When there are hardly enough hours each day to deal with pressing issues, this author is likely not the only one who tends to become preoccupied with the task at hand. It's easy to forget to stop a moment, to step back and gain a better perspective of people and events, to look back on the road travelled and look forward beyond the horizon. In this and several subsequent articles, an attempt will be made to rectify this, for my part at least. The complaint has been heard, and is not completely unjustified, that currently there is not enough leadership and foresight in Icelandic politics. For more than one reason. The sheer magnitude of the setbacks which have hit Icelandic society in the last few years have meant huge, and hugely difficult, tasks for the government, politicians and practically the entire social infrastructure to deal with. And we are all still grappling with the repercussions of these disasters, uncertain as to how things will play out and sometimes searching for direction. Which is understandable enough, given the scope of the setbacks arising from the banking system collapse and the resulting damage, financial, social and psychological. Business, politics, the media, the regulatory system – all of them and much more – failed us. Icelanders feel badly cheated and, unfortunately, justifiably so. What is not supposed to happen and must not happen – happened.
Causes of the banks' collapse
No few words have been spoken and written on the causes of the banks' collapse in Iceland in the autumn of 2008. The report of the parliamentary Special Investigation Committee is naturally a key document here. It revealed major flaws that need to be dealt with seriously and with determination by politicians, administrators and regulators. The behaviour of the bank magnates and corporate cowboys is in a class by itself, but it would be too simple and too glib to place the entire blame in that camp. The problem goes deeper than that, and is rooted no less in ideological factors than in individual failures.
Neoliberal ideology managed to sneak in and make a home for itself in Icelandic politics, defining the reference criteria in public debate. This serves to explain the causes of the banks' collapse in three main aspects. Firstly, the claim that the private sector could generally do everything better than the state and was the optimal choice for most activities. Secondly, the belief in an “invisible hand” steering market mechanisms which would look after correcting themselves. And thirdly, that due to the unquestioned intrinsic rationality of the market, there was no need to regulate it or such regulation should be kept to an absolute minimum. We have now seen that all three of these assumptions were wrong. In addition, society underwent a “greed-ification”, in line with the ideology that a profit should be made on everything, whether it was a coronary by-pass, hot water or mandarin oranges. To top it off, Icelandic politicians and businessmen had an endless supply of overblown self-confidence. Reckless arrogance, blind faith in their own business acumen, an underdeveloped moral conscience and complete lack of healthy self-criticism did nothing to help.
Asleep at the switch
One could say that critical thinking was all but forgotten, not only in business, but also in the media, public administration and the general public debate. When the accumulation of national debt rose to a threatening level (Iceland's net external debt exceeded 100% of GDP soon after the beginning of the new century), there were precious few to voice concern, and even fewer who expressed support for them. In 2006, when the current account deficit reached 26% of GDP, the chorus of cheerleaders for the good times had never been louder. All the same, you hardly need to be an expert to realise something is wrong when these sort of meters reach the danger zone. One could ask why no one was on their guard. Never before were so many people employed in financial services and other businesses, many taking home supersalaries, and never before had so many people poured out of business schools. But clearly neither was enough to provide informed and critical debate, or even help us steer a safe course.
The difference in public debate then and now, however, is striking. No longer does anyone deny that enormous economic mismanagement occurred in the early years of this century, in particular from the national elections of 2003 onwards. Scarcely better is the heedlessness and inaction that the Special Investigation Committee has spotlighted. Finally confusion, at times aggravated by denial, took over, leaving few options open when 2008 arrived.
Overgrown banking system
It can be difficult but healthy to recall just how extensive the collapse was in Iceland in terms of the size of the country's economy. The direct consequences of the banking collapse on state finances were enormous. A fiscal surplus of ISK 89 billion in 2007 was replaced by a deficit of ISK 216 billion in 2008, in other words a reversal of over ISK 300 billion. Losses suffered by foreign parties as a result of what happened here have yet to be finally determined, but are not likely to be less than ISK 7000 billion. Figures this high are difficult to comprehend in a country whose GDP is around ISK 1500 billion, or where the value of the catch hauled in by a freezer trawler on a good outing amounts to ISK 100 million and where the total annual healthcare budget is around ISK 100 billion. There have been claims that the collapse of the three Icelandic banks are the seventh-, ninth- and tenth-largest bankruptcies in history. Quite an achievement for such a tiny economy.
Impact on the Treasury
Topping the state's list are lost claims (insolvency of the Central Bank) costing ISK 192 billion in 2008. The cost of refinancing commercial banks and savings banks is close to ISK 200 billion, plus additional subordinated loans provided, although admittedly there are offsetting assets in this case. Treasury financing costs have soared (from ISK 22.2 billion in 2007 to ISK 84 billion in 2009), in addition to which plunging revenues and increased expenditure have placed the primary balance in deficit. Naturally, these figures are interrelated to some extent, but are revealed most clearly in the Treasury's balance sheet position. At year-end 2007, gross Treasury debt amounted to ISK 560.5 billion, or 43.1% of GDP. This rose to ISK 1,198.5 billion in 2008, or 81.1% of GDP, then to ISK 1,566.4 billion at year-end 2009, or 104.4% of GDP, and was at a similar level at the end of Q1 this year, at ISK 1,535.5 billion (99.3% of GDP). All the figures reflect current prices and the percentages of GDP that year. In layman's terms, this means simply that the collapse hugely inflated the Treasury's debts and expenditures while its revenues shrank sharply. Leaving a yawning gap between revenue and expenditure.
The Treasury's net monetary assets during this same period developed as follows: In 2007 they were positive by ISK 22.2 billion or 1.7% of GDP. At year-end 2008 the balance was negative by ISK 238.5 billion, or -16.1% of GDP, and at the end of Q1 this year it was ISK -516.8 billion – or -33.4% of GDP.
Loss of money, loss of hope
Not included in this are the assets which evaporated, the loss in real value. Huge amounts of share capital became worthless and property values collapsed. What remained were battered and overindebted businesses and thousands of households whose debts had been heavy enough earlier and were now daunting, if not completely unmanageable. Access to foreign financial markets was practically closed, credit ratings and terms of credit deteriorated, that is, if any willing lenders could be found. Doing business in many respects became more costly and more difficult (e.g. additional guarantees were needed for payment or cash was demanded). All trust evaporated, to be replaced by pain, disappointment and anger that erupted and spread through society. In other words, the damage that could be measured was enormous and widespread, and the non-quantifiable damage no less so.
Steingrímur J. Sigfússon
The author is Minister of Finance in Iceland.
English translation by Keneva Kunz