Iceland FSA Ends Bank Fraud Probe Warning Against Free Currency

Iceland completed its investigation of the financial fraud that led to the island’s 2008 collapse with the top regulator warning that the bank system is still too weak to survive a free-floating krona.

The Reykjavik-based Financial Supervisory Authority yesterday wrapped up more than four years of investigations, which included 205 cases of financial malpractice, 103 of which were referred to the prosecutors. Fines were imposed in four of the cases, while 98 were dropped.

The island imposed currency restrictions after its three biggest banks collapsed in 2008, defaulting on $85 billion that the $13 billion economy didn’t have the means to honor. The failures triggered a krona sell-off, sending the currency down as much as 80 percent against the euro, offshore. Investors with about $8 billion in krona assets are still trapped behind the controls.

“If we’re thinking about removing the capital controls, both the banks and the economy as a whole, and the krona’s exchange rate are in question,” Unnur Gunnarsdottir, chief executive officer at the financial watchdog, said in an interview yesterday in Reykjavik. Iceland “hasn’t completed all the challenges it’s dealing with,” she said.

The central bank has had limited success in reducing the krona overhang and earlier this month accepted just 5.7 billion kronur ($44 million) out of a total of 9.3 billion kronur in bids in one of its dual currency auctions.

‘A Failure’

The bank is seeking to phase out the controls through a program designed to take pressure off the krona even as investors sell their holdings by offering financial benefits and the option of reinvesting. Though the bank has indicated the controls may be removed by 2015, it has emphasized targets are linked to financial and economic goals rather than dates.

Limited interest in Sedlabanki’s auctions has led the bank to lower by half the minimum amounts required to participate.

That shows the bank is missing its target, said Lars Christensen, chief emerging markets economist at Danske Bank A/S in Copenhagen.

“By lowering the amounts the central bank is signaling that so far the bank hasn’t been reaching its goals,” said Christensen. “The auctions have henceforth been a failure.”

The International Monetary Fund said in November Iceland is unlikely to be able to remove the currency controls before 2015. Finance Minister Katrin Juliusdottir said in October the most viable prospect is to keep some form of currency controls in place until Iceland can join the euro. The nation started European Union membership talks in 2010.

‘Modest’ Amount

As of November, Iceland’s exchange-rate auctions had released a “modest” amount of kronur, equal to 4.5 percent of gross domestic product, according to the IMF. The progress has been “partly offset” by payments on offshore kronur and currency released by the estates of the failed banks, leaving offshore kronur equal to about 23 percent of the economy, the IMF estimates.

“Iceland’s financial sector is tied to the capital controls,” said Gunnarsdottir. “For that reason alone, it’s not as healthy as we’d want it to be. The owners of the banks are the Treasury and creditors” of Iceland’s failed banks, Kaupthing Bank hf, Glitnir Bank hf and Landsbanki Islands hf.

“That’s not the healthiest form of ownership” or the kind of ownership structure “that we’d like to see,” she said.

‘Taking Root’

Local investors, including shareholders in MP Banki hf and the Iceland Enterprise Investment Fund, are in talks with the winding up committees of Kaupthing and Glitnir on purchasing shares in Arion and Islandsbanki, Morgunbladid reported yesterday, without saying how it obtained the information.

Glitnir is 95 percent owned by its creditors and Arion 87 percent. The government holds the rest.

Iceland, which completed a 33-month IMF program in August 2011, is outgrowing much of Europe as it rebounds from its deepest recession in six decades. The recovery is “taking root” and a fiscal consolidation is “broadly on track,” the IMF said. Iceland’s GDP expanded 2.6 percent last year and will grow 2.3 percent this year, the Washington-based fund estimates.