Financial Crisis In Iceland

Chapter 3 – Iceland (Case Study)
Iceland became one of the symbols of the global financial crisis. Before the global financial crisis, Iceland was one of the most stable countries with high standard of living, low unemployment and very low rate of government debt. Iceland became a good example of success stories of globalization and financial deregulation. Iceland was a country that was listed as a “developing country” up until 1973 by the United Nations became one of the wealthiest countries in Europe in a scope of a decade. [Preludes to the Icelandic Financial Crisis by Robert Z. Aliber, Gylfi Zoega]

This all changed on September 29th 2008, when Glitnir, the country’s third largest bank was taken over by the government. In an effort to revive

They issued debt securities in the capital markets with short maturities to obtain the funds necessary to make loans to their customers. Since the loans to their customers had longer-term maturities than their debt securities, Icelandic banks were extremely vulnerable if their credit ratings were lowered or turbulence in the capital markets prevented them from issuing debt securities. Iceland’s small size and sparse population made it difficult for the banks to collect domestic retail deposits. Thus, to feed their insatiable appetite for capital, the banks started to look elsewhere for deposits and ultimately opening online savings branches across northern Europe most notably in the UK and the Netherlands. In a 5 year period the banks’ were able to accumulate liabilities of 10 times the GDP or $120 billion and by the second quarter of 2008, Iceland’s external debt was 9.553 trillion Icelandic Kronur (€ 50 billion), more than 80% of which was held by the banking sector. This value compares with Iceland’s 2007 gross domestic product of 1.293 trillion kronur (€ 8.5 billion). (World Bank) [Iceland Country Study Guide Volume 1 Strategic Information and Developments by IBP,

All three banks had the same business model and to some extent depended on the same macro-economy and were perceived by the international capital markets as being highly related and tightly interconnected (much like Wall Street in the US). This means that a difficulty in one bank can affect confidence in the other banks, which could lead to bank runs. The three main banks were responsible for 85% of Iceland’s financial system and with no doubt their failure would have a catastrophic effect on the economy.

As the interbank lending markets dried up in 2008, following the collapse of Lehman Brothers, Icelandic banks found themselves unable to borrow to cover their short-term financing and it was a matter of days before their collapse which they did eventually.

Iceland’s Lack of