Increased housing demand from Grindavík affecting the inflation rate

Jón Bjarki Bentsson, the chief economist for Íslandsbanki.

Jón Bjarki Bentsson, the chief economist for Íslandsbanki. Composite image

Jón Bjarki Bentsson, chief economist of Íslandsbanki, believes that the rise in house prices in the capital area could explain the 0.2 percentage point rise in inflation since last month.

Inflation is now at 6.8%

Housing prices rise faster in rural areas

According to the figures from Statistics Iceland, house prices have risen by 1.6% between months.

“In the south, house prices are rising much faster than in the capital area. Presumably, this is due to the demand of residents of Grindavík for houses in the vicinity of the capital.

There have been reports that demand for residential housing in Suðurnes has been strong and prices have been rising. This pressure has therefore started to measure up.”

Amendment to the housing section

But Bentsson says that there is good news ahead, as Statistics Iceland (SI) plans to introduce a change to the housing component in its June calculation. It will be based on rent rather than market prices, as is the case in many neighboring countries.

“One of the reasons for this change is that financial market conditions have too great an influence on the development of the calculated rent. For example, the sharp fall in interest rates during the global pandemic has given the housing market a lot of life, and much more life to the sales market than to the rental market.

Apart from that, the interest rate component is also having an impact on the rise in house prices these days. As of June, I therefore think it’s likely that this component will start to be more predictable and that there will be less fluctuation in the monthly measurements. Rental prices will fluctuate much less in these measurements than house prices do.”

Price increases need to be modest

Bentsson is asked when the effect of the new wage agreements on inflation can be expected.

He believes that the first effects could begin to appear quite quickly, as public-market companies now have a predictable view of how wage costs will develop over the next four years.

Bentsson points in particular to the retail market, which is a major driver of the CPI, and workers in this sector have now signed new wage agreements.

“It’s up to the companies to show that this affects price developments, that is, that a modest increase in wages translates into a modest increase in prices. It also helps that the economy is cooling down all-around, which reduces demand and increases competition to keep market share.”

When asked if he is speaking in the same way as the Governor of the Central Bank, who spoke quite directly to the retail and service industries about showing restraint in price increases.

“Yes, I think it’s also necessary to keep in mind that this doesn’t just affect workers, but also that these rather favorable wage agreements will continue to feed into the price level.”

“Fewer hands have been creating more value”

Lastly, Bentsson is asked what the updated figures from Statistics Iceland (SI) on the population of Iceland change. If it’s true that SI has long overestimated the population of Iceland by 15 thousand, has the growth in the past few years per capita been considerably higher than official figures indicate?

Bentsson believes this has been the case but that the population-based error has been building up over a long time. There has been a historical increase in foreign workers in recent years but it is known that many people went back to their homes during the pandemic without registering. Based on the updated information, new conclusions can therefore be drawn:

“GDP per capita was therefore somewhat higher in 2022. This can be seen by the fact that the GDP figures were updated back in time, and then the other thing is that it was divided into smaller headcounts.

Productivity growth has therefore been higher than expected. There is good news and evidence that there is a buffer for the recent growth in purchasing power. Fewer hands have therefore been creating more value,” he concludes.

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