CBI cuts interest rates to a new low
The third wave of COVID-19 infection in Iceland and the harder contagion controls currently in place have served to dampen any economic bounce back in the third quarter after what the Bank calls the unprecedented contraction seen in Q2.
Today’s statement from the Central Bank says that the economic outlook has worsened and that the November forecast predicts an 8.5 percent reduction in GDP in 2020, which is roughly one percent larger than the more optimistic previous forecast made in August.
The statement adds that while the króna exchange rate crumbled significantly when the pandemic first reached Iceland, it has been stable recently. “While inflation has increased temporarily and the forecast is that it will be higher than was expected in August, a more robust base inflation expectation allows the monetary policy committee to respond to the worsening economic outlook in a decisive manner.”
Lower interest rates make debt cheaper and help businesses and individuals to invest and spend more, thereby stimulating the economy. The low interest rates this year are, for example, credited with keeping the property market highly active despite the crisis.
Traditionally, Iceland has always had high interest rates to promote investor interest in the freely-traded króna, because a weak króna usually drives inflation, which has at times run almost out of control in Iceland and been seen as the principal threat to the economy. Inflation has been close to the CBI’s 2.5 percent target for several years, though, and the Bank therefore feels empowered to introduce very low interest rates for the first time during this year’s crisis. The current 3.6 percent inflation rate is higher than desired, but far short of the roughly 20 percent level seen during the financial crisis a decade ago. The Bank’s main interest rate at that time was an eye-watering 18 percent.