Iceland is warning Greece and Ireland not to copy its recovery model even though the Atlantic island managed a return to international debt markets less than three years after letting its banks default on $85 billion.
“People should be careful when it comes to drawing comparisons between Iceland on the one hand, and Greece, Portugal, Spain and Ireland on the other,” Finance Minister Steingrimur J. Sigfusson said in an interview in Reykjavik. “Iceland didn’t have the ability to save the banks. Trying to rewrite the events that led to that eventuality as some sort of an export product is irresponsible.”
Iceland’s success in rebuilding its economy has been contrasted with the plight of euro member Ireland by economists including Nobel laureate Paul Krugman. Ireland, where most bank debt has been protected by a state guarantee since 2008, would have been better off using Iceland’s “bankrupting yourself to recovery” model, Krugman argued in a Nov. 24 New York Times column. Sigfusson says the advice could be dangerous, as European leaders try to agree on how investors share the cost of a second Greek rescue.
“Iceland should be humble and avoid advising other countries, especially when it comes to banking,” Sigfusson said. “What happened was an emergency situation which couldn’t be avoided.”
Double Russian Default
Though the island never reneged on any sovereign debt, its bank failures left creditors trying to recoup more than double the $40 billion Russia defaulted on in 1998. Iceland’s resurrection 2 1/2 years after becoming a pariah in international capital markets may yet embolden leaders elsewhere in Europe to contemplate the prospect of life after burden sharing.
Iceland survived by taking over the domestic units of its banks and leaving the foreign creditors to bear losses. An 80 percent slump in the krona against the euro offshore in 2008 sent the trade deficit into surplus within months, while government spending cuts helped rein in the budget. Iceland will post a shortfall of 1.4 percent of gross domestic product next year after 2011’s 2.7 percent deficit, the Organization for Economic Cooperation and Development said on May 25.
“Iceland has come through this surprisingly well,” said Lars Christensen, chief analyst at Danske Bank A/S in Copenhagen. “2009 was a defining year for how the crisis developed. The euro-zone countries took a step in the wrong direction by loosening their fiscal policies. Iceland didn’t do that because its only option was to tighten fiscal policies. Two years later, Iceland has moved quite a way away from its troubles while Greece is trying to unwind what it did.”
Iceland’s first foreign-currency bond auction since 2006, a $1 billion debt sale, was twice oversubscribed as the island enjoys a return of “trust and respect and a certain degree of goodwill,” Sigfusson said in the June 10 interview. The economy of Iceland, which has carried a junk grade at Fitch Ratings since January 2010, will grow 2.2 percent this year and 2.9 percent in 2012, the OECD estimates.
“The option is available to us” to sell more foreign- currency debt, Sigfusson said. “We’ll monitor the developments in the aftermarket. We’ll issue again, as and if required.”
The yield on the five-year bond has risen eight basis points since it started trading on June 13, gaining to 5.03 percent, from 4.95 percent on its first day, according to prices available on Bloomberg.
Sigfusson says Iceland’s transformation came at a cost, adding the government had no option but to allow a banking default, after the financial industry grew to 10 times the size of the economy.
“This wasn’t our free choice,” Sigfusson said. “If we hadn’t passed that legislation, the Icelandic economy would have melted down completely.”
Icelanders suffered an 18 percent slump in their disposable incomes in 2009, adjusting for inflation, as the krona’s decline sent consumer price growth close to 20 percent and unemployment approached 10 percent, compared with 1 percent before the crisis.
Still, after the adjustment, Sigfusson says he senses a “dramatic change in how the international community and investors perceive Iceland.”
European leaders were due to conclude a financing plan for Greece at a June 23-24 summit. Standard & Poor’s gave the country the world’s worst credit grade of CCC this week, arguing Greece is “increasingly likely” to face a debt restructuring.
While Germany has lobbied in favor of extending Greek debt, the European Central Bank, which owns Greek bonds, has said it would only agree to a plan in which creditors voluntarily agree to roll over their debt holdings.
“It’s 100 percent certain that Greece will default,” Harvard University History Professor Niall Ferguson said in a Bloomberg Television interview with Erik Schatzker and Deirdre Bolton yesterday. “The only question is what euphemism will be dreamt up to cloak the fact that it’s a default.”
The cost of insuring against a Greek default is the highest in the world, with credit default swaps on five-year debt trading at a record 1,603 basis points this week. Iceland’s CDS have eased to 280 from a high of 1,473 basis points in October 2008, when its three biggest banks failed.
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