SOVEREIGN AND SUPRANATIONAL

CREDIT OPINION
22 February 2022

Government of Iceland – A2 stable
Regular update

UpdateSummary
The credit profile of Iceland is supported by its wealthy and flexible economy with favourable
demographics that support its long-term growth prospects. Current-account surpluses
have contributed to a net external creditor position and large foreign-currency reserves.
The pandemic-induced fiscal deterioration will be gradually reversed over the coming years,
helped by robust economic growth. The credit profile is mainly constrained by the economy's
small size and concentration in a limited number of sectors, which increase its vulnerability
to shocks and cause volatility in growth.

Contacts
Kathrin+44.20.7772.1383
Muehlbronner
Senior Vice President
kathrin.muehlbronner@moodys.com
Lenaic Couderc+44.20.7772.1799
Associate Analyst
lenaic.couderc@moodys.com
Dietmar Hornung+49.69.70730.790
Associate Managing Director
dietmar.hornung@moodys.com

Exhibit 1

Iceland's credit profile is determined by four factors
Economicstrength

Institutions andgovernance strength

Fiscalstrength

Susceptibility
to event risk

baa2

aa2

baa2

a

Economic resiliency
a2

Alejandro Olivo+1.212.553.3837
Managing Director
alejandro.olivo@moodys.com

Government financial strengtha2

CLIENT SERVICES
Americas1-212-553-1653

Scorecard-indicated outcome

Asia Pacific852-3551-3077

A1 - A3Japan

81-3-5408-4100

EMEA

44-20-7772-5454

Source: Moody's Investors Service

Credit strengths» Very high wealth levels and labour market flexibility provide buffers to deal with shocks» Well-funded pension system, long working lives and favourable demographics» Very large foreign-currency reserves and net external creditor position

Credit challenges» Volatile growth performance due to sector concentration and small currency area
» Returning public debt to downward trend of recent years

SOVEREIGN AND SUPRANATIONAL

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Rating outlook
The stable outlook reflects our view that downside risks stemming from the economy's small size and high sector concentration
are mitigated by a robust external position as well as reduced private sector indebtedness and the improved health of the banking
sector. The economy has been recovering from the coronavirus shock broadly as expected, and we expect the fiscal deterioration to be
gradually reversed over the coming years, in line with the government's plans.

Factors that could lead to an upgrade
The outlook on Iceland’s rating could move to positive and the rating could eventually be upgraded in case of faster-than-expected
progress in restoring the government's fiscal buffers. Moreover, a push towards increased diversification which would lead to a lessvolatile economic performance would be positive for the rating.

Factors that could lead to a downgrade
Conversely, the outlook and subsequently the rating would come under downward pressure if the authorities deviated significantly
from their current medium-term fiscal consolidation plans that target a stabilisation of the public debt ratio by the middle of thedecade, resulting in a material increase in the public debt ratio.
An economic shock which would lead to a large and permanent damage to the tourism industry, or to substantial capital outflows,
weakening Iceland’s external position and threatening financial stability, would also be credit negative, although the latter is not a likely
scenario.

Key indicators
Exhibit 2
Iceland

2016

2017

2018

2019E

2020E

2021F

2022F

2023F

Real GDP (% change)

6.3

4.2

4.9

2.4

-6.5

4.8

4.7

3.5

Inflation (CPI, % change, Dec/Dec)

1.9

1.9

3.7

2.0

3.6

5.1

5.0

3.8

Gen. gov. financial balance/GDP (%)[1]

12.5

1.0

0.9

-1.5

-8.6

-8.8

-6.1

-4.6

Gen. gov. primary balance/GDP (%)[1]

18.6

6.7

5.9

2.8

-4.6

-5.3

-2.3

-0.7

Gen. gov. debt/GDP (%)[1]

82.4

71.6

63.1

66.1

77.1

76.8

74.4

73.6

Gen. gov. debt/revenues (%)[1]

139.6

157.9

141.1

158.2

184.1

192.4

187.6

184.6

Gen. gov. interest payment/revenues (%)[1]

10.3

12.6

11.0

10.3

9.6

8.9

9.6

10.0

Current account balance/GDP (%)[2]

8.1

4.2

3.5

5.8

0.9

-0.7

1.5

1.0

[1] Includes public entities previously excluded from the scope of the general government[2] Excludes DMBs undergoing winding up in 2008-2015

Source: Moody's Investors Service

Detailed credit considerations
We assess Iceland's economic strength at “baa2” which balances the country's small size and associated history of economic boom
and bust episodes with very high wealth levels and strong competitiveness. Iceland's GDP per-capita is - at an estimated $69,722 in
2021 - higher than that of around 90% of our sovereign rating universe, having overcome the significant losses registered during thecountry's 2008 banking and currency crisis. Iceland's economy is highly competitive, as evidenced by its ranking at 26th globally by theWorld Economic Forum's Global Competitiveness Index (data refer to 2019), – standing out compared with close peers.
Growth is also volatile, reflecting limited diversification and relatively high openness, which increases the economy's vulnerability tosector-specific and external shocks. More than 70% of the country's export revenues come from three sectors: tourism (18% of total
in 2020), marine products (27% of total) and aluminum (21% of total). The coronavirus pandemic caused a deep shock to tourism,
causing one of the largest economic contractions among advanced economies in 2020. We estimate that the economy recovered

This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page on
www.moodys.com for the most updated credit rating action information and rating history.

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Government of Iceland – A2 stable: Regular update

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SOVEREIGN AND SUPRANATIONAL

strongly in 2021, with real GDP growth of 4.8%, supported by substantial policy support and strong external demand. The further
recovery of the tourism sector will drive growth of 4.7% in 2022.
We assess Iceland's institutions and governance strength as “aa2”, reflecting the country's solid track record in restoring economic
and financial stability after the banking crisis. For example, the considerable strengthening in supervision and regulation of the banking
sector has helped to improve the resilience of the system. The monetary policy framework has gained credibility, following a major
revamp, and the central bank has been successful in reducing traditionally high and volatile inflation. Our assessment also recognizes
the careful liberalisation of the capital account, that was achieved with minimal disruption.
Our assessment also takes into account Iceland's high-quality education system, an innovative business sector, an efficient and flexible
labour market and well-developed infrastructure. Iceland has a long tradition of broad cooperation and consensus on economic matters
between the government, employer and employee associations, which contributes positively to policy effectiveness. The score has beenraised last year from “aa3” to reflect our view that the strength of civil society and the judiciary is on par with the strongest sovereigns
at “aaa”. Iceland also scores strongly in the Worldwide Governance Indicators.
We assess Iceland's fiscal strength as “baa2”, reflecting the government's strong track record in reducing its large budget deficits
and very high debt burden after the 2008 crisis. Between the peak in 2011 and 2018 general government debt more than halved, andstood at below 66% of GDP in 2019. The re-classification of 24 public-sector corporations into the general government sector in 2020,in line with Eurostat statistical rules, raised the government debt ratio by around 32 percentage points of GDP for the past years but
also implies much smaller contingent liabilities. As such, the reclassification does not fundamentally alter our view of Iceland's fiscal
strength; we had previously taken the debt of these companies into account qualitatively, in particular the debt of the HF-Fund (A2stable), which benefitted from an explicit government guarantee and is in a government-directed winding-down process.
We expect that general government debt will start to decline from this year onwards, as strong GDP growth and the expiry of
pandemic-related measures reduce the budget deficit. The Icelandic government holds significant equity stakes in two of the threelargest domestic banks, and sale proceeds will likely continue to serve debt reduction purposes. Iceland's multi-year fiscal frameworkwith clear and credible fiscal rules is on par with the best practices among highly rated sovereigns and is accepted across the political
spectrum, giving high confidence that debt will again be reduced in the coming years. The final score is therefore higher than the initialscore of “baa3.
We assess Iceland's susceptibility to event risk as “a”, driven by our banking system and external vulnerability risk assessments. As forthe banking sector, the three large banks have solid levels of capitalisation and liquidity, which has helped them absorb the pandemicinduced shock. We use publicly available information as we do not rate any Icelandic bank.
Political event risk is low, and scored at “aa” given consistent policy in key areas important to safeguarding the government's credit
profile. Political consensus on the economic and fiscal direction for the country is strong despite some degree of political instability attimes.
We assess government liquidity risk as “aa”. The previous marked reduction in government debt, prudent liquidity management, withsignificant cash buffers, and a stable and very large domestic investor base will help to mitigate the risks posed by the large increase inborrowing requirements over the next few years.
Iceland's external vulnerability risk assessment at “a” reflects its current-account surpluses between 2013 and 2020 which havecontributed to Iceland's net external creditor position. Furthermore, positive balance of payments dynamics have allowed the Central
Bank of Iceland to increase its level of foreign currency reserves to around 25% of GDP, a large buffer to help limit exchange rate
volatility and support the country's external position.

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Government of Iceland – A2 stable: Regular update

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SOVEREIGN AND SUPRANATIONAL

ESG considerations
Iceland's ESG Credit Impact Score is Neutral-to-Low CIS-2
Exhibit 3

ESG Credit Impact Score

Source: Moody's Investors Service

Iceland's ESG Credit Impact Score is neutral to low (CIS-2), reflecting moderate exposure to environmental risks, balanced by neutral
to low exposure to social risks and very strong institutions.
Exhibit 4

ESG Issuer Profile Scores

Source: Moody's Investors Service

Environmental
Iceland's moderately negative exposure to environmental risks (E-3) primarily arises from the reliance of key sectors on Iceland's uniquegeological features, which exposes its credit profile to physical climate risks. In particular, the presence of active volcanoes on the island
helps to attract tourism but can also significantly disrupt the economy. Warming seas can lead to the migration of fish stocks outsideof Iceland's waters, as seen with the decline in capelin fish stocks in 2019. Around 11% of Iceland's land mass consists of glaciers which
over time can expose the country to some risks from rising temperatures.
Social
We assess its S issuer profile score as neutral to low (S-2). Iceland's demographic profile is more favourable than in many othercountries because of long working lives, high participation rates of women and the flexibility of the labour force. Iceland also
benefits from high-quality education, high housing availability, and good quality healthcare and basic services. Social risks exert
themselves through intensive wage negotiations between employers and trade unions every four years which can impact on Iceland'scompetitiveness.
Governance
Iceland's very high institutions and governance strength is reflected in a positive G issuer profile score (G-1). This is underpinned by its
strong scores in most of the Worldwide Governance Indicators, which reflects the high credibility of its institutions and the country's
well-developed macroeconomic policy environment. This contributes to its relatively strong resilience to E and S risks, along with very
high wealth levels.

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Government of Iceland – A2 stable: Regular update

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MOODY'S INVESTORS SERVICEESG Issuer Profile Scores and Credit Impact Scores for the rated entity/transaction are available on Moodys.com. In order to view thelatest scores, please click here to go to the landing page for the entity/transaction on MDC and view the ESG Scores section.
All of these considerations are further discussed in the “Detailed credit considerations” section above. Our approach to ESG is
explained in our report on how the scores depict varied and largely credit-negative impact of ESG factors and our cross-sector
methodology General Principles for Assessing Environmental, Social and Governance Risks Methodology.

Recent developments
Strong recovery under way, but pandemic remains a risk to tourism recovery
In the first nine months of 2021, real GDP grew by 2.8% on average compared to the previous year period, with growth being broadbased. Indicators for Q4 were uniformly strong, and we estimate full-year GDP growth at around 4.8%. In 2022, growth will likely
remain strong, reflecting the continuing recovery from the pandemic shock. Private consumption will continue to benefit from a
combination of strong wage growth (3.7% in 2021 in real terms), the robust labour market, personal income tax cuts and still highsavings. Unemployment declined from a peak of 11.6% in January 2021 to 4.9% in December, helped by a wage subsidy scheme forcompanies that rehire workers that was introduced after the earlier and broader short-time work scheme was terminated in May.
Investment has also been strong in 2021 and should continue to contribute positively to growth this year helped by strong external anddomestic demand and government tax incentives for private-sector research and development (R&D) investment. At the same time,
public investment has not grown as strongly as we expected in 2021 given some delays in the implementation of the government's
investment plan, which envisages average annual investments of around 0.5% of GDP until 2025. Lastly, exports have performed
strongly in 2021 with all three key export sectors - tourism, fish and aluminium - seeing strong growth. Tourist arrivals increased by
49% compared to 2020 but remained 65% below their pre-pandemic levels. That said, tourists have spent more and stayed longer
than in the past, limiting the overall impact. Fish exports grew by 9.3% in nominal terms, supported by increased quotas for capelin
after two years of zero quota and despite a reduction in cod quotas. Aluminium exports increased by 15.8% as a result of historicallyhigh prices. We expect those trends will continue into 2022 and support export growth. Pandemic developments continue to posesome risks to the otherwise positive outlook for tourism in 2022.
Exhibit 5

Exhibit 6

Economic recovery has been broad based

House prices are the main driver of accelerating inflation

Real GDP growth (% change) and components (pp)

CPI and components (year-on-year % change)

Private consumption

Public consumption

Gross capital formation

Exports

Imports

GDP

25

20
15
10

Imported inflation
Housing
Total

6EnergyOther
Target

5

4
3

5
0

-5

2
1

-10
-15
-20

0

-1

-25

Source: Statistics Iceland and Moody's Investors Service

5

22 February 2022

Nov-21

Jul-21

Sep-21

May-21

Jan-21

Mar-21

Nov-20Jul-20

Sep-20May-20Jan-20Mar-20Nov-19Jul-19Sep-19

May-19Jan-19Mar-19

Nov-18

Jul-18

Sep-18May-18Jan-18-2
Mar-18-30

Source: Central Bank of Iceland and Moody's Investors Service

Government of Iceland – A2 stable: Regular update

MOODY'S INVESTORS SERVICE

SOVEREIGN AND SUPRANATIONAL

Inflation has far exceeded expectations and target, triggering swift monetary policy action
Inflation has continued to rise faster than we expected and stood at 5.7% in January 2022. House prices have been the main
driver, contributing close to half of the increase in prices since the second half of 2021. Lower interest rates and increased savings
have led to a surge in mortgage lending while house supply has fallen. We expect the strong monetary policy reaction, with theCentral Bank of Iceland (CBI) having raised its key policy rates by a cumulative 200 basis points since May 2021, as well as tighter
macroprudential measures will help ease house price growth. The CBI's key policy rate now stands at 2.75%. Moreover, the Financial
Stability Committee lowered the maximum loan-to-value (LTV) ratio to 80% from 85%, capped the debt-service to income ratio to
35% and restored the countercyclical capital buffer to 2% for banks from September 2022.
The relative stability of the krona over 2021 has reduced the contribution of imported inflation somewhat. Iceland has also been
relatively insulated from rising energy prices because it solely relies on domestic hydropower and geothermal sources for its energy mix.
We expect inflation will continue to increase in the coming months before slowing to a still high 5.0% by the end of 2022. Strong
wage growth poses upside risks. The general wage index increased by 3.7% in 2021 in real terms and will likely rise further because ofstrong per capita GDP growth, which will trigger additional wage increases in line with collective agreements signed in 2019. Moreover,the upcoming round of wage negotiations after current agreements expire in November this year could lead to further inflationarypressures. That said, the tightening of the labour market could mitigate the impact of wage growth by encouraging companies to hire
more foreign workers, which has historically helped keep wage pressures at bay in some sectors such as tourism and construction.
Economic recovery and government's fiscal consolidation plan will support deficit reduction over coming years
The central government's budget deficit is expected to have been around 1.5 percentage points of GDP lower than budgeted, with thegovernment expecting its shortfall at 9.1% of GDP for 2021. The strong economic recovery increased revenue collection, which morethan compensated for higher spending on unemployment benefits and additional support measures. The fiscal impact of the support
measures in 2021 totalled around 3.7% of GDP. The strong recovery combined with the termination of most covid-related support
measures will drive a material reduction in deficit this year; in its recently approved 2022 budget the government targets a deficit of
5.2% of GDP, versus 6.6% expected earlier. Our deficit forecasts also include the deficit of local authorities, compensated for partly by
the surplus in the social security system.
Following the parliamentary elections that took place in September 2021, the ruling coalition was reelected. In line with therequirements under the Organic Budget Law, the new government presented a five-year Fiscal Policy Statement and reaffirmed its
willingness to stabilise public debt over the medium term. But government debt was around five percentage points of GDP lower lastyear than the government had expected, and it consequently decided to push back its target to stabilise the debt ratio by one year
to 2026 at the latest. For the purpose of the fiscal rules, the reclassified companies are excluded (and only reported for information
purposes); central government debt stands at around 45% of GDP as of end-2021.
According to our definition (which includes the HF-Fund and smaller reclassified entities), the public debt ratio was significantly higher
at 77% of GDP in 2021. We expect the debt ratio to decline to around 73% of GDP by 2023, compared to a peak at 77.1% in 2020. We
include further sales of the government's stake in Islandsbanki over the coming two years, helping to accelerate the reduction in thedebt burden. The government listed an initial 35% stake in June 2021, rasing IK55.3 billion (1.7%of GDP) and valuing the company at
ISK158 billion (4.4% of estimated 2022 GDP). Starting in 2026, the fiscal rules - which have been suspended due to the pandemic - will
be fully in place again, requiring a budgetary surplus on average over a rolling five-year horizon and a five percentage point annual debt
reduction as long as the net debt ratio is above 30% of GDP.

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Government of Iceland – A2 stable: Regular update

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Moody's rating methodology and scorecard factors: Iceland - A2 stable
Factor / Sub-Factor

MetricIndicator Year

Indicator

InitialFinal
Weights

Factor score

Factor 1: Economic strength

baa2

baa2

50%

2016-2025F
2011-2020

2.9
3.6

baa2
b3

25%
10%

Nominal GDP ($ billion)

2020

21.7

b2

30%

National income

GDP per capita (PPP, Intl$)

2020

56,066aaa

35%

Adjustment to factor 1# notches

Growth dynamics

Average real GDP growth (%)
Volatility in real GDP growth (%)

Scale of the economy

Factor 2: Institutions and governance strength

aa20max ±9aa2

50%

Quality of institutions

Quality of legislative and executive institutions
Strength of civil society and the judiciary

aa
aaa

20%
20%

Policy effectivenessFiscal policy effectivenessMonetary and macroeconomic policy effectiveness

aa
a

30%
30%

Specified adjustment

Government default history and track record of arrears

Other adjustment to factor 2# notches0max -30

max ±3F1 x F2: Economic resiliencya2

a2

Factor 3: Fiscal strength

baa3

baa2

Debt burden

General government debt/GDP (%)
General government debt/revenue (%)

2020
2020

77.1
184.1

ba3
a3

25%
25%

Debt affordability

General government interest payments/revenue (%)
General government interest payments/GDP (%)

2020
2020

9.6
4.0

a3
b1

25%
25%

Specified adjustments

Total of specified adjustment (# notches)
Debt trend
Foreign currency debt/general government debt
Other non-financial public sector debt/GDP
Public sector assets/general government debt

2016-2021F
2020
2020
2020

-5.6
11.3
18.2
0.0

0
0
0
0
0

Other adjustment to factor 3# notches

F1 x F2 x F3: Government financial strengtha2

Factor 4: Susceptibility to event riskaDomestic political risk and geopolitical riskaaEase of access to funding
High refinancing riskaa

Government liquidity riskaa

1

max ±3

a2

a

Min

a
Risk of banking sector credit event (BSCE)
Total domestic bank assets/GDP# notches

External vulnerability risk

Latest available
2020-152.0External vulnerability risk
# notches

Overall adjustment to F4# notches

F1 x F2 x F3 x F4: Scorecard-indicated outcome

max -2abaa3
80-1800aAdjustment to F4 EVR

aa0

Banking sector risk

Adjustment to F4 BSR

max ±6aa

Political risk

Specified adjustment

0
0
0
0
0

max ±2aa

A1 - A30

max ±20

max -2A1 - A3

Note: While information used to determine the grid mapping is mainly historical, our ratings incorporate expectations around future metrics and risk developments that may differ from the ones implied by thescorecard-indicated outcome. Thus, the rating process is deliberative and not mechanical, meaning that it depends on peer comparisons and should leave room for exceptional risk factors to be taken into accountthat may result in an assigned rating outside the scorecard-indicated outcome. For more information please see our Sovereign Ratings Methodology.
Footnotes: (1) Initial factor score: scorecard indicators combine with the automatic adjustments to produce an initial factor score for every rating factor, as detailed in Moody’s Sovereign Ratings Methodology. (2)Final factor score: where additional analytical considerations exist, initial factor scores are augmented to produce a final factor score. Guidance on additional factors typically considered can be found in Moody’s
Sovereign Ratings Methodology; details on country-specific considerations are provided in Moody’s research. (3) Scorecard-indicated outcome: Factor 1: Economic Strength, and Factor 2: Institutions andGovernance Strength, combine with equal weight into a construct we designate as Economic Resiliency (ER). An aggregation function then combines ER and Factor 3: Fiscal Strength, following a non-linear patternwhere Fiscal Strength has higher weight for countries with moderate ER and lower weight for countries with high or low ER. As a final step, Factor 4, a country’s Susceptibility to Event Risk, is a constraint which can
only lower the government financial strength as given by combining the first three factors. (4) There are 20 ranking categories for quantitative sub-factors: aaa, aa1, aa2, aa3, a1, a2, a3, baa1, baa2, baa3, ba1,
ba2, ba3, b1, b2, b3, caa1, caa2, caa3, ca and 8 ranking categories for qualitative sub-factors: aaa, aa, a, baa, ba, b, caa, ca (5) Indicator value: if not explicitly stated otherwise, the indicator value corresponds tothe latest data available.

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Government of Iceland – A2 stable: Regular update

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Moody's related publications» Outlook: S eases credit pressures, but long-term costs of the pandemic weigh on sovereigns, 3 November 2021
» Sector Comment: Banking – Iceland: Iceland restores countercyclical buffer and introduces debt service cap in mortgages, a credit
positive for banks, 6 October 2021
» Issuer In-Depth: Government of Iceland – A2 stable: Annual credit analysis, 25 August 2021
» Issuer Comment: Government of Iceland – A2 stable: Easing of travel restrictions could accelerate tourism recovery, 25 March
2021» Rating Methodology: Sovereign Ratings Methodology, 25 November 2019
To access any of these reports, click on the entry above. Note that these references are current as of the date of publication of this report and that more recent reports may be available. All
research may not be available to all clients.

822 February 2022

Government of Iceland – A2 stable: Regular update

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MJKK or MSFJ (as applicable) hereby disclose that most issuers of debt securities (including corporate and municipal bonds, debentures, notes and commercial paper) and preferredstock rated by MJKK or MSFJ (as applicable) have, prior to assignment of any credit rating, agreed to pay to MJKK or MSFJ (as applicable) for credit ratings opinions and services
rendered by it fees ranging from JPY100,000 to approximately JPY550,000,000.
MJKK and MSFJ also maintain policies and procedures to address Japanese regulatory requirements.

REPORT NUMBER

922 February 2022

1318109

Government of Iceland – A2 stable: Regular update