Chairman's statement

2024 was a certainly eventful year, to say the least – for the economy, for the operating environment of banks, other financial institutions, and in the political landscape. Íslandsbanki was successful in navigating the high interest rate environment that prevailed during the year and continues to do so, for the benefit of the Bank's shareholders and customers. It is extremely positive that the economic outlook is improving and that inflation is expected to keep declining, thereby enabling the Central Bank to continue its cutting policy rates, which finally started last October. Bringing inflation and interest rates down is of paramount importance for us all.

Íslandsbanki stands on solid ground, and the financial health of our customers is equally important to the Bank. During the Bank's strategy planning in 2024, we decided that its strategy and position in the market should be reflected in service that promotes the financial health of our customers. Progressive thinking is a new value within the Bank's strategy, highlighting the importance of progressive thinking in an ever-changing environment.

Íslandsbanki has long been a leader in educational efforts and has held innumerable seminars, lectures, and symposia over the years. We want to expand that work still further and help people to mitigate the adverse impact of inflation and high interest rates on their lives. We want to help our customers gain a better overview of their finances and travel with them on their path to financial health.

Another eventful year in prospect, and exciting times ahead

A number of factors affect Icelanders' economic situation and household finances. The past year was dominated by conflicts in many parts of the world – with no end in sight. The effects of war and armed conflict on other countries' economies can also be felt in Iceland. Furthermore, the outlook is highly uncertain due to the prospect of tariffs that may be imposed by the new US administration, and price hikes due to a trade war could weaken Iceland's economic recovery.

Furthermore, volcanic activity on the Reykjanes peninsula continued in 2024, and the Icelandic banks worked with the Government to establish real estate company Þórkatla, which bought up households' residential property in Grindavík. Although the volcanic eruptions fortunately had a limited impact on infrastructure, they strongly affected the tourism industry, and it is difficult to determine whether the contraction in tourism was due to fear of eruptions or to price hikes in Iceland. In any event, the challenges we are facing require caution and strategic planning in order to ensure stability and continued output growth.

A declining policy rate indicates that exciting times may lie ahead, however. A large share of mortgages with fixed-rate clauses are due for an interest rate reset this year, and many borrowers will seek out refinancing options that lighten their debt service burden. In this area, we continue to be available to our customers. Lower interest rates give people greater options for saving and investment, and it will be gratifying to see a livelier market. Despite challenging conditions, Íslandsbanki has maintained strong investment banking activity, where opportunities are legion.

In the past year, Íslandsbanki has drawn attention to the need for infrastructure development and has worked systematically to bring interested parties to the table. The need for investment in infrastructure has grown in line with population growth and developments in society, and the Bank intends to be a leader in these important projects. Worth mentioning in this context is development relating to the Transportation Charter for the Capital Region, where investment in large projects must be secured. The Bank wants to participate actively in financing such initiatives, thereby being a force for good.

The restrictive effect of the “Iceland premium”

Icelandic financial institutions' operating environment brings its own set of challenges. Capital requirements imposed on banks are much higher in Iceland than in comparison countries. Iceland's banks are required to hold capital amounting to 10-13% of total assets, far above the 3.0-3.5% typically imposed on Nordic banks. Stringent capital requirements lead to higher lending costs, which erode Icelandic companies' competitiveness in international markets. A higher capital ratio also puts pressure on financial institutions to deliver stronger profits in order to achieve acceptable returns, which then affects the terms Icelandic banks can offer.

A report entitled “The macroeconomic impact and operating environment of the Icelandic financial sector" (is: Þjóðhagsleg áhrif og rekstrarumhverfi fjármálageirans á Íslandi), prepared by the consultancy firm Intellecon for Finance Iceland last autumn included an assessment of the so-called “Iceland premium”, which has arisen from the various surcharges and conditions the authorities have

imposed on Iceland's banking operations. Reviewing this environment, simplifying the regulatory framework, and cancelling the special levies on Iceland's financial institutions would better enable those institutions to lower interest rates and offer better terms, beyond the impact of a lower policy rate.

In the Intellecon report, it is estimated that domestic commercial banks' lending rates may be more than a percentage point higher because of the Iceland premium alone. Part of this is the additional tax that Icelandic banks are forced to pay, thereby weakening their competitive position vis-à-vis foreign banks. A comparison with European countries shows that taxes on the Icelandic banking system are very high: as a share of risk-weighted assets, Icelandic banks' taxes are two to three times higher than the average in the EU and the other Nordic countries. In Iceland, three different types of special taxes are levied: a bank tax, a financial administration tax, and a special financial administration tax, which are levied on liabilities, wages, and profits. Even though the special expenses incurred by financial institutions are highest in Iceland, levies were increased further during the year, and it is important to consider competitiveness in this context. Clearly, there is scope for improvement on this front, and it is vital to create an operating environment comparable to that in neighbouring countries, not least so as to improve the terms offered to banks' customers.

CPI imbalance 

The nature of banks' funding, which generally is short term, set against their lending which is generally long-term, can be difficult to understand. For instance, it was remarked upon when Íslandsbanki raised its CPI-linked interest rates in November 2024 whilst simultaneously lowering its non-indexed rates in line with the policy rate cut. This was due to the so-called CPI imbalance, which refers to the difference between the Bank's indexed assets and its indexed liabilities. Icelandic banks' CPI imbalances have mushroomed in a short time, owing to borrowers' large-scale flight from high rates on non-indexed loans to the “shelter” of CPI-linked loans. In tandem with this, CPI-linked loans have increased to a level far above what the banks can finance with indexed liabilities, whether they be deposits or bond issues. As a result, the banks temporarily pay more interest than they earn on CPI-linked loans, because of the cost of funding them with non-indexed deposits or new bond issues. With further policy rate cuts this year, these imbalances can be expected to disappear. But until such time, changes in CPI-linked lending rates may appear difficult to understand, such as when indexed rates rise concurrent with a drop in the policy rate. The cost this imposes on the Bank has been considerable, and we hope that the Central Bank's monetary stance, which is extremely tight at present, will lead to greater equilibrium in the year to come.

Reforms and opportunities

The Bank continued shoring up its defences against money laundering in 2024. At mid-year, the Bank accepted the settlement offered by the Financial Supervisory Authority of the Central Bank and paid a fine due to shortcomings in the Bank's anti-money laundering defences, which were discovered during regular supervisory monitoring. Íslandsbanki immediately embarked on large-scale remedial action in cooperation with a foreign consultancy firm, with the aim of improving its money laundering-related governance structure and procedures. The Bank made significant investments in infrastructure and IT solutions, and the Board of Directors and the Bank's management team have placed increased emphasis on the topic. Defending against money laundering and terrorism financing is an ongoing task that requires constant work, and the Bank will work together with supervisory bodies on an ongoing review of its procedures, in line with developments in the field. Financial institutions are subject to stringent requirements in this area, and Íslandsbanki will make every effort to satisfy these in full. Íslandsbanki's balance sheet is strong, and if capital requirements on financial institutions are eased, it will clearly bring opportunities for the Bank. We envision continued growth, both internal and external, in the period ahead. There is a clear need for consolidation in the Icelandic financial market, and there are excellent opportunities for streamlining – opportunities that we are keenly interested in exploring.

It was assumed that the State would sell half of its 42.5% stake in the Bank in 2024 and then sell the remainder in 2025. The sale planned in 2024 had been well prepared by the Bank but was postponed with the call for election and change in Government. Íslandsbanki was not among the arrangers of the sale and is focusing on optimising the Bank's operations and returns, which stimulates investors' interest, and on providing the information needed about Bank operations in connection with the sale. For its part, the Bank is ready and willing to resume the process when the Government decides to continue the sale. The Board of Directors of Íslandsbanki and its management are of the opinion that it is appropriate to act on these plans to sell the Government's remaining stake in the Bank at the first opportunity, so that the State's declared objective of privatising the Bank can be achieved. A turning point of this type creates opportunities, and Íslandsbanki is excited to face the new currents that may flow from such changes.

Thanks

It has been a distinct honour and a source of deep satisfaction to serve as chairman of the Board of Directors of Íslandsbanki, and I would like to thank the Board for its strength, cohesiveness, and ambition on behalf of the Bank, and for rewarding collaboration during the year. Íslandsbanki has resolved to empower our customers to be a force for good, and it has stood behind this pledge with the support of the remarkable people who work there. This applies as well to the Bank's support of various causes and the projects undertaken by its customers.

The Bank's employees have dealt with a wide range of reforms carried out within the Bank. With experience and expertise under their belts, Íslandsbanki's staff members are energised, and a host of opportunities await us in the year ahead.

I would like to thank the Bank's employees for their contribution and thank Jón Guðni Ómarsson for keeping a steady hand on the tiller. Íslandsbanki has staked out a clear vision and strategy for the future, with emphasis on offering excellent customer service experience in all areas and creating value for the future, for the benefit of Icelandic society. We are optimistic about the coming year and look forward to tackling exciting projects and opportunities with our customers as we fulfil our role of being a force for good in the community.