Five Years On: 2008-2013

The 2008 collapse of the Icelandic banks has already generated some myths. One is that the Icelandic banking sector was overgrown. There is no such thing as an overgrown banking sector. All depends on the area which the sector is serving and the institutional support it can expect to receive. Switzerland, Belgium, Luxembourg and the United Kingdom had banking sectors that were roughly as big proportionally as that of Iceland, and these sectors did not collapse. Another myth is that the Icelandic bankers were more reckless than their colleagues elsewhere. But if they were, how did they then find customers, not only depositors, but also renowned financial institutions like Deutsche Bank? And when we read about HSBC being fined for money laundering and Barclays for libor rate-fixing, and about the excesses of the RBS management, the Icelandic bankers begin to appear, not exactly as choirboys, but rather as normal bankers. The third myth is that the collapse of the Icelandic banks was caused by “neo-liberalism”. It is left unexplained what exactly would be the causal connection, but the crucial point surely is that the Icelandic banking sector operated under precisely the same legal and regulatory framework as banking sectors in other member-states of the European Economic Area, EEA. Therefore, this is a myth, not a plausible explanation.

 

What did then cause all the Icelandic banks to collapse, while most other banks survived? The Special Investigation Commission, SIC, of the Icelandic parliament correctly identified a systemic risk in the Icelandic situation: “Of all the business blocks, which had borrowed liberally in the Icelandic banking system, the most conspicuous one was business associated with Baugur Group. In all three banks, as well as in Straumur-Burdaras, this group had become too large an exposure. The SIC considers that this has constituted a significant systemic risk, as collapse of one enterprise could affect not only one systematically important bank but all the three systematically important banks. The financial stability, therefore, would be significantly threatened by, for instance, Baugur Group, which had as indicated in the report, … substantial liquidation problems in the latter half of 2008.” What happened in Iceland was that in 2004, the leader of Baugur Group, businessman and adventurer Jon Asgeir Johannesson, became the most powerful man in Iceland, after his critic, David Oddsson, stepped down as Prime Minister. The market capitalism of 1991–2004 was transformed into the crony capitalism of 2004–2008. Not only did Johannesson and his cronies control two-thirds of the retail business, they also owned almost all the private media and one of the three banks, while having good access to the other two banks. It did not seem to make any difference to opinion-makers that Johannesson was investigated, indicted and convicted for breaking the law on business practices, being given a three months suspended prison sentence.

 

The other systemic risk in the Icelandic situation was that the area the banking sector served—the whole of EEA—was much larger than the area where it could depend on institutional support. This created a mismatch, or a system error. The problem was not that the banks were too big; it was that Iceland was too small. But it did not occur to anyone at the time that Iceland would, unlike all other European countries, be left totally to its own devices. The death knell of the Icelandic banking sector really sounded on 24 September 2008 when the US Federal Reserve System announced that it had made currency swap arrangements—essentially a license to print dollars—with the central banks of Sweden, Norway and Denmark. It became obvious to the financial markets that Iceland was not included, although it remained a secret for a while that Iceland’s Central Bank had indeed asked to participate, but that it had been refused. In the following months, the American Fed made currency swap deals with the Swiss for $466 billion and with Denmark for $73 billion. This enabled the central banks of these countries to bail out banks like UBS and Credit Suisse in Switzerland and Danske Bank in Denmark. Without these currency swap deals, these banks would probably have folded. In other words: the Icelandic banks collapsed, because they did not receive the same support as banks in larger countries. They were not blameless—one of them being controlled by Johannesson, and the other two betting heavily, and inexplicably, on him—but they were not to blame for an old ally, and the mightiest state in the world, abandoning Iceland. I am not saying, either, that the banks should have been bailed out—the refusal to help Iceland was probably a blessing in disguise—but only that almost all banks in other European countries obviously needed support to survive.

 

The British Labour government made things worse when it closed down the two banks in England owned by Icelanders on 8 October, the same day it bailed out almost all other banks in the country, including banks being investigated for rate-fixing and other questionable practices. Simultaneously, the Labour government took the drastic step of invoking the British anti-terrorism law against one of the Icelandic banks, with the almost instantaneous effect that all money transfers to and from Iceland stopped. For a while, Iceland’s Central Bank and the Treasury were also on the list of terrorist organisations, alongside Al Qaida, the Talibans and the governments of North Korea and the Sudan. It is still not fully explained why the British government took this extraordinary action against a NATO ally which did not even possess a military. The official explanation was that the authorities acted on a suspicion that a lot of money would otherwise be transferred from England to Iceland. This is what happened just before the demise of Lehman Brothers in September: About $8 billion were transferred from London to New York, under the nose of the British authorities. But at that time, of course, the British government did not put the Fed nor the American treasury on a list of terrorist organisations. However, no credible evidence has been presented for any attempt illegitimately to transfer money to Iceland. Probably, an important factor was that Labour ministers thought that bullying the defenceless Icelanders made good politics. Be it as it may, the use of the anti-terrorism law made any attempts to rescue what was left of the Icelandic banks hopeless. In the light of what happened in those dark October days five years ago, it was astonishing to see David Miliband—Foreign Minister in the government which had put Icelandic institutions and companies on a list of terrorist organisations—being fawned upon by Icelandic dignitaries when he gave a talk at the University of Iceland 26 September 2012, conveniently letting it be known in advance that he would not take questions about disputes with Iceland.

 

For the Icelanders, accustomed to peace and prosperity, the collapse of the banking sector was a huge shock. They did not realize until later—or even not at all—that in fact seven European countries were hurt worse than Iceland by the financial crisis. The political repercussions were serious. In came a government of petty, vengeful left-wingers. Central Bank Governor David Oddsson, the former Prime Minister and the only Icelandic person of authority who had consistently warned against the financial adventures of Johannesson and his cronies, was driven from his post, and Geir Haarde, the Prime Minister at the time of the collapse, was indicted (whereas the Social Democratic ministers were not). Later, Haarde was acquitted on all but one trivial count, that he had not held enough ministerial meetings before and during the crisis. The left-wing government gave in to demands from the British Labour government that Icelandic taxpayers should reimburse it for having (unilaterally) paid out money to depositors in so-called Icesave accounts in England, operated by one of the Icelandic banks. The Icelandic position, forcefully argued for by Oddsson, had been that Icelandic taxpayers were not liable for transactions between foreign depositors and Icelandic banks: It was the Insurance Fund for Depositors and Investors, set up properly under EEA regulations, that was liable, and if it could not pay out, it was its problem, not that of Icelandic taxpayers. The negotiations with British officials were carried out with extraordinary ineptitude by the Icelandic left-wingers in power: it was as if they became weak at their knees by even hearing a foreign language spoken. However, the Icesave deals made between the Icelandic and the British governments were twice struck down by Icelandic voters. In the end, the EFTA court decided in early 2013 that Iceland had not been liable at all, only the Insurance Fund for Depositors and Investors. This contributed to the rout of the left-wing parties in the 2013 elections, the Social Democrats dropping from 29.8% of the votes to 12.9%.

 

So, what did we learn? That we should both reject the crony capitalism of 2004–2008 and the petty, vengeful socialism of 2009–2013, and try to return to the healthy market capitalism of 1991–2004 where the major objective is to create opportunities for individuals to better their condition by their own effort.

(Grein í Grapevine fimm árum eftir bankahrunið 7. október 2013.)