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UPDATE 1-Iceland cuts key interest rate again as inflationary pressures ease
May 17, 2017 / 11:41 AM / in 7 months

UPDATE 1-Iceland cuts key interest rate again as inflationary pressures ease

(Adds detail, GDP, inflation forecast)

COPENHAGEN, May 17 - Iceland’s central bank cut its key interest rate for the third time in nine months on Wednesday, citing a stronger crown currency that has eased inflationary pressures, as the country emerges from years under capital controls.

The bank cut its key deposit rate by 25 basis points to 4.75 percent. It said the currency’s above-forecast appreciation had improved the inflationary outlook for this year and next.

“By most measures, inflation expectations are at target, and there are signs that a tight monetary stance has anchored them more firmly,” it said in its monetary report.

“Because the crown has strengthened more than was assumed in February, the inflation outlook for 2017 and 2018 has improved, although increased demand pressures have eroded the outlook further ahead,” the bank said.

In March Iceland lifted capital controls imposed to prevent households and investors from moving money abroad in the wake of the 2008 banking crisis. The crown is now back up to levels seen before the controls were removed, having gained almost 7 percent against the euro since early April.

“The effect of that has been to put downward pressure on import prices and keep overall inflation weak,” said Capital Economics economist Stephen Brown.

Capital Economics projects another rate cut in August, but no further cuts beyond that.

For the past three years inflation has been at or below the central bank’s target of 2.5 percent. The central bank still expects “below-target inflation well into 2018”.

This year inflation is seen at 1.9 percent compared to an earlier forecast of 2.1 percent.

Since the financial crisis of 2008, Iceland’s central bank has kept interest rates higher than in other industrialised countries because of its long-term inflation expectations.

Even so, the bank forecasts economic growth of 6.3 percent this year compared to a February forecast of 5.3 percent, driven by a strong growth in tourism revenues. But it sees growth slowing to 3.5 percent in 2018 and 2.5 percent in 2019.

The central bank said that it had reduced its interventions in the foreign exchange market and the stronger crown reflected economic fundamentals.

“The crown has played a key role in the economy’s adjustment to positive shocks deriving from improved terms of trade and growth in the tourism sector,” it said.

The bank last cut its key rate in December by 25 points. (Reporting by Stine Jacobsen and Jacob Gronholt-Pedersen; editing by Richard Lough)

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