Home Analysis Debt Restructuring the Frontier of Ice and Fire

Debt Restructuring the Frontier of Ice and Fire

Stockholm (Ekonamik) – At a recent event at the residence of the Icelandic ambassador in Sweden, Fossar Markets introduced a select number of investors to a range of sustainable investment opportunities from the volcanic island nation in the icy North Atlantic. Officially qualified as a Frontier Market, this event pricked the curiosity of Ekonamik about how the country’s journey after the financial crisis differed from that of southern European countries.

Back from the Abyss

The event was an opportunity to reintroduce Iceland to Nordic investors, in an effort to attract foreign investment and rehabilitate the country to international capital markets after the events of the financial crisis. On October 2008, Iceland’s then three largest bank, Kaupthing, Landsbanki and Glitnir, with assets of ISK 14.437 trillion (US$ 173.5 billion), went into bankruptcy. On the eve of the crisis, the foreign liabilities of Iceland amounted to ISK 13.520 billion, twice as much as 18 months earlier. Ultimately the unwinding of international liabilities, defaults and associated debt restructurings would only be resolved in 2015 after years of very tense international relations. Capital controls were only completely lifted in 2017, after arrangements had been made to ensure that the decision would not lead to overwhelming capital flight and currency depreciation.

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Contrarily to southern European countries, the resolution of the country’s financial woes has left it in an extremely healthy fiscal position, according to Steingrímur Finnsson, Managing Director at Fossar Markets. “Central government debt-to-GDP has fallen from 88% at the peak of the crisis in 2011 to 30% in 2018. Based on these low debts and deficits we expect a credit rating upgrade for the Republic of Iceland from A- to perhaps AA.” Finnsson is also confident about the overall financial and monetary outlook for Iceland. “Recent current account surpluses make us bullish on the Icelandic Krona. Government bonds are trading at around 4% and credit spreads are wide, which we believe provides opportunities for foreign investors.” Moreover, a year after the capital controls were lifted, MSCI included Iceland in its Investable Market Index, soon to be followed by its inclusion in the FTSE Russell Frontier Market Index. However, the country’s main asset remains its ability to sustainably exploit its geothermal energy sources.

Iceland’s Debt Restructure

The fundamental difference between Iceland’s post-financial crisis experience and that of southern Europe was that Iceland basically restructured its bank debt rather than bailing out its banks, as the southern European countries did. This was among the most contentious issues of the post-crisis period in Iceland but the result is patent in the figure below.

After 2015, the country’s external debt basically falls to 2005 levels. In southern Europe, the debt burden never went away. Instead, the banks were repeatedly bailed out, and the debt burden transferred to the state, where it was mutualised for the whole country to bear it. This was the experience of Portugal and Spain. At the same time, delayed reform allowed interest rates to increase beyond sustainable levels and causing debt servicing costs to substantially add to the debt stock.

Local and Non-Replicable 

One of the standout investment opportunities discussed at the Fossar Markets event was Reykjavik Energy (OR), Iceland’s largest energy provider, whose bonds may potentially be used to fund, among others, CarbFix. a promising carbon capture and storage (CCS) research project. According to the International Energy Agency (IEA), CCS could reduce global carbon dioxide emissions by 19%. The IEA estimates that fighting climate change could cost 70% more without CCS.  CarbFIx has shown a lot of potential in terms of making CSS more affordable and expedient. However, while the capture part of the project seems to be uncontroversial, the storage end of the process require large volumes of desalinated water and specifically reactive minerals, abundant in Iceland but scarce elsewhere.

In a sense, Iceland’s experience with CarbFix is similar to its recovery. While the insights are relevant for all, the solution the country found to this specific problem is not easily transplanted elsewhere. Iceland was a small nation with a large debt burden relative to its tiny economy, with minimal yet connections to the rest of the global economy. Yet even this proved difficult for the country to disentangle itself from. The argument against southern European countries defaulting was always that the disruption this would bring throughout the credit chain across the Euroarea could cause the complete collapse of the regions financial infrastructure. While Iceland’s debt restructure was contentious and controversial its scale was nowhere near what would have happened if Greece, Portugal, Ireland, Spain or Italy had decided to pursue the same course of action.

Picture from Pixabay

Filipe Wallin Albuquerque
Filipe Wallin Albuquerque
Filipe is an economist with 8 years of experience in macroeconomic and financial analysis for the Economist Intelligence Unit, the UN World Institute for Development Economic Research, the Stockholm School of Economics and the School of Oriental and African Studies. Filipe holds a MSc in European Political Economy from the LSE and a MSc in Economics from the University of London, where he currently is a PhD candidate.

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