Iceland Gets $2.1 Bln Loan From IMF to Rescue Economy (Update4)
By Tasneem Brogger and Helga Kristen Einarsdottir
Oct. 24 (Bloomberg) -- Iceland secured an emergency bailout loan of about $2.1 billion from the International Monetary Fund after the collapse of the island's banking system paralyzed much of its foreign exchange market.
``This program will enable us to secure funding and gain access to the necessary technical expertise required to stabilize the krona and to provide support for the development of a healthier financial system,'' Prime Minister Geir Haarde said at a press conference in Reykjavik today. ``Iceland will commit to a sustainable long-term economic policy.''
The economy of Iceland, the first western nation to seek aid from the fund since the U.K. in 1976, faces a prolonged period of contraction, possible hyperinflation and rising joblessness. Gross domestic product will shrink as much as 10 percent next year, forecast Paul Thomsen, head of the IMF delegation to Iceland, at a press conference.
``It's practically unheard of that a western European country that was at one time rated AA is going into IMF-led exercises,'' said Luis Antonio Maglanoc, head of global credit research at Bayerische Hypovereinsbank in Munich, before the announcement. ``Of course in hindsight, it looks like Iceland was doomed.''
Encourage Lending
The agreement must be approved by the IMF board in Washington. Iceland will be able to draw $833 million immediately after the board's approval, the government said in a statement, and hopes the deal will ``encourage'' lending from other sources. Neighboring Nordic governments have signaled they may provide aid to the Atlantic island after it comes under IMF management.
``The approximate need for the next two years would be $6 billion,'' including the IMF loan, Thomsen said. He said in an interview the government will take its case for help to a meeting of Nordic finance ministers in Helsinki on Monday. Japan was also involved in the negotiations, he said, and the Russian authorities have reiterated an earlier statement that they may also help.
``Iceland has put together an ambitious economic program, which aims to restore confidence to the banking system, to stabilize the krona through strong macroeconomic policies, and to help the country achieve medium-term fiscal consolidation,'' said IMF Managing Director Dominique Strauss-Kahn in a statement from Washington. The program ``is focused on the essential upfront measures needed to restore confidence and economic and financial stability.''
Insufficient Support
The government took control of the island's three biggest banks, Kaupthing Bank hf, Landsbanki Islands hf and Glitnir Bank hf this month after they were unable to secure short-term funding. That precipitated the collapse of the krona, with the central bank attempting a currency peg, only to abandon the measure the following day citing ``insufficient support.''
The three banks have together amassed debt worth $61 billion, equivalent to about 12 times the size of the economy, according to Bloomberg data. The government has yet to provide a clear plan on how that debt will be repaid, with Glitnir and Kaupthing already having failed to make bond payments.
According to credit analysts Eileen Zhang at Standard & Poor's, the government is ``ring-fencing'' the domestic interests and ``probably abandoning'' external liabilities, she said in an Oct. 9 interview.
The failure of banks on the island, with a population of only 320,000, is affecting investors and depositors across the globe. Kaupthing is poised to become the first European bank to default in Japan's samurai bond market after investors said the Icelandic lender missed a coupon payment scheduled for Oct. 20. Kaupthing has a grace period lasting until Oct. 27 to honor the obligations.
Just Too Big
``Many investors who were looking at Iceland were not really aware that there were many big problems looming ahead,'' Maglanoc said. ``In a normal country, not Iceland, the three big banks would have been supported, which happens in most European countries. In Iceland's case the banks were just too big.''
The central bank on Oct. 15 cut the benchmark interest rate by an unprecedented 3.5 percentage points to 12 percent, indicating policy makers have given up trying to control inflation. Prices may surge as much as 75 percent in coming months, Christensen estimates.
A nation that was ranked the fifth-richest in the world per capita in the UN 2007/2008 Human Development Index may now face shortages of imports including food and clothing. The central bank on Oct. 10 called on commercial lenders to prioritize foreign currency transactions to cover payment for essential imports such as food, fuel and medicine.
The last western nation to seek IMF support was the U.K. Britain's 1976 application for IMF aid under then Prime Minister Jim Callaghan left the Labour Party in tatters as it was forced to abandon spending pledges it had been voted into office on.
The period of economic turmoil, including a 16 percent slump in the pound against the dollar in 1976, was also pivotal in securing backing for the Conservative Party, leading to the election of Margaret Thatcher in 1979.
Moody's Investors Service had rated Iceland's government bonds Aa1 until Oct. 8 this year. The rating company now ranks the island's state debt A1. Moody's also cut its foreign currency bond rating to Aa1 from Aaa on Oct. 8.
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