Iceland's central bank has announced a hike in interest rates of 75 basis points to 11.50 per cent.
The rates increase surprised analysts, who had expected only a half-point increase.
The move comes amid growing fears about the future of the Icleand economy. Its markets have been in turmoil for some time with economists fearing a hard landing from the economic boom of recent years.
Inflation remains above the central bank's target of 2.5 per cent and after the Icelandic crown fell in value over the past few weeks in the wake of financial market jitters over the overheated state of the economy.
The central bank has raised rates by 6.2 percentage points since May 2004.
Merrill Lynch has called into question the health of Iceland's banking sector, and Danske Bank said the economy could contract 5-10 per cent over the next two years as the country faces into a possible financial crisis.
Despite negative predictions, there are signs everywhere in Reykjavik of economic growth which was 5.5 per cent last year and more than 8 per cent in 2004.
Subsequent rises in house prices have made it easy for households to refinance loans and go on a spending binge.
However, the boom has created imbalances, with a current account deficit of 16.5 per cent last year, a tight labour market and hefty wage increases.
The Icelandic crown has eased around 13 per cent against the euro and around 12 per cent versus the dollar so far this year, a depreciation which was surprising in its speed.