The Effect of Age Structure on Iceland's Current Account Balance

Abstract

This paper seeks to establish the relationship between Iceland’s current account and changing dependency rates between 1945 and 2015, with regard to the predictions of Modigliani and Brumberg’s life-cycle hypothesis. The period in question is split into smaller segments, with the splits being made with respect to different degrees of trade and capital restrictions during Iceland’s turbulent economic history. The relationship between youth and elderly dependency rates and the current account is then estimated through both simple correlation calculations, and least-squares regression analysis. The results reveal the relationship to be weak, but negative, and thus in line with the life-cycle hypothesis. However, the dynamics of Iceland’s current account balance appear to dominated by movements in the real exchange rate.