Sunday, October 26, 2008

Iceland Turns to IMF as Credit Crisis Threatens to Melt Its Economy

Sources: Financial Times, Iceland seeks $2 billion bail-out from the IMF; International Monetary Fund, IMF set to lend $16.5 billion to Ukraine (see section entitled Initial deal with Iceland)

No Western nation has turned to the IMF since the United Kingdom asked for a bail-out in 1976. Iceland changed this yesterday when it asked the IMF for $2.1 billion to restore confidence in its economy. The country will add this amount to loans from other Nordic countries, and in doing so, hopes to inject $6 billion into a financial system that has been devastated as a result of the global credit crisis. Iceland nationalized its banks earlier this month when the banks were unable to fund themselves and depositors both in Iceland and in the UK were unable to access their funds.

Iceland's prime minister, Geir Haarde, has shared with the press the three-stage recovery plan that Iceland's government has formulated to respond to the crisis. The plan's first stage will focus on restoring the public's confidence in the national economy and currency. Iceland's currency, the krona, has lost 70% of its value since the onset of the crisis. Haarde hopes that, once the IMF approves the loan, Iceland will be able to withdraw $830 million to help refloat the krona.

The plan's second stage will center around fiscal policy. Haarde has shared few details about this stage, but it seems that the government's goal is to make it more difficult for officials to relax the country's budgetary proposal. The third stage will consist of reforming the banking system so that banks will better follow international regulations. The people of Iceland have lost faith in the national banking system as the crisis has unfolded. Banks in Iceland and in other parts of Europe have suffered tremendously because they have come to depend so heavily on overseas loans, which have all but frozen since the credit crisis hit the United States.

The IMF has also been in contact with other countries who have been hit hard by the crisis. The organization's leadership has expressed interest not only in providing financial support, but in providing policy guidance to government leaders who are struggling to respond to the events that continue to unfold. The IMF currently has more than $200 billion in loanable funds, so other countries will almost certainly continue to turn to the organization for help as the crisis goes on.

Discussion Questions:

1- The IMF has offered both financial aid and policy guidance to international leaders. Which type of aid do you think countries are likely to ask for first? Why?

2- Iceland hopes that its plan will restore confidence in its banks, currency, and government. Do you think that news of the IMF's involvement will help further this goal?

3- What kind of system do you think the IMF should implement to decide which countries receive loans through special programs related to the credit crisis? Do you think the IMF should set aside funds specifically for the crisis, given the crisis' unprecedented impact and scope?

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