thorvaldur gylfason. agriculture and fisheries: 21% of gdp
Post on 15-Dec-2015
215 Views
Preview:
TRANSCRIPT
Thorvaldur Gylfason
Agriculture and fisheries: 21% of GDP
Share of
fisheriesfisheries fell
from 16% to
7% Share of
servicesservices rose
from 54% to
68% Share of
bankingbanking rose
from 5% to
8%
BeforeBackground and history
DuringWhat the government didOld bank/new bank approach
AfterTen lessons from crisis IMF program and prospects
For decades, government owned the banks In 1930s, leaders of two main political parties sat
side by side on the board of Landsbanki, each representing essentially bankrupt economic interests that went on to divide the spoils (“Socialism of the Socialism of the Devil”Devil”) One of them sat there until the day he died in 1964,
despite serving as prime minister on five occasions Until late 1990s, bank directors and governing
boards were political players, with few exceptions With negative real interest rates and an overvalued
króna, bankers exercised significant power Privatization 1998-2003 ought to have aimed to
sever those connections, but did not fully succeed
Before
Two largest banks were sold in part to well-connected individuals with close ties to the two governing parties (“within calling distance”) The two parties maintained their operatives on the
banks’ governing boards Both banks were sold both at once at prices
deemed modest by the National Audit Office No serious attempt was made to attract foreign
buyers of banks as was done in the Baltics Unlike the Nordics and the Baltics, there is as yet
no foreign competition in Icelandic banking More concentration of industry than among Nordics Large spreads between lending and deposit rates
See my History and context
Iceland’s privatization of its state banks 1998-2003 was mismanaged in ways that contributed to collapse and to weak restraints on bank growth GovernmentGovernment ought to have constrained the banks
through taxes Central Bank Central Bank ought to have constrained them
through reserve requirements Financial Supervision Authority Financial Supervision Authority ought to have
applied more stringent stress tests, appropriate to local conditions
Besides, several earlier episodes of bank problems when banks were state-owned were covered up No accountability
Once freed from government control, the banks kicked up their heels like cows in spring Unprecedented borrowing and lending spree Borrowed short abroad at low interest to make long-
term housing loans at home at unprecedentedly low rates Some loans with variable interest rates after a five-
year grace period, to be renegotiated in 2009 An element of sub-prime lending involved? Perhaps
Banks became international 2007: derived half their earnings from foreign
operations 31 subsidiaries in 21 countries (October 2007) Net interest income: 50%-60% of total (2008, Q1-Q2) Net fee and commission income: 30%-40% of total High return on equity, capital adequacy 10%-11% Deposit/loans ratios 40%-60%, aimed to raise them
“A sound banker, alas, is not one who foresees danger and avoids it, but one who, when he is ruined, is ruined in a conventional way along with his fellows, so that no one can really blame him.” (J.M. Keynes). Icelandic banks copied each other’s business
model, and possibly took on excessive risk
“Daring ideas are like chessmen moved forward. They may be beaten, but they may start a winning game.” (J.W. Goethe) Icelandic banks faced an insignificant home
market, so their choice was essentially to “evolve or die”
Source: Union Bank of Switzerland, December 2007
How did they grow?
Barclays: 100% of Britain’s GDP
Deutsche Bank: 80% of
Germany’s GDP
Source: Union Bank of Switzerland
Mid-2008
Mid-2008
Mid-2008
Mid-2008
Beyond our means, yes, big time:
Investment (housing, hydro-
projects) Consumption (jeeps, jets, Elton
John)
Mid-2008Net External Debt (% of GDP)Net External Debt (% of GDP)
Mid-2008International Investment Position (% of GDP)International Investment Position (% of GDP)
Mid-2008
Three-month Rule
Giudotti-Greenspan Rule
Mid-2008
ISK per USDISK per USD
ISK per EURISK per EUR
Inevitable correction, and overdue
At 2007 exchange rate, recorded
per capita GDP in 2008 would be
USD 70KUSD 70K At pre-crash exchange rate, USD USD
44K44K At post-crash exchange rate, USD USD
35K35K
127
169
Iceland has long been a high-exchange-rate place, for several reasons High inflation Mounting foreign debts Pervasive farm support, also for fisheries High domestic prices of tradable goods (Big Mac
index) Recently, also, carry trade (Ms. Watanabi of
Tokyo) How? Borrow in, say, yen at low interest, buy
krónur, place proceeds in high-interest accounts Pre-crash amount outstanding, due within year:
20% of GDP Needed to be refinanced, this proved impossible Put further downward pressure on króna
See my Skating on thin ice?
Mid-2008
Rapid expansion of money and credit
did not produce commensurate
inflation like in the past because of
imported labor from EEA and
increased flexibility
Even so, inflation was bound to
rise
Mid-2008
Closer Look at 2004-2008 (% per year)Closer Look at 2004-2008 (% per year)
Inflation target
Stock market rose by a factor of 9 from 2001 to 200744% average annual increase six years in a
row World record
Clearly a bubble, and hence unsustainable Even before bank collapse, stock market fell by
more than 50% from 2007 Real estate prices rose by a factor of 2.5
from 2001 to 200811% per year on averageLed to construction boom
Count the cranes! (Professor Robert Aliber)Also, a bubble, unsustainableAccident waiting to happen
Three largest banks (Kaupthing, Glitnir, Landsbanki) saw their stock prices double, and then fall back to square one just before the crash, taking the OMIX15 up and then back down with themBanks accounted for 50% of OMIX15
CDS spreads for the banks rose to stratospheric heights (26 October 2008) Glitnir: 1600Kaupthing: 1500Landsbanki: 1200
For comparison, Barclays: 200
Thin market, some
said, so not
relevant Not justified
by numbers
either, others
claimed
End of September 2008: Collapse First, Glitnir collapsed
Glitnir asked Central Bank for $600 million loan to meet due date 15 days later as foreign credit line had closed; Central Bank refused
Within a week, Landsbanki and Kaupthing also collapsed The three accounted for 85% of the banking system
Government put all three banks into administration Their shares became worthless overnight New bank/old bank approach
New state banks took over deposits and provided domestic banking services, injected new capital into them, also into Central Bank
Old private banks were left with their dodgy assets and foreign debts
Resolution committees were appointed to liquidate old banks In effect, temporary renationalization
Based on Nordic solution, worked well in crisis of 1988-1993
Plan is to reprivatize the new banks, e.g., by exchanging their debts for equity, inviting foreign ownership
during
Were all observers caught by surprise? No For years, some domestic observers had
warned against Excessive credit expansion Excessive credit expansion of banks and
inflation Danger of banking crisis Danger of banking crisis because Central Bank
neglected to build up foreign exchange reserves
Danger of currency collapseDanger of currency collapse because the króna was clearly overvalued
Several foreign observers also spoke out Prof. Robert Aliber, Chicago Prof. Willem Buiter and Ann Sibert, London Prof. Daniel Gros, Brussels Prof. Robert Wade, London
1. 1. Need legal protection against predatory Need legal protection against predatory lendinglending
Like laws against quack doctors, same logicPatients know less about health problems than
doctors, so we have legal protection against medical malpractice
Same applies to some bank customers vs. bankers, especially in connection with complex financial deals
2. 2. Do not allow rating agencies to be paid Do not allow rating agencies to be paid by the banksby the banks
Fundamental conflict of interest
3. 3. Need more effective regulation of banks Need more effective regulation of banks and other financial institutionsand other financial institutions
Work in progress
after
4. 4. Read the warning signalsRead the warning signalsThree rules, or stories
The Aliber RuleCount the cranes
The Giudotti-Greenspan RuleDo not allow gross foreign reserves held by the
Central Bank to fall below the short-term foreign debts of commercial banks
Failure to respect the Giudotti-Greenspan Rule amounts to an open invitation to speculators to stage an attack on the currency
The Overvaluation RuleSooner or later, an overvalued currency will fall
5. 5. Do not let banks outgrow Central Bank’s Do not let banks outgrow Central Bank’s ability to stand behind them as lender – ability to stand behind them as lender – or borrower – of last resortor borrower – of last resort
6. 6. Do not allow banks to operate branches Do not allow banks to operate branches abroad rather than subsidiaries, thus abroad rather than subsidiaries, thus exposing domestic deposit insurance exposing domestic deposit insurance schemes to foreign obligationsschemes to foreign obligations
Without having been told about it, Iceland suddenly found itself held responsible for the moneys kept in Landsbanki by 300.000 British depositors, and more in the Netherlands and Germany
7. 7. Erect firewalls between banking and politicsErect firewalls between banking and politics Iceland’s privatization of its state banks 1998-
2003 was mismanaged in ways that contributed to collapse and to weak restraints on bank growth GovernmentGovernment ought to have constrained the banks
through taxes Central Bank Central Bank ought to have constrained them through
reserve requirements Financial Supervision Authority Financial Supervision Authority ought to have applied
more stringent stress tests, appropriate to local conditions
Besides, several earlier episodes of bank problems when banks were state-owned were covered up No accountability
8. 8. When things go wrong, hold those When things go wrong, hold those responsible accountable by law, or at responsible accountable by law, or at least try to uncover the truth: Do not least try to uncover the truth: Do not cover upcover up
In Iceland, there are now vocal demands for an International Commission of Enquiry, a Truth and Reconciliation Committee of sorts
If history is not correctly recorded if only for learning purposes, it is more likely to repeat itself with dire consequences
9. 9. When banks collapse and assets are When banks collapse and assets are wiped out, protect the real economy by a wiped out, protect the real economy by a massive monetary or fiscal stimulusmassive monetary or fiscal stimulus
Think outside the box: put old religion about monetary restraint and fiscal prudence on ice
Always remember: a financial crisis, painful though it may be, typically wipes out only a small fraction of national wealth Physical capital (typically 3 or 4 times GDP) and
human capital (typically 5 or 6 times physical capital) dwarf financial capital (typically less than GDP)
So, financial capital typically constitutes one fifteenth or one twenty-fifth of total national wealth, or less
10. 10. Do not jump to conclusions and do not Do not jump to conclusions and do not throw out the baby with the bathwaterthrow out the baby with the bathwater
Since the collapse of communism, a mixed mixed market economymarket economy has been the only game in town
To many, the current financial crisis has dealt a severe blow to the prestige of free markets and liberalism, with banks having to be propped up temporarily by governments, even nationalized
Even so, it remains true that banking and banking and politics are not a good mixpolitics are not a good mix
But private banks clearly need proper proper regulation regulation because of their ability to inflict severe damage on innocent bystandersinnocent bystanders
Time line of events (various sources) April 2008: British Prime Minister advises
Icelandic Prime Minister to seek IMF assistance Spring and summer 2008: Nordic Central Banks
advise Icelandic Central Bank to go to IMF Summer 2008: ECB and US Fed make same
recommendation, and exclude Iceland from currency swap agreements with other Nordic Central Banks
October 2008: After collapse, Iceland seeks “new friend” in Russia, but deal does not materialize
November 2008: IMF program, six months too late, with help from Nordics, Faroes, Poland, and Russia
Monetary restraintCentral Bank policy rate of 18%
Floating exchange rateSupported by strict but temporary capital controlstemporary capital controls
Transparent bank restructuring Fiscal respite in 2009, with government
budget deficit of 14% of GDPFiscal restraint kicks in from 2010 onward
Cut spending from 55% of GDP in 2009 to 43% in 2013 Raise revenue from 42% in 2009 to 45% in 2013 Retrenchment equivalent to 15% of GDP in 4 years;
tough Different from Asian programs 10 years ago
IMF now tolerates capital controls, fiscal respite
% of GDP Gross cost Net cost
New banks 26 26
Central bank 10 10
Foreign depositors*
47 19
Total 83 55
* Estimated asset recovery equivalent to 28% of GDP
Source: IMF, November 2008
Numbers are subject to considerable uncertainty
% of GDP 2008 2009 Difference
Public debt 29 109 80*
Foreign debt 670 160 -510**
*Fiscal cost of cleanup in 2009
**Private debt write-off in 2009
with uncertain asset recovery
% 2009 2010 2011
2012
2013
GDP growth* -10 0 4 4 4Unemployment**
6 7 5 4 3
Inflation* 14 3 2 2 2Foreign debt***
160 147 136 118 101
Source: IMF, November 2008
* % per year
** % of labor force
*** % of GDP
IMF is optimistic, perhaps too optimistic Two views
PessimistsPessimists warn that the debt burden threatens to match that which the allies imposed on Germany at VersaillesVersailles after World War I, with predictable economic and political consequences
OptimistsOptimists emphasize that the Faroe Islands Faroe Islands emerged from their deep financial crisis in early 1990s with an external debt to Denmark equivalent to 140% of GDP, and were able to repay with interest within 6-8 years Long-term loss to Faroes despite recovery in other
respects Net emigration of about 10% of population This Iceland must avoid
Successful recovery rests on two pillarsMust effectively implement IMF program and
supplement it with further reforms Announcement of intention to apply for EU and EMU
membership would send encouraging signal to international community; this may occur soon
Must also uncover the causes of the collapse, including massive failure of policy and institutions Iceland needs an international Commission of Enquiry Rather, Parliament decided to appoint its own
domestic Investigative Committee, risking a deepening crisis of confidence if the committee fails to convince the public
People have taken to the streets
top related