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THis is a lecture about Iceland's financial meltdown and Ireland's similarities and dissimilarities with their predicament.
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ICELAND & IRELAND: FAIR AND NOT-SO-FAIR COMPARISONS
Dr Stephen Kinsella/[email protected]/stephenkinsella.net
––MAY YOU LIVE IN INTERESTING TIMES
LAST TIME
A Rule-Bound SGP Causes Problems
for Ireland wrt Fiscal ReformTime to Break the Rules
Iceland.
What’s the situation now,
How did it happen,
What lessons are there
for Ireland in 2009?
Today
WHAT I WANT YOU TO KNOW
Iceland’s economic situation is a direct outcome of its institutional history.
History Matters.
Remedies for Iceland’s problem: Either join EU or kill its indigenous banking system.
Or: Pray.
Compare: Ireland experienced the same boom, the same bust
Contrast: But, we’re in the EU.
WHAT HAPPENED?Oct 2008, All 3 big Icelandic banks fail & nationalisations abound.
Nov 2008, IMF called in
UK ‘Attacks’ Icelandic economy
Speculative Attacks continue
WHY?History
Pre 1990‘s: Icelandic economy previously highly regulated & politicized
1990‘s+: financial liberalization with weak prudential regulation and supervision
Privatised banks pursued highly leveraged positions
Imprudent monetary policy-Inflation targeting
Lack of Prudential regulation
Speculative Finance: The Minsky Hypothesis
0
3.75
7.5
11.25
15
2003 2004 2005 2006 2007 2008
Inflation % yoyInflation target
0
2
4
6
8
2003 2004 2005 2006 2007 2008
Real GDP Growth
10X
MINSKY MOMENTS1.Idea: Credit markets will breed their own reversal
2.How?
1.Cheap interest rates lead to increased lending.
2.This leads to increases in leverage (L/D ratio).
3.Perverse incentives breed dodgy lending via financial innovations (Junk bonds/CDOS) ensues.
4.Something changes, dodgy loans default, banks fail, unless they get bailed out by Big Bank/Big Govt.
WHAT COULD HAVE BEEN DONE?
Dropped Inflation Targeting sooner (Danielsson)
Introduce Prudential regulation sooner
Listen to the experts (Buiter & Sibert)
WHAT IS TO BE DONE?
Join the Euro (Lane/Buiter *& Sibert)
Big risks even then
PARALLELS WITH IRELAND
Boom fueled by cheap money, perverse incentives, and light regulation destabilised financial system
This lead to shocks in the real economy as bank lending dried up. UE increased, GDP collapsed.
UNFAIR COMPARISONS
NEXT TIME
