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Iceland’s Offshore Krona Investors Need Incentives, IMF Says

Iceland needs to make it more attractive for offshore kronur investors to use the island’s program to unwind krona controls as progress in freeing capital flows remains slow, the International Monetary Fund said.

“To accelerate progress it is necessary to strengthen the incentives for holders of liquid offshore krona to participate in the liberalization strategy,” the IMF said in a statement.

Iceland’s central bank is seeking to phase out the controls by 2015 through dual currency auctions of kronur and euros. The program is designed to take pressure off the krona even as investors sell their holdings by offering financial benefits and the option of reinvesting in the island.

The IMF estimates that the stock of assets frozen by the controls is 23 percent of the economy, a number it says “could rise significantly” as the island’s failed banks wind up their estates. Including such assets, the figure may grow to about $8 billion, compared with Iceland’s gross domestic product last year of $13.5 billion, according to Arion Bank hf.

“A key step will be to curtail expectations that capital controls will be lifted soon, including by removing a reference in legislation to a terminal date for the controls,” the fund said. “The strategy should clarify that the conditions under which liquid offshore kronas are allowed to exit will become less favorable over time.”

Free Float

Iceland’s government has said it is unlikely to return to a free-floating krona and has signaled it will probably switch to the euro after joining the European Union, for which it started accession talks in 2010.

The north Atlantic island’s economic outlook is “good” and Iceland is this year likely to “broadly” repeat an economic growth rate of 2.6 percent achieved in 2011, the IMF said. An orderly unwinding of the capital controls is key to Iceland’s continued recovery, the fund said.

A working group consisting of members from the IMF, the European Commission, the European Central Bank and Icelandic officials is due to deliver an interim report on options for removing the capital controls by year-end, the finance ministry said on Sept. 25.

To contact the reporter on this story: Omar R. Valdimarsson in Reykjavik valdimarsson@bloomberg.net.

To contact the editor responsible for this story: Jonas Bergman at jbergman@bloomberg.net.

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