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Here is something that did not surprise me at all today.

The UK government, it appears, knew perfectly well that the Icelandic banking system was heading for a meltdown – as recently as March 08. But it did nothing to help out some of the UK savers.

Back then, the Icelandic government was seeking help for its banking system as the confidence was starting to collapse and it needed money. Mervyn King, the governor of the Bank of England, commissioned several reports to assess the state of the Icelandic banking sector, and refused to help out when the results that came back were – predictably – not very reassuring.

Failure to act: Discussions earlier on in 2008 on the possibility of turning UK operations of Landbanksi, the now-collapsed bank, into a UK subsidiary, did not reach any conclusions. This means that whilst the UK government was aware of the impending danger to Landbankski’s UK savers, it failed to negotiate a status change for this branch which would have meant savers would have been covered by the UK deposit protection scheme when the collapse inevitably happened. It failed to act to aleviate the inevitable fallout.

Liberal Democrat treasury Vince Cable is now calling for an inquiry to understand the extent of UK government’s knowledge about the forthcoming crisis.

The government has recently confirmed that it will back private investors’ money, but this leaves charities and local councils at risk of losing all their money.

The savings debacle: Now, a huge amount of charities and public sector bodies have their money locked in collapsed Icelandic banks. Here is the quick list of councils that caught out in the meltdown.

Some councils have been warned: It appears that many did have a prior warning about the impending danger. Landsbanki, Glitnir and Kaupthing bank were all downgraded in Feb – March 2008 by credit rating agencies. The confidential advice to move savings elsewhere was passed to many councils by their advisor, Sector Treasury Services.

Some acted on this advice and moved the investments; some could not, as money was locked in long term deposits. Others – and this is the shocking bit – continued ignoring financial advice and even increased deposits made. This, unfortunately, just confirms some council’s incompetence in financial management.

Read more details here.

So, tell me something I did not know? The UK government that is wilfully closing its eyes to the inevitable and refusing to act early, and UK councils that do not competently manage their money. What a shambles.

 

Copyright 2008 by CuriouslyInspired

As the BBC reports,

Iceland has suspended trading on its stock exchange in an attempt to prevent further panic spreading throughout the country’s financial markets.

Iceland’s stock markets will be shut down at least until start of next week. The reason for this unprecedented move is to give the government some breathing space to decide what to do next, and attempt to take the panic out of financial markets by simply keeping everyone away for a while.

This leaves Iceland in “good company” with Russia, whose stock markets were shut most of Wednesday due to huge falls in share prices, and for at least an hour on Thursday. In contrast to Wednesday, Russian stock markets were temporarily closed due to massive gains. Lucky them (but will it last?)

Collapsed banks update: Iceland is in a total financial mess with all its top three banks either nationalised or in receivership. Glitnir, which the government was aiming to part-nationalise earlier, is now in the hands of liquidators, as the government realised it was in too much trouble for the state to take on. Now Kaupthing, the largest bank of the three banks most in trouble, has been nationalised in addition to others.

Cause of troubles: I wrote about the causes of Iceland’s troubles very recently. “Troubles” is a bit of an understatement. People in the capital Reykjavik have already staged one demonstration this week and there is bound to be more civil unrest to come. Iceland might not have money left to import food stuffs for starters, so the collapse of the financial sector will have a very real impact upon everyone.

War of words with the UK: Gordon Brown and the Iceland’s PM Geir Haarde are engaged in a bitter battle of words at present. The UK has large investments in Iceland accumulated over the period of the Icelandic financial market boom. Now that the bubble has collapsed and banks have gone bust, Gordon Brown wants some guarantees that Iceland will honour UK savers’ deposits in collapsed Icelandic banks, as UK taxpayers will otherwise have to foot the bill in addition to bailing out British banks. Usually Iceland would have offered a guarantee of $28,400 per account but this has not been forthcoming in this case for the UK investors. The UK Government froze Iceland’s top bank Landsbanki’s financial assets in the UK. Icesave, the online savings bank with 300,000 UK customers, is a subsiduary of Landsbanki.

Geir Haarde is retaliating by saying, as Bloomberg reported today, that

the U.K. government is to blame for triggering the crisis when it used anti-terrorism laws to seize the assets of Icelandic banks in the U.K.

Iceland is also extremely unhappy that none of its usual Western partners have been forthcoming to lend it any money to help in its current crisis. It has had to look to other partners, including Russia and the IMF (International Monetary fund), to obtain money.

The row between the two PM’s is not serving to calm the panicked markets. The UK share prices is in freefall today and the pound is also falling against many key currencies.

Icelandic Currency collapsing: Iceland’s currency, the krona, was pegged to the euro before the crisis hit, at a rate of 131 krona per euro. Now that the government has stopped attempts to support the falling currency and formally abandoned the peg as unsustainable, trading conditions before markets shut down indicate that the currency is now worth about 255 krona per euro. That is a 91% drop in the value of the krona over the course of less than 2 weeks.

Bankruptcy: What is happening is pretty unprecedented for this country: Iceland is now facing bankruptcy. It is not in a position to repay the debts its banks have clocked up.

 

Copyright 2008 by CuriouslyInspired

Yesterday was a very, very bad day on European stock exchanges, with key indices sliding down massively. To give some examples – UK’s FTSE 100 down 7.8% (the largest fall since 1987’s crisis), France’s CAC 40 down 9%, Germany’s DAX down over 7%, Russia’s RTS down over 19% resulting in Russian stock markets being shut down today again. Asian markets were also sharply down. There are more market casualties – Fortis (a Dutch-Belgian bank) and Hypo Real Estate (a German bank) – and seeking urgent rescue either through cash injections or a quick merger.

Iceland continues to struggle under the weight of its massive banking crisis, trying to avoid national bankruptcy, with the second largest bank Landsbanki now being nationalised – this is in addition to Glitnir about which I wrote recently. Thus, this week the US economic calamities have been demonstrated to well and truly impact global markets – not that we have doubted this earlier.

Cause of the panic: The European stock market slide is attributed to the lack of a coordinated economic front amongst EU’s governments which does nothing to restore confidence in the system at the time when emerging economic data is implying that US is entering a recession. US’s recession will impact the world’s economy due to its global nature. European governments are pursuing their goals in isolation and cannot have seen the depth of the crisis we are about to enter. According to this article, we are staring into the abyss of a systemic collapse, with markets at risk of closure. One recommendation is for the European central bank to lower its interest rate immediately and start acting like the lender of last resort to companies in trouble. Lowering the rate of interest should kick off inflation, one side effect of which will be to reduce the real value of outstanding debt, making debt obligations easier to bear.

UK is also showing deteriorating economic figures, prompting statements that it too is now technically in recession. Meanwhile, European countries are introducing their own measures to address the credit crisis and resulting stock market plunges, but there is no overall agreed policy. This must be reflective of a panic that set in amongst governments, each trying to protect their own skin in the eyes of the very concerned electorate by introducing quick measures. Divided, they stand. Read the rest of this entry »

I did not know much about the economy of Iceland until 2 days ago and confess I still only know the basic facts. And unless you are from Iceland or have a specialised interest in North European economies, you are probably in the same boat, my reader. However this issue captured my interest yesterday in light of my recent note an outside chance of US Government bankruptcy linked to the bailout – as I was trying to contemplate its impact.

A small economy: Sure, Iceland is a very small economy, but it is – or was? – a well-off country. Its population is about 300,000 as of mid-2007 but boasting a (purchasing power parity) GDP of $40,400 per head of population. It compares very well to UK’s $35,000 and US’s $45,800 per capita GDP. (source: CIA statistics referred to in Wikipedia, 2007 estimates). For the number-crunchers amoungst you, this is a GDP of $12bn. Another figure quoted sometimes is £20bn. This is calculated using a different method – using an official exchange rate – but is also a valid number.

Days of plenty and the outcome: In the past few years the Icelandic economy has been undergoing a huge boom fuelled by the financial sector. Iceland paid high interest rates so was very attractive to investors. Its banks were finding it easy to borrow heavily from low interest rate countries, and then re-invest in foreign business opportunities (mainly the UK). The BBC described this phenomenon as the carry trade. This development can be seen as a manifestation of the global credit bubble finding another outlet to develop over the past few years.

Huge debts: As the result, Icelandic banks managed to accumulate $120bn worth of liabilities. Depending on the method of calculation, this is either 6 or 10 times the GDP amount and it is a catastrophically high figure. Why is this a problem? Because Iceland does not have the income to service interest payment on such a colossal figure, let alone repay it. So the Government will not be able to bail out everyone who needs a helping hand.

Just a few days ago, the 3rd largest bank Glitnir has been nationalised. The other 2 largest banks are currently running the risk of bankruptcy with no bailout to rescue them.

This was expected: Concerns have been voiced over the past few years over the unsustainable nature of the financial boom and many have been warning this was a bubble that was bound to burst in a nasty way. Well, it has now, triggered by the collapse in confidence following September events across the global stock market. The Icelandic currency, the crona, has now fallen 20% against the dollar in the past few days. Inflation is expected to spiral shortly and shops in the country already warned they won’t be selling imported goods anymore. The impact will hit foreign investors if their loans are defaulted on. In particular, UK investors are vulnerable.

On the plus side for Iceland, its Government finances are healthy, and its the non-financial sector is reported to be solvent. How this small nation will weather an unprecedented global financial storm that has broken over its head in the last few days remains to be seen.

Comments and thoughts on this post welcome.

Copyright 2008 by CuriouslyInspired

I stumbled across a great article this morning which explains very well how Central banks (the Fed, the Bank of England, etc) operate on the money markets to inject liquidity into the system in order to stabilise it. This prompted me to consider the bigger question why money and credit is important in an economy.

Central banks and monetary policy: Typically Central banks aspire to maintain a certain target interest rate, and tighten credit (reduce it) when rates are too low, or increase the money supply when the rate is too high when rates are too high. This does not mean printing money: purely issuing notes and coins without reference to economic conditions can and does lead to inflation which, when excessive, is very damaging to the economy (it is outside the scope of this note to consider what is deemed “excessive” or what drives inflation in the first place, although some degree of inflation seems inevitable and healthy). Instead Central banks buy or sell short term Treasury bonds to primary banks (the likes of Goldman Sachs) to manipulate liquidity.

Central banks thus influence available credit through its dealings with primary banks and not small regional banks. If primary banks ceased to exist, e.g. if they went bust, Central banks would lose this existing tool of influencing available total money in the economy.   Read the rest of this entry »

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