Macroeconomic Council
Minutes of the second meeting of the Macroeconomic Council
Held 6 April 2017 – 8:30 hrs.-10:30 hrs. – Safnahúsið, Hverfisgata

The Prime Minister called the meeting to order. He said that the first meeting of the Council
had been successful and that the forum was an important one. He also said that discussions hadtaken place with the Icelandic Federation of Labour (ASÍ) and the Federation of State andMunicipal Employees (BSRB) concerning their participation in the Council, in line with theframework agreement in the labour market, but that they had rebuffed those efforts.
The main issues discussed were the following:
Fiscal plan – broad fiscal outlines for the next five years
The Minister of Finance and Economic Affairs explained the Fiscal Strategy Plan for 20182022, which was presented before Parliament on 31 March 2017. He said the Plan reflected atighter fiscal stance than the previous one. Emphasis was placed on reducing debt in 2017,
thereby creating the scope to advance important issues. It was important, however, to time
public investment projects sensibly – something that applied to all public sector entities.
Meetings had been held with local authorities and large State-owned companies such as
Landsvirkjun (The National Power Company) and Isavia concerning the timing of investment
projects. An important aspect of the Fiscal Strategy Plan was to lower debt, and each year of
the plan provided for debt reduction. A large portion of the high-interest US dollar denominatedbond had been bought so as to reduce Treasury interest expense in coming years. According to
the plan, primary expenditure would increase and interest expense would decrease. It is alsoplanned to make important reforms to the tax system: first, to broaden the value-added tax(VAT) base by shifting accommodation and various other tourism-related services from thelower VAT bracket to the general bracket. The general VAT rate will be lowered to offset this.
Also under consideration is the transfer of the tax on overnight stays to the local authorities, but
how this should be implemented has yet to be discussed. The Minister considered it appropriate
to take recommendations from the Iceland Growth Forum under consideration, regarding
simplification of the tax system, and scaling down exemptions. The Minister has discussed
equalisation of pension rights across the labour marketand other related issues withrepresentatives of employee federations. He mentioned that a committee on the harmonisationof employment terms in the public and private sectors was being appointed, as had been
stipulated in the September 2016 agreement on changes to public employees’ pension system.
The director of the Icelandic Association of Local Authorities said the new Act on Public Sector
Finances was very important for local governments. There had been a change in attitude among
municipal authorities, but no less important was the enhanced understanding of local
government finances within the Ministry of Finance and Economic Affairs. A sign of thisincreased understanding could be seen in the State’s contribution to local governments inconnection with the equalisation of pension rights. The director said that the local authorities
worked in accordance with the fiscal rules laid down in the Local Government Act, which
provided them with a guidepost for fiscal management. The municipalities have beenstreamlining in their operations and have paid down debt, but this is difficult without cuttingback on investment. An investment level that is exceeded by depreciation is not sustainable.
The director said that the agreement between central and local governments concerning
performance targets and municipal debts would be signed later in the day and that the agreement
was a part of the Fiscal Strategy Plan. He emphasised the joint understanding of the parties tothe agreement that the municipalities had pledged to comply with the fiscal rules laid down in
the Local Government Act and the central government bore the brunt of enforcing the FiscalPlan. The agreement provided for specified joint projects to be undertaken by the parties,including a study of local authorities’ sustainability and revenue base. He considered it very
important that central and local government authorities work together on these projects andcollaborate successfully.
In the discussion of the Fiscal Strategy Plan the Minister of Finance and Economic Affairs said
that the general discussion of the revenues side of government finances would probably centre
on three things in the months to come: first, the timing of the changes in value-added tax;
second, whether and when the general VAT rate should be lowered and whether increased tax
revenue should be used instead to fund infrastructure development; and third, whether thesavings in interest expense from the Treasury bond buyback should be used for infrastructuredevelopment.
The Prime Minister said that this year’s increase in state expenditures was much larger thanwould be sustainable in the long term. He said that while there was much public discussion of
the need for increased spending, the issue of whether we could have pursued a more
accommodative fiscal policy during the post-crisis period and gone through the crisis years witha different, less onerous focus was hardly discussed. The Prime Minister also said that the Act
on Public Finances had already begun to have a significant impact on the whole framework for
public finances and policy making. Proposed measures on the state’s revenues would bepublished in the spring, covering a horizon of several years, instead of being presented to theAlthing in November for passage by the year-end. It was therefore extremely important that theFiscal Strategy Plan be published each spring, as is provided for by law, and subjected tothorough discussion.

The labour market – progress of work on developing a new labour market model and wage
settlements in 2017

The director of the Confederation of Icelandic Employers had recently returned from a meetingwith sister organisations in the Nordic countries, where wage agreements were underdiscussion. It was clear from that meeting that the situation in Iceland’s Nordic neighbours
differs greatly from our own. In Sweden, for example, an agreement had recently been reached
for a total pay rise of 6.5% over the next three years, and in Norway a similar agreement had
been negotiated. These countries consider the capacity of export sectors when they negotiatewages. The director said there was the desire to do the same in Iceland but that efforts had notbeen successful. The Salek agreement from early 2016 was on ice. All agreed, however, on theneed for improved earnings statistics, which the director said were inadequate in Iceland,
pointing out that it was to everyone's benefit that decisions be taken based on correct andreliable statistics.
The Prime Minister presented a report from Hallgrímur Snorrason, former director of Iceland
Statistics, on earnings statistics in Norway and Iceland. Snorrason presented two proposals forimprovements: one, to enlarge the sample used for Statistics Iceland’s wage survey, or todiscontinue sample-based surveys in favour of collecting data from all employers, in a manner
similar to that in Norway. Snorrason’s conclusion was that we should adopt the Norwegian
approach. It emerged that the Minister of Finance and Economic Affairs has had discussions
with Statistics Iceland and the Director of Internal Revenue on their possible participation inthe collection and processing of earnings data.
The Minister of Finance and Economic Affairs also took up the issue of the labour market
situation and the negotiations ahead, as about one-third of state employees’ wage agreements
will expire in 2017. He said that wage increases had been large in 2016 and that, in line withthe framework agreement, more modest changes were expected this year. Under current
discussion is wage drift guarantee, which was part of the framework agreement, althoughopinion on the subject is divided.
The director of the Icelandic Association of Local Authorities was of the opinion that therecently established public sector pay committee represented an important step towards
harmonising wage policy and that this forum was growing stronger. He also considered it
important to ensure that wage drift guarantee would be effective; otherwise, the need for large
pay increases would accumulate in various public sector groups where wage drift is limited incomparison with the private sector.
The director of the Confederation of Icelandic Employers said that the Confederation had
doubts about whether parts of the framework agreement could apply while other parts did not.
Pension rights and wage drift guarantee would continue to be under discussion. He said that
this year the Confederation had 15 expired wage agreements affecting some 1,700 employees.
The unions gave little consideration to the framework agreement and made wage demands inexcess of those provided for in the agreement. The Confederation, as well as the public sector,
was obliged to take the framework agreement into account. Notwithstanding the unprecedented
rise in real wages in the recent past, wage demands had not subsided. Actually, real wage growththat could have been deemed appropriate over a decade had been achieved in a single year. The
labour market would now have to be sensible in its approach if the situation were not to bederailed. The increase in real wages had been achieved because of the appreciation of the króna,favourable terms of trade, and low imported inflation. These were extraordinary circumstances.
If this progress were to be preserved, the parties must observe caution. He emphasised that theState and the local governments must abide by the signed framework agreement in upcomingnegotiations because it was clear what would happen if the agreement were not followed: wewould repeat the mistakes of the past.

The economic situation – successes and challenges for monetary policy
The Governor of the Central Bank discussed the economic situation and challenges facing
monetary policy conduct. He said the chief problem of economic policy at present was that thedomestic economy’s capacity was being tested as regards factor utilisation, even thoughpotential output had increased because of importation of labour. He emphasised that thesituation differed from the pre-crisis period in many ways, in that there now was a current
account surplus and the domestic economy was not driven by a credit boom. Nevertheless, there
was the risk of overheating. Wages and domestic prices are being pressured upward, as can beseen in the labour market and real estate market, although this had been offset by theappreciation of the króna and low global inflation. Unemployment was low and labour
participation back to its pre-crisis peak. He said that overall policy easing was therefore notappropriate. With tight monetary policy in the recent past, price stability had been preserved
and inflation expectations had been anchored more firmly. The recent fiscal easing called for atighter monetary stance than would be needed if the fiscal stance was tighter. Labour market
agreements based on the Nordic model would also help. He pointed out that, to simplify,
monetary policy worked through two channels: interest rates and the exchange rate. Monetary
tightening via the interest rate channel affected the non-tradable sector more strongly, andmonetary tightening via the exchange rate channel – appreciation of the króna – affected thetradable sector more. The Governor pointed out that 85% of inflows to the foreign exchange
market in 2016 stemmed from the current account surplus and transactions between residents.
Capital inflows related to new investment in the domestic bond market had subsided greatly,
however, after the Central Bank activated its capital flow management measure last summer.
The Minister for the Environment and Natural Resources brought up ways to address theproblems faced by individual groups – such as young people in the housing market – without
exacerbating the tension in the economy. The Governor said that the problem in the housing
market was due in large part to insufficient supply and that stimulative measures on the demandside of the housing market would therefore push prices upwards unless offset by increased
supply. He said that it was important for stability, however, that house prices not rise too highbefore supply can be increased. Lower interest rates would result in higher house prices, all else
being equal.

The Prime Minister concluded the meeting by stating that the discussions had been useful andstressed the importance that all pull together because the situation was complex.
The next meeting of the Macroeconomic Council is scheduled for autumn 2017.

Names of attendees:
Macroeconomic Council members:
1.
2.
3.
4.

Prime Minister (Bjarni Benediktsson)
Minister of Finance and Economic Affairs (Benedikt Jóhannesson)
Minister for the Environment and Natural Resources (Björt Ólafsdóttir)
Chairman of the Icelandic Association of Local Authorities (Karl Björnsson as
substitute for Halldór Halldórsson)
5. Governor of the Central Bank of Iceland (Már Guðmundsson)
6. Director of the Confederation of Icelandic Employers (Halldór Benjamín Þorbergsson)
Other attendees:
1.
2.
3.
4.
5.
6.
7.
8.
9.

Ragnhildur Arnljótsdóttir, Prime Minister's Office
Benedikt Árnason, Prime Minister’s Office
Sigrún Ólafsdóttir, Prime Minister's OfficeGuðmundur Árnason, Ministry of Finance and Economic Affairs
Anna Borgþórsdóttir Olsen, Ministry of Finance and Economic Affairs
Sigurður Snævarr, Icelandic Association of Local Authorities
Rannveig Sigurðardóttir, Central Bank of IcelandÞórarinn G. Pétursson, Central Bank of Iceland
Hannes G. Sigurðsson, Confederation of Icelandic Employers.

Accompanying documents:
1. Agenda of the second meeting of the Council
2. Minister of Finance and Economic Affairs’ slide presentation on the fiscal plan
3. Central Bank Governor’s slide presentation on the economic situation and challenges
facing to monetary policy conduct
4. Governor’s speech at the Annual Meeting of the Central Bank of Iceland, 30 March2017
5. Hallgrímur Snorrason’s slide presentation on wage statistics in Norway and Iceland
6. Hallgrímur Snorrason’s report on wage statistics in Norway and Iceland