Iceland’s loud No - The small island has lessons for the world

The people of Iceland have now twice voted not to repay international debts incurred by banks, and bankers, for which the whole island is being held responsible. With the present turmoil in European capitals, could this be the way forward for other economies?
by Silla Sigurgeirsdóttir and Robert H Wade


The small island of Iceland has lessons for the world. It held a referendum in April to decide, more or less, whether ordinary people should pay for the folly of the bankers (and by extension, could governments control the corporate sector if they depended on it for finance). Sixty per cent of the population rejected an agreement negotiated between Iceland, the Netherlands and the UK to pay back the British and Dutch governments for the money they spent to recompense savers with the failed bank Icesave. That was less resistance than the first referendum last spring, when 93% voted no.

The referendum was significant since European governments, pressured by speculators, the IMF and the European Commission, are imposing austerity policies on which their citizens have not voted. Even devotees of deregulation are worried by the degree of the western world’s servitude to unconstrained financial institutions. After the Icelandic referendum, even the liberal Financial Times noted with approval on 13 April that it had been possible to “put citizens before banks”, an idea which does not resonate among European political leaders.

Iceland is an unusually pure example of the dynamics that blocked regulation and caused financial fragility across the developed world for 20 years. In 2007, just before the financial crisis, Iceland’s average income was the fifth highest in the world, 60% above US levels; Reykjavik’s shops were stuffed with luxury goods, its restaurants made London seem cheap, and SUVs choked the narrow streets. Icelanders were the happiest people in the world according to an international study in 2006 (1). Much of this rested on the super-fast growth of three Icelandic banks that rose from small utility institutions in 1998 to being among world’s top 300 banks eight years later, increasing their assets from 100% of GDP in 2000 to almost 800% by 2007, a ratio second only to Switzerland.

The crisis came in September 2008 when money markets seized up after the Lehman meltdown. Within a week, Iceland’s three big banks collapsed and were taken into public ownership. Moody now listed them among the 11 biggest financial collapses in history.

Towards modernisation

After more than 600 years of foreign rule, Iceland’s social structure was the most feudal of all Nordic countries at the beginning of the 20th century. Fishing dominated the economy, generating most of the foreign-currency earnings and allowing the development of an import-based commercial sector. This created urban economic activities: construction, services, light industry. After the second world war the economy grew strongly, because of Marshall Plan aid (there was a large US-Nato military base); an abundant export commodity, cold-water fish, unusually blessed with high income elasticity of demand; and a small, literate population with a strong sense of national identity.

As Iceland became more prosperous it established a welfare state, in line with the tax-financed Scandinavian model, and by the 1980s had attained a level and a distribution of disposable income equal to the Nordic average. Yet it remained both more regulated and more patron-client-dominated than its European neighbours; a local oligopoly restricted the political and economic landscape.

There is a direct line of descent from the quasi-feudal power structures of the 19th century to the modernised Icelandic capitalism of the later 20th century, when a bloc of 14 families, popularly known as The Octopus, were the economic and political ruling elite. The Octopus controlled imports, transport, banking, insurance, fishing and supplies to the Nato base and provided most top politicians. The families lived like chieftains.

The Octopus controlled the rightwing Independence Party (IP) which dominated the media and decided on senior appointments in the civil service, police and judiciary. The local, state-owned banks were effectively run by the dominant parties, the IP and the Centre Party or CP (2). Ordinary people had to go through party functionaries to get loans to buy a car, or for foreign exchange for travel abroad. Power networks operated as webs of bullying, sycophancy and distrust, permeated with a macho culture, something like the former Soviet Union.

This traditional order was challenged from within by a neoliberal faction, the Locomotive group, which had coalesced in the early 1970s after law and business administration students at the University of Iceland took over a journal, The Locomotive, and promoted free-market ideas. Their aim was not just to transform the society but also to open career opportunities for themselves, rather than wait for Octopus patronage. At the end of the cold war their position strengthened materially and ideologically, as the communists and social democrats lost public support. The future IP prime minister, Davíð Oddsson, was a prominent member.

Oddsson, born in 1948 with a middle-class background, was elected as an IP councillor to the Reykjavik municipal council in 1974; by 1982 he was mayor of Reykjavik, leading privatisation campaigns, including selling off the municipality’s fishing industry, to the benefit of members of the Locomotive group. In 1991 he led the IP to victory in the general election, and reigned (not too strong a word) as prime minister for 14 years, overseeing the growth of the financial sector, before installing himself as governor of the Central Bank in 2004. He had little experience or interest in the world beyond Iceland. His Locomotive group protégé Geir Haarde, finance minister from 1998 to 2005, took over as prime minister shortly after. These two men most directly steered Iceland’s great experiment to create an international financial centre in the North Atlantic, midway between Europe and America.



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