The Executive Board of the International Monetary Fund (IMF) completed and approved today the sixth and final review of Iceland's Economic Recovery Programme, supported by a Stand-By Arrangement, making the country the first to complete such a program following the international financial recession. The objectives have been met and the successful collaboration between Iceland and the IMF has drawn considerable attention.
The Executive Board of IMF originally approved the Icelandic government's recovery programme on 19 November 2008. Today's decision by the Board will release the final loan disbursement, equivalent to ISK 51 billion. Previous disbursements total the equivalent of ISK 200 billion. In addition, Iceland was granted drawing rights by Nordic countries and Poland in connection with the programme which totalled ISK 150 billion.
The successful collaboration between Iceland and the IMF has drawn considerable attention. The objectives have been met, and economic stability has been achieved after "a perfect storm", in the words of one IMF representative in Iceland in October 2008. Now the country is on a road to recovery.
The financial system has been restructured, Treasury finances have been adapted to a completely transformed environment and the state's access to international funding markets was confirmed in a successful bond issue June this year. The principal objectives of the Economic Recovery Programme have been achieved. These objectives concern:
- Financial stability
- Adaptation of state expenditure
- Safeguarding welfare-related spending to mitigate the impact of the recession
- Restructuring of the financial system
- Household and corporate debt workouts
- Restoring confidence in the Icelandic economy
Financial stability secured
The country's economy has picked up. Forecasts anticipate growth of almost 3% this year. The ISK has held relatively steady, although still at a low level, while access of financial undertakings and the private sector in general to foreign funding is limited. Through currency controls high ISK instability has been avoided, which has assisted in reining in inflation, resurrecting the financial system and restructuring household and corporate finances. The policy rate is currently 4.5%, after reaching a high of 18% in November 2008. The surplus on external trade in goods and services is sizeable. While unemployment is still high, it has fallen more rapidly than anticipated and is at its lowest point since the collapse. Purchasing power is increasing once more and is currently at its highest level since October 2008.
Major fiscal achievements
The fiscal programmes drafted by the Icelandic state and IMF have been fulfilled so far. Following the turnaround in state finances since the collapse of the banking system in 2008, the Treasury's primary balance is forecast to be positive in the current fiscal year (on an accrual basis) and an over-all budget surplus is expected to be reached within the next 2-3 years. Debt levels have been stabilised at a lower level than expected, and the net debt level, currently close to 44% of GDP, is already lowering and will do so further over the coming years.
The objective of closing the budget gap and achieving fiscal sustainability has been achieved with a mixed methodology of reducing expenditure and increasing revenue. The cutbacks have intentionally and successfully protected the welfare system and revenue increases have spared low-income earners. Further Treasury indebtedness was prevented and debt as a proportion of GDP will decrease in the coming years. In light of this success and to further encourage the economic recovery, the State budget has now been revised and adapted to circumstances, in collaboration with the IMF. This is intended, among other things, to provide leeway to accommodate wage increases resulting from the collective bargaining agreements of the past spring.
A revised fiscal consolidation plan for the medium term will be presented in parallel to the submission of the budget on 1 October this year.
Restructuring of the financial system
The greater part of the financial system has been restructured following its complete collapse. The resulting outlays for the State are considerably lower than original forecasts indicated, and net costs to the Treasury are expected to be modest. Icelandic financial institutions have been adequately capitalised. Rules and supervision have been reviewed from the ground up and this work will continue.
Wide-reaching actions to resolve household and corporate debt problems
Among the most pressing tasks included in the Economic Recovery Programme is the restructuring of household and corporate debt. A comprehensive agreement between residential mortgage lenders and the government was concluded at year-end 2010, including the debt reduction of overly indebted households, increased interest benefits and interest rate subsidies etc. At the same time, an agreement was concluded on the restructuring of debts of Small and medium enterprises.
In the wake of the banks' collapse, confidence in the Icelandic economy evaporated.
On the basis of the so-called Emergency legislation the commercial banks were placed in orderly winding-up proceedings, new banks were established to ensure a functioning banking and finance sector, negotiations with creditors to the old banks were concluded in 2009, who now own a significant share in the new Icelandic financial system.
The renewed confidence in the Icelandic economy is i.a. manifested in that CDS spreads on Iceland's sovereign debt, which soared to a peak of 1,400 bp in the aftermath of the collapse, but are currently around 260 bp and have been on a downwards path.
Further evidence of renewed investor confidence is evident from the successful Treasury bond issue in June this year, which demonstrated the strong interest of foreign institutional investors in Iceland.