27th Oct 2016


Iceland to Cyprus: 'People should not pay for speculators'

  • Reykjavik: Iceland's banking crisis bears many parallels with Cyprus (Photo: Johannes Jansson/

On the night of 6 October 2008, Thorfinnur Omarsson got a phone call. He had just quit his job at an Icelandic TV station and was looking forward to a "quiet time" as he was about to go back to study. It did not turn out that way.

"All banks in Iceland went bust over night. The economy ministry didn't even have a spokesperson at the time, so they called me to offer me a job, as some 200 foreign journalists were flying into the island," Omarsson recalls.

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He became spokesman "on the spot", out of a sense of duty for his country, first for a month and then stayed on until May 2009.

Omarsson, who currently works in Brussels as a spokesman for the humanitarian NGO Caritas, sees many similarities between what happened in Iceland and the current situation in Cyprus.

"In Cyprus the size of the banking system was eight times the gross domestic product (GDP), in Iceland it was 14 times. It was absolutely impossible to try and save that," Omarsson told this website.

Capital controls were imposed immediately to prevent foreign investors from taking their money out of the country. Even with the restrictions in place, the kroner dropped by 100 percent against the euro.

With the pre-crash foreign investments still frozen on the island, Omarsson sees Iceland's recovery still "on thin ice" - as foreign investments represent half of the country's GDP.

"With elections coming up in three weeks, some parties are thinking about giving hedge funds and banks who still hold Icelandic bonds no other option than to write them off. The number one party in the polls is the most aggressive in this regard, advocating for writing these assets largely off and, in turn, lowering people's mortgages on households," Omarsson said.

One big difference between Cyprus and Iceland is that the Mediterranean island - as part of the eurozone - cannot devalue its currency as the Nordic island did.

"Our recovery is a typical case based on currency devaluation. Then the exports get more competitive on fish or aluminium sold abroad, also services and tourism got a boost as prices dropped in Iceland," the former spokesman said.

"But we can't forget who's paying for all that - it is the citizens in Iceland, because inflation doubled while salaries stayed the same. We don't pay with high unemployment, but with lower salaries," Omarsson added.

Long history of capital controls

Iceland's experience with capital controls goes back to long before the financial crisis of 2007-2008. The island imposed similar restrictions already in 1931 and kept them in place until 1994, Olafur Margeirsson, an economics student working on his PhD at the University of Exeter said.

"Up until 1960, there were also import controls, meaning that you needed permission from the government to buy apples or underwear from abroad. It was very cumbersome and absolutely disastrous for the economy," Margeirsson said.

Gylfi Magnusson, an economics professor brought in to serve as economy minister between 2009-2010, told EUobserver that the capital controls Iceland introduced are less "dramatic" than the ones in Cyprus.

"It will probably be easier for Cyprus to lift its capital controls, as it can rely on support from the European Central Bank. But the current restrictions in Cyprus are far more damaging on the domestic economy than the ones we had," Magnusson said.

Capital controls in Cyprus apply to daily transactions for local people and businesses alike - something that was not the case in Iceland - where restrictions applied only to foreign bondholders.

"It is a horrible situation for the people in Cyprus to have lost their confidence in the banking system. Keeping these capital controls is not something sustainable in the long run. You can't have a modern economy where businesses and depositors cannot freely use their money," the former minister said.

As an outside observer, Magnusson said the response of the eurozone to the Cyprus crisis "seems as if there was no plan and they just made it up as they went along. First a bad idea, then another - this is not going to help build confidence in the system."

Eurozone finance ministers, the European Commission, the ECB and the International Monetary Fund initially agreed with Cyprus to tax all deposits in order to come up with an own contribution of €5.8 billion in return for the €10bn EU-IMF bailout. The plan was rejected by the Cypriot parliament and later changed to have deposits below €100,000 protected from any levy.

Eurogroup chief Jeroen Dijsselbloem and ECB chief Mario Draghi both admitted the initial plan was a "bad idea" and defended the current deal which has one of the largest banks - Laiki - wiped out completely and its deposits under €100,000 transferred to the country's largest bank, which will also be restructured.

With tough years ahead and no possibility to devaluate its currency like Iceland, Cyprus may have been better off outside the eurozone, Magnusson said.

"I would not recommend Cyprus to leave the euro now, even you can wonder in hindsight if it was reasonable to join. Rather, get the capital controls lifted so domestic payments can work again properly, sit down and figure out what to do to shift the burden from locals who lost a lot in a very unfair manner to a more equitable solution," Magnusson said.

As for the offshore business model that Cyprus thrived on for decades, he predicted "it will certainly survive and move elsewhere."

"It will be fascinating to see what comes out of the Offshore leaks," Magnusson said, in reference to a trove of leaked names of individuals and banks with offshore accounts obtained by the International Consortium for Investigative Journalism.

"We can only hope this leads to a reduction in these activities, which are no benefit to society. It would be better for these tax havens to find other business models that are less damaging to the countries where all these tax revenues are fleeing from," he said.

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