The economic context of Iceland

Economic Indicators

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In the last decade, Iceland's economy grew at a relatively fast pace, driven by unprecedented growth in tourism, strong consumption and falling unemployment. In 2022, the country benefitted from rising exports of energy-intensive products (such as aluminium) and the recovery of the tourism sector (which was severely affected by the COVID-19 pandemic and the restrictions that followed), recording an estimated GDP growth of 5.1% according to the IMF (6.2% as per Statistics Iceland). Private consumption was also strong, but it is expected to slow down in 2023 as wage growth moderates; similarly, tight financial conditions should hamper public and private investment, resulting in a growth rate of 2.9% this year and 2.6% in 2024 (IMF).

Iceland's economic outlook is very volatile, as the country is heavily dependent on the tourism sector (which accounts for 40% of export income and around 6% of GDP), making it vulnerable to external shocks. Moreover, domestic shocks, such as a bad fishing season or a decline in viable fishing stocks, could reduce exports of marine products (which account for 35% of merchandise exports). Revenue growth and the phasing out of the majority of pandemic-related support measures counterbalanced the increases in social benefits and pensions in 2022, resulting in a general government budget deficit of 6.8% of GDP. For 2023 and 2024, the IMF forecasts a gradual reduction of the deficit, to 4.3% and 3% of GDP, respectively. Despite the large deficit, the government debt ratio declined to 68.2% of GDP in 2022 (from 74.6% one year earlier), underpinned by nominal GDP growth and proceeds from asset sales. Overall, the country has high financing flexibility due to the extremely large pool of private pension funds' assets (194% of GDP, 65% of which is invested domestically), easy access to the international bond market, and a large cash deposit buffer (Fitch Ratings). The IMF projects a decline in the debt-to-GDP ratio this year (63.1%) and in 2024 (60%). Inflation picked up to 8.4% in 2022, driven by an uptick in house prices and imported goods, while high global energy prices had a smaller impact on the national inflation due to the fact that geothermal and hydropower cover around 90% of the country’s energy demand. Iceland is a member of the European Free Trade Association (EFTA) and is also part of the European Economic Area (EEA). To benefit from European aid and the 'umbrella' constituted by the euro, Iceland had applied to join the European Union, but it definitively withdrew its candidacy in March 2015.

The labour market has improved significantly in the last two years and unemployment decreased at the same time as the working-age population increased (also thanks to the inflow of Ukranian refugees). In 2022, the unemployment rate was estimated at 3.8% according to the national statistical institute and should remain stable over the forecast horizon. Overall, Iceland has a high standard of living, one of the highest GDP per capita in Europe (estimated at USD 66,467 in 2022 by the IMF), and one of the lowest poverty rates (4.9% as of 2021 – data Iceland Monitor). Nevertheless, Iceland is among the countries with the most people living abroad and will have to import thousands of foreign workers to meet the needs of businesses. Furthermore, real wages have started to decline in the wake of high inflation and most public contracts expire in March 2023, with considerable uncertainty about the results of collective agreements in the labour market.

Main Sectors of Industry

Iceland has a labour force of more than 200,000 people out of a population of 372,000. The Icelandic labour market is characterised by a high participation rate and a high proportion of trade union membership, at around 92.2% (OECD). Since the financial crisis in 2008, one of the government’s priorities has been to diversify the economy, which in the last decade was mainly oriented towards the manufacturing and service industries. Nowadays, the agricultural sector contributes around 4.5% of Iceland's GDP and employs 4% of the workforce. Large areas of sheep pasture are among the most important agricultural resources in the country, while the main agricultural products are potatoes, carrots, green vegetables, tomatoes, cucumbers, mutton, chicken, pork, beef and dairy products. The Icelandic economy relies partly on its renewable natural resources and related industries: deep sea fishing, hydraulic and geothermal power and pastures. Fishing is one of the pillars of Iceland’s economy and covers around 40% of exports. According to data by Statistics Iceland, in 2022 cereal production stood at 9,400 tonnes, the largest in 10 years; while total meat production was the lowest since 2015, at 30,428 tonnes.

The industrial sector represents almost 20.4% of GDP and employs 17% of the workforce. The hydroelectric potential stimulates the production of aluminium, and is the primary resource for export and concentrates around 70% of the electricity produced on the island. Geothermal provides the remaining 30% so that renewable energies cover all of the country’s energy needs. The food processing sector is also important. The manufacturing sector alone accounts for 9% of GDP (World Bank), whereas the construction industry accounted for 7.2% of GDP in 2022 (Statistics Iceland).

Services account for 64.6% of GDP and employ 78% of the workforce. For the past several years, Iceland's economy has grown thanks to the services sector, particularly within the fields of tourism, software production and biotechnology. In fact, Iceland has become the rear-base of several companies specialising in computers and software. There are also many call centres in the country. The tourism sector has been recovering after the COVID-19 pandemic, and in 2022 the country recorded 8.8 million overnight stays, marking a 77% increase year-on-year. Overall, the direct contribution of tourism to the national GDP was estimated at 6.1% in 2022 by Statistics Iceland (it was 8.1% before the pandemic). The commercial banking sector consists of four universal banks and five small savings banks, with the government holding the majority in two of the three major banks. The total assets of the banking sector amounted to almost ISK 4,700 billion in 2021, the equivalent to around 145% of GDP (European Banking Federation - latest data available).

 

Breakdown of Economic Activity By Sector	Agriculture	Industry	Services
Employment By Sector (in % of Total Employment)	4.0	17.5	78.5
Value Added (in % of GDP)	4.5	20.4	64.6
Value Added (Annual % Change)	2.0	5.6	4.2

Source: World Bank, Latest Available Data. Because of rounding, the sum of the percentages may be smaller/greater than 100%.

 

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Indicator of Economic Freedom

Definition

Definition:

The Economic freedom index measure ten components of economic freedom, grouped into four broad categories or pillars of economic freedom: Rule of Law (property rights, freedom from corruption); Limited Government (fiscal freedom, government spending); Regulatory Efficiency (business freedom, labour freedom, monetary freedom); and Open Markets (trade freedom, investment freedom, financial freedom). Each of the freedoms within these four broad categories is individually scored on a scale of 0 to 100. A country’s overall economic freedom score is a simple average of its scores on the 10 individual freedoms.}}

Score:

77,4/100

World Rank:

11

Regional Rank:

6

Economic freedom in the world (interactive map)
Source: Index of Economic Freedom, Heritage Foundation

 

 

Sources of General Economic Information

Ministries

Ministry of Finance
Ministry of Foreign Affairs

Statistical Office

Statistics Iceland

Central Bank

Central Bank of Iceland

Stock Exchange

Nordic Exchange

Economic Portals

Portal to the world: Iceland page