Recently, we spent two days in Iceland attending meetings with the country’s largest banks, the central bank and a wide range of companies. Despite elevated inflation and high interest rates, Iceland is combining improving macroeconomic fundamentals with a unique structural advantage in the form of abundant, low-cost renewable energy. This, in turn, is supporting new avenues for growth, such as data centres and energy-intensive industries. Meanwhile, the banking sector stands out for its strong profitability, high capitalisation and robust balance sheets. Overall, Iceland offers an attractive investment opportunity, where economic resilience, a world-class green energy platform and robust financial institutions reinforce each other. Thank you to Swedbank for organising the trip.
World-class renewable energy as a strategic asset
One of Iceland’s most compelling advantages is its unique energy landscape. The country is effectively energy independent, relying almost entirely on renewable sources, primarily hydropower and geothermal energy. This largely insulates Iceland from fluctuations in global oil prices, which is a particularly valuable trait in the current geopolitical environment.
During our visit, we met with ON Power, Iceland’s second-largest energy company, which specialises in geothermal energy. We also toured the Hellisheiði Power Plant, one of the world’s largest geothermal stations. Located south of the Hengill volcanic system, the plant has an electricity generation capacity of around 303 MW and a thermal energy capacity of 200 MW. It produces around 950 litres of hot water per second and supplies heating to over half of the capital region, underscoring Iceland’s position as a leader in the utilisation of renewable energy.
This clean and stable energy supply is becoming a cornerstone for future growth. The expansion of data centres, attracted by low energy costs, a cool climate, and a reliable grid, is expected to be a key growth driver in the coming years. Not only is Iceland’s energy mix among the greenest in the world, it is also a significant competitive advantage in an increasingly sustainability-focused global economy.
A strengthening and more diversified economy
Iceland’s economy has undergone a notable transformation over the past decade. Although inflation remains high and the central bank is expected to maintain a tight monetary policy, with the possibility of further interest rate hikes in the near term, the broader economic trajectory is clearly positive.
Public and private debt levels have declined significantly since the financial crisis, contributing to improved financial stability. At the same time, the economy has become more diversified. Iceland, which has historically been dependent on fisheries and tourism, is now increasingly positioning itself as a hub for energy-intensive industries such as data centres and advanced manufacturing.
A key structural advantage is the country’s access to low-cost renewable energy. This not only enhances industrial competitiveness and resilience towards global energy shocks, while also supporting long-term investment inflows. As a result, Iceland’s sovereign credit profile has steadily strengthened, as reflected in its improved credit ratings over the past decade.
Although there are still near-term risks, particularly relating to inflation and interest rate sensitivity, the underlying fundamentals suggest a more balanced and resilient economy than in previous cycles.
Figure 1. General government debt to GDP (%)
Highly profitable and well-capitalised banks
The Icelandic banking sector remains a standout in Europe, combining strong profitability with some of the highest capital levels in the region. Following the post-crisis restructuring, banks today operate with conservative balance sheets, robust capital buffers and consistently solid returns on equity, providing a strong foundation in the current high-rate environment. This strength is underpinned by strict regulatory oversight, prudent lending standards and a focus on domestic, well-collateralised exposures, particularly in mortgage lending.
While higher interest rates are beginning to affect activity, most visibly through longer selling times in the housing market and weaker demand, overall risks remain contained. Asset quality remains strong and, while some pressure could emerge in the construction and real estate sectors, this is offset by prudent lending standards and high levels of capitalisation in these sectors among Icelandic banks.
A notable recent development is the cancellation of the proposed merger between Arion Bank and Kvika Bank, which was opposed by the Icelandic Competition Authority. While consolidation could have led to greater efficiency gains, the decision demonstrates a disciplined regulatory approach and preserves competition in an already concentrated banking market.
Overall, Icelandic banks continue to benefit from strong margins, conservative risk management and limited international exposure. This supports a resilient and attractive profitability profile. Alongside high capitalisation, Icelandic banks offer solid returns, relatively higher credit spreads, strong loss-absorbing capacity and a comparatively low risk profile compared to many European peers.
