The Central Bank of Iceland (CBI) cut its benchmark 7-day deposit rate by another 25 basis points to 4.25 percent and has now cut it by 75 points this year following cuts in May and June.
The central bank signaled it's not planning further monetary easing in the immediate term, saying demand pressures in the economy still necessitate a tight monetary stance to ensure price stability and the current real interest rate is sufficient at present to keep inflation broadly at target.
However, as usual, the CBI added its monetary stance in the coming term will be determined by economic developments and actions taken in other policy spheres.
Iceland's economy has been booming from tourism that has fired up consumption and only the strong exchange rate of the krona, and low global inflation, has kept a lid on inflation.
"The outlook is for GDP growth to be weaker this year than in 2016, in part because growth in tourism has eased," the CBI said.
In August the CBI lowered its growth forecast for this year to 5.2 percent from May's forecast of 6.3 percent on lower growth in exports and the economy is continuing to decelerate.
In the second quarter of this year Iceland's Gross Domestic Product contracted for the second quarter in a row as quarterly GDP fell 1.1 percent after a 0.7 percent fall in the first.
On an annual basis, second quarter GDP was still up by 3.4 percent but this was down from 5.2 percent in the first quarter, 10.8 percent in the fourth quarter of last year and 10.1 percent in the third quarter of 2016.
In 2016 Iceland's economy grew by 7.2 percent, up from 4.1 percent in 2015.
Iceland's headline inflation rate is also decelerating and fell to 1.4 percent in September from 1.7 percent in August and 1.8 percent in July but the CBI said it remains in line with its target. The CBI targets inflation of 2.50 percent.
In its latest forecast, the central bank raised its inflation forecast for this year to 1.8 percent from 1.7 percent and the 2018 forecast to 2.6 percent from 2.3 percent.
Iceland's krona has been depreciating since June following a steady rise since March 2015 and fell further to 105.8 in response to the rate cut. However, it still remains 6.8 percent higher than at the start of this year.
"In the past few months, fluctuations in the exchange rate have had relatively little impact on inflation and only transitory effects on inflation expectations," the CBI said.
The Central Bank of Iceland issued the following statement:
"The Monetary Policy Committee (MPC) of the Central Bank of Iceland has decided to lower the Bank’s interest rates by 0.25 percentage points. The Bank’s key interest rate – the rate on seven-day term deposits – will therefore be 4.25%.
The outlook is for GDP growth to be weaker this year than in 2016, in part because growth in tourism has eased. The rate of GDP growth will nevertheless be robust. There are signs that demand pressures in the economy have begun to subside.
Inflation has fallen somewhat in the past two months, measuring 1.4% in September. Measures of underlying inflation are even lower, and falling. The exchange rate of the króna is broadly unchanged since the MPC’s last meeting, after falling during the summer, and is 4.5% higher than it was a year ago. Measures of inflation expectations remain in line with the inflation target. In the past few months, fluctuations in the exchange rate have had relatively little impact on inflation and only transitory effects on inflation expectations.
Demand pressures in the economy call for a tight monetary stance so as to ensure medium-term price stability. Developments in inflation and inflation expectations and diminishing demand pressures indicate, however, that the Bank’s real rate is sufficient at present to keep inflation broadly at target. The monetary stance in the coming term will be determined by economic developments and actions taken in other policy spheres."
Demand pressures in the economy call for a tight monetary stance so as to ensure medium-term price stability. Developments in inflation and inflation expectations and diminishing demand pressures indicate, however, that the Bank’s real rate is sufficient at present to keep inflation broadly at target. The monetary stance in the coming term will be determined by economic developments and actions taken in other policy spheres."
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