Iceland How Could This Happen at Iceland th

Iceland: How Could This Happen? at Iceland th s d n e m m co re e rc e m The Chamber of Com countries ic rd o N r e th o h it w lf se it stop comparing respects. st o m in m e th to r o ri e p because we are su February 2008. , e rc e m m o C f o r e b am h Iceland C Thorvaldur Gylfason Conference on Reform Capacity and Macroeconomic Performance in the Nordic Countries, Copenhagen Business School, Copenhagen, 20 -21 September 2013

Overview • Historical background • Relevant comparisons – Denmark, Finland, Norway, and Sweden – Ireland, Portugal, and Greece – Faroe Islands • Gathering clouds, once more – Weakened institutions, failed banks, broken trust: Deep trouble – Uncertain prospects for reform and restoration

History and volatility GDP per capita 1901 -2012 GDP per capita 1870 -2012 (change in % per year) (1990 international Geary-Khamis $) 20, 000 5 0 10, 000 5, 000 -10 -5 -15 18 70 18 81 18 92 19 03 19 14 19 25 19 36 19 47 19 58 19 69 19 80 19 91 20 02 0 Source: Maddison Project. Iceland 10 19 15, 000 Denmark 15 -20 10 19 19 19 28 19 37 19 46 19 55 19 64 19 73 19 82 19 91 20 00 20 09 25, 000 Denmark Finland Norway Sweden Ireland Greece Portugal 20 01 30, 000 er 1980 Ireland caught up aft 19 35, 000 6 5 Standard deviation Denmark Iceland 4 3 2 1 Source: Maddison Project 0 and Statistics Iceland. 1901 -2012 1945 -2012 1960 -2012

Iceland: GDP per capita (1900 -2012, constant prices) 2500 1900 = 100 Actual output Framleiðsla Framleiðslugeta Potential output 2000 1500 Greece 1900: GDP person was similar to that in Ghana today at ppp 1000 Korea Botswana Iceland’s per capita GDP was equal to ca. half that of Denmark in 1900, and had caught up by 1960 China 500 India Ghana 10 05 20 00 20 20 95 90 19 19 85 80 19 19 75 70 19 19 65 60 19 55 19 50 19 45 19 40 19 35 19 30 19 25 19 19 20 15 19 19 10 05 19 19 19 00 0 Source: Statistics Iceland, World Bank World Development Indicators, and author’s computations.

GNI per capita (1980 -2012, current international $, ppp) Nordics Iceland 30000 50000 40000 Ireland Portugal 25000 Norway 30000 Iceland 20000 Sweden Where to look? 15000 20000 üInvestment üExports üEducation üInstitutions 10000 any in Iceland parted comp 10000 2008 01 20 98 19 95 19 92 19 89 19 86 19 83 19 80 19 10 20 07 20 04 20 01 20 98 19 95 19 92 19 89 19 86 19 19 19 83 0 80 0 5000 10 35000 20 Finland Greece 07 40000 20 Denmark 04 60000 45000 20 behind rs e th o ft le s a h y a rw No 70000 Periphery Source: World Bank World Development Indicators.

Hours of work per employee 1950 -2012 Nordics Periphery 3000 2500 2000 1500 Denmark Finland 1000 Norway Ireland Portugal 500 Sweden 10 20 04 20 98 19 92 19 86 19 80 19 74 19 68 19 62 19 56 19 50 19 10 20 04 20 98 19 92 19 86 19 80 19 74 19 68 19 62 19 19 56 0 50 0 19 Iceland 1000 Iceland 500 Greece Source: The Conference Board Total Economy Database™, January 2013, http: //www. conference-board. org/data/economydatabase/

Hours of work per capita 1950 -2012 Nordics Periphery 1800 1500 1200 900 Greece Denmark Finland 600 Iceland Norway 300 Sweden Portugal 300 04 20 06 20 08 20 10 20 12 02 20 00 20 20 98 19 96 19 94 19 92 19 90 19 94 19 96 19 98 20 00 20 02 20 04 20 06 20 08 20 10 20 12 19 92 19 19 Ireland 0 90 0 Iceland 600 Source: Author’s computations based on preceding charts.

GNI per hour worked 1990 -2012 (Current international $, ppp) Nordics Periphery 80 80 Denmark Greece 70 Finland Iceland Ireland 50 Norway 12 20 10 20 08 20 06 20 04 20 02 20 00 20 98 19 96 90 19 12 20 10 20 08 20 06 20 20 19 19 19 04 0 02 0 00 10 98 10 96 20 94 20 92 30 90 30 94 40 Sweden 19 40 Portugal 92 50 Iceland 60 19 70 Source: Author’s computations based on preceding charts.

Unemployment (1980 -2011, % of labor force) Nordics Periphery 18 20 16 Denmark 14 Iceland joined Nordic mainstream Finland Norway 12 Sweden 10 Iceland 16 Ireland 14 Portugal 12 10 8 8 6 10 20 07 20 04 20 01 20 98 19 95 19 92 19 89 19 86 19 19 80 19 10 20 07 20 04 20 01 20 98 19 95 19 19 19 92 0 89 0 86 2 83 2 80 4 83 6 4 19 Greece 18 Source: World Bank World Development Indicators.

Inflation (1961 -2012, consumer prices, % per year) Nordics Iceland: Missed inflation target 301 85 19 89 19 93 19 97 20 01 20 05 20 09 81 19 19 77 61 -10 19 85 19 89 19 93 19 97 20 01 20 05 20 09 81 19 77 19 19 19 73 0 69 0 65 10 61 10 19 20 30 73 99. 95% 19 30 40 69 20 0 40 19 301 Sweden Portugal 50 101 50 Ireland 60 65 Norway 70 19 60 Iceland 20 1 Iceland 901 70 20 0 Finland 80 CBI Inflation target 701 80 Greece % per year CPI 20 0 Denmark 90 501 20 18 16 14 12 10 8 6 4 2 0 20 0 90 -10 Periphery Source: World Bank World Development Indicators.

Banking • Three main banks and Central Bank collapsed – Recapitalization of three commercial banks cost 18% of GDP – Recapitalization of Central Bank cost 18% of GDP • Damage incurred equaled seven times GDP – Foreign creditors, shareholders, and depositors lost five times GDP – Local residents lost two times GDP (stock market was wiped out, pension funds took a big hit) – Public debt rose from 29% to 93% of GDP, or by 64% of GDP – close to world record

Banking • Banks broke the law (SIC report 2010) – Insider trading – Market manipulation – False reporting – Breach of trust – Foreign-currency indexed loans – Local-currency indexed loans? Black, Ferguson, Galbraith, Stiglitz and others make similar claims for the US, with Akerlof and Blinder not far behind • Special prosecutor’s office set up in 2009 – Staff expanded from 3 to 100, with foreign help – 80 cases involving nearly 200 individuals

Banking • No banking strategy in place as yet – Rumors of Russian money laundering before crash – No foreign competition in sight yet – Government has a big stake in Landsbanki, smaller stakes in other two banks – Rumors of selling stakes to, yes, Chinese banks – New government immediately closed down EU accession talks, cozying up instead to China and Russia as well as to Greenland the Faroe Islands – Strict capital controls: No end in sight

Ten largest corporate bankruptcies of all time (USD billion) Source: Financial Supervisory Authority of Iceland.

Bank assets (1990 -2011, % of GDP) Nordics 1990 -2011 1000 Periphery 1995 -2011 1000 Denmark 900 Finland 800 nking crisis a b a e v a h id d d Icelan overed up c s a w it ; 3 9 9 -1 9 in 198 400 300 500 400 300 200 100 11 20 09 20 07 20 05 20 03 20 01 20 99 19 19 95 19 10 20 08 20 06 20 04 20 02 20 00 20 98 19 96 19 94 19 92 19 90 97 0 0 19 Portugal 600 Sweden 500 Ireland 700 Norway 600 Iceland 800 Iceland 700 Greece 900 elandic one, Ic e th e lik n u t, en m rn ve Irish go , at huge cost ks an b e th t u o l ai b to ed decid Source: World Bank World Development Indicators.

General government gross debt (2001 -2012, % of GDP) Nordics Periphery 120 180 160 Denmark 100 Finland 140 Iceland 80 Norway 120 Sweden 100 60 Greece Iceland Ireland Portugal 80 40 60 40 20 20 12 200120022003200420052006200720082009201020112012 20 11 20 10 09 20 08 20 20 07 20 06 20 05 20 04 20 03 20 20 20 02 0 01 0 Hardly. Iceland: Sovereign default? ssibly. Another rescue by IMF? Po Source: Eurostat.

Interest rate spread (1961 -2009, lending rate minus deposit rate, %) -5 -10 petition, m o c n ig re fo t u o h Wit ation z ti a v ri p -15 k n a b ’s d n Icela read failed to reduce sp Denmark Finland Iceland Norway Sweden 02 20 19 98 94 19 90 19 86 19 82 19 19 19 70 19 03 20 06 20 09 00 20 97 20 94 19 19 19 91 0 88 0 85 5 82 5 79 10 76 10 73 15 70 15 78 Periphery 1961 -2005 74 Nordics 1970 -2009 -5 Greece -10 -15 Iceland ece, nd Gre a l, a g u rt o P , d n la Ireland Portugal e In Ir etition p m o c n ig re fo e c fa local banks Source: World Bank World Development Indicators.

Bank nonperforming loans (2000 -2012, % of gross loans) Nordics 45 10 15 10 0 20 20 20 00 0 01 20 02 20 03 20 04 20 05 20 06 20 07 20 08 20 09 20 10 20 11 20 12 5 00 5 06 20 07 20 08 20 09 20 10 20 11 20 12 Iceland’s banks: Still in a class by themselves 15 20 05 20 25 20 Sweden Portugal 20 25 30 04 Norway Ireland 03 30 35 20 Iceland 20 35 Iceland 02 Finland 40 01 40 Greece 20 Denmark 20 45 Periphery Source: World Bank World Development Indicators.

Po l ice 0 l. P m ive rose cu rs ity to r of Ice la nd 0 ia 10 Un 10 k 20 ys te 20 ec 30 Sp 30 an 40 cia ls 40 l. B 50 di 50 Ju 60 A 60 ra 70 FS 70 nt MMR Ce 80 en t 80 m 90 lia 90 Pa r ice te m Po l nd en t la Ice gs ys of m k an l. B a en t m rn ve in nk Ba ity ive rs Un Go ra nt Ce lia ed i M A FS te m gs ys Pa r in nk Ba Trust in Icelandic institutions 2013 (% expressing a lot of trust in institutions) Capacent

Corruption 2012 (Business corruption as measured by Transparency, political corruption as measured by Gallup) e ar k nm De Sw ed e ee c Gr ga tu Po r la Ire la Ice No ed Sw Fin nm De ee c 0 l 0 Gr 10 ga 10 tu 20 Po r 20 nd 30 la 30 Ice 40 nd 40 la 50 Ire 50 Fin 60 No 60 en 70 l 70 nd 80 rw ay 90 en 90 la nd 100 ar k 100 la nd Gallup rw ay Transparency

Exports of goods and services (1960 -2012, % of GDP) Nordics Periphery t up Iceland: Exports sho apsed when the króna coll 70 60 50 120 Greece 100 Iceland Ireland 80 Portugal 40 60 30 92 19 96 20 00 20 04 20 08 20 12 88 19 84 19 80 ugal Greece and also Port closed remain remarkably 19 19 76 72 19 68 19 19 64 0 60 88 19 92 19 96 20 00 20 04 20 08 20 12 84 19 19 80 76 19 72 19 68 19 64 19 19 19 60 0 20 19 10 40 19 Denmark Finland Iceland Norway Sweden 20 Source: World Bank World Development Indicators.

Import volume 2000 -2011 (2000 = 100) Nordics Periphery 200 180 160 140 120 100 Denmark 80 80 Finland 60 60 Iceland 40 Norway 20 Greece Ireland 20 Sweden 03 20 04 20 05 20 06 20 07 20 08 20 09 20 10 20 11 02 20 20 01 20 00 20 11 20 10 20 09 08 20 07 20 20 06 20 05 20 04 20 03 20 02 20 20 20 01 0 00 0 Portugal Source: World Bank World Development Indicators.

Manufactures exports (1962 -2012, % of total exports) Nordics 100 Iceland 90 Sweden 80 70 70 60 60 Portugal 40 02 20 06 20 10 98 20 19 94 90 19 19 86 19 82 0 19 10 78 10 74 20 62 20 h Iceland is decidedly low-tec 19 oil 30 62 19 66 19 70 19 74 19 78 19 82 19 86 19 90 19 94 19 98 20 02 20 06 20 10 Ireland 50 30 19 Iceland 19 40 Norway pays for its Greece 70 50 66 80 Norway Finland 19 90 Denmark 19 100 Periphery Source: World Bank World Development Indicators.

Herfindahl merchandise export diversification index 1995 -2012 0. 9 1995 0. 8 2012 0. 7 0. 6 0. 5 0. 4 0. 3 0. 2 0. 1 0 Sweden Denmark Portugal Finland Greece Norway Ireland Iceland Source: UNCTAD.

Gross capital formation (1965 -2011, % of GDP) Nordics Periphery 40 60 Greece 35 50 Iceland 30 25 Portugal 20 30 15 10 Iceland: Collapse of net investment 30% 09 20 05 20 08 01 20 97 06 19 93 19 10% 89 81 % of GDP 12 20 10 20 20 -10% 04 0% 02 Source: World Bank World Development Indicators. 20% 19 77 19 73 19 69 19 65 19 09 05 20 01 20 20 97 19 93 19 89 19 85 19 81 77 19 73 19 19 19 69 0 65 0 20 Sweden 85 Norway 19 Iceland 20 00 Finland 20 5 Denmark 19 10 19 Ireland 40

Labor force with primary education (1992 -2011, % of total) Nordics 60 50 Periphery Denmark Finland Iceland Norway 90 80 Sweden 70 40 60 50 30 40 20 30 20 ch primary? 10 Greece Iceland Ireland Portugal 10 20 08 20 06 20 04 20 02 20 00 20 98 19 96 19 94 19 92 10 20 08 0 20 06 20 04 20 02 20 00 20 19 96 19 94 19 19 92 0 98 Iceland: Why so mu 19 10 Source: World Bank World Development Indicators.

Labor force with secondary education (1992 -2011, % of total) Nordics Periphery 70 45 40 60 35 50 30 40 25 Denmark 20 30 Finland 20 Iceland 15 Norway 10 Sweden 5 Greece Iceland Ireland Portugal 10 20 08 20 06 20 04 20 02 20 00 20 98 19 96 19 94 19 92 0 19 10 20 08 20 06 20 04 20 02 20 00 20 98 19 96 19 94 19 92 0 condary … se le tt li o to is re e Because th 19 10 Source: World Bank World Development Indicators.

Labor force with tertiary education (1992 -2011, % of total) Nordics Periphery 45 35 30 30 25 25 20 20 15 15 10 10 Portugal 5 10 20 08 20 06 20 04 20 02 20 00 0 92 10 20 08 20 06 20 04 20 02 20 00 20 98 19 19 94 19 19 92 0 96 ducation e ry ia rt te le tt li o … and to 19 5 Ireland 20 Sweden Iceland 98 Norway Greece 19 Iceland 40 96 Finland 94 35 Denmark 19 40 19 45 Source: World Bank World Development Indicators.

Periphery: Banking crises vs. fiscal crises Fiscal measures 2007 (% of GDP) 120 80 60 Iceland Ireland: Crisis spread from banks to budget 1000 140 100 Bank assets 2007 (% of GDP) Central government debt 900 General government expenditure 800 700 Greece and Portugal: Crisis spread from budget to banks 600 500 40 300 20 100 0 Greece Iceland Ireland Portugal In 2012, ca. half of Irish households had negative equity in their houses compared with about a quarter of Icelandic households

Iceland 2008 vs. Faroe Islands 1989 Final comparison Iceland • Root cause: Corruption, esp. incestuous relations among banks, business, and politics • 2009 -2010: GDP fell 10% • No significant emigration yet, this could change • Króna fell by 33% in real terms • Promised constitutional reform, but did not deliver, ignored national referendum • Limited trust: From cohesion to contempt Faroe Islands • Root cause: Corruption, esp. incestuous relations among banks, business, and politics • 1989 -1993: GDP fell 33% • 15% of population fled, a third of which returned later • Fixed exchange rate, tied to Danish krone one-to-one • Promised constitutional reform, but did not deliver, did not hold national referendum Essentially same story

Iceland 2008 vs. Faroe Islands 1989 13 20 12 20 11 20 10 20 20 20 07 20 06 20 05 20 04 20 20 03 50 • Root cause: Corruption, esp. 45 incestuous relations among 40 banks, business, and politics 35 • 2009 -2010: GDP fell 10% 30 • No significant emigration yet, 25 this may change 20 15 ctor knows, • Króna fell by 33% in real terms o d y r e v e To heal, as 10 d e n a • Promised constitutional le c e b t s r fi t s u m ds unnot wodid 5 reform, but deliver, 0 ignored national referendum • Limited trust: From cohesion to contempt 09 Iceland: Trust in parliament 08 Final comparison Iceland