Thursday, October 10, 2013

Iceland Runs out of Cash

As the news are filled with the US government shutdown as well as the debt ceiling debate, I pointed out to one of my colleagues over lunch today that the US is not the only worthless country we are dealing with. We were joking around about the embarrassment the leaderless White House is forcing upon the US and how pathetic the pending short-term solution is.

One of my colleagues asked me which country I am talking about as the US is obviously front and center being the second biggest economy in the world and fast destabilizing. A little hint was all that was necessary before the somewhat forgotten problems out of Iceland have resurfaced.

It is a rather small and insignificant island nation and the impact on the forex market are almost non-existent from a direct approach. Their currency, the Kronur, is thinly traded and most don’t pay too much attention to it. Despite its tiny size, Iceland used to be the fifth wealthiest economy before it collapsed.

It is only small example of what the US is facing. Iceland grew wealthy thanks to its rapidly growing financial system which heavily relied on debt to finance its plans. At some point the banks serviced a balance sheet which was ten times the size of Iceland’s GDP.

The three main banks which defaulted in Iceland where: Kaupthing Bank, Glitnir Bank and Landsbanki Islands which back in 2008 defaulted on $85 billion worth of debt. The GDP of Iceland is around $14 billion which shows the immense size of the banking system Iceland nursed during its heydays.

The central bank in Iceland put capital control measures in place in order to protect a flight of capital out of Iceland which would have ripped the island nation into pieces. The move was unpopular but required in order to try to protect the country while allowing a gradual servicing of debt payments.

Prime Minister Gunnlaugsson wants foreign creditors to accept write-downs as soon as capital control measures are lifted which could be a hard sell, but he may make it a requirement before moving forward. Foreign creditors hold roughly $7.2 billion worth of debt which they can’t access due to the capital controls.

The reason why I pointed out that Iceland is back on page 14 is that a new report shows that the private sector is running out of cash to service its debt. It is estimated that non-government non-Kronur debt totals $5.8 billion through 2018, according to the central bank in Iceland. A shortfall in cash of 20% of GDP over the next five years is expected as cash surpluses are estimated to come in at less than 50% of the outstanding debt.

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