Iceland Traps Hedge Funds in Refusal to Discuss Bank Claims

More than five years after its biggest banks defaulted on $85 billion, Iceland’s government is refusing to speak to the hedge funds and other creditors that are still trying to get their claims paid out.

The island, which the International Monetary Fund has held up as a model for crisis management, says addressing the needs of bond investors in Kaupthing Bank hf, Glitnir Bank hf and Landsbanki Islands hf isn’t its concern. Instead, Prime Minister Sigmundur D. Gunnlaugsson says he’ll fight to ensure any steps taken protect the nation’s financial markets.

Creditors, represented through winding-up committees, want the government to let them sidestep currency controls that were created back in 2008, when Iceland was hemorrhaging capital. Gunnlaugsson says such a settlement isn’t viable.

“Because these actors have such huge funds in the agreement, or will have, if such an agreement is reached, it will affect whether or not, and when, we can lift the capital controls,” Gunnlaugsson said yesterday in an interview in Reykjavik. “It’s in everyone’s interest to create a situation which would allow for the lifting of controls.”

The winding-up committee of Glitnir, the first of Iceland’s three biggest banks to fail in October 2008, said its efforts to get a reply from the central bank have also fallen on deaf ears.

‘Vast, Complicated’

“We’ve gotten no feedback from the bank on whether, or when, they will respond,” Steinunn Gudbjartsdottir, head of Glitnir’s committee, said in an interview.

Stefan Stefansson, the central bank’s spokesman, said it has held “several meetings,” including with representatives of the winding-up committees and creditors, and is conducting “various probes” on what “kind of solutions will harmonize with stability, as anticipated in law.”

Reaching a settlement is taking time because “the matter is vast and complicated,” Stefansson said.

A number of the creditors waiting to get their money back are hedge funds that had bet on a faster resolution of Iceland’s banks. Firms including Davidson Kempner Capital Management LLC and Taconic Capital Advisors LP bought claims on the lenders’ assets at prices well below face value.

“It seems they’ve been waiting to see whether the government would somehow step into the process,” Gunnlaugsson said. “But this is not a project for the government. The only role of the government here is to assess whether they come up with a solution which allows for the lifting of the controls.”

No Talks

The creditors in question “are just private entities trying to reach an agreement regarding a private debt,” he said. “So the state -- the government -- has nothing to do with that. We’re not in talks with those creditors and we won’t be. Never were going to be.”

Gunnlaugsson and Finance Minister Bjarni Benediktsson both say that failure to arrive at a viable settlement could prompt the government to amend Iceland’s bankruptcy act. If that happens, all foreign-currency holdings at the failed banks could be converted into kronur before being paid out to creditors.

The banking failure in 2008 triggered Iceland’s worst recession in six decades and forced the government to seek an international bailout to stay afloat. Backing the banks’ liabilities was never an option as claims dwarfed Iceland’s $14 billion gross domestic product, former Finance Minister Steingrimur J. Sigfusson has said.

$4 Billion

Since the crash, the estates of the banks have been run by winding-up committees, which have sought to get about $4 billion through Iceland’s capital controls. In total, the krona restrictions are blocking about $7.2 billion, according to a central bank estimate.

The krona has appreciated 9 percent against the euro over the past 12 months. Still, today’s rate of about 157 per euro compares with an average of 88 in 2007, a year before the island’s financial collapse.

Though the IMF has praised Iceland’s recovery trajectory, the fund warns that failure to end currency restrictions threatens to delay foreign investment needed to bring about a full recovery.

The economy will expand 2.7 percent this year, according to the Organization for Economic Cooperation and Development. That’s better than the average for the OECD-area as a whole, which will grow 2.3 percent, the Paris-based group estimates.

Keeping Krona

Gunnlaugsson said Iceland’s economic recovery is bound up with the krona. The government last year put talks to join the European Union on hold amid growing opposition to joining the bloc.

“When we see that long term stability is in place, then we will be free to make a decision on the future of the currency,” he said. “But for now we’re sticking with the krona and when I say ‘for now’ I’m talking about the foreseeable future.”

He argues that the bank creditors will gain the most if in the end they come up with a plan that allows them to complete settlements without disrupting the island’s economy.

“These investors -- most of them came in after the economic collapse -- then they could cash in on their investment and in many cases multiply their investment,” he said. That would allow “the government to lift the controls and they could then cash in, so to speak.”