Feb. 21 (Bloomberg) -- Iceland advertised the position of central bank governor after the current incumbent Mar Gudmundsson questioned the government’s intention to push through the world’s biggest household debt relief program.
The plan was revealed in a memorandum on the central bank law, which also showed Finance Minister Bjarni Benediktsson will appoint a working group to look into the division of labor at the financial regulator and the central bank.
“It has been decided to advertise the position of the governor as open for applications,” the ministry said. “That is done to give authorities greater flexibility in relation to possible changes to the laws on the central bank.”
The memo follows speculation in Icelandic media that the government is trying to replace Gudmundsson, or reduce his influence by making him one of three governors. Prime Minister Sigmundur Gunnlaugsson said in November the bank was playing “politics” by criticizing his debt relief plans, and this month in an interview with broadcaster RUV suggested that the bank could use more voices in its decision making.
Asgeir Jonsson, an economist with asset manager Gamma in Reykjavik, questioned the need for a change in structure at the central bank.
“The current setup at the central bank, with a single governor and a monetary policy board, is now well known by the market,” he said. “If the government is planning to change that now, it will create a lot of uncertainty in the market.”
Gudmundsson, who worked at the Bank for International Settlements before taking over the bank in 2009, this month kept the benchmark rate unchanged at 6 percent for a 10th meeting, while warning that the long-term outlook for containing inflation was deteriorating.
“I have before declared that I’m ready to begin a new term as central bank governor and that declaration stands,” Gudmundsson said in a statement after the memo was made public. “However, if legal changes are made which change the nature of the position, or if there are changes to the application process, I will have to re-evaluate the matter.”
Gudmundsson is currently en route to Sydney for a BIS meeting of central bank governors, his spokesman Stefan Stefansson said in an e-mail.
The government is looking at “increasing trust and sharpening our vision of how we want to see the continuation,” Benediktsson said in a Feb. 18 interview. “I maybe want to phrase it by saying that we manage to increase faith in the economic policy of the country.”
Gunnlaugsson and Benediktsson, who head separate parties, gained power last year after promising to write off mortgage debt for consumers still struggling in the aftermath of the economic collapse in 2008. The government in December unveiled plans to cut household debt by 150 billion kronur ($1.28 billion), in part by raising taxes on banks and offering tax breaks for homeowners.
Increasing the number of governors at the central bank would reduce the chance that a “predetermined opinion would come out on top” and give “more balance” to the decision making process, the premier said in an televised interview this month.
Gunnar Helgi Kristinsson, a professor in political science at the University of Iceland, said the government potentially stifling the independence of the bank is problematic. A similar thing happened in 2002, when the National Economic Institute was discontinued after a falling out with then prime minister and later central bank Governor David Oddsson, he said.
“Similarly, if the government would fire the current governor simply for having the institution carry out its independent role, that would be a step back,” he said. “This would be a considerably dangerous development.”
The central bank on Feb. 12 warned that while measures to reduce household mortgage debt would stimulate consumer spending and imports, they would also “reduce national saving and the current account surplus, which will contribute to a weaker krona than would otherwise result.” The bank also said that the measure will result in higher interest rates.
Gudmundsson has managed to bring down inflation to 3.1 percent from more than 10 percent when he took over, while overseeing an economic expansion and a strengthening krona. Iceland, which completed a 33-month International Monetary Fund program in August 2011, is now outgrowing much of Europe as it recovers from its recession. The economy is seen expanding 2.6 percent this year and 3.7 percent in 2015, the central bank forecast this month.
The central bank has once again started buying foreign currency after managing to boost the krona. The country is still struggling to exit capital controls, which were imposed in 2008 after the collapse of its three biggest bank sent the krona down as much as 80 percent offshore and the economy into its worst recession in six decades.
The government says its actions are aimed at helping households that were hurt by a jump in inflation following the 2008 collapse. Icelandic home loans are traditionally linked to consumer prices, which increases the debt as the cost of living rises. Icelanders had 1.1 trillion kronur in inflation-linked mortgages at the end of June.
The government’s plan, equivalent to about 9 percent of Iceland’s $15 billion economy, adds risks to the economy as a whole, according to the IMF. A better use of revenue would be to bring down public debt; the plan also risks sparking litigation, the IMF warned in December.
Still, Iceland’s approach of putting households and the nation first, and letting its banks fail, has won praise from the IMF and from numerous economists, including Nobel Laureate Paul Krugman. Successive Icelandic governments have forced banks to write off mortgage debts to help households.
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