Falling house prices make all the difference

The capital area house price index fell by 0.8% MoM in July, according to data published yesterday by the Housing and Construction Authority (HMS). The decline was due mainly to a 2.8% drop in single-family home prices, although condominium prices dipped as well, by 0.2%.

Statistics Iceland measures house prices based on a methodology similar to that used by the HMS but includes regional Iceland as well. There is a fairly strong correlation between the two measures, as the chart below indicates. Last month’s house price index value therefore gives a reasonably accurate indication of house prices in SI’s August measurement.

We forecast that imputed rent will fall by 0.5% month-on-month (-0.09% CPI effect), with the market price of housing down 1% but offset by the interest component, which will rise by 0.5%. We expect house prices to keep subsiding in coming months, albeit at a reduced pace.

Airfares are down, and seasonal sales stretch into August

House prices are not the only downward-pushing item in August, however. According to our measurement, airfares will fall by 10.8% (-0.26% CPI effect), following the usual seasonal pattern after the past few months’ increase. It also appears that sale effects, which typically weigh heaviest in July, will affect August measurements as well, with furniture and housewares prices falling 2.3% (-0.14%) MoM, on the heels of a marginal decline in July.

The strongest upward-pushing item in August is clothing and footwear, with prices set to rise by 3.7% MoM (0.13%), after relatively deep sales in July. Furthermore, if our forecast is borne out, food and beverage prices will rise by 0.4% (0.06%), continuing the gradual easing of food price inflation. Other upward-pushing items are recreation and culture (0.03% CPI effect) and hotels and restaurants (0.03%).

Near-term inflation outlook

Inflation measured 7.6% in July, its lowest since May 2022. Headline inflation has therefore tapered off swiftly after peaking at just over 10% this past February. The reversal of house prices played a major role in dampening inflation in July and, in our opinion, will be of key importance in further disinflation over the months to come.

According to our preliminary forecast, the CPI will rise 0.4% in September, 0.3% in October, and 0.2% in November, bringing headline inflation to 7.1% in November. We project that inflation will average 8.5% in 2023 as a whole.

As always, the outlook remains highly uncertain. The near-term situation depends heavily on the housing market and imported inflation. We expect house prices to keep trending downwards, albeit at a slower pace in the next few months. That said, if prices start rising again, as they did last winter, headline inflation will be higher than is forecast here.

Further out the forecast horizon, other uncertainties will be added to the mix. Of particular importance are the next wage negotiations, which are rapidly approaching According to our long-term forecast, inflation will average 4.8% in 2024 and 3.5% in 2025.

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