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Iceland’s Government Targets Debt Reduction for Households

Iceland’s new government will target measures to help households cut their debt loads, including forcing write downs on assets held by the creditors of the island’s failed banks.

“It’s right to use the space, which will likely be formed in the winding up proceedings of the estates” of the three failed banks “to accommodate borrowers and those that put their savings into their homes,” the government said in its economic program released today.

Measures will include ending a practice of linking mortgages to the consumer price index, a step that will “strengthen the foundations of monetary policy, which is an important part of removing capital controls,” the Progressive and Independence parties coalition said.

The leader of the Progressive Party Sigmundur David Gunnlaugsson will become the next prime minister after winning last month’s elections together with the Independence Party. Among the new government’s goals is a plan to shelve indefinitely European Union accession talks started in 2010.

Gunnlaugsson will head a coalition together with the Independence Party led by Bjarni Benediktsson, who will become finance minister. The two ousted the government of Social Democrat Prime Minister Johanna Sigurdardottir in Iceland’s April 27 elections.

Loan Ban

The EFTA Surveillance Authority, which monitors Iceland’s compliance with the European Economic Area agreement, today said the country must lift a ban on mortgages linked to foreign currencies because it restricts the free movement of capital.

“It can be lawful to restrict the granting of such high risk financial products to consumers,” EFTA said. “However, a total ban on granting such loans to individuals and companies goes beyond what can be considered necessary in order to protect consumers.”

The authority said it may bring the matter before the EFTA Court if Iceland fails to take the measures necessary to comply.

Iceland’s Supreme Court ruled in 2010 that foreign-currency indexed loans were illegal. Iceland’s largest banks defaulted on about $85 billion in debt in 2008, sending the country into its deepest recession in six decades.

After the collapse, the central bank estimated that households had outstanding debt indexed to foreign currencies of 300 billion kronur ($2.4 billion) to 350 billion kronur. Iceland’s 2008 financial crisis was exacerbated by banks borrowing in yen and francs to take advantage of lower interest rates, and then repackaging the loans in kronur.

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