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secures $5.1bn bail-out
By David Ibison in Stockholm

Published: November 20 2008 08:56 | Last updated: November 20 2008 08:56 FINANCIAL TIMES

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Iceland on Thursday finally secured a $5.1bn bail out, comprising a $2.1bn loan from the International Monetary Fund and additional loans of up to a total of $3bn from Denmark, Finland, Norway, Sweden, Russia and Poland and the Faroe Islands.
The approval of the loans, which will be used to bolster the country’s foreign exchange reserves, clears the way for Iceland to refloat its currency, regarded as a crucial first step towards restoring its international credibility after its banking system collapsed in October.
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Final confirmation of the multi-billion dollar rescue package marks the official end of a 17-year experiment in free market economics that transformed Iceland from a fishing-based backwater to a booming tiger economy and now to the humiliation of an IMF-led bail out.

The rescue package had been delayed repeatedly until Iceland was able to resolve a bitter dispute with the UK and Netherlands over the amount of compensation it must pay savers in Icesave, the online arm of Landsbanki, a collapsed bank.

Iceland’s currency has lost around 70 per cent of its value since the crisis and international trade in the krona has dried up amid the uncertainty.

The re-flotation is expected to be watched closely, with Iceland braced for a wave of selling by foreign owners of billions of dollars of Icelandic bonds.

The central bank estimates that international investors own up to IKr400bn ($2.9bn, €2.4bn, £2bn) of domestic bonds, and has warned that the tiny North Atlantic nation should prepare itself for a “massive currency outflow”.

Overseas investors are desperate to close huge bond positions that have been frozen since Iceland’s foreign exchange market dried up following the collapse of its banking system.

The central bank will intervene in the currency market to offset the impact of this overseas selling by using its existing reserves of IKr409bn as well as the $5bn rescue package.

Although Iceland has agreed to try to resolve the dispute with the UK and Netherlands over Icesave, the details of this agreement have yet to be decided, but are expected to involve further multi-billion dollar loans.

The terms of these Icesave-related loans as well as the interest rates that will be charged on the loans from the IMF and other supporters have not been released.

But the final debt burden on Iceland as a result of the IMF-led bail out and the Icesave loans is expected to be larger than the country’s GDP, saddling its population with a huge debt repayment burden in years too come.

In the face of the tax increases and recession this will entail, up to a third of Icelanders have said they are considering leaving the island, a move that will exacerbate its problems by reducing the tax take and undermining its entrepreneurial base.