strengthening policy
accountability. While full integration in practice will take time, the
framework should be implemented as swiftly as possible, and the new
internal organization should bolster the technical capacity and resource
adequacy for supervisory work. The future planned reviews of the framework
provide opportunities to strengthen its effectiveness if necessary.

Iceland’s recent grey-listing by the FATF increases the urgency of ensuring
a more effective AML/CFT framework. The authorities have adopted a number
of legislative and institutional reforms to improve the AML/CFT legal and
institutional framework as well as domestic coordination and have increased
AML/CFT resources. Swift actions are needed to implement all remaining
recommendations of the FATF and demonstrate that the framework is
effective. Continued vigilance and broader public awareness of the
potential effects on households and companies is needed.

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Structural reforms could reignite Iceland’s growth potential. Iceland’s
labor market arrangements are inclusive, and in the face of large adverse
shocks, the wage-setting process has proven flexible in preventing large
job losses. Securing stable long-term growth and high living standards
going forward requires efforts in education, focusing on teacher training
and targeted support for immigrant children; improving the transparency of
unlisted companies with large impact on the Icelandic economy; and
preserving the natural endowments of the country to support the
sustainability of Iceland’s traditional economic activities.

 


Iceland: Selected Economic Indicators, 2015–19

2015

2016

2017

2018

2019

Proj.

(Percentage change unless otherwise
indicated)


National Accounts (constant prices)

Gross domestic product

4.7

6.6

4.4

4.8

0.3

Total domestic demand

5.9

7.5

7.0

4.7

-0.3

Private consumption

4.5

7.2

8.1

4.7

1.9

Public consumption

1.1

1.9

3.7

3.5

2.9

Gross fixed investment

21.3

17.8

10.2

4.0

-8.9

Net exports (contribution to growth)

-0.5

-0.2

-2.0

0.4

0.6

Exports of goods and services

9.1

10.9

5.4

1.7

-4.9

Imports of goods and services

13.8

14.5

12.3

0.8

-7.3

Output gap (percent of potential
output)

-0.7

1.2

1.1

1.7

-0.3

Selected Indicators

Gross domestic product (ISK bn.)

2,294

2,491

2,613

2,812

2,931

GDP per capita ($ thousands)

52.8

62.0

72.3

74.5

66.3

Private consumption (percent of GDP)

50.0

49.6

50.4

50.6

51.5

Public consumption (percent of GDP)

23.3

22.9

23.5

23.7

24.7

Gross fixed investment (percent of GDP)

19.4

21.1

21.9

22.3

20.2

Gross national saving (percent of GDP)

24.7

28.8

25.7

25.5

23.5

Unemployment rate (percent of labor
force)

4.0

3.0

2.8

2.7

3.7

Employment

3.4

3.7

1.8

2.3

1.3

Labor productivity

1.4

3.5

3.4

2.1

-0.9

Real wages

5.7

7.3

7.3

1.7

1.9

Nominal wages

7.4

9.1

9.2

4.5

4.8

Consumer price index (average)

1.6

1.7

1.8

2.7

3.0

Consumer price index (end period)

2.0

1.9

1.9

3.7

2.6

ISK/€ (average)

146

134

121

128

ISK/$ (average)

132

121

107

108

Terms of trade (average)

6.7

2.4

1.7

-3.6

-2.1


Money and Credit (end period)

Base money (M0)

27.8

3.0

37.9

-1.7

3.4

Broad money (M3)

5.6

-4.6

5.0

7.0

5.2

Bank credit to nonfinancial private
sector

3.5

4.4

9.2

11.9

3.4

Central bank 7-day term deposit rate 1/

5.75

5.00

4.25

4.50

3.00

(Percent of GDP unless otherwise
indicated)


General Government Finances 2

/

Revenue

40.6

56.9

43.6

42.8

40.6

Expenditure

41.4

44.5

43.0

42.0

40.9

Overall balance

-0.8

12.4

0.5

0.8

-0.3

Structural primary balance

2.8

3.4

1.8

1.4

1.1

Gross debt

65.0

51.2

43.3

35.9

29.8

Net debt

47.4

39.7

35.8

27.6

26.7

Balance of Payments

Current account balance 3/

5.1

7.6

3.8

2.8

2.9

Capital and financial account (+ =
outflow)

5.0

8.8

2.0

6.5

2.8

Gross external debt 4/

175.7

125.2

90.0

73.3

74.0

Central bank reserves ($ bn.)

5.0

7.2

6.6

6.1

6.2

Sources: Central Bank of Iceland;
Ministry of Finance; Statistics
Iceland; and IMF staff projections.


1/ For 2019, rate as of November
21.

2/ Data for 2018 are preliminary.

3/ Actual data include accrued interest
payments on intracompany debt held by a
large multinational; projected data do
not.

4/ Data reflect the impact of the bank
estates’ compositions.

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[1]

Under Article IV of the IMF’s Articles of Agreement, the IMF holds
bilateral discussions with members, usually every year. A staff
team visits the country, collects economic and financial
information, and discusses with officials the country’s economic
developments and policies. On return to headquarters, the staff
prepares a report, which forms the basis for discussion by the
Executive Board.


[2]

At the conclusion of the discussion, the Managing Director, as
Chairman of the Board, summarizes the views of Executive Directors,
and this summary is transmitted to the country’s authorities. An
explanation of any qualifiers used in summings up can be found
here:

http://www.imf.org/external/np/sec/misc/qualifiers.htm

.


IMF Communications Department
MEDIA RELATIONS

PRESS OFFICER: Meera Louis

Phone: +1 202 623-7100Email: MEDIA@IMF.org

@IMFSpokesperson








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