August 29, 2018 / 10:33 AM / a month ago

UPDATE 1-Iceland central bank holds rates, signals action to tame inflation

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COPENHAGEN, Aug 29 (Reuters) - Iceland’s central bank kept its key deposit rate unchanged at 4.25 percent on Wednesday, but said inflation expectations had risen, which might require it to tighten monetary policy.

The bank said long-term inflation expectations had moved somewhat above its 2.5 percent target.

If they continued to rise and remained persistently above target, a tighter monetary stance would be justified. It had the “will and the tools necessary to keep inflation at target over the long term,” it said in a statement.

It said in June that inflation was running close to target.

The consumer price index (CPI) rose 2.7 percent year-on-year in July after rising 2.6 percent in June.

Jessica Hinds, an economist with researchers Capital Economics, said her firm continued to expect the bank to hike rates in December.

Rising inflationary pressures “may well encourage workers to ask for bigger pay rises in upcoming wage negotiations, stoking domestic non-housing price pressures,” she said.

The central bank last cut the base rate in October in response to a tourism boom that strengthened the country’s crown currency.

The tourism sector, the country’s biggest industry, is adjusting to a lower pace of growth and is seen growing more slowly this year than forecast in May, the central bank said.

Tourist arrivals are expected to grow around 2.6 percent in 2018 compared to a previous forecast of 11 percent, according to bank Arion.

The central bank also said it expected gross domestic product (GDP) to rise 3.6 percent this year compared to a forecast in May of 3.3 percent. Growth next year is seen slowing to 2.7 percent from the earlier forecast 3.0 percent.

Reporting by Stine Jacobsen; Editing by Jacob Gronholt-Pedersen and John Stonestreet

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