Ísland
Kreppa
1
2
3
4
Causes
Gov’t response
IMF response
Lessons
Juan Suarez
Andrew Fincham
Bradley Feingerts
Guillaume Briant
Iceland at Risk
Iceland is Tiny
– Population: 319,000
(U.S. Population: 308,000,000)
– GDP (2008 est.): US$12.97 Billion (U.S. GDP:
$13.84 Trillion)
– 70% of export earnings are derived from
fishing
Rapid Growth Bubble
– Investments fuel rapid economic growth in
Iceland from 2000 to 2008
– GDP growth outpaces growth in Denmark,
Norway, and Sweden by 2-4% in 2003-06
– Easy access to mortgages increased home
investment and personal debt
– household debt grew to 213% of disposable
income by 2006 (U.S. household debt: 169%)
– Inflation rises to 14% by 2008
Rapid Privatization of
Banking Sector in 2000
– Heavy reliance on external
debt
– finances hot local
mortgage market foreign
acquisitions
– Iceland’s banks grow
through foreign internet
bank deposits – outpacing
currency reserves and
deposit insurance
– 2006: Loans of Iceland’s
three main banks exceed
$150 Billion, 8 times GDP
– the U.S. equivalent: $110
Trillion
– 3 largest U.S. banks ≈ $6
Trillion in assets
Feb–Apr 2006:
6 Oct 2008:
24 Oct
19 Nov 2008:
First jitters as
Much interbank lending
2008:
Final agreement on
concern about
ceases; Althing passes
IMF
IMF loan package:
overextended
emergency legislation
agreement
•$2.1b IMF,
banks leads to
authorizing intervention
in principle •$2.5b Scandinavia,
9
Oct
2008:
14
Oct
2008:
them facing
in financial system.
to $2.1b
•$6.3b UK, Germany,
FME
places
ICEX
reopens
Step
1.
The
subprime
mortgage
crisis
spreads
difficulty in
loan. Not
Netherlands for
1998-Oct 2008
Kaupthing
into
with
a
77%
fall
refinancing
finalised.
depositors.
(logarithmic
scale)
Early Oct
2008:
•Foreign banks
receivership;
in the become
OMXI15 increasingly
Adverse media
trading
on ICEX to
(eventually
unwilling
finance Icelandic banks.
3 Dec
(esp in UK) starts
suspended;
falls by 95.6%)
2008:
run on banks
in Iceland
banks falters
Step 3. Iceland
Takes
kr: ۥConfidence
at 340:1
kr: € at
Timeline
OMX Iceland 15
Control of Banks
2006
Sep 2008:
kr:€ has fallen
35% since Jan
2008, from
90:1 to 131:1.
29 Sep 2008:
Government
announces
taking 75%
stake in
Glitnir.
2008
Step 4. Crash:
150:1
2009
•Stock market crash.
26 Jan
2009:
9–12 Oct 2008:
15 Oct 2008:
20 Oct 2008:
7–8 Oct 2008:
•After
bank
receivership,
currency
Gov’t
UK Gov’t suspends
Norway,
New
FME places Landesbanki
trades
grind
to
a
halt
as
no
domestic
resigns.
Landesbanki
assets
Denmark
Landesbanki,
and Step
Glitnir2.
banks
into begin to
Banks
fail
bank
can act asGlitnir,
a clearing house for
in UK using antimake €400m
receivership; Glitnir
Late Nov
•Frozen
credit markets
hamper banks’
ability Kaupthing
terrorism law;
loan
nationalization
cancelled.
the Krona.
2008:
available to
banks
All domestic
tosavings
finance debt guarantees UK
•The
gov’t announces
efforts to$650m
peg
depositors;
ICB.
established,
guaranteed under deposit
loans from
Krona
to Euro take
but over
currency crashes.
•It becomes
that Iceland’s
Central
Governments
in
insurance and
domestic obvious
Poland,
Luxembourg,of making
domestic
branches toBank
remainisopen;
utterly incapable
emergency
•Huge
debt fuels
inflation; gov’t
Faeroe Is,
Manx,
Switzerland,
foreign accounts
RB
responds
heightened interest
loansfrozen;
necessary
to cover
the gigantic
debtwithoperations.
Russia.
Finland similarly
member says foreign
of the domestic
banks rates
seize assets.
depositorsburden
likely to recover
only 5%–15%.
Evaluation: Government
Response 1: Announcing
75% stake in Glitnir:
Response 2: Placing banks in receivership, suspending foreign
accounts while continuing/guaranteeing domestic:
•Although this set off the
run, wasn’t avoidable. Just
the news that burst the
bubble.
•Banks clearly insolvent (or soon to be, given run) so a bankruptcystyle asset freeze makes sense.
•Should have known that
news would set off a run
on banks and currency. Yet
couldn’t afford to bail out
all three banks and
stabilize currency. So had
to change plans within a
week.
•Difficult to say whether ex post 100% local a/c guarantee
necessary; justified on standard bailout “national interest” grounds?
•Probably should have been
talking to IMF earlier to
arrange standby facility;
but would IMF have been
willing to set this up
secretly?
•But local economy probably would have stopped without access to
banks, so local unfreezing probably necessary.
•Should gov’ts bailing out treat non-taxpayers and taxpayers alike?
1. Non-issue here as gov’t couldn’t afford anyway. Private insurance
available for Icelandic bank deposits.
2. National interest arguments: If local insurance explained as a
bailout (avoiding counterfactual harm), then little reason for foreigners
to qualify, except on basis of reputational effects?
3. Arguments against this kind of economic nationalism.
Response 3: Agreeing to terms of IMF/foreign loans:
•Should gov’t had agreed to underwrite foreign depositors ex post?
Probably would not have gained loan otherwise.
•Even if possible, see arguments above.
Goal 1: Stabilize the
Krona
•Raise the policy interest
rate to 18 percent.
Evaluation: IMF
$2.1 billion - strings attached
•$10 billion from IMF loan
and bilateral loans
•Massive capital controls
SUMMARY: Short-term
success
Goal 3: Fiscal Consolidation
• Establish a committee comprising reps
from PM’s Office, FME, Central Bank of
Iceland, Min. of Finance & Min. of
Commerce to coordinate policy input.
•Status: Completed
•Improve medium-term fiscal
framework to reduce go’t deficits and
debt accumulation. By end-Jun 2009.
SUMMARY: Progress, but results are
mainly to be determined
Goal 2: Restructure
the Banks
•FME to review business
plans of each of the new
banks. By Jan 15, 2009.
•Status: As of Dec
2008, 2 of 3 banks had
submitted plans.
•Int’l Auditing Firm to
value old and new banks
in accordance with int’ l
best practice. Complete by
end-Jan 2009.
•Status: Behind schedule due to disagreement over
accounting methodology. Delayed until the end of
Feb or early Mar.
• Capital injection into the three new banks, using
tradable government bonds on market terms, to raise
the capital adequacy ratio to >10%. By end-Feb 2009.
•Status: Delayed due to asset valuation issues.
•Hire an experienced banking supervisor to assess the
regulatory framework and supervisory practice. By endMar 2009.
•Status: Expert hired and report expected on time
SUMMARY: Delayed.
Iceland Conditionality under the 2008 Economic Program
Main Idea: (i) Place a floor on international reserves; (ii) Limit the government deficit; and
(iii) Limit the creation by the central bank of liquidity
December 2008
March 2009
June 2009
(in billions of Krona)
1. Floor on the change in the central government
net financial balance
-12
-55
-55
2. Ceiling on the change in net credit of the Central
Bank of Iceland to the private sector
25
50
50
3. Ceiling on the change in the domestic claims of the
Central Bank of Iceland to the central government
25
50
50
(in millions of USD)
4. Floor on the change in net international reserves
of the Central Bank of Iceland
…
…
…
5. Ceiling on the level of contracting or guaranteeing
of new medium and long term external debt by
central government
4000
4075
4150
6. Ceiling on the stock of central government shortterm external debt
650
650
650
7. Ceiling on the accumulation of new external
payments arrears on external debt contracted or
guaranteed by central government from multilateral
or bilateral official creditors
0
0
0
1. Iceland’s economic prospects
• International assistance provided Iceland with some relief
• However, Iceland’s financial problems are not resolved yet
Huge debt relative to Iceland’s size.
•
Crisis’ cost exceeds 80% of Iceland's GDP
By comparison:
•
the S&L crisis cost the U.S. taxpayer about 3% - 5% GDP,
•
the reparation demanded from Germany by the Treaty of
Versailles after WWI was 85% of GDP.
•
One third of the population is considering emigration.
• Possible solution to promote Iceland’s economic stability
despite its small size:  joining the Euro currency
o Pros: currency stability.
o Cons:
 Iceland, currently a member of the European Economic Area will
have to join the European Union first. The process will take a few
years and face some internal political opposition,
 the Euro-membership/currency does not prevent small countries
from being in crisis: Greece.
2. Increased financial nationalism
• Failure of Iceland’s banks
Iceland’s deposit insurance fund did not compensate foreign
depositors. Foreign governments stepped in by (a) freezing offshore
assets; and (b) blocking the IMF loan until Iceland guaranteed their
depositors.
• Political agenda: keep bailout money at home
Free rider problem.
“Buy American” clause debated for the stimulus bill.
• Protectionism:
o Risk of a less efficient cross border banking system.
o The U.S. Smoot-Hawley Act of 1930 raised import duties on foreign
products. Retaliation from other countries aggravated the effects of
Great Depression.
3. IMF reform
Global crisis highlighted the lack of coordination in policy responses around the world.
IMF’s weakness in responding to the Icelandic crisis. Need to reform IMF:
– “Crisis lessons for the IMF”, speech by John Lipsky, First Deputy Managing Director,
on Dec 17, 2009.
– Committee on IMF governance reform will publish its report in April 2009.
Reform axes:
1. Increase the IMF’s resources
• Increase IMF fund from $250 billion to $500 billion.
• Japan offered up to $100 billion in emergency loan.
2. Reform the Fund's governance and increase convergences with other
international organizations
• Improve balance between members’ voting rights (developed v. emerging countries).
• Convergences with the G-20.
• Working closely with the Financial Stability Forum (joint letter on November 13th,
2008).
3. Explicit financial stability role
• Prudential analysis.
• Early warning of vulnerabilities and advice on remedial policies to reduce global risk
and increase system stability.