It was a spectacular collapse. And the first of many. Ireland, Greece, Cyprus, etc. were soon to follow.
Yet unlike the bankrupt countries of southern Europe, Iceland dealt with its economic emergency in a completely different way.
Politicians here are proud that they never resorted to austere budget cuts that are so prevalent in Europe.
They imposed capital controls. They let the banks fail. And, as is so commonly trumpeted in the press, they ‘jailed their bankers and bailed out their people.’
Today, Iceland is held up as the model of recovery. Famous economists like Paul Krugman praise the government for rapidly rebuilding the economy without having to resort to austerity.
This morning’s headline from The Telegraph newspaper sums it up: “Iceland has taken its medicine and is off the critical list”.
It turns out, most of these claims are dead wrong.
Meanwhile, the government ended up taking on massive amounts of debt in order to bail out the biggest bank of all – Iceland’s CENTRAL BANK.
This was a bit different than the way things played out in the US and Europe.
In the US, the Fed conjures money out of thin air and funnels it to the government.
In Iceland, since the Kronor is not a global reserve currency, the government had to go into debt in order to funnel money to the Central Bank, all so that the currency wouldn’t collapse.
As a result, Iceland’s state debt tripled, almost overnight, in 2008. And from 2007 until now, it has increased nearly 5-fold.
Today, the government is spending a back-breaking 17.3% of its tax revenue just to pay interest on the debt.
And this is real interest, too. Iceland’s central bank owns very little of the government debt. The rest is owed to foreign creditors… putting the country in an extremely difficult financial position.
At the end of the day, the Icelandic people are responsible for this. They were never bailed out. They were stuck with the bill.
Meanwhile, although unemployment in Iceland is low, wages are even lower. And the weak currency has brought on double-digit inflation.
So while people do have jobs, they can hardly afford anything.
This is most prevalent in the housing market, most of which is underwater. Interest rates have jumped so much that many Icelanders are now on negative amortization schedules, i.e. their mortgage balances are actually INCREASING with each payment.