LESSONS FOR EUROPE FROM THE 2008 ICELANDIC BANK COLLAPSE HANNES H. GISSURARSON www.europeanreform.org @europeanreform Established by Margaret Thatcher, New Direction is Europe’s leading free market political foundation & publisher with offices in Brussels, London, Rome & Warsaw. New Direction is registered in Belgium as a not-for-profit organisation and is partly funded by the European Parliament. REGISTERED OFFICE: Rue du Trône, 4, 1000 Brussels, Belgium. EXECUTIVE DIRECTOR: Naweed Khan. www.europeanreform.org @europeanreform The European Parliament and New Direction assume no responsibility for the opinions expressed in this publication. Sole liability rests with the author. AUTHOR TABLE OF CONTENTS 1 INTRODUCTION 6 2 IMPLAUSIBLE NARRATIVES ON THE COLLAPSE 8 3 DID THE CENTRAL BANK FAIL? 14 4 THE SPECIAL INVESTIGATION COMMISSION 21 5 A PROBLEMATIC REPORT 28 Hannes Holmsteinn Gissurarson 6 THE ROLE OF EUROPEAN CENTRAL BANKS 39 Born in 1953, he holds a D.Phil. in Politics from 7 THE US FED REFUSES TO HELP 49 Oxford University and is Professor of Politics at 8 THE CLOSE-DOWN OF ICELANDIC BANKS IN THE UK 59 the University of Iceland. The author of more than a dozen books on political philosophy, 9 THE USE OF AN ANTI-TERRORIST ACT AGAINST ICELAND 74 history and current affairs, he is the research 10 FIVE LESSONS FROM THE ICELANDIC BANK COLLAPSE 85 director of RNH, the Icelandic Research Centre SOME BOOKS IN ENGLISH ABOUT THE COLLAPSE 93 for Innovation and Economic Growth. New Direction - The Foundation for European Reform www.europeanreform.org @europeanreform Lessons for Europe from the 2008 Icelandic bank collapse Hannes H. Gissurarson later, one of the three major Icelandic banks, Glitnir, The bank collapse came as a shock to the Icelanders, and 1 reached the conclusion that it would be unable to at the end of 2008, a Special Investigation Commission meet forthcoming obligations and, therefore, asked (SIC) was appointed to find out what had happened. for a €600 million emergency loan from the CBI. But some did not want to wait for its report, and after INTRODUCTION unprecedented street riots for weeks, the Social Instead of extending an emergency Democrats turned their back on their loan to Glitnir against a less coalition partner and formed a minority than solid collateral offered, government on 1 February 2009 he 2008 Icelandic bank collapse was agenda of liberalising the economy. He remained the CBI advised that the with the Left Greens. They called spectacular. Iceland, a prosperous, peaceful Prime Minister until 2004, becoming Foreign Minister government would buy for new elections, in which the T but tiny Nordic country suddenly found for a year, after which he was appointed Chairman 75% in the bank for €600 two parties won a huge victory, herself under siege, first from hedge funds, and then of the Board of Governors at the Central Bank of million, in the hope of while the Independence Party from her neighbours and long-time allies who not Iceland (CBI). The privatisation of the banks was calming the international suffered a debacle. The first only denied liquidity help to her struggling banks in completed in 2003. The new owners hired young and markets. It could not have action taken by the minority the international financial crisis of 2007 and 2009, ambitious managers who hit on a singularly fortuitous chosen a worse time. On government was to drive but also invoked an Anti-Terrorism Act against her, moment: the financial markets were full to the brim Monday 29 September, Oddsson and his two colleagues putting her in the same category as the Taliban, of cheap money, and in addition Iceland, as a result when the recapitalisation out of the CBI. The SIC presented Al-Qaida, Sudan and North Korea. In the course of prudent fiscal and monetary policies since 1991, of Glitnir was announced, the its report in 2010, assigning blame of three days, 6–8 October 2008, all three major enjoyed a good reputation internationally. This implied international credit crunch had to three government ministers, Prime Icelandic banks fell. Icelanders were not even sure good credit ratings for the Icelandic Treasury and turned into a major financial crisis Minister Haarde, Finance Minister Arni M. whether they would be able to import vital food improved the credit ratings for the newly privatised with banks all around the world on the Mathiesen and Business Affairs Minister Bjorgvin and medicine. To add insult to injury, the British banks. Consequently, from 2004 to 2005 the bank brink of collapsing and governments hastily pumping G. Sigurdsson, the three CBI governors and the director and Dutch governments, with the connivance of managers and their major customers among Icelandic money into their economies. Credit lines to the Icelandic of the IFSA.3 On the basis of the SIC report, a narrow the other Nordic countries, were able to prevent all businessmen started a major expansion abroad, banks were cancelled, and a run started on deposits. majority in Parliament decided to charge Haarde alone assistance from the International Monetary Fund borrowing money in financial markets and lending it The CBI, under Oddsson’s leadership, advised ‘ring- with negligence. Eventually he was acquitted of all major (IMF) unless the Icelandic Treasury guaranteed to Icelandic businessmen for foreign investments. fencing’ the Icelandic economy – as illustrated on this charges but found guilty of a technicality: that he had the obligations of the Icelandic Depositors’ and page – and transferring the domestic operations of not put the impending banking crisis on the agenda of Investors’ Guarantee Fund (IDIGF), at the time Early warnings that the Icelandic banks might get into the banks, both deposits and assets, to new banks, cabinet meetings. estimated to be an enormous financial liability, difficulties were heard in late 2005. It was pointed out putting the foreign part into resolution if necessary.2 probably locking Iceland in a debt prison for that it would be beyond the capacities of both the The government hesitated for a few days, as the Social The case against Haarde was widely regarded as decades. The Icelandic government reluctantly CBI and the Icelandic Treasury to rescue them in the Democrats, the junior partner in a coalition presided grossly unfair, and after the two left-wing government bowed to pressure, but in two referenda Icelandic case of a credit crunch. The banks suffered a setback over by the Independence Party leader, Geir H. Haarde, parties suffered a heavy defeat in 2013, a new voters rejected deals based on the British and Dutch in early 2006, not least as a result of negative reports were reluctant to adopt Oddsson’s proposal. Finally they coalition government of the Independence Party and demands, and in 2013 Iceland won her case before and the common perception of their vulnerability. But went along with it. An ‘Emergency Act’ was passed by the Progressive Party appointed Haarde as Iceland’s the EFTA Court. No less spectacular has been the while they did no longer enjoy easy credit in European Parliament on 6 October, giving the Icelandic Financial Ambassador to the United States. Mathiesen had by rapid Icelandic recovery. In 2017 Iceland again joined markets, they were able to continue expanding by Supervisory Authority (IFSA) full authority to take over then become Assistant-Director General of the Food the ranks of the world’s most prosperous countries, selling bonds in the United States, by obtaining credit banks and making claims by depositors priority claims and Agriculture Organisation (FAO), the highest with a flourishing economy and profitable new banks from the European Central Bank (ECB) through their on the estates of the banks which were now falling position an Icelander has occupied in international established on the ruins of the failed ones. Luxembourg subsidiaries and by starting to collect by the day: Landsbanki in the evening of 6 October, organisations, while Oddsson had become editor of deposits in various countries, most importantly in Glitnir in the evening of 7 October and Kaupthing in the Morgunbladid, a leading newspaper and the Icelandic The saga of the bank collapse was short, but eventful.1 the United Kingdom and the Netherlands. This made evening of 8 October. There had been a weak glimmer ‘journal of record’. But still the debate rages in Iceland In 1991 the Independence Party leader, David Oddsson, them, however, unpopular in European central bank of hope that Kaupthing, the largest bank, would survive, over the causes and consequences of the bank had formed his first government with the explicit circles. And when the international credit crunch but when the British Labour government closed down collapse. Perhaps there are some lessons to be drawn started in August 2007, they found it difficult to its London subsidiary KSF in the early afternoon of 8 for Europe from this Icelandic saga. refinance themselves. In vain the CBI tried to make October, it triggered loan covenants and brought about currency swap deals with European central banks the fall of the Icelandic parent company. 1 In the following report I draw on a report I finished in 2017 for the Icelandic Ministry of Finance on foreign factors in the Icelandic bank (except the three Scandinavian central banks) and the 3 Pall Hreinsson, Sigridur Benediktsdottir and Tryggvi Gunnarsson, collapse. I also have to declare an interest: I was, and remain, Oddsson’s US Federal Reserve Board. The death knell sounded Skyrsla rannsoknarnefndar Althingis um addraganda og orsakir falls friend, and I often advised him during his tenure as Prime Minister. I was islensku bankanna 2008 [Report of the Special Investigation Commission a member of the Board of Overseers of the CBI from 2001 to 2009. But on 24 September 2008, when the US Federal Reserve of Parliament on Events Leading Up to and Causes of the Icelandic Bank what is important is not the affiliation of the author, but the strength of his Collapse] (Reykjavik: Althingi, 2010).