On our own? The Icelandic business cycle in an international context

This paper analyses the properties of the Icelandic business cycle and whether it is synchronised with the business cycles of other developed countries. We start by identifying business cycle turning points and the average amplitude and duration of expansionary and contractionary periods in Iceland. We then extract the cyclical component of a large set of economic variables to document key stylised facts of the Icelandic business cycle. The resulting regularities of the domestic business cycle are also compared to business cycle regularities of other developed countries. Finally, we attempt to identify underlying structural shocks through long-run identification restrictions on a vector autoregressive (VAR) representation of the data, and look at the interconnection of these underlying shocks in Iceland and other developed countries. Our results suggest that although the characteristics of the domestic business cycle are in some aspects similar to business cycles in other developed countries, there are some important differences. Furthermore, our results indicate that the domestic business cycle is to a large extent asymmetric to the business cycle of other developed countries. These findings should be of importance for policymakers, and serve as a useful benchmark for modelling the Icelandic economy. The results should also serve as an important input for the analysis of the appropriate monetary and exchange rate regime for Iceland.