Before 2008, Iceland, the tiny nation (population 320,000) in the North Atlantic, was mostly known as the volcanic island home of singer Björk. But that all changed in 2008 as news of Iceland's economic crisis and financial ruin came to light. The country had a depressing laundry list of woes: "The local stock market plunged 90 percent; unemployment rose ninefold; inflation shot to more than 1.8 percent; the country’s biggest banks all failed," Bloomberg wrote.
But now, five years later, Iceland is much admired for the way it has bounced back from its economic devastation, boasting seven quarters of GDP growth that other EU nations haven't seen in years. Unemployment, after topping 9 percent, has recovered to a healthy 5 percent. Small businesses, encouraged by tax breaks and other incentives, are in turn reviving sectors and encouraging Icelandic consumers to shop locally. Observers from economist Paul Krugman to the Fitch credit ratings agency have approved, with Fitch reporting, “Real GDP growth prospects for this year are markedly more positive in comparison with rated peers such as Ireland and Spain.”
More than that, however, is the way Iceland has gone about what Krugman calls “the Icelandic sort-of miracle.” When the financial crisis hit, Iceland was hit harder than most. Rapid expansion of its three banks, mostly with the help of money borrowed from foreign sources, had led to them owing a total of nearly 10 times the entire country’s GDP. When the banks ran out of borrowing options as global credit contracted, they failed. That’s when Iceland did what other nations didn’t. It let them.
Not Too Big To Fail
Rather than bailing out the banks, the central bank allowed them to fail, leaving in the lurch millions of individual savers in other countries, who had been lured by the high interest rates Iceland banks offered. Instead of paying off these creditors, Iceland employed its financial resources to pay off the loans it arranged form the International Monetary Fund and to relieve distressed Icelandic homeowners of mortgage debt. The result, said Krugman, supported the wisdom of “letting creditors of private banks gone wild eat the losses.”
Iceland did more, refusing to let billions of dollars in foreign currency assets out of the country. It also defied hedge funds that had purchased its failed banks’ debts at steep discounts, anticipating profits when the government made good on them. Some hedge managers had made quick billions with similar speculations on debts of bankrupt U.S. financial institution Lehman Brothers, which foundered like the Icelandic banks in the 2008 meltdown.
Five years later the hedge funds are still waiting to get a penny from their Icelandic debt investments, and the government is suggesting that they’ll get little, if any. Sigmundur Davíð Gunnlaugsson, who was elected prime minister in April with mortgage relief as a key element of his platform, has compared foreign creditors’ demands to “oppression” and said Icelanders are no more likely to submit than their fierce Viking forebears.
The Buy Local Factor
Iceland's attempts take back its economy from banking and corporate interests also hinged on a familiar concept around the world: buying local. In 2009, Steingrímur J. Sigfússon, then the country's finance minister, worked to pass a number of bills that focused on making the country more attractive to startups and smaller business, including tax breaks and R&D refunds, Icenews.is reported. The efforts have worked, with a number of companies thriving and hiring locals. In the case of Vík Prjónsdóttir, a high-end fashion design line, its presence has helped reinvigorate the country's wool industry, which all but virtually shutdown in 1995.
"Our ambition was to show a fresh image of the Icelandic wool industry by developing new products with traditional Icelandic materials. When we started, wool wasn't very trendy,” explains Guðfinna Mjöll Magnúsdottir, one of the company's designers, in an interview with The Reykjavík Grapevine. "But these days wool is making a comeback. People are using local raw material once again and daring to build on tradition."
Thanks to these micro and macro changes, business owners in Iceland are once again enjoying being able to borrow money to expand, according to The New York Times. And based on their experiences, Iceland's model looks like a more agreeable option to the rest of the world’s slow and uneven slog back to prosperity. It’s of special interest to nations such as Ireland and Spain that have been plagued by much more stubborn downturns since the crisis.
Would It Work Globally?
Iceland isn’t the first nation to tie up foreign capital and refuse to repay foreign loans. In 2001, well before the recent crisis, Argentina defaulted on $95 billion of foreign debt and, with cash-conserving motivations similar to Iceland’s, limited imports, nationalized companies and banned currency purchases.
But not everyone thinks it’s a good idea to follow Iceland's lead. “There are few other countries which could even consider such an alternative,” says Margaret Bogenrief, co-founder of Chicago financial advisory firm ACM Partners. Iceland is no Argentina, much less Ireland or Spain. It’s small (more than 50 U.S. cities have larger populations), geographically isolated, has no standing army and isn’t a member of the European Union, she notes.
If nothing else, few countries could muster the political will to take such drastic steps, Bogenrief says. Much of that will sprang from resentment of the previous administration’s hiking Icelandic interest rates to 18 percent, which was required by the terms of its IMF loan. “By voting out this government, the Icelandic people essentially rejected absorbing the stress of the banks’ debt and the corresponding demands from the worlds’ financial institutions to be held hostage by this situation,” Bogenreif says.
Iceland is highly homogeneous, with few immigrants from other countries or other minorities. And its location fosters a sense of independence from the rest of the world, that supports greater willingness to defy outside expectations, she says.
Aside from its feistiness, Iceland has significant economic advantages, including some not readily apparent. Although its economy and exports are dominated by fishing, it has enormous hydroelectric and geothermal energy resources. That’s led power-hungry industries like aluminum refiners to invest heavily there, as well as lured data centers and other environmentally sensitive technology enterprises who want to reduce their carbon footprint by using renewable energy. The country also has a solid tourism industry, helped by its rugged and sometimes spectacular terrain and favorable currency exchange rates.
While letting banks fail and helping homeowner citizens rather than foreign debt speculators has some fans, and the approach seems to have worked well so far for the nation’s economy, to many observers the Iceland near-miracle provides food for thought, but not a precise template for recovery. “I think other countries will fall prey to the idea that 'if it worked there, it will work here,' but there are few other nations for which such a solution will work,” Bogenreif says.
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