Iceland raises rates as governor says inflation expectations are easing

The Central Bank of Iceland raised its policy rate by 0.25 percentage points on Wednesday, while Governor Ásgeir Jónsson said the rise in inflation expectations was beginning to reverse, mbl.is reports.

The bank’s key rate, the interest rate on seven-day fixed-term deposits, will now be 8%. Four members of the Monetary Policy Committee supported the decision, while one wanted to leave rates unchanged.

Jónsson said the committee’s forward guidance had changed. In May, it said it was prepared to tighten policy further to bring inflation back to its target. Its latest guidance says the rate increase was considered necessary to ensure sufficient monetary restraint.

Erna Björg Sverrisdóttir, chief economist at Arion Bank, asked whether the change could be understood to mean that, assuming other conditions remained unchanged and the forecast proved correct, the committee was satisfied with the level of restraint and that the peak in the rate path had been reached to some extent.

Jónsson said the change was partly prompted by the reversal in inflation expectations. He added that although the wage agreement’s provision for reopening negotiations was unlikely to hold, purchasing power had increased much more than expected and was continuing to rise.

“I am therefore calling for responsibility from the social partners,” Jónsson said. If they wanted to see lower interest rates, they could renegotiate and postpone wage increases, or even wait before implementing them. That would help significantly, he said.

“Our interest rate level is naturally a consequence of what others do in society,” Jónsson said, referring to decisions in the labour market, politics and other systems. “We receive all of this and respond by raising or lowering interest rates.”

Deputy Governor of Monetary Policy Þórarinn G. Pétursson added that wage growth was clearly slowing. The committee expects inflation to subside, but said it would respond if collective agreements disrupted that outlook.

“We expect the collective agreement to be reopened, but that the changes will be moderate. If it turns out differently, there will of course be a response,” Pétursson said.