May 7, 2021

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When ICELAND was on the verge of GOING BUST

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what exactly happened in the country

that was

at the time the sixth richest country on

the planet and the third richest if you

include micro states of monaco

lichenstein and san marino so

that suddenly at the end of 2008

everything was on the verge of

collapsing

what happened in iceland that made it

the first developed economy in more than

30 years to ask for help from the

international monetary fund in october

2008.

when we think of the great recession of

2008 we automatically think of wall

street and the real estate bubble

however the scenario that unfolded on

this island nestled in the icy waters of

the north atlantic was a totally

different experience

within a few months iceland a country of

just over 350 000 inhabitants

faced chaos a near total collapse what

we’re going to tell you in this video

that we’ve made together with value

school is the story of one of the

biggest financial bubbles of all times

the story of a country that in just a

few years went from being a place known

for fishing

gazers and volcanoes to becoming an

international financial center are you ready to join us on the cold

shores of the island known as the land

of

fire and ice well let’s get started

reykjavik 2007 the icelandic capital

traditionally known for being the

world’s most northernmost capital and

having the oldest active parliament

is now also a hotspot in financial

circles that’s partly thanks to the fact

that

the icelandic economy is experiencing a

golden age

since 2003 economic growth has averaged

6.4 percent

annually the local stock index the ice x

has just touched 7

900 points since the lows at the end of

2001 the icelandic stock market has seen

an

average annual revaluation of almost 60

percent

at this time in 2007 icelanders have

become the real kings of the party

their wealth is growing steadily and

house prizes in the capital have tripled

in just over three years

more range rovers are sold in the

country than in sweden and denmark

combined

despite the fact that these countries

have a combined population almost 50

times larger than iceland’s

the countries multinationals banks and

major investors are buying up companies

around the world

real estate assets and even soccer teams

and that’s not all the average family is

now three times richer than it was in

2003 just four years ago it is the

icelandic

economic miracle

but wait a minute stop more than 10

years have passed since these unusually

golden years in iceland can we really

say that it was a miracle what caused

this economic explosion what was behind

such a frenzy listen up

the bank run

do you understand the origins of this

whole story we have to go back to 2003

the country’s big banks had just been

privatized and

at that time interest rates in the us

and the euro zone were much louder than

in iceland this scenario was taken

advantage of by the three

largest icelandic banks landsbanki

bernard banky

and kelp thing to intensively develop a

banking operation known as carry trade

which consists of borrowing at a low

interest rate and then investing in

assets that generate higher interest

rates

in this particular case icelandic banks

took advantage of the country’s high

sovereign debt rating and also of having

the community banking passport iceland

is not a member of the eu but is a

member of the european economic area to

borrow in euros short term and to lend

long term in iceland where rates were

already higher and that’s not all

you see this same process also had

another consequence iman and the banks

had to sell the euros they received to

buy krona fast gradually raising their

exchange rates and so in order to

prevent the corona from appreciating too

much the central bank of iceland

constantly increased the money supply to

such an extent that it ended up

increasing almost six-fold in just five

years this in turn led to rising

inflation in the country which

for example drove up the value of assets

and thus the supposed solvency of

banking operations and so the cycle

repeated

it was a seemingly roundabout business

that soon attracted many foreign

investors as well and exactly the same

thing was also done by icelandic

companies and households they borrowed

abroad to acquire assets at home

houses stock exchange assets vehicles

etc etc this phenomenon is precisely

what explains the huge revaluation in

house and stock market prices that we

mentioned earlier

well the fact is that in this context

the icelandic banks exploited the

abundant liquidity in the international

markets as much as they could to repeat

this process again and again and again

even from 2006

onwards icelandic banks working through

subsidiaries branches on the mainland

and also through online media started to

aggressively market to retail customers

in eu countries such as the netherlands

and the uk

the so-called icesave deposits with the

basic feature being relatively high

rates and when this was not enough

either they began to ask for billions

from central banks

including the european central bank all

this led to a 12-fold increase in the

size of their assets in less than a

decade
thus as you can see in this graph the

assets of the three main icelandic banks

amounted to an impressive

10 times the national gdp so that you

can get an idea of a huge hole that

could be created if things went wrong

icelandic banks owed huge amounts of

money mostly in foreign currency and on

a short-term basis in other words they

were forced to constantly refinance this

debt

and of course as international market

conditions become more difficult due to

the financial crisis and the real estate

bubble in countries such as the united

states the situation of icelandic banks

became very sticky

very quickly customer term deposits

began not to be renewed the wholesale

funding market between banks known as

the interbank market began to close

amid a huge wave of growing distrust the

european central bank for its part

stopped lending to icelandic banks

because of their risk

and to top it all off the rating

agencies were slashing their ratings

the situation deteriorated very quickly

and the central bank of iceland reacted

by raising interest rates to 15

to prevent capital flight and it seemed

to work at first but when lehman

brothers collapsed in september 2008 and

panic took hold of the markets

everything came crashing down it was as

if a nuclear bomb had exploded in

iceland’s financial system

remember that these banks in order to

maximize the profitability of carry

trade strategies finance themselves very

short-term in order to lend

long-term the result is that they had to

constantly refinance themselves but of

course when that was no longer possible

and they were forced to repay huge

amounts of money in foreign currency

that they did not have the banks were

suddenly faced with an imminent collapse

97 of the banking sector collapsed in a

matter of

three days gudrun johnson member of the

commission

studying the crisis in iceland

keep in mind also that unlike other

countries the gigantic amount of debt

incurred by the banks made any

government bailout totally unthinkable

it was simply not feasible

so at this point banks had to start

liquidating their chrono-denominated

assets to repay loans in euros and

dollars

in other words they sold huge amounts of

krona to buy euros and dollars on the

markets to pay off their debts this

depressed the price of the kroner

something that was aggravated by the

massive outflow of capital from

international investors that began to

take place

it made perfect sense that no one wanted

to have their money in bankrupt

icelandic banks

to give you an idea during 2008 the

coroner lost almost 85 percent of its

value

suddenly banks companies and households

had assets in krona that were worth less

and less and huge amounts of debt in

euros dollars pounds or swiss francs

they didn’t even have the money to

import goods now at this point the

question that comes up is how on earth

did iceland cope with this kind of

cataclysm what kind of measures did they

take what was the cost of this brutal

collapse

well let’s take a look a clean slate

in october 2008 when it all blew up

iceland’s external debt was equivalent

to 500

of gdp and 32 times the foreign exchange

reserves of the country’s central bank

it was practically a perfect storm and

the financial system was truly broken

to deal with this difficult situation

the government passed the so-called

emergency law number 15

2008 which among other things empowered

it to take control of the banks and make

the decisions it deemed appropriate with

respect to their management

well once control was taken it was

decided to incorporate and

capitalize three new banks to which the

national assets and liabilities as well

as the healthy assets of the three large

failed banks could be transferred the

idea was that these banks could operate

at the same time

as the old ones were liquidated

of course at the time it was a very

controversial decision and the fact is

that

in this way what the government did was

basically to bail out the deposits of

icelandic savers while leaving some 6.7

billion euros of british and dutch

investors deposits trapped in the old

banks the situation that prompted the

united kingdom to apply anti-terrorism

laws to freeze icelandic assets to

secure payments

in the end an agreement was reached

foreign depositors were given priority

in the liquidation which allowed them to

recover their savings this was not

achieved by the rest of the creditors

and bondholders

then secondly the government asked for

help from the international monetary

fund which dispersed some 2.1 billion

u.s dollars to help stabilize the

icelandic economy this amount was

supplemented by

bilateral financing lines from other

countries this may not

seem like a lot of money but remember

that we are talking about a country of

just

over 350 000 inhabitants

and finally the third major measure that

was taken with the intention of

stabilizing the currency was to

establish capital controls this was done

to limit capital outflows

which would prevent the coroner from

promoting further these were the three

major crisis response measures taken by

the icelandic government

over the years initiatives were also

taken such as partial write-offs for

over-indebted families and companies for

example mortgage balances

exceeding 110 of the value of the home

were forgiven for its part the

government also cut non-financial public

spending substantially by 12.7 percent

which was one of the largest adjustments

of all

oecd countries

this is how total disaster was avoided

and it was achieved largely thanks to

the help of the international community

however

this was a strategy that created many

myths but with the numbers in hand it

had a very significant

impact a steep

bill

iceland’s exit from the crisis brought

with it huge waves of myths but the

truth is that

looking at the data the public bailout

of the financial system was the second

largest of all developed countries only

behind ireland

in total the government and the central

bank had to disperse more than 3.24

billion euros to clean up the financial

system we’re talking about 20

of gdp and around 7 370 dollars per head

almost 23

600 on average for a family of three

people not to mention of course the huge

capital losses of families or the really

bad years that icelanders went through

until things stabilized

in short this is a story of the great

crisis that almost sunk iceland the fact

that it did not happen was because this

country was one of the richest in the

world and also because it had generous

international assistance

in any case what we have seen is the

story of one of the greatest financial

crises of all time but now it’s your

turn

how do you think a country can protect

itself from financial crises

any ideas leave us your answer in the

comments and you know if you found this

video interesting please don’t forget to

hit the like button and many thanks once

again to our friends at value school for

their help in preparing this video all

the best

see you next time and if you want to

learn more about politics and hear even

more of my lovely voice

you can join us at reconsider media we

have a podcast at reconsider media.com

podcast see you there

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