Iceland on the Brink? Options for a Small, Financially Active Economy in the Current Financial Crisis Environment
Daniel Gros
Chapter 12 in Preludes to the Icelandic Financial Crisis, 2011, pp 276-289 from Palgrave Macmillan
Abstract:
Summary Iceland has developed an oversized banking system — with assets valued at eight times its GDP which has effectively transformed the country into a hedge fund. Domestic banks have borrowed heavily abroad to buy foreign banking assets, leveraging their capital base several times over. As a bust is following the global boom in the banking sector, the country is highly exposed to the current crisis. The lender of last resort in Iceland would not be able to save even one of the large domestic banks should write downs in the value of foreign assets bring any one of them into difficulties. Other European countries with financial centres have either avoided becoming lender of last resort for their banks (Luxembourg) or accumulated large foreign assets as a cushion (Switzerland). By contrast, Iceland’s extremely high net foreign debt ratio adds to the vulnerability of the country, which thus resembles a hedge fund with negative capital. Moreover, Iceland has experienced a construction/housing boom even more extreme than in the US or the one now ending in Spain. This exposes the country to the classical combination of an exchange rate cum banking crisis coupled with a long real estate bust. Exchange rate devaluation can provide only limited compensation for the housing construction bust that seems unavoidable because Iceland is a rather closed economy, with manufacturing exports accounting for less than 10 per cent of GDP.
Keywords: Exchange Rate; Euro Area; Real Exchange Rate; Banking Sector; Hedge Fund (search for similar items in EconPapers)
Date: 2011
References: Add references at CitEc
Citations: View citations in EconPapers (1)
There are no downloads for this item, see the EconPapers FAQ for hints about obtaining it.
Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.
Export reference: BibTeX
RIS (EndNote, ProCite, RefMan)
HTML/Text
Persistent link: https://EconPapers.repec.org/RePEc:pal:palchp:978-0-230-30714-8_12
Ordering information: This item can be ordered from
http://www.palgrave.com/9780230307148
DOI: 10.1057/9780230307148_12
Access Statistics for this chapter
More chapters in Palgrave Macmillan Books from Palgrave Macmillan
Bibliographic data for series maintained by Sonal Shukla () and Springer Nature Abstracting and Indexing ().