Iceland Shows us the Alternative: Public says 'no' to Bailout

Ronan Jack, 15 April 2011 | 1 Comment

Categories: Iceland | European Union | Democracy | Finance | Politics |

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Anyone trying to understand the issue about Icelandic banks and what the Icelandic people owe/don't owe/may owe the UK could be forgiven for being hopelessly confused from following various media reports. Do they or don't they owe the UK money? How much? Have they defaulted on a debt by voting "no" in the recent referendum? What implications does this have for them, and for other countries?

The background is as follows. There are three banks in Iceland. They collapsed in October 2008, having become grossly inflated – ‘too big not to fail’, perhaps. The International Monetary Fund summarises the issue in these terms:

Iceland allowed a very oversized banking system to develop—a banking system that significantly outstripped the authorities' ability to act as a lender of last resort when the system ran into trouble. Only a few years ago, Iceland had a banking system that was the normal size. But after the privatization of the banking sector was completed in 2003, the banks increased their assets from being worth slightly more than 100 percent of GDP to being worth close to 1,000 percent of GDP.

When confidence problems intensified this fall, Iceland was one of the first victims because the market realized that the banking system was far too big relative to the size of the economy. As investors started to pull out, it quickly spilled over into trouble for the Icelandic króna. Within a week the three banks collapsed, the króna's value dropped by more than 70 percent, and the stock market lost more than 80 percent of its value. For a small economy that is totally dependent on imports, this was a crisis of huge proportions.

The repayment issue concerns Landsbanki, and its subsidiary Icesave, an online bank marketed in the UK and Holland. Of the other two, Kaupthing may be worth keeping an eye on, entangled as it is with some dodgy people who are under investigation by the Serious Fraud Office. One of the people involved and recently arrested, Vincent Tchenguiz (pictured below), controls the Peverel group, which provides management services to older and vulnerable people living in private sheltered housing built by McCarthy and Stone. Though this will be an understandable concern to many thousands of people, it's not the focus of this article, and we note it and move on.

Click to enlarge

Landsbanki was once publicly owned, but was privatised by 2003. In late 2006, it launched Icesave in the UK, and launched in Holland in May 2008. Icesave was an internet bank offering better interest rates than other banks, and because of this, quickly attracted savers. In October 2008, Icesave stopped taking deposits or returning them, and was declared in default. The dispute concerns what happens after that, who is compensated, by how much, and by whom.

Many countries, including those who are bound by EU requirements, require banks to take part in some sort of insurance scheme against failure. This is because many banks fail. In the US, 157 failed in 2010. Up to 8 April 2011, a further 28 had closed in the US alone.

Icesave was no exception. It had to sign up to the deposit guarantee scheme required by EU regulation Directive 94/19/EC, because it wanted to operate in EU countries. This meant that 1% of deposits should be available to compensate depositors in the event of problems developing. It did so, but like many banks (and like the banking system as a whole) its reserves were insufficient to meet its obligations. The level of guarantee laid out by the EU was €20,877. Savers could expect to be protected to that level, and anything further was taking a risk.

Many invested more than that. There was an immediate problem for many investors who looked like they were losing their money. They included both private individuals, and also local authorities who had invested reserves there to make a few quid. Even the Audit Commission had money there.

When the collapse happened, the UK decided to reimburse British savers not to the extent of the guarantee, but to the full extent of their deposits, with the money to be reimbursed by Iceland. The Treasury opposed this, on the basis that it would set a dangerous precedent for other banks which might fail, and also because Iceland might not be able to repay the money.

The Icelandic government supported the agreement with the UK about the terms of repaying this money, but in two referenda, the Icelandic people have rejected the proposal. Among the reasons for this are reluctance to shoulder the debts of private banks; the current state of their own economy, with many people sinking under their own private debts; and perhaps some remaining resentment from the UK having used anti-terrorism legislation to freeze Icelandic assets back in 2008.

The amount of money involved is abound £3.5bn for the UK, and about £5bn when Holland is included. Commentators think that the remaining assets of Landsbanki should cover up to 90% of that. The issue is more about whether Iceland should pay the rest and stand as guarantor of any shortfall.

The issue will now go to the court of the European Free Trade Association, and a judgement will come in perhaps a year. It is not clear-cut, and there are arguments both ways.

In the UK, the Telegraph carries a piece by Conservative MEP Daniel Hannan arguing that Iceland should not pay, with strong opinions expressed by readers further down the page. In the Guardian, Aditya Chakrabortty says that Iceland had bucked free-market dogma, and this is a better course of action than Ireland took . Again, readers' comments are divided.

John Humphrys on the Today programme, introducing an interview with Iceland's President, said it would be asking "why they won't give us back the money we've lent them", which is a particularly narrow view of a complex issue. Perhaps the strongest view comes from the Financial Times, which said in a leader column that Iceland had "faced down UK and Dutch bullying". Their chief economics writer Martin Wolf had previously said in an interview with Icelandic television that Iceland shouldn't pay, that it's not a big issue for the UK, and that people here were starting to feel embarrassed by our government's position on this. and

Iceland is now being spoken of as having defaulted, for example in a Today programme discussion on 15 April (audio clip below). It is not clear that this is accurate, because although Iceland's leaders apparently agreed to repay the money, they may not have had authority to do so. But if it does constitute a default, then it goes to the heart of the question whether a population should be responsible for private companies' debts because they happen to be located there. As one of the Today programme contributors remarked, Delaware (known as a location for thousands of tax-dodging firms) would not imagine itself responsible for such debts, so why should Iceland?

There are issues here of both practice and principle. In practical terms, there were 400,000 Icesave investors, and the population of Iceland is slightly over 300,000. How could a country with a population base the same as Wakefield cover such debts for such a number? More to the point, why should they, when enterprises other than banks don't expect the taxpayer to pay their creditors when they go bust?

This central question has had too little discussion in the media with regard to our own bank bailout. It seems that it is starting to be discussed a little more, with Iceland one of the prompts for doing so. That can only be a good thing.

In Ireland, the cost of bailing out the banks has been revised upwards several times. Despite agreeing harsh austerity measures to pay for these losses, the country has just had its credit rating downgraded to a little above 'junk' status, and the ratings agency, as though it has some authority in the matter, has announced that yet further austerity measures may be required.

We in the UK, like Ireland, have had no say in whether we wish to pay for the reckless losses racked up by these banks. Neither have we been asked for a view on whether we think that bank losses belong to the country where they place their headquarters. This is especially pertinent now that banks have moved far away from being local and regional institutions, becoming footloose global operators with little or no sense of loyalty to their once-native land. Their recent threats to move overseas if we dare to make them pay tax or restrict their activities in any way underlines just how little attachment they have to us.

Iceland has stood up for a point of principle. It won't be easy for them to get out of their current economic plight, but neither option in the referendum offered an easy escape. We in the UK could learn from their insistence on having a say on these matters, instead of having things decided by a docile political elite who largely appear more concerned with directorships than with defending the interests of the electorate.

Listen to the BBC Radio 4 discussion from 15th April 2011, in which Iceland, Ireland and Greece are discussed:

Categories in which this article appears: Iceland | European Union | Democracy | Finance | Politics |

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1. 29 November 2011 14:06

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