Iceland’s banks faced a battle for survival yesterday, after the country’s government introduced emergency legislation to give the government sweeping new powers over its collapsing financial sector.
The government’s attempt to wrest control of the increasingly dire situation and restore some confidence in the country’s hard-hit banking sector followed a day of panic on Monday that saw trading in shares of major banks suspended and the Icelandic krona fall a quarter against the euro.
Icelandic Prime Minister Geir Haarde warned late on Monday that the heavy exposure of the tiny country’s banking sector to the global financial turmoil was raising the specter of “national bankruptcy.”
Iceland is paying the price for an economic boom of recent years that saw its newly affluent companies go on an acquisition spree across Europe and its banking sector grow to dwarf the rest of the economy.
Bank assets are nine times annual GDP of 14 billion euros (US$19 billion).
Investors are now punishing the whole country for the banking sector’s heavy exposure to the global credit squeeze — its currency has gone through the floor, imports have fallen and inflation is soaring.
A major fear is that the government will struggle to rescue any other failing banks after last week coming to the rescue of the country’s third-largest bank, Glitnir.
“In the perilous situation which exists now on the world’s financial markets, providing the banks with a secure life line poses a great risk for the Icelandic nation,” Haarde said in a televised address to the nation. “There is a very real danger, fellow citizens, that the Icelandic economy, in the worst case, could be sucked with the banks into the whirlpool and the result could be national bankruptcy.”
The new laws will give the Central Bank of Iceland and the Icelandic Financial Supervisory Authority detailed and vast authority to intervene in the control and operation of Icelandic financial institutions, including the ability to take over or create new institutions, call shareholder meetings and limit the authority of boards.
Haarde told reporters that the government would not be closing banks, but foreshadowed the government taking control of more banks.
“We will not be closing banks but it is conceivable that some of them will not be able to function without our authorities intervening,” he told reporters, declining to name any potential candidates.
Earlier on Monday, the Icelandic Financial Supervisory Authority suspended trading in financial instruments issued by Kaupthing, Landsbanki, Glitnir, Straumur-Burdaras, Exista and Spron, saying that “uncertainties regarding the issuers are likely to disrupt normal price formation, and as such, any trading could be detrimental for investors.”
The government also put 100 percent guarantees on savers’ deposits, following in the footsteps of Ireland, Germany, Austria, Greece and Denmark.
A collapse of the Icelandic financial system could also have ramifications across Europe given the heavy investment by Icelandic banks and companies across the continent.
One of the country’s biggest companies, retailing investment group Baugur, now owns or has stakes in dozens of major European retailers — including enough to make it the largest private company in Britain, where it owns a handful of well-known stores such as the famous toy store Hamley’s.
Kaupthing, Iceland’s largest bank and one of those whose share trading was suspended on Monday, has also invested in European retail groups.
Part of problem is that Iceland’s tiny size has led to a high level of cross-ownership of assets between banks and companies, which creates a house of cards scenario.
In that eventuality, the central bank with its liquid foreign assets of just US$5.5 billion will be hard pressed to make any more bailouts — the big four banks have combined foreign liabilities in excess of US$137 billion.
Those concerns led all the major credit ratings agencies to downgrade Iceland’s sovereign, or government, credit rating last week.
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