Iceland teeters on the brink of bankruptcy
By JANE WARDELL, AP Business Writer Tue Oct 7, 3:40 PM ET
REYKJAVIK, Iceland - This volcanic island near the Arctic Circle is on the
brink of becoming the first "national bankruptcy" of the global financial
meltdown.
ADVERTISEMENT Home to just 320,000 people on a territory the size of Kentucky,
Iceland has formidable international reach because of an outsized banking
sector that set out with Viking confidence to conquer swaths of the British
economy — from fashion retailers to top soccer teams.
The strategy gave Icelanders one of the world's highest per capita incomes. But
now they are watching helplessly as their economy implodes — their currency
losing almost half its value, and their heavily exposed banks collapsing under
the weight of debts incurred by lending in the boom times.
"Everything is closed. We couldn't sell our stock or take money from the bank,"
said Johann Sigurdsson as he left a branch of Landsbanki in downtown Reykjavik.
The government had earlier announced it had nationalized the bank under
emergency laws enacted to deal with the crisis.
"We have been forced to take decisive action to save the country," Prime
Minister Geir H. Haarde said of those sweeping new powers that allow the
government to take over companies, limit the authority of boards, and call
shareholder meetings.
A full-blown collapse of Iceland's financial system would send shock waves
across Europe, given the heavy investment by Icelandic banks and companies
across the continent.
One of Iceland's biggest companies, retailing investment group Baugur, owns or
has stakes in dozens of major European retailers — including enough to make it
the largest private company in Britain, where it owns a handful of stores such
as the famous toy store Hamley's.
Kaupthing, Iceland's largest bank and one of those whose share trading was
suspended last week to stop a huge sell-off, has also invested in European
retail groups.
Thousands of Britons have accounts with Icesave, the online arm of Landsbanki
that regulators said was likely to file for bankruptcy after it stopped
permitting customers to withdraw money from their accounts Tuesday.
To try to wrest control of the spiraling situation, the government also loaned
$680 million to Kaupthing to tide it over and said it was negotiating a $5.4
billion loan from Russia to shore up the nation's finances.
The speed of Iceland's downfall in the week since it announced it was
nationalizing Glitnir bank, the country's third largest, caught many by
surprise despite warnings that it was the "canary in the coal mine" of the
global credit squeeze.
Famous for its cod fishing industry, geysers, moonscape and the Blue Lagoon,
Iceland was the site of the Cold War showdown in which Bobby Fischer of the
United States defeated Boris Spassky of the Soviet Union in 1972 for the world
chess championship. Last year, Iceland won the U.N.'s "best country to live in"
poll, with its residents deemed the most contented in the world.
No more.
Despite sunny skies Tuesday after three days of unseasonably cold weather,
Reykjavik's mood remained grim — cafes were half-empty, real estate agents sat
idle, and retailers reported few sales.
"I'm really starting to get worried now. Everything is bad news. I don't know
what's happening," said retiree Helga Jonsdottir as she headed to a supermarket.
Icelanders are also beginning to question how a relative few were able to
generate the disproportionate wealth — and associated debt — that Haarde has
warned puts the entire country at risk of bankruptcy.
Iceland's reinvention from the poor cousin in Europe to one of the region's
wealthiest countries dates to the deregulation of the banking industry and the
creation of the domestic stock market in the mid-1990s.
Those free market reforms turned Iceland from a conservative, inward-looking
country to one of a new generation of internationally educated young
businessmen and women who were determined to give Iceland a modern profile far
beyond its fishing base.
Entrepreneurs become its greatest export, as banks and companies marched across
Europe and their acquisition wallets were filled by a stock market boom and a
well-funded pension system. Among the purchases were the iconic Hamley's toy
store and the West Ham soccer team.
Back home, the average family's wealth soared 45 percent in half a decade and
gross domestic product rose at around 5 percent a year.
But the whole system was built on a shaky foundation of foreign debt.
The country's top four banks now hold foreign liabilities in excess of $100
billion, debts that dwarf Iceland's gross domestic product of $14 billion.
Those external liabilities mean the private sector has had great difficulty
financing its debts, such as the more than $5.25 billion racked up by Kaupthing
in five years to help fund British deals.
Iceland is unique "because the sheer size of its financial sector puts it in a
vulnerable situation, and its currency has always been seen as a high risk and
high yield," said Venla Sipila, a senior economist at Global Insight in London.
The krona is suffering in part from a withdrawal by a falloff in what are
called carry trades — where investors borrow cheaply in a country with low
rates, such as Japan, and invest in a country where returns, and often risks,
are higher.
After watching the free-fall for several days, the Central Bank of Iceland
stepped in Tuesday to fix the exchange rate of the currency at 175 — a level
equal to 131 krona against the euro.
Haarde said he believed the measures had renewed confidence in the system. He
also was critical of the lack of an Europe-wide response to the crisis, saying
Iceland had been forced to adopt an "every-country-for-itself" mentality.
He acknowledged that Iceland's financial reputation was likely to suffer from
both the crisis and the response despite strong fundamentals such as the
fishing industry and clean and renewable energy resources.
As regular Icelanders begin to blame the government and market regulators,
Haarde said the banks had been "victims of external circumstances."
Richard Portes of the London Business School agreed, noting the banks were
well-capitalized and had not bought any of the toxic debt that has brought down
banks elsewhere.
"I believe it is absolutely wrong to say these banks were reckless," said.
"Quite the contrary. They were hugely unlucky."
