Sunday, October 12, 2008

Iceland ‘Gone Fishing’ After Banks Bust

Sources: Wall Street Journal- As Banking ‘Fairy Tale’ Ends, Iceland Looks Back to the Sea; Reuters- What Next for Iceland?

After centuries of building an economy on the fishing industry, Iceland traded in its sea legs in 2001 to try its hand at banking. Success came quickly, as the risk-taking behavior needed to succeed on the sea played out well in the banking culture. The country’s growth exploded during the past 6 years when many of the island’s prominent banks became privatized. They borrowed at low interest rates from sources around the globe and then turned those loans for a sizeable profit to fund businesses in the U.S., UK, and Denmark, borrowing more when necessary to make payments on the principal loans. They advised on mergers and financing for fishing companies around the globe. The banks gained more depositors than the island’s population. In 2007, Iceland was ranked the #1 most developed country by the UN Human Development Index. Luxury imports flooded in. Iceland became one of the wealthiest nations on earth.

But as the unfolding financial crisis hit Europe hardest of all last week, this tiny island nation began contemplating bankruptcy because its treasury cannot cover its banks’ debt. The krona, Iceland’s currency, has stopped functioning off the island completely. Inflation hit 14% last week. Last Tuesday Glitnir Bank hf, one of Iceland’s largest, was seized by the government. Kaupthing Bank hf, the largest bank in Iceland, was taken over on Thursday. The two banks, along with fellow giant Landsbanki Islands hf, were highly leveraged and have combined assets worth over €100 billion, about 10 times the GDP of the whole country. The government is considering merging the 3 entities into one nationalized bank. Alarmingly, Iceland’s Federal Reserve holds only €2 billion in foreign assets, yet the majority of the country’s debt is in foreign currency. Skepticism about joining the EU and transitioning to the euro has fallen to the wayside. There will be no government bailout plan for Iceland. Experts believe it may instead have to turn to the IMF for rescue or take out a loan from Russia.

Despite the chaos, there is an upside. With the baking bust, export prices are improving and the country is making plans to revert to the export industries of aluminum and especially fishing, which has sustained the nation and shaped its culture since around AD 900. Last week even the prime minister urged his people to rely on the resources of the land and sea during this tough period. Cod quotas are expected to be raised by the government in coming weeks to stimulate more jobs in the industry.

1) Do you think Iceland should join the EU to stabilize its currency, or continue its legacy of economic independence?
2) If EU nations such as Iceland begin borrowing money from Russia, thereby intertwining their economic interests, what will be the national security implications on the U.S.?

1 comment:

sallreen said...

Iceland -So far, there is no sign that the British Navy might be steaming toward Iceland -something that happened regularly from the 1950s to the ‘70s, when Britain and Iceland clashed over fishing rights. But the words being exchanged between London and Reykjavik are the most bellicose since the so-called cod wars.