Economy booming but no crash in sight, central banker says

pulse

March 16, 2017 9:13 AM

The North Atlantic island posted spectacular growth of 7.2 percent in 2016, one of the strongest rates in the world.

Spending by tourists in love with Iceland's dramatic landscape has helped fuel an economic boom

Icelands economy is booming and may overheat but there will be no repeat of the crash that plunged the country into a major financial crisis in 2008, central bank governor Mar Gudmundsson told AFP in an interview.

The North Atlantic island posted spectacular growth of 7.2 percent in 2016, one of the strongest rates in the world, on the back of a tourism boom. Wages are rising, as are investments, and real estate projects are flourishing.

But Gudmundsson is not concerned about the possibility of another crash.

"There might be an overheating. That is why we have a somewhat tight monetary policy and we should have a tight fiscal policy and other tools to deal with that," he said on Wednesday.

"But if there is overheating, the adjustment will not be a financial crisis or anything of that kind."

The banking sector's excesses in the 2000s remain fresh in the memory of Icelanders.

In October 2008, the country's three main banks collapsed after borrowing beyond their means to fund ambitious investments abroad. Before their collapse, their liabilities amounted to more than 10 times Iceland's total GDP.

The banks' collapse led to an unprecedented financial crisis, a deep recession and a bailout from the International Monetary Fund.

For the central bank governor, there is no way that scenario will be repeated.

This time around, the growth is tangible, not speculative, stemming from the hordes of tourists spending money to admire the country's breathtaking landscapes.

"The banks are in much, much better shape, they are not (involved) in an international activity, the foreign exchange on the balance (sheet) of the banks is very tightly regulated," he explained, adding: "They have very high capital levels, they have very good liquidity."

"This growth that we're seeing, the boom we are seeing, is not credit-driven," he stressed.

On Wednesday, the central bank left its key interest rate unchanged at 5.0 percent, recalling that it was keeping a close eye on inflation, which in February was moderate at 1.9 percent.

The interest rate makes the return on the Icelandic currency, the krona, particularly attractive to foreign investors from countries where interest rates are closer to zero.

But Iceland, which learned its lesson from the excessive capital movements of the 2000s, still limits foreigners' ability to speculate on its markets.

"Our concern is not on that side. Our concern is more that the labour market will become far too tight, the housing market becomes far too tight and you have a kind of a difficult adjustment in the real economy," Gudmundsson said.

"It is quite clear that the tourism boom is behind a lot of that growth. It is also the main reason why the krona has been appreciating, and that is putting pressure on other export industries. We cannot do anything about that," he acknowledged.

pulse