Iceland and the Loonie?

Some people in Iceland want to abandon the Krona and adopt the Loonie. This came as rather a surprise to me. Here are some thoughts off the top of my head:

1. Is Canada+Iceland an Optimal Currency Area? Is Canada one of Iceland's main trading partners for imports and exports? Is there high labour mobility between Canada and iceland, so that unemployed Icelanders could easily get jobs in Canada, and unemployed Canadians could easily get jobs in Iceland? Are macroeconomic shocks to Canada and Iceland highly correlated? None of these claims sound very plausible.

2. Who does Iceland imagine would act as lender of last resort to Icelandic banks? In 2008 Iceland's banks defaulted on their foreign currency liabilities. I am very glad that the Bank of Canada was not obliged to act as lender of last resort to Icelandic banks in 2008. Does Iceland think it can manage without a lender of last resort to its banking system? It didn't work so well in 2008.

3. The government of Iceland would presumably be issuing Loonie bonds. Given the recent experience of the Eurozone, governments borrowing in a foreign currency -- which they cannot themselves print -- does not look like a very stable arrangement. If the Eurozone has very weak fiscal relations, those between Iceland and Canada are non-existent. Would Canada be expected to play Germany to Iceland's Greece?

4. If there were a financial crisis in Iceland, is there any possibility that could spillover and affect Canada's financial markets and the exchange rate? Would the Bank of Canada be forced to act as lender of last resort to Iceland's government or banks in order to protect Canadian financial markets and the exchange rate from the fallout?

5. If Canada decided that it was not in Canada's national interest for Iceland to adopt the Loonie, is there anything Canada could actually do to prevent Iceland unilaterally adopting the Loonie?

6. (Update) One clear benefit to Canada would be the extra seigniorage revenue. Assume Iceland's GDP is 1% of Canadian GDP, the currency/GDP ratio is 5%, and the long-term nominal interest rate is 4%. The extra seigniorage from iceland adopting the Loonie would be 1% x 5% x 4% = 0.002% of Canadian GDP (somebody check my math please).

Your thoughts?

Comments

[Andrew F]

This seems more like the central American/Caribbean countries that use USD. They are too small to have a stable and credible currency. Iceland has lost a lot of credibility, so maybe they are hoping to use Canada's. I agree that it doesn't make much sense. To answer 5, I think there is no way to prevent another country from using your currency, short of capital controls such as China's.

[Frances Woolley]

Why would Iceland want to adopt a petrocurrency?

[Nick Rowe]

Wasn't Iceland's monetary system doing quite well until their bankers started to get big ideas?

[Nick Rowe]

Frances: Yep. I think Iceland has geothermal. But the correlation between geothermal and oil is presumably not that great. And I'm not sure that the Krona is a "geothermocurrency" to any great extent. More a "piscelcurrency"?

[Determinant]

Iceland has a history of high inflation, I did some preliminary checking and they are the smallest country with their own currency. Imagine Hamilton having its own currency and central bank.

This come across more as an vote of non-confidence in the present order and elites rather than a serious plan.

A few more thoughts.

Would Canada be expected to play Germany to Iceland's Greece?

No, except to the extent made necessary by the next question.

If there were a financial crisis in Iceland, is there any possibility that could spillover and affect Canada's financial markets and the exchange rate? Would the Bank of Canada be forced to act as lender of last resort to Iceland's government or banks in order to protect Canadian financial markets and the exchange rate from the fallout?

This could happen and the we'd be forced into it to keep our own debt markets working to the satisfaction of the Bank of Canada and the Department of Finance. I believe Canada's routine transactions would swamp Iceland's transactions, particularly though Canada/US trade and the only currency rate that matters, the Canada/US dollar rate.

[Sina]

My thoughts exactly -- except much better.

[Eric Pedersen]

(I have no macro or international trade background, so these are just really random guesses ...):
1. If I was Iceland, a (very) small country, heavily dependent on imports for... well, everything, I'd put currency stability at a very high premium; I think I'd be willing to trade off a lot in the way of optimality to basically remove any chance of my currency crashing one day because investors got skittish. I saw Determinant compared it to Hamilton... I'd say it's closer to saying "what if Whitehorse had its own currency?". A couple bad months due to a run on the currency could make essential supplies far too expensive.
2. If 1. is true, and it's just a matter of choosing which currency to adopt, well, it's not like any other central bank would step up as lender of last resort, why not join Canada's? The US is no more ready to act as lender of last resort, and I'm not sure if there's much evidence that the European Central Bank wants to play that role even for its own member states.
2. From what I hear, Iceland has a really large aluminum smelting industry (it's cheap to do with that much electricity). Maybe they figure that since they're both commodity-dependent economies, they should experience similar shocks? Not sure how much of the case that is, but if oil and aluminum correlate well in price during peak years and recessions, that might be all Iceland needs... buffer the shocks in the worst years, and suffer through imperfect monetary policy in the average years.

Does any of this make sense at all?

[Kevin Milligan]

I understand the concerns that Nick has raised.

My question is: how do all the other little countries that have some form of {total dollarization,currency board, hard peg} handle these issues? It isn't exactly rare--and I'm quite sure they're not optimal currency areas with their much larger 'partners' either.

[123 (TMDB)]

Solution to the problem #4:

1. Sell all the commercial banks to Canadian banks.
2. Run budget surpluses during

This solution has worked well for Estonia.

[Jacques René Giguère]

Well. We invaded them once. Our newly Royal Air Force is garrisonned there to provide air cover ( since the US left), why not do the whole Central America scenario?
As for the seignoriage: Old russsian joke: Ivan the Terrible and Peter the Great greet Stalin in hell. " "Still executing opponents and sending the rest to Siberia?" Yes. " Still managing the economy into the ground?" "Yes" "Vodka still at 38%?" "No. 40 now" "All that trouble for 2 %?"

[Nick Rowe]

Erik: Iceland switched to inflation targeting (2.5%) in 2001. Since then the exchange rate against the Euro (Iceland does more trade with the Eurozone I think) was reasonably stable, up until the 2008 banking crisis. chart here. The central bank could always hold a couple of months imports worth of foreign exchange bonds in reserve and do a dirty float (intervene in forex market) if it was scared of a run on the Krona.

"Not sure how much of the case that is, but if oil and aluminum correlate well in price during peak years and recessions, that might be all Iceland needs... buffer the shocks in the worst years, and suffer through imperfect monetary policy in the average years."

That makes sense.

[Nick Rowe]

Kevin: "My question is: how do all the other little countries that have some form of {total dollarization,currency board, hard peg} handle these issues? It isn't exactly rare--and I'm quite sure they're not optimal currency areas with their much larger 'partners' either."

Very good question. My hunch is some mixture of: keep large reserves; try to issue mostly long-term bonds that don't need to be rolled over; insert a clause in short term bonds (and demand deposits) that lets the borrower postpone payment in an emergency; keep your fingers crossed.

IIRC, Scottish banks under the gold standard had a clause that let them suspend convertibility into gold but they had to pay a penalty rate of interest to prevent moral hazard. (Something like that.)

[Nick Rowe]

Here is a comment from Tim on the other post that I think is worth repeating here:

"One issue is to what extent the Canadian chartered banks would essentially take over the Iceland retail banking system as happenend in Newfoundland. Currently all the main retail banks in Iceland are currently under government ownership so I suppose if Canadian bank want a retail presence in Iceland I wouldn't be that difficult to pick one up. As to the Carribean I would argue that the Bank of Canada is already implicitely supporting much of the region's banking system by the fact almost all of it is Canadian owned. While CIBC First Carribean is technically a legally distinct subsidiary of CIBC Canada at the end of day everyone know when push comes to shove CIBC Canada, the Bank of Canada, and the Government of Canada would all support the operations of CIBC First Carribean. That's why in the latest revision of the Bank Act Flaherty is asking for direct authority to approve foreign acquisitions of Canadian Banks.

What is interesting in these Carribean countries is they all of use the US Dollar or local currencies pegged to the dollar through currency boards. Thus the Canadian banking system has a certain degree of indirect currency risk. Now all the major chartered banks can access plenty of US Dollar liquidity compared to the size of their US Dollar liabilities in the Carribean however, I think there is a case to made that if Canada is going to be as involved as it is in supporting the banking system of the likes of the Bahamas, Jamaica et all then preferably these countries should shift from using the US Dollar to the Canadian Dollar."

The above was written by Tim.

[Nick Rowe]

This is part of a comment by Determinant that I think is worth repeating here:

"Though this happened once before, Newfoundland adopted the Canadian Dollar in 1895. Canadian banks became the dominant banks on the island, banks followed the dollar. If Iceland actually does this I expect that Canadian banks will start opening Icelandic branches.

Actually in much of the Caribbean Canadian banks are the retail banks. In the Bahamas the CIBC, Royal Bank and Bank of Nova Scotia are substantial retail banks for the Bahamian public and business sector, not the secretive offshore banks that have a single office in downtown Nassau and Cable Beach with only five staff."

The above was written by Determinant.

[Lord]

When see the fall in interest rates for non Euro European countries matched that of Euro countries, I cannot see any reason why a peg/currency board alternative would not be better. It preserves the option value of leaving even if one never does.

[Determinant]

Why guess how Iceland's aluminum industry will fare under the Canadian dollar? Jacques, how has Quebec's aluminum industry fared recently under the last decade's chance in currency rates?

Solution to the problem #4:

1. Sell all the commercial banks to Canadian banks.
2. Run budget surpluses during

This solution has worked well for Estonia.

And God help you if you ever run deficits, this is what sank Newfoundland in 1933.

[Neil]

As I understand it, one of the problems that Iceland has is liquidity. The currency of a small economy can be a lot like a penny stock. It doesn't take much demand (or a very big panic) to cause a large, but temporary, swing in the exchange rate. Foreign investment is more attractive if you don't have a large exchange rate risk on top of the risk of the venture.

Most small economies either peg or use a major foreign currency. Aside from the question of why they'd prefer CAD, I think it probably makes a fair bit of sense for Iceland to go down this road, and enjoy the added stability that comes from being a tiny part of a much larger currency. And as for "why CAD," it might well be that our resource centric economy makes for a closer-to-optimal currency area than the more popular American currency, and implementing the Euro doesn't exactly look like a flight to safety these days.

[genauer]

Now I am curious,

you made whatever arrangement with the Iceland government, you took over all their banks.

Then the EFTA Court finds Iceland liable for €3.8 bn + plus 5.5 % for each year from 2009 on. Iceland refuses to pay and all European countries demand 30 % tax on everything going in or out between EU and Iceland (80% of their trade). Iceland refuses this, there is a run on their local banks, icelanders taking all their money out in good canadian dollars.
And appeal for help for their banks, their government, the suffering, innocent people of Iceland, babies crying shown every day on your TV.

What now ?

[Tim]

Genauer:

You bring up a very interesting thing in fact the 30% tax idea is quite familiar as I have been involved in fighting something called FATCA a 30% tax the US is trying to impose on Canada along with a lot of countries to induce sharing of banking information. To the extent the EU or the US tries to impose some type of financial transaction tax or witholding tax on Canada my response is for Canada to tell the EU or the US to pound sand.(Actually my language would be a little stronger but I don't want to say it here as this is a family friendly blog).

It would seem that the only way to impose such a tax if the banking system of Iceland was taken over by Canada would be to impose a tax or witholding in leu of on all EU Canada financial transactions something the EU doesn't have the guts or glory to do.(That is strong language). To the extent the EU tried to impose sometype of tax on financial transaction between just Iceland and the EU the newly Canadian controlled Icelandic banks could modify/forge the SWIFT routing codes to make such transaction look as if they are between Canada and the EU(Note this would be really illegal as matter of international law but I suppose Ottawa could approve of it whick makes it legal from a strictly Canadian perspective).

[Jacques René Giguère]

Determinant: fast and short as I am on the road: it seems the QC Al industry is going some internal devaluation game. Newly public documents shows ( to horrified shout from companies) that the Qc gov'nment renegociated in some ways the hydro rate ( to well below marginal costs) and one plant has locked-out his workforce over subcontracting. That plant has been granted ownership on parts of the Saguenay river plus concessions in adjoinig areas. A no-longer-secret contract enable that plant to sell back to Hydro-Québec the power generated by these dams ( yes you buy back what you gave) in case of strike or lock-out. The QC gov'ment is paying a palnt to lock-out its workers...Follow the story in the daily Montréal paper " Le Devoir" of the last few weeks.
Like most QC economists, I have a dim view of this sector and have somtimes spoken publicly about it...A few years ago, I discovered I was barred from entering an AL plant for " comments derogatory to the AL industry"... Weird but true.

[genauer]

@Neil

The problem Iceland has, is that they owe about 50 % GDP to the NL and UK government, due do reneging on private deposit insurances in 2008,
plus another 50 % each to the IMF and the EU in emergency loans.
And they are just one court decision away from active enforcement of this debt.
80 % of their trade is with the EU, where most folks see Icelander as pretty shameless criminals,
who voted already 2 times that they dont want to pay.

One remark on the side: why did the NL and UK Gov get involved in the first place in disputes between private iceland banks and
private depositors ? Because Iecland nationalized the banks, and only Nations can sue Nations, outside the respective nation.

@ Tim

Again, I do NOT have any personal beef in this. Germany is not involved at all, especially not with Canada.

To avoid any further misunderstandings: as an idea how they could be made to pay, I just pulled the 30 % tax on REAL material transactions
out of thin air, not just financial transactions. More like taking all fish and all boats which get into EU hands, and put them on the chain.

This is not just phantasy. The prince of Thailand didn't pay a German construction company, was sentenced in an international court,
laughed at that. He stopped laughing, when his air plane was put on the chain in Munich 2011, until he paid.

The point I want to make, in the moment you "overtake the commercial banks of Iceland",
I think you will be on the hook for their debt, one way or the other.

Maybe you think a little bit about the Balkans in the 90ties. Half the transactions there were done in Deutschmarks,
without Germany involved officially in any way, shape or form.

And that you already had to restrain your language, talk about illegal SWIFT numbers (I ll hope you dont do THIS in front of your children :- ),
shows how fast this could draw Canada into something, which I guess, most of you have non intention at all in the moment, to get into.

Gosh, and illegal SWIFT numbers, the perfect pretext to "proof" complicity of the commerical banks, and seize all their assets. This would be just perfect for NL and UK.

[RebelEconomist]

Whether Iceland adopts the loonie or the euro, I certainly think it should adopt someone else's currency, along with various other state functions.

The Icesave dispute has been one of my specialist subjects, and without going into the details, I would say that the underlying cause of the problem was that Iceland tried to copy the big boys (by having an ex-post bank-funded deposit protection scheme) without sufficient resources to properly understand the implications (the scheme was managed part-time by a single central bank official, who was unable to attend many of the EEA discussions on deposit protection schemes). Of course, presented with the huge bill for their negligence, the Icelandic people try after the fact to find excuses for not paying the British and Dutch governments, but I think the truth is simply that no-one in Iceland had given the issue of deposit protection sufficient thought until it hit them.

If Iceland wants to remain an independent nation, it needs to set aside its national pride, and consider which of the functions of a state it is reasonable for 320,000 people to try to operate themselves, and whether, and if so how, they provide for those functions which they cannot reliably operate. Currency seems a relatively easy service to import.

[Tim]

Genauer:

My sense is any foreign purchaser of the Icelandic banks is going want to buy them "clean" essentially removed any legacy or toxic assets. This however, takes a very North American view of bankruptcy where debts can be seperated and discharged and in particular is what the US FDIC does on an almost weekly basis. There is some history though of this being done in both Europe and Japan. One incident I can think of is the French bank Credit Lyonnais bank in the 1990s where the bank was effectively put into an FDIC/Resolution Trust style restructuring where a new bank called LCL was created to takeover Credit Lyonnais good assets while a bad bank called the Consortium de Realisation was created to hold all of CL's bad/toxic assets and handle outstanding litigation. Personally I think the powers that be in the EU should be studying the Credit Lyonnais story intensely right now as a model for how to cleanup the current problems in the banking system.

Credit Lyonnais was in its day quite a rogue institution at the link below you can read up on all Giancarlo Parretti and MGM Studios.
http://en.wikipedia.org/wiki/Cr%C3%A9dit_Lyonnais

[Marc Labbe]

I will keep it stupid and simple. The reason is there are almost if not more icelanders in Canada than in Iceland. Try Winnipeg for a start. If i remember well the ambassy or consulate of Iceland has been a long long time in Winnipeg instead of Ottawa. I do not know if it is still the case.

[rabbit]

It's when Montana decides to switch to the Loonie that things will get interesting.

[genauer]

Tim:

The example of the French bank is very simple, it was bailed out by the National French government, it was all an internal french story. Just as this Dexia was separated again into its French and Belgian part, when the s*** hit the fan. This just confirms what I want to explain.

In just the same way the EU people make sure, that the Irish mess is tightly contained to Ireland, to not let this grow to some story of irish debtors vs (mainly anglo) creditors. Irish bankruptcy courts have no chance to let their irish mortage deliquents to get off scotch free,
without hurting the irish public. No official politician
(e.g. Klaus Masuch www.youtube.com/watch?v=oBjxmsoIFKs )
would ever say it in this way. But a lot of irish economists know, how this game would be played. http://www.irisheconomy.ie/index.php/2012/02/22/eviction-in-ireland-in-2012-i-stopped-the-sheriff/

instructive read:
http://www.irisheconomy.ie/index.php/2012/03/04/understanding-the-german-approach-to-economic-policy/

To future Iceland now:

Forget about the SWIFT thing, forget about buying any existing icelandic bank. Just open a completely new canadian bank in Iceland. You take in their deposits and give out loans (mortgage and commercial) in Can Dollar.
With no ties to the CAn Government or an existing Candian Bank, but with Canadian owners. Lets call it the ICE-Can Bank (ICB).

"perfectly clean", right ?

And now comes the crucial point:
Who would make deals with this bank, as long as not the Can Gov(ernment) provides some guarantees?
Nobody.

And now let NL and UK put some real material economic sanctions in place, like the material taxes, seizing assets. Not unrealistic, just one last court decision away. Icleanders withdraw their short term deposits, and the ICB is on the hook with the longer term loans, which now objectively can not be served.

Who is now on the hook ?

Canada.

One last thing:

Why do you think Switzerland declared a peg to the Euro at 1.2 ? At a pretty significant risk of huge losses. Because they like this blatant "currency manipulation" ? No !
They have given a lot of mortgage and other loans to eastern european countries, denominated in CHF. If these people see themselves unterwater by too much, they would just default in droves.

[vjk]

genauer:

I've just read the EFTA "reasoned opinion"(http://www.eftasurv.int/media/internal-market/RDO-180_11_COL.pdf), and I retract my previous statement as to the Icelandic sovereign responsibility for deposit insurance and tend to agree that Iceland, as a sovereign, appears to be on hook to the extent of E20K per each depositor's account. The crucial fact is that Iceland, as a country, voluntarily assumed responsibility according to Directive 94/19 to ensure adequate deposit insurance protection and thus has to come up with the means to reimburse the depositors of the failed banks. The discriminatory treatment of domestic vs. foreign depositors merely makes the Iceland position worse, but is not as critical to the EFTA decision as the voluntary assumption of responsibility which is a simple contract matter. Had they not agreed to 94/19, there would be no case against the country as a whole.

The statement below, however, is most likely nonsense under your hypothetical:

"Who is now on the hook ?

Canada."

Assuming Canada opens bank branches in Iceland. There need not be any implied Icelandic sovereign, or ICB, or both liability assumption by the Canadian banking system unless the latter is dumb enough to assume it/them explicitly. Why would it do that ?

Assuming a specific Canadian bank fails due to its Icelandic operations. The Canadian government is not on hook primarily because its deposit insurance scheme will most likely be able to cover the statutory losses. The situation would be no different from that when the bank in question would have failed domestically.

[Determinant]

No, Genauer. Canada does not insure Canadian banks outside of Canada. We do not take responsibility for Canadian bank's Caribbean operations, nor for the Bank of Nova Scotia's extensive overseas operations. Iceland would be no different

Canada/US trade is far more important than European trade, the EU can try to set up national sanctions, but Canada doesn't have extensive European holdings. I would like to see the EU try to persuade the UK to levy sanctions on Canada. Or enforce a judgment. Sovereign Immunity. We are not part of the EFTA or any European economic institutions. European courts have no authority here.

Canada is clear that deposit insurance is a responsibility of the country the branch is located in, not the home jurisdiction of the bank. Europe's policy was poorly thought out.

Canadian bank subsidiaries in the UK abide by FDIC regulations.

[vjk]

Determinant--

"We do not take responsibility for Canadian bank's Caribbean operations"

Good point.

The FDIC has a similar policy whereby "foreign deposits: are not "deposits" but general creditor claims on a failed foreign branch.

"Sovereign Immunity"

Not with respect to sovereign debt, though. See the latest cases decided against Argentina both in the UK and the US.

[Determinant]

The CDIC and the FDIC have similar policies I believe. Both insure deposits in the national currency up to the specified limit. In order to open a branch in Canada/US you need to take out CDIC/FDIC insurance on your CAD/USD deposits. So far, so good. Sensible, predictable from the customer's POV and easy to enforce with the machinery of government.

The CDIC here in Canada is very clear that it does not insure foreign currency deposits, of which US Dollar Deposits are the only significant issue. Many Canadians keep USD accounts for US visits, particularly if they are retired and go to Florida for the winter for a few months. Canadian businesses keep USD accounts for cross-border trade. Yet they are not insured and as you say, vjk, just general creditor claims against the bank, unsecured debt in other words.

Why British and Dutch politicians allowed inadequately insured banks to operate in their jurisdiction is beyond me. EU directive or no, it isn't discriminatory to demand that all banks who solicit funds from consumers in your jurisdiction take out deposit insurance in your jurisdiction. Domestic banks pay the same as foreign banks to take deposits in a given country.

It would have made the Iceland crisis much, much less severe.

[JP Koning]

Hi Nick.

"2. Who does Iceland imagine would act as lender of last resort to Icelandic banks? I am very glad that the Bank of Canada was not obliged to act as lender of last resort to Icelandic banks in 2008. Does Iceland think it can manage without a lender of last resort to its banking system? It didn't work so well in 2008."

Who acted as the LOLR before the Bank of Canada was established in 1935? Whatever it was, it worked pretty well, so Iceland should manage fine without a central bank liquidity provider.

Originally the Canadian banks kept most of their reserves in New York in sterling and dollars, and thus the New York money market became the liquidity provider of last resort. The largest Canadian banks served as bankers' banks, or liquidity providers for peripheral Canadian banks. The point is that modern day central banks aren't the only way for banks to secure liquidity insurance.

So Icelandic banks could easily buy liquidity support from large Canadian banks in the form of unconditional lines of credit. Royal Bank, CIBC et al would have to do the due diligence - with skin in the game, they'd probably do a good job.

To force Royal Bank and CIBC to do their due diligence, the BoC should refuse to accept Icelandic c-dollar assets in either BoC lending operations or open-market purchases.

[vjk]

Determinant:

"Why British and Dutch politicians allowed inadequately insured banks to operate in their jurisdiction is beyond me"

Right.

As far as I recall, FSCS (the UK FDIC analog) differentiates between a "branch"(inside the EEA) and a "subsidiary"(outside the EEA). The former (of which Icesave was apparently one example according to the EFTA ruling) is covered by the domestic country deposit insurance, the latter (e.g. Citibank UK) by the FSCS insurance with the premiums being paid in a manner similar to what the "indigenous" UK bank does.

I do not recall if a foreign "subsidiary" is obligated to participate in order to take deposits or it is optional. I would assume that is a must.

[vjk]

"Who acted as the LOLR before the Bank of Canada was established in 1935?"

El Salvador, Ecuador, as the latest examples, seem to be coping OK without the LOLR and by requiring adequate dollar reserve assets form its banks. In fact, there is some evidence that the abandonment of the local currency was beneficial to both countries' economies despite the obvious drawbacks(no LOLR, no monetary policy, no "seigniorage" what else ?). To a significant degree, dollarization is equivalent to the gold standard with the gold mines being located in the US as some Post-Keynesian correctly observed.

Not sure why everyone thinks that Canada cooperation is required to implement loonieization in Iceland. As far as I know, no special cooperation takes place between the officially dollarized countries and the US.

[Determinant]

@JP Koning:

The "Lender of Last Resort" was the Bank of Montreal, the oldest bank in Canada (1817) and the banker and fiscal agent to the Government of Canada since 1867 and prior to that it provided the same service to the old Province of Canada (meaning Ontario & Quebec) since 1854. As fiscal agent to the Government it had one of the hallmarks of a Central Bank. It even printed its own money, all banks printed their own bank notes drawn on their own bank. We didn't get Bank of Canada notes until 1938.

The Bank of Montreal got its heft from being the government's banker and bond dealer. The Canadian Banker's Association had the responsibility of handling bank insolvencies and bank runs, their method of operation was to arrange a takeover by a stronger bank so as to protect depositors and contain the damage. This is how the Bank of Hamilton was folded into the Canadian Bank of Commerce. The Home Bank of Canada, OTOH, was beyond saving and went bust in 1923, our last insolvency until 1985.

As you say, Banks kept reserves in New York.

[genauer]

@vjk

Your "I retract my previous statement" is just what I love about this "worthwhile Cana ...." place. Considerate people, careful thinking.

Very good moderation by Nick, Frances, and the others.
Take this as a huge compliment from some old fashioned german, who abhore grade inflation : - )
Determinant and I were at some point a little bit at loggerheads.

And also telling me straight, when I am wrong, do not know certain facts, misunderstood something, or just false reasoning : - )

The general approach, how do we make things work, together.

@all
Two more things:

1. Statistical Process Control (SPC)
as a very important concept, not only as a mechanism for some stuff done down on the factory floor, but as a certain way of thinking

How do we organize things in an efficient way, being aware, that nothing is perfect, but just has to be good enough overall, and with active intervention kept to a minimum, keeping things simple.

2. Trust
I do not go to work or to the grocery with a law book under the arm. I rely on that the people I meet, behave to common cultural standards, often never codified anywhere. I gave certain people credit to the tune of their engineers yearly salary, without a sheet of paper with a signature on it,
and without any interest rate discussed. And I am not a rich person, all I own, comes from my own work.

dictum meum pactum, my word is my bond

pacta sunt servanda

These are integral parts of our common western civilization heritage,

and they are not for sale, Sergei

Iceland and Greece are not part of that civilization, as we learned.

Now we practice Meidung, in Gelassenheit, to those, who do not like Ordnung.

[RebelEconomist]

I don't see why Canada should not provide deposit insurance and a LOLR for Icelandic banks if Iceland adopted the loonie. You just have to make sure that you charge fees that cover the risk-adjusted cost of such services (the cost of deposit insurance is supposed to be covered by the banking industry in the long run anyway). In fact, if I am right that it would be all-round cheaper for Iceland to import a currency, there may well be a surplus available that Canada could negotiate a share of - ie an exorbitant privilege. Don't be coy, Canada!

[JP Koning]

Hi Determinant and vjk, interesting points.

Hi Rebel,

"I don't see why Canada should not provide deposit insurance and a LOLR for Icelandic banks if Iceland adopted the loonie."

I agree, but only on the condition that Icelandic banks agree to submit to Canadian regulation via the Office of the Supervision of Financial Institutions (OSFI), which sets capital and risk standards here in Canada. If they don't agree, then the BoC shouldn't accept Icelandic assets in its lending or purchase operations.

[RebelEconomist]

Absolutely, JPK! In the light of their experience, it seems that banking supervision is one of the functions that Iceland would be wise to buy in from another country anyway.

[Bob Smith]

"Not sure why everyone thinks that Canada cooperation is required to implement loonieization in Iceland. As far as I know, no special cooperation takes place between the officially dollarized countries and the US."

To say nothing of a number of countries that are de facto US dollarized.

Determinant: "Canada/US trade is far more important than European trade, the EU can try to set up national sanctions, but Canada doesn't have extensive European holdings."

Maybe not relative to our US investments, but Canada has sufficient EU investments that we aren't likely to be inclined to pick a fight on behalf of Iceland. In 2009, Canadian FDI in the EU was something like 25% of our total FDI.

VKJ: "Sovereign Immunity" Not with respect to sovereign debt, though. See the latest cases decided against Argentina both in the UK and the US"

Generally, countries like the US or the UK don't extentd overeign immunity to ordinary commercial transactions with sovereign states (such as borrowing money). Similarly, in those case, the terms of the debt obligations were likely such that Argentina explicitly or implicitly waived sovereign immunity (as, of course, they can do - and as I suspect any would-be lender to Argentina would insist on).

However, I suspect the sovereign immunity doctrine would apply to an attempt by the EU to compel Canada to extend deposit insurance to, say, account holders of Islandic banks. While borrowing money on the open market is an ordinary commercial activity that should be exempt from the doctrine of sovereign immunity, insuring the deposits of banks isn't - it's precisely the sort of act of policy that sovereign immunity is intended to protect. Of course, sovereign immunity doesn't do much when would-be creditors are trying to enforce Icelandic law (i.e., EU obligations under the EEA Agreement which were enacted into Icelandic law) and it means even less when your creditors have something you want - i.e., EU membership.

[vjk]

"Generally, countries like the US or the UK don't extentd overeign immunity to ordinary commercial transactions with sovereign states"

Right.

It is interesting to observe that a lot of commentators (myself included until I read the EFTA opinion) have emphasized that Iceland banking collapse is different from say Argentina's default due to the fact that the latter defaulted on its sovereign obligations while the former did not.

If one accepts the EFTA reasoning, then I think it is clear that there is not much legal difference in substance between the two countries' defaults because by agreeing to the Declaration terms Iceland converted deposit insurance contingent liabilities into contingent sovereign obligations (as did every EEA country).

[Bob Smith]

"If one accepts the EFTA reasoning, then I think it is clear that there is not much legal difference in substance between the two countries' defaults because by agreeing to the Declaration terms Iceland converted deposit insurance contingent liabilities into contingent sovereign obligations (as did every EEA country)."

There's not much difference in economic substance, there's a heck of difference in legal substance. Sovereign debt is a bilateral contract between the lender and the state, in legal form it's no different than any borrower/creditor relationship. It is the embodiment of an ordinary commercial relationship

Deposit insurance is a whole different kettle of fish. There's no contractual relationship between Iceland and Icesave's creditors. If Iceland promises to insure some or all depositors in its banks, that is a gratuitous promise on the part of Iceland (as least as far as investors are concerned) - there's not privity of contract between bank depositors and the state, and no entitlement for depostors to bring an action against Iceland (outside of Iceland's domestic deposit insurance scheme, if it applies). Iceland may choose to insure foreign depositors as a matter of policy, but as a matter of policy, it can choose to change it's mind. That's the sort of policy freedom that the doctrine of sovereign immunity is intended to protect.

Mind you, because Iceland has entered into a quasi-contractual relationship with the EU (through the EEA Agreement), changing it's mind has potentially adverse implications. But the implications are political, rather than legal, in nature. After all, Iceland can exit the EEA Agreement and, if it's domestic law is anything like Canadian domestic law (and it may not be in this respect, I have no idea) it can override its treaty obligations through domestic legislation and generally ignore international "law". Moreover, it isn't clear that the European Court of Justice has authority to compel Iceland to comply with its EEA obligations (since the dispute resolution provision of the EEA Agreement appears to contemplate court authority only if both parties agree to bring the matter to the court).

The significance of the EFTA Opinion isn't that Iceland isn't entitled to claim sovereign immunity with respect to depositors - it clearly can, evidenced by the fact that the governments of the UK and Netherlands are waging a political action against Netherlands, rather than bringing an action in court - it's that sovereign immunity doesn't protect Iceland from retaliatory action on the part of EU members, which actions are permissible under the EEA if Iceland isn't in compliance with its obligations thereunder. As a sovereign state, Iceland is free to do as it wishes, but sovereignty doesn't protect itfrom retaliation of other countries (which are sovereign in their own right). Telling UK and Nertherlands depositors to get stuffed makes Iceland decidedly unpopular in the EU and, to the extent it violates the EEA Agreement (as the EFTA opinion concludes that it does) could expose it to "safeguards" under the EEA Agreement. At the end of the day, the EU has something Iceland want/needs and it has to play nice to get it - that Iceland's a signatory to the EEA Agreement is almost beside the point, although it does tend to undermine the moral force of Iceland's position.

[vjk]

Bob:

"Deposit insurance is a whole different kettle of fish."

Both are commercial contracts, the first is a simple promissory note and the second is an insurance contract backstopped/guaranteed by the government of Iceland. If the deposit insureror fails, the government is on hook as would be a private cosigner under similar circumstances.

"there's not privity of contract between bank depositors and the state"
In my opinion, there is privity because the state plays the cosigner role rather than that of the re-insurer.

"If Iceland promises to insure some or all depositors in its banks, that is a gratuitous promise on the part of Iceland"

Not according to the EFTA opinion.

"Iceland may choose to insure foreign depositors as a matter of policy, but as a matter of policy, it can choose to change it's mind. That's the sort of policy freedom that the doctrine of sovereign immunity is intended to protect"

Well, I disagree because applying the doctrine to what is, in essence, an ordinary commercial contract makes such a contract meaningless if the guarantor is free to renege on its promise.

Similar fallacious reasoning was applied, as far as I remember, in the recent Argentina sovereign debt case where one of the defenses was sovereign immunity.

Now, the European Court may arbitrarily (in my opinion) decide that the backstop does not amount to a contractual obligation in the sense similar to that arising from a sovereign promissory note default and *is* protected by the doctrine, but that would be a strange decision in the light of the economic equivalence of both defaults as you agreed. As Judge Posner states, the law should be driven by economics, not vice versa.

"and generally ignore international "law" "

I share your scepticism wrt international law in general, but one has to be consistent in this regard and realize that such scepticism must be fully applicable to sovereign debt obligations enforcement as well. E.g. the New York and London recent decisions on the Argentina debt are as meaningful or meaningless as would be a hypothetical judgment of the European Court on Icesave deposits.

[Patrick]

vjk: if Iceland (or Argentina for that matter), tell the other parties to pound sand, what are the options? Limited, I'd say. And entirely political. EFTA et al can issue opinions and rulings all they want, but they have no means to compel compliance. Sure, they can impose sanctions or whatever, but they have no way to compel compliance in ways analogous to a state enforcing laws within it's own jurisdiction. I suppose they could go to war to attempt to compel compliance, but that's not likely.

[Bob Smith]

"Both are commercial contracts, the first is a simple promissory note and the second is an insurance contract backstopped/guaranteed by the government of Iceland. If the deposit insureror fails, the government is on hook as would be a private cosigner under similar circumstances."

But they aren't, that's the point. Iceland's deposit insurance scheme is established unilaterally under an Icelandic statute (although pursuant to the EEA Agreement), not a contract. Iceland gratuitously promises to pay certain depositors and compels financial institutions to help finance it (effectively, a tax). In contrast, an insurance contract (or sovereign debt contract) creates a bilateral relationship between the parties. One party has to offer insurance to the other, the other has to accept that offer, and there has to be a flow of consideration from the accepting party to the offeror. I don't know of any commercial insurer in the world who can force you to buy their insurance (for the benefit of a third party - depositors) and then compel you to pay for it, so it's hard to see how you can characterize that as a "commercial" relationship when its done under a government deposit insurance scheme.

More to the point, in this context, the Icelandic regime didn't purport to cover foreign depositors - that's the basis for the dispute, Icelandic deposit insurance law isn't sufficiently broad to comply with Iceland's obligation under the EEA Agreement. Not only is the Icelandic scheme a gratuitous promise, it's not a promise to Icesave depositors. Think of an analogy, if the federal government pushes back the OAS entitlement age to 67, will Canadians have a contractual right to sue for OAS at 65? Exactly.

"In my opinion, there is privity because the state plays the cosigner role rather than that of the re-insurer."

The lack of privity is the depositor side. In an insurance contract, I've paid consideration to the insurer in exchange for rights under the insurance contract. What did Icesave depositors pay the Icelandic government? Nada. Again, there wasn't a contractual relationship. The only rights depositors had were those created under Icelandic statute (which, bien sure, can be amended at will, and which allegedly didn't cover Icesave depositors). Indeed, the only parties who paid anything to Iceland were financial institutions, but they didn't pay such fees in consideration for deposit insurance (obviously, they weren't insured), they paid amounts to Iceland because they had to if they wanted to be licensed to carry on business in Iceland.

And note, the EFTA opinion didn't conclude that depositors had any rights, contractual or otherwise, vis-a-vis Iceland (they don't). It merely concluded that Iceland's existing deposit insurance scheme was inconsistent with Iceland's obligations under the EEA Agreement (which is probably the correct conclusion). But that doesn't resolve the matter. At that point either Iceland can amend its law or it could be exposed to repercussions on the part of EU countries. But in either case, sovereign immunity is of no relevance because the remedies are not legal ones, but political ones.

"Well, I disagree because applying the doctrine to what is, in essence, an ordinary commercial contract makes such a contract meaningless if the guarantor is free to renege on its promise."

But a statutory regime is not, almost by definition, an "ordinary commercial contract". Ordinary commercial contracts aren't imposed by statute. That distinction goes to the heart of the sovereign immunity doctrine. Governments shouldn't be able to avoid liability for breaching ordinary commercial contracts (debt obligations, employment contracts, purchase agreements) especially since, typically, the sovereign state has typically (or potentially) benefitted from having entered into what would otherwise be a binding legal relationship (i.e., it has induced lenderes to lend, workers to work, supplier to supply), while their counterparty has been harmed.

But outside of a contractal relationship the basis for that exemption from the doctrine of sovereign immunity disappears. The whole purpose of the doctrine of sovereign immunity is that governments shouldn't be exposed to liability in foreign courts for actions of a government nature (as opposed to actions of a commercial nature carried out by a government). A statutory deposit insurance scheme fits squarely within that rationale.

"Now, the European Court may arbitrarily (in my opinion) decide that the backstop does not amount to a contractual obligation in the sense similar to that arising from a sovereign promissory note default and *is* protected by the doctrine, but that would be a strange decision in the light of the economic equivalence of both defaults as you agreed. As Judge Posner states, the law should be driven by economics, not vice versa."

That would hardly be an "arbitrary" distinction, the common-law (and I suspect the civil law as well) regularly makes the distinction between contracts, statutes and gratuitous promises (it's a distinction that's a source of a lot of material for first-year contract law exams). There are significant, and well recornized, legal distinctions between those sorts of relationships. That one can achieve a deposit insurance regime by way of insurance contract or statutory regime, and that the two may be economically equivalent is, legally, beside the point. Justice Posner may be right that the law "should" be driven by economics, but he doesn't go so far as to say that it is (and more to the point, sovereign debt obligation and a liability under a statutory insurance regime are only economically equivalent, if you ignore the fact that the counterparty to the former is being compensated for something he gave to the state, while the counterpart to the latter is not - not a minor distinction).

[Determinant]

Bob:

I respect your opinion, but it has a problem. It is a common law view. I know this is your training, but consideration is not necessary to form a contract in civil-law jurisdictions, including Quebec. The Civil Law tradition, which includes the Netherlands and Iceland, has different contract principles.

Your last paragraph was entirely to the point, though. I agree that Iceland as a sovereign has a much freer degree of action and therefore the solutions are entirely political. A lawsuit between a sovereign government and an individual in another country is hardly an equal contest. Power matters.

Third, importing Canadian regulation is a non-starter. Canadian regulators would not have the force of law behind them as they do in Canada, they would be there at the sufferance of the Icelandic government. That does make a difference. If you're going to have Canadian bank regulation and Canadian notes as legal tender and therefore use Canadian banking law, it's time to haul down the flag and apply to be the 11th Province.

Might I add that "Compact Theory", which this line of thought is tending to, that Confederation was the delegation of certain powers to a new creation called the Federal Government is wrong. It didn't happen that way. Canada was created in 1867 by an Act of the Westminster Parliament. Quebec and Ontario were also created at that time by splitting up the old Province of Canada and New Brunswick and Nova Scotia were added to that. None of the colonies had any power to contract or agree to anything. That's also how Newfoundland was brought in, by the British North America Act, 1949.

[Tim]

Determinant:

Perhaps we need to open up a thread on the Turks and Caicos Island joining Confederation given there are real shades of Newfoundland going on down there right now. Heavy debt plus administration of the islands taken "back" over by the United Kingdom since 2008. However like in the 1940s the UK has no desire to get further involved in being a colonial power. Much of the banking system is already controlled by you guessed it Canada. Currency though is the US Dollar.

[genauer]

I agree with Determinant, they should either become a province of Canada or of Denmark.
But I ll guess they will need a few more years to realize this.

[Bob Smith]

"I respect your opinion, but it has a problem. It is a common law view. I know this is your training, but consideration is not necessary to form a contract in civil-law jurisdictions, including Quebec. The Civil Law tradition, which includes the Netherlands and Iceland, has different contract principles"

Fair enough, although the distinction between common-law and civil-law jusrisdictions is often overstated. Even under the civil law, you don't have a contract unless you have offer and acceptance, and both parties intend to enter into a legally binding relationship (which is really the core of the common-law, the consideration requirement is often satisfied with nominal consideration - "good and valuable consideration set out herein", is the usual language, or a notional peppercorn. As much as anything else, consideration is evidence of intention to form a contract). The Icelandic scheme didn't involve an offer (deposit insurance was mandatory for those covered by it, and not available for those not covered - i.e., Dutch and UK depositors), there was no acceptance (there was nothing to accept, and certainly depositors didn't accept anything), and there was no intention to enter into a contract (the legal relationship, to the extent there was one, was formed under a statute). Hard to see a judge finding a contract in that.

[Patrick]

Canada goes shopping at the small island nation going of business sales?

[Bob Smith]

Hey, think of what grabbing up Iceland (to say nothing of a few other Atlantic Islands) would do for Canada's fishing disputes. Canada could start asserting that the North Atlantic is "internal waters", subject to Canadian sovereignty. A stretch, perhaps, but I can't help but notice that there isn't a shortage of near bankrupt countries on the other side of the Atlantic. Get a good price on Portugal (and the Azores) and Ireland, and we're good to go. Besides,the world could use a healthy dose of Canadian imperialism.

[genauer]

LOL,

how much do we have to pay, that you take Portugal and Ireland ?

[Determinant]

Turks and Caicos properly belong as part of the Bahamas. The fact that they are not is due to shipping routes and local history. Like the Bahamas, they use the US Dollar because that is where all consumer goods are imported from. The financial sector is one thing, the goods in stores is something else. Everything comes from Miami.

Or we could try an resurrect the West Indies Federation, all the British Caribbean islands were going to be provinces of this Federation in the 1960's. The problem was nobody wanted to be John A. Macdonald and move to the federal scene and give up their island power base.

Canada took one look at it and saw our Baby Brother growing up. We were in love.

[Neil]

This conversation has certainly evolved from the original discussion of Iceland taking on Canadian currency. Something which doesn't appear to have anything to do with their liabilities to UK/NL.

But I'm reminded in the back and forth about the lesson I took home from my wife's international law class. There's all these treaties and traditions that "regulate" the way nations treat each other. But at the end of the day, legal or illegal doesn't matter. What matters is whether the players with the biggest guns are willing to enforce the law. And it usually turns out that they're not, particularly when it comes to purely commercial wrongdoing.

Without armed enforcement, we're left with economic sanctions. Which is fine, and I fully expect the EU to levy sanctions against Iceland. So what happens? The Icelanders end up deciding whether it's cheaper to pay off their debts, or just reorient their trade around the sanctions. Given the scale of the debts, I expect we'll probably end up with a mid-atlantic Cuba, but with cheap electricity. It won't trade much with its most logical trading partner, and instead find buyers elsewhere. It's unlikely that North America, which hasn't been wronged, would join in on sanctions, and faced with discounted aluminum, China certainly won't.

[Determinant]

That's pretty much it Nick. :)

[vjk]

Bob:

Very roughly and I readily admit I may be mistaken:

1. "Even under the civil law, you don't have a contract unless you have offer and acceptance, and both parties intend to enter into a legally binding relationship"

Bob, you put too much weight on the freedom to contract. In many jurisdictions, "public interest" limits the freedom substantially and leads to recognition of compulsory contracting. A typical example would be mandatory liability insurance.

"..the consideration requirement is often satisfied with nominal consideration"
One can argue that we have a tripartite contract between the depositor, the bank, and the government insurance body. The depositor pays with his deposit, fees and diminished interest and gets a promise to cover against some loss, the bank pays its fees derived from the deposit and get a protection against a bank run, the insurer promises some recovery -- a typical, other than being mandatory, contract.

Assuming that the depositor is not recognized as a contracting party, it would still be considered a third party beneficiary in many jurisdictions(an exception to the principle of privity) who has the right to sue the insurer in the case of breach.

2. Immunity.
It is interesting that Iceland appears to have not raised the affirmative defense of sovereign immunity in its responses to the EFTA opinion. Not sure why, perhaps the Declaration acceptance implies a waver, but the fact of not raising it is telling.

[Bob Smith]

VJK,

All that may be true, but in a jurisdiction with mandatory liability insurance, the ordinary laws of contract govern (i.e., try telling your car insurer that you have a binding contract in the absence of offer, acceptance, and consideration). Again, the Icelandic deposit insurance scheme wasn't an insurance contract, or any other kind of contract, it was a statutory compensation scheme. That people could have achieved the same objective (protecting deposits) through a mandatory deposit insurance contract, doesn't mean that that's what they did.

"It is interesting that Iceland appears to have not raised the affirmative defense of sovereign immunity in its responses to the EFTA opinion. Not sure why, perhaps the Declaration acceptance implies a waver, but the fact of not raising it is telling."

I can tell you why it wasn't raised, state immunity didn't have any relevance to the EFTA opinion. First, the EFTA opinion is, as the name suggests, an opinion, not a ruling, state immunity is a doctrine that protects states from legal actions, not opinions. I can opine that country X commited a tort against person Y, but the doctrine of state immunity means that no Canadian court will hear the case (except to the extent parliament has overriden the doctrine of state immunity). Second, the EFTA opinion related to whether or not Iceland was in compliance with its EEA obligations. Even if the EFTA Opinion had any legal force, state immunity would have been irrelevant because non-compliance with Iceland's EEA obligations doesn't expose Iceland to LEGAL liability in European courts (i.e., the UK, or UK depositors, can't go and sue Iceland for compensation in a UK court for breach of the EEA). So there's no scope for the application of the state immunity doctrine.

A breach of the EEA Agreement does expose Iceland to POLITICAL liability (since under the EEA, the UK or other European countries would be entitled to pursue "safeguards" against Iceland, and moreover, even in the absence of the EEA, the UK could always exerise its sovereignty in order to impose domestic political sanctions on Iceland (i.e., freezing assets, impose trade or investment barriers, barring Iceland from the EU). But state immunity doesn't provide protection against political actions by other states.

In that light, the absence of any reference to the state immunity doctrine isn't particular surprising.

[genauer]

1. The consequences of default
Often people think only about that a default or personal bankruptcy frees them
from a seemingly unbearable debt burden. This is very visible and easy to understand.
And when you look at it, after some 5 - 10 years in can be that people lend money to you again.

What people do not see and understand, are the consequences.
At first everybody demands upfront money, does not deal at all, and / or will
bill you the risk associated with you as an insurance premium.
Since Greek hospitals cheated their suppliers, they will not get emergency supplies.
This also cuts you out of all higher value production chains.

The deposit insurance claims are 50 % GDP.
If Iceland reduces its consumptions for just 3 years to the level of Italy,
this would be paid off.

This is here not a question of "can not", but of "want not".

But it is also clear that the Iceland people (their Government wanted to pay,
they know it would have been better) ruined their reputation.
Other people now know their character.
In contrast to Ireland, they have only themselves to blame for their Iceland banks,
and their own inability to supervise them.

2010 GDP (in PPP k$ per capita, Source: CIA)

GDP
Iceland 36.7
Ireland 37.6
Italy 30.7

Germany 35.9
Czech 25.6

Iceland GDP 12 b$
Export 4.6 b$, Import 3.7 b$
Reserves 4.2 b$

If you compare it to the export surplus of Germany, 5 %, which of our production dont consume ourselves,
it would take Iceland 10 years to pay it of.

Western Germany put a little more than 100 % of GDP over the last 20 years into the Eastern part,
after reunification. This can be done, if their is a will.

[genauer]

2. Europe and law enforcement
It had become a habit here in Europe, that a lot of newcomers, periphery, abuse certain rights, especially veto rights, not for arguing that other regulations would be better, or that they dont want a certain centralization, but basically blackmailing the large majority, and extracting a little extra. I dont want to go into many details, but Cameron in Dezember 2011 was just the lastest example,trying to trade his veto right for some completely unrelated privileges.

If such a behavior goes on too long and becomes too widespread, it destroys a community like cancer.
Why should then not Germany start to demand extras ?

And every good we gave to Greece, like extremely low interest rates, was demanded the same day
by Ireland and Portugal. And the Greek conclusion was always, that they just breakt their commitments, and demand more help.

That means, that there is now no other choice but to strictly tighten the enforcement, and punish violations very visibly, or the whole thing falls apart. The Finnish, Dutch, German taxpayers are mad as hell, and for good reason.

If Iceland gets away with this, you can not justify any future EU emergency loans for anybody any more.

[vjk]

Bob:

"Again, the Icelandic deposit insurance scheme wasn't an insurance contract, or any other kind of contract, it was a statutory compensation scheme"

I respectfully disagree :) for the reasons I gave above.

Additionally:

Deposit protection has traditionally been treated as "insurance" both in theory and practice in various jurisdictions worldwide. The language itself in the Icelandic act explicitly uses the word "insurance" (http://esb.utn.is/media/esb_svor/17_-_Economic_and_Monetary_Policy/Annex_17-13_K_Act_on_Compensation_Scheme.pdf).

E.g. "deposits which Member Companies or their parent or subsidiary companies hold on behalf of depositors shall not be exempted from insurance pursuant to Paragraph 1."

The TIF itself(a private institution) is a merged entity created out of two private predecessor insurance companies.

Compare:

Liability insurance:
The business/individual is forced to buy an insurance (a compulsory contract). The third party beneficiary (a non-contracting party) is covered even though it has no clue that there is a contract from which it can benefit, and can sue the insurance company in the case of breach.

Deposit insurance;
The bank is forced to buy the insurance (a compulsory contract). The third party beneficiaries, the bank's depositors, (although I am inclined to think the depositor is a contracting party) are covered as above in the case the bank is unable to pay back the deposit.

Of course, I may be mistaken and the Icelandic TIF is not an insurance contract arrangement as you stated. The court will let us know some day if ever :)

[Bob Smith]

vjk, that the scheme was an "insurance" scheme is self-evident, but that doesn't mean much. There are lots of statutory "insurance" schemes that don't contain a contractual element - to name 3 in Canada, employment insurance, the workplace safety and insurance board, deposit insurance.

Also, vjk, your discription of how liability insurance works isn't correct, so the analogy to deposit insurance doesn't work. If I'm harmed by a party to a liability insurance contract (the "wrongdoer"), I don't have a contractual (or any other) right to sue the insurer. That's just wrong. I do have a right to sue the wrongdoer and he has a contractual right to compel the insurer to assume his liability vis-a-vis me. At the end of the day, the insurer will typically take carriage of the court case (because, hey, it's on the hook for any liability), but it does so by stepping into the shoes of the wrongdoer, not in its own capacity. That the wrongdoer entered into an insurance contract doesn't give me any rights vis-a-vis the insuer, it does give them rights vis-a-vis the insurer. If, for whatever reason, the insurer declines to pay the award (say, for example, because it took the view that the wrongdoer did something to void coverage), I wouldn't have a right to sue the insurance company to enforce the insurance contract.

[vjk]

Bob:

Although we ploughed the insurance ground enough :), I'd like to comment on your remark below:

"Also, vjk, your discription of how liability insurance works isn't correct, so the analogy to deposit insurance doesn't work. If I'm harmed by a party to a liability insurance contract (the "wrongdoer"), I don't have a contractual (or any other) right to sue the insurer."

"I don't have a contractual (or any other) right to sue the insurer" is a sweeping statement that may or may not be applicable to certain Canadian jurisdictions' arrangements, but your claim is far from being true in general.

In the United States, the majority of jurisdictions have adopted the Restatement (2d) of Contracts' intended beneficiary test that may confer on the third party a right to sue despite the lack of privity.

E.g. under Massachusetts case law, "a third-party claimant to an insurance policy has standing to seek recovery under G. L. c. 93A against the insurer for its failure to effectuate a prompt, fair, and equitable settlement" (JAMES A. CLEGG vs. JEFF L. BUTLER & others, 424 Mass. 413)

Likewise, in the UK, under certain circumstances and largely similar to those in the US the third party can sue under the Contracts (Rights of Third Parties) Act of 1999.

Dutch adopted a similar law with regard to third parties rights in 1992.

Etc.

Thus, the analogy does work assuming the deposit insurance is a contract.

[Determinant]

I would be fascinated to know if this blog has been read in Iceland and what Icelanders think of our conversation here.

[genauer]

@determinant

good point. What is the fraction of canadians, who understand these laws at the level of Bob and vjk, 0.1 %, 0.01% ? What is the fraction of blog participants ? 1 %, 0.1%?

Canada is about 34 m people, Iceland 0.3 m. less than 1%

Is there even 1 person in Iceland, who understands the arguments of Bob and vjk ? And what does that mean for them to run an international bank ?

[Stephen Gordon]

Determinant: I regret to inform you that there have been no visits from Iceland since March 2.

[Determinant]

Pity. There goes my chance to make the Rekjavik headlines. ;)

[Patrick]

"If Iceland gets away with this, you can not justify any future EU emergency loans for anybody any more."

Sorry, your lost me. Iceland received IMF aid, but did they receive aid from the EU? I don't think so (I could be wrong though).

To my (possibly incorrect) knowledge, the basic story is that Iceland went bankrupt as a result of their banking system going bust. The liabilities of the banking sector were too big for the sovereign to backstop, so the sovereign made some choices about who would get paid and how much. Some people (mainly the UK and Holland) don't like how that turned out. At t this point we enter the morass Bob and vjk were discussing above (I'm with Bob, FWIW).

So assuming this basic story is correct, I don't see how it bears on emergency loans; there where none. I think the lesson would be more along the lines: don't go chasing high interest rates in foreign banks in tiny countries lacking the wherewithal to backstop their deposit insurance and the regulatory clout to enforce compliance with safety and soundness rules.

[genauer]

Patrick,

Iceland did get additional money from EU countries, but as bilateral loans,
since they are not part of the EU, and the other facilities (EFSF, EFSM) did not exist at this time.
http://stofnanir.hi.is/ams/sites/files/ams/Iceland-Ireland-Report%20final%20version_Kirby_Baldur.pdf
page 16

But you are spot on with your lesson, and I think many investors now go by that, German 30-year bund rates are at 2.4 %, after tax that does not even compensate fully for inflation. Needless to say, I always was only in German bunds and US bonds : - )

[genauer]

A little gem from http://en.wikipedia.org/wiki/Icesave_dispute , which I just see now:

"the German authorities swiftly seized all the assets and deposits in Germany before the Icelandic managers were able to move them, thus preventing them from being transferred to Iceland or other offshore accounts.[15] German depositors started to get their capital back on June 22, 2009"

It really pays to have some well functioning bureaucracy.

[test]

I just lost a massive comment giving a timeline, of "Chartered Banking in Canada" by A.B. Jamieson 1955.
the first 100 pages cover a lot of important ground.

wrt to Newfoundland. 1893 US financial crisis. Both Newfoundland banks failed, December 10,1894.
Jamieson describes the 3 CAD banks setting up shop. "The primary object of this enterprise was to provide banking facilities and a currency which would circulate freely at its face value... all the banking business of the country had been conducted with these two institutions, and almost the entire currency in use existed of their notes. .. Business was at a standstill and the people in a state of panic when the Canadian banks opened their doors; Nova Scotia Dec 21, 1894. Montreal Jan 8 1895, Merchants of Halifax a week later."

couple other things.
The chartered banks continued to issue their own notes until the gov withdrew that right from them with the creation of BOC in 1934(5%annual drop). The BoC was recommended according to royal commission because of the incompetence of administrators of finance act in keeping a stable exchange rate :) Bankers opposed. And Mr Leman dissented.

1869 battle against state monopoly on notes, banker responses in Journal of The Canadian Bankers' Association, Vol 5. pp. 65-112.

1940 Alberta wanted to set up an institution chartered under the bank act so they could issue their own notes, retried 41 and 44.

plus lots of other good stuff.

[Gregory Sokoloff]

For background on Iceland, I recommend the webcast of the IMF conference there in October of last year. Willem Buiter, in what was probably not his finest hour, continued to argue that Iceland should join the Eurozone. I believe there was passing mention by somebody at some point of Iceland adopting the Loonie. In any case, Paul Krugman stuck to his oft-stated view that you're better off with your own currency--advice he also gave to Canadians at the Munk Debate in Toronto.

[RebelEconomist]

If, in the absence of Icelandic commenters, readers want to read about (albeit from a British point of view) the more hysterical arguments that were raised at the time of the first Icesave referendum, this blog post of mine may be of interest: http://reservedplace.blogspot.com/2010/03/on-thin-ice.html

[Odin]

I'm no professional economist but I have been to Iceland recently and the tour guide I had one day told me more information about the crisis in Iceland than I ever expected to hear. I can understand their willingness to hitch themselves to a larger currency because of how they have been burned by wild swings in the Icelandic Krona. However their current aluminum industry possesses two advantages: one - access to abdundant and inexpensive geothermal energy, and two - a very low exchange rate. Switch all this to $CAD and you loose the latter. Plus there is virtually no economic linkage between Canada and Iceland, they might as well adopt the Indian Rupee or the Brazilian Real.
However if Canada ever really wants to fulfill its manifest (arctic) destiny, getting Iceland on side would make for a great squeeze play for Greenland. And then off all the seniorage Canada would make we could lever that up for the purchase of Alaska. I call this the Western Hemispheric Arctic Doctorine. The logical conclusion of the True North Strong and Free.

[Loftur Altice Þorsteinsson]

1. Adopting the Loonie will be equivalent to adopting gold as Iceland’s currency or setting up a currency board using USD as a reserve. This is part of Rule-bound Monetary Policy, adopting a fixed exchange rate as opposed to Discretionary Monetary Policy using a floating exchange rate. For small economies a fixed exchange rate is a MUST.

2. A lender of last resort to banks has proven extremely dangerous. There is no reason to give such a support to the high flying bankers. All countries should abolish the “lender of last resort” concept and this is in fact inclusive in the Rule-bound Monetary Policy.

3. During the years before the Crash, the Icelandic Treasury was dept free. Treasuries should not be allowed to collect dept. Therefore, the Icelandic state should not have any need to issue Loodie bonds. Anyway, most states issue bonds in foreign currencies if needed.

4. Why should there be a financial crises in Iceland using a stable currency like the Loonie ? One of the reasons for the Crash was the volatile Icelandic Krona.

5. One of the reasons why the Loonie is so interesting for Iceland is because the common currency would benefit both countries. We wish to increase our relationship with Canada in many areas, not the least regarding the North Pole regions.

6. One of the conditions of Iceland for adopting the Loonie will be that Canada drops seigniorage on the currency used within Iceland. This is an almost fixed amount. Therefore you can stop your calculations.

[Determinant]

Hey, we finally got noticed in Iceland. :)

Loftur, I strongly recommend reading about the history of Newfoundland, Iceland's experience bears a strong resemblance to what happened in 1934 there. Though Canada had always had an eye to incorporating Newfoundland and when we built the current Parliament Building in Ottawa a shield was left blank at the main entrance for it, all the provinces have their coats of arms carved in a circle around the main doors.

To be fair, Newfoundland issued its debt in Canadian Dollars after 1895 and was rendered insolvent in 1934 in part because of that. Britain took over the debt and refinanced it into Sterling. Canada assumed that debt when Newfoundland entered Confederation in 1949, complete takeover of debt for colonies entering Confederation was a standard procedure.

Odin: But yes, let us first annex Iceland, then we'll take Greenland. ;) A pity that Russia wanted to sell Alaska in 1867. If they had waited until 1870 we would have taken it off their hands for even more money than the Americans paid, remember that when Alaska was purchased it was known as "Seward's Folly" and thought of as a joke and a stupid decision.

Point of interest about the Bank of Canada and bank notes in general: the Bank of Canada was set up partly out of commerical reasons, the Royal Bank of Canada wanted to get the Government of Canada's business away from the Bank of Montreal. The Bank of Montreal is the oldest bank in Canada, founded 1817. It had been the fiscal agent of the Province of Canada (Ontario & Quebec) since 1854 and of the Government of Canada since 1867. Many of the practical functions we think of the as the Bank of Canada's job were done by the Bank of Montreal. Finance had some other monetary policy functions, the role of which increased during WWI.

The Royal Bank wanted to deprive the Bank of Montreal of its "rent" from government business.

Alberta's attempts to actually set up Social Credit are well-documented but were frustrated through the use of the Reservation and Disallowance power of the Federal Government in which the federal Minister of Justice can disallow (overturn) any provincial act he wishes for whatever reason. This power hasn't been used since the 1960's and it's considered obsolete.

[Loftur Altice Þorsteinsson]

Determinant, you are right that economic hardship is dangerous to the independence of small states. However there is a great difference between Newfoundland during the Great Depression and Iceland of today.

Notice that the European Union (EU) poses considerable threat to Iceland’s independence, but there are strong indications that we will not surrender. Several opinion polls have been made and during the last 30 months on average 65% of the electorate have been shown to be against assimilation. See the table in following article:

http://samstada-thjodar.blog.is/blog/samstada-thjodar/entry/1225996/

In my opinion adopting the Loonie poses no threat to Iceland’s independence. On the contrary, a close cooperation with Canada will be very helpful in avoiding the enormous pressure exerted by the EU. The European Union has earmarked almost one billion Canadian Dollars for its propaganda in Iceland.

Some of the benefits to Iceland of adopting the Loonie can be found in this article by Alex Jurshevski:

http://samstada-thjodar.blog.is/blog/samstada-thjodar/entry/1228227/

[Determinant]

Newfoundland didn't surrender (to Canada), it gave up Responsible Government (elective democracy) in 1934 in return for the UK, still the colonial master, assuming its debts. The Governor was appointed by London and ruled directly, assisted by a Commission of Government.

In 1948 as ever London wanted to wash its hands of Newfoundland and Canada wanted Newfoundland. Joey Smallwood was a convenient politicians to do the ground work, he was funded by Canada. When he visited Ottawa he was given a list of rich Liberal donors in Toronto and Montreal to secure whatever money he needed. The cartoons in his campaign newspaper, which were memorable, persuasive and popular in Newfoundland were done in Toronto by the editorial cartoonist of the Globe & Mail and mailed to Newfoundland daily.

In Canada when it comes to Confederation elections we usually don't care much about rules.

Speaking of seigniorage revenue, Iceland will be out of luck, the Department of Finance and the Bank of Canada have said there will be no negotiations or concessions from Canada of any kind. The Ambassador's speech was cancelled at the request of the Department of Finance.

Much as we joke about the government around here, Finance is the best of the federal Public Service which is the best of all the government bureaucracies in Canada. They are very, very good at what they do, but they aren't negotiating with you. Sorry.

[Determinant]

Loftur:

I read the article, there are a few problems with its reasoning. My thoughts follow.

" lower borrowing costs for everyone in Iceland;"
- Canada is indifferent to this.

"a wider and deeper pool of investors for Icelandic bank, corporate and government debt;"
- Icelandic obligations denominated in Canadian dollars are still foreign bonds. In Canada we call Canadian-denominated debt issued by foreign corporations Maple Bonds, there is a market for them. Maple Bonds can only be bought by "Accredited Investors" which means people with $1 million in assets and institutions such as pension funds aren't guaranteed to buy them, they may have investment policy restrictions.

"The availability of deep hedging markets that would make it easier for banks, governments and companies to manage balance sheet and income statement risks. This would likely make it possible to abandon the indexation of consumer financial contracts that caused too much pain and social division during the crisis."
-OK. Again, we don't care. We're not affected by it at all.

"Access to the North American Free Trade area becomes a possibility;"
- In short, no. NAFTA is a tripartite treaty between Canada, Mexico and the US. It is not the EU, it was never meant to expand. The US would have to approve any change, specifically the US Senate has to approve any changes. The US Senate has a long history of stalling or rejecting treaties. US Congressional politics can be ridiculous and tedious. The US Congress is barely aware of Canada at the best of times and we spend money lobbying Congressmen. I have a friend whose former job at Heritage Canada included keeping track of the Canadian Studies programs at US universities (there are 38 of them) so we could shower them with money and attention (invite them to boozy conferences and dispatch the Canadian Ambassador to visit the students) so we would have some friends on the other side. For all this the US Congress doesn't give a flying fig about Canada 90% of the time.

"There would be no loss of sovereignty or resource rights as there would clearly be if Iceland opted to jump into the Eurozone;"
- Read on. First, you'd lose currency flexibilty, very likely control over your entire financial system.

"It would be a boost to trade flows;"
- Iceland has the same population as Hamilton, ON, a mid-sized city in Canada. Ottawa has three times the population, Toronto has ten times Iceland's population. Maybe shipping companies in St. John's and Halifax would benefit, but to be honest you're not big enough to make a difference.

"The financial efficiencies would improve productivity and competitiveness in Iceland;"
- Again, nothing to do with Canada.

"Closer cooperation on stewardship and management of Arctic and undersea resources would result in a bigger voice in international fora such as the Arctic Council;"
- A minor benefit. We just want our sea boundaries respected, no environmental disasters in the North West Passage and to be left alone.

"The Loonie would provide an almost impregnable defense against any attempts to run the currency against the Icelandic Central Bank and necessitate exchange controls;"
- Canada is the nation that floated its currency in 1949 when everyone else was pegging theirs under Bretton Woods. The Bank of Canada thinks your crazy for wanting a currency board, which says as much about their viewpoint as yours. We're on different planets.

"Access to an acknowledged first rate financial and regulatory system also becomes a possibility, and even if not adopted, the forgoing benefits would trigger a changed and hugely positive ratings picture for Iceland."
- Becoming part of the Canadian regulatory system implies a loss of sovereignty. The bank system in Canada is based on very tight federal regulations and the specific constitutional power of the Federal Government to regulate banks. There is no way we can duplicate this in Iceland short of annexation, mostly because the Canadian model can't exist without legal enforcement by Canadian institutions. Iceland just isn't a substitute, even if you contracted the job to us. Further there are downsides, stocks/equities trading is provincially regulated and far looser, the Americans do a better job than we do. Canadian penny mining stocks are a synonym for scandal or fraud. See Bre-X.

In short, there is almost no benefit for Canada aside from pride and increased traffic through the ports of Halifax and St. John's. It might be more interesting if you sold all your banks to Canadian banks and let us take over your financial institutions completely like Newfoundland did, but that was a prelude to annexation and Newfoundland was always the Wayward Colony that was Going to Come In Eventually anyway. Sorry, this is a non-starter.

[Nick Rowe]

Determinant: Sure, first we would watch for Canada's interest. But if there were no cost to Canada, why not help Iceland? I'm more worried about whether it would be in Iceland's interest. I can understand why they might not want to join the EU.

Loftur: welcome to the discussion! We were wondering when someone from Iceland would read this, and join in.

A couple of questions for Iceland to consider:

1. A (commercial) bank borrows short and lends long. What happens if there's a run on Icelandic commercial banks, and you don't have a lender of last resort?

2. There are always temporary periods when a government wants to borrow -- to invest in a big infrastructure project, or in an emergency. Are you sure that it's best for a government never to have debt?

3. What about keeping your own Krona but fixing the exchange rate to the Lonnie?

[RebelEconomist]

@Loftur Altice Þorsteinsson

Iceland should adopt some other country's currency, and maybe various other government services like regulation, if that country will have them, for ICELAND'S benefit. Perhaps you did not read my comment above, but the key conclusion I would draw from the Icesave debacle is that Iceland is just too small to attempt to run some complex functions of a developed economy itself. As long as it tries to act like a full-sized country, Iceland is running the risk that the number and/or quality of the people in charge of one of these functions means that a potentially crippling problem gets overlooked.

As for "the European Union (EU) poses considerable threat to Iceland’s independence, but there are strong indications that we will not surrender", you should consider the disproportionate benefits small countries get from joining the EU. Because many EU activities are still organised on a national basis, in some areas you nominally get the same influence as, say Germany, eg in terms of EU commissioners, ECB council members, vetoes etc. If the EU would let Iceland join on that basis, it seems hard to believe that this would not represent a large net advantage to Iceland. Unless Canada makes you a better offer of joining the conferation that is.......

[Loftur Altice Þorsteinsson]

Nick, in my opinion the concept of “lender of last resort” is a big mistake, which is corrected by Dollarization or fixed exchange-rate regime under a currency board. Both types belong to Rule-bound Monetary Policy.

There are several instruments which are available if the general public is not willing to provide the banks with lending of last resort. The most natural one is for the banks themselves to be responsible for their own operations. Insurance can be bought for all kinds of situations. Why should there be a run on a bank if it behaves prudently ?

In order to safeguard deposits in case of a bankruptcy, no bank should be allowed to depend entirely on deposits, perhaps not more than 50%. If deposits are given preferential status, as is done in Iceland by law, deposit holders will receive their money once the bank estate has been wound up.

I am sure that it is best for the state to entirely avoid debt. This should be the general rule, but no rule is without exception. Obviously such situation might arise where even I would admit to borrowing. In 2008 the Icelandic state had practically no debt and this was the reason why we did not experience a total collapse.

Actually, I prefer a currency board arrangement to Dollarization. I have suggested a reserve fund for the currency board consisting of 50% USD and 50% EUR. This would provide a very stable currency regime, because in our hemisphere the main currency fluctuations occur between USD and EUR.

However, there exist geographic, cultural and economic reasons which make a closer cooperation with Canada very feasible for Iceland. We should Talk, as Alex Jurshevski says, and find out what is feasible and what is possible.

[Loftur Altice Þorsteinsson]

Determinant, you state:

“...the Department of Finance and the Bank of Canada have said there will be no negotiations or concessions from Canada of any kind.”

Please refer me to the source of this information. No talks have taken place so it would be very premature to issue such a statement. You also state:

“The Ambassador's speech was cancelled at the request of the Department of Finance.”

Actually the speech was cancelled because of a request by the Icelandic foreign minister Össur Skarphéðinsson. The Social Democrats in government have gone amok because of the strong arguments put forward in support of adopting the Loonie. The bird called Loon is called Himbrimi in Icelandic!

[Loftur Altice Þorsteinsson]

RebelEconomist, I am of the opinion that the European Union offers no benefits to Iceland. It is Iceland which offers huge benefits to the EU, because of the rich fishing grounds, the abundant energy, oil reserves which have been found around Icelandic and the access Iceland has to the Artic region.
This has been confirmed by the EU itself in various documents, for example here:

http://www.europarl.europa.eu/sides/getDoc.do?pubRef=-//EP//TEXT+TA+20110407+ITEMS+DOC+XML+V0//EN&language=EN#sdocta4

Notice follwing statements:

31. Considers that Iceland's accession to the EU would enhance the Union's prospects of playing a more active and constructive role in Northern Europe and in the Arctic, contributing to multilateral governance and sustainable policy solutions in the region; regards positively Iceland's participation in the Nordic Council as well as in the EU's Northern Dimension Policy, the Barents Euro-Arctic Council and the Arctic Council, which is the main multilateral forum for cooperation in the Arctic; believes that Iceland's accession to the EU would further anchor the European presence in the Arctic Council;

32. Highlights the need for a more effective and coordinated Arctic policy of the European Union and expresses the view that Iceland's accession to the EU would reinforce the North Atlantic dimension of the Union's external policies;

[Loftur Altice Þorsteinsson]

Determinant, lower borrowing costs in Iceland will result from a more stable currency, which the Loonie will allow. However, you are right that this does not affect Canada. Borrowing costs in Iceland are high, because under the floating exchange-rate regime of a small economy one can be sure that the currency will soon fall in value.

There will be a deeper pool of investors for the Icelandic market, simply because the same currency will be used in Iceland as in Canada. In fact it is certain that some integration will take place, affecting both countries. There will be no difference between a person who borrows money in Iceland or in Canada. The Bank of Canada issues the Loonie but it does not give any of it away. The money is just a standard of value and is no different whoever uses it.

Access to NAFTA is already a possibility, but would almost certainly follow the adaption of the Canadian Dollar. Iceland already has a free trade agreement with Canada, which came into force 01 July 2009. NAFTA originally was a Free Trade Agreement between Canada and the US, signed on 04 October 1988. Mexico joined 01. January 1994.

Currency flexibility is not desirable for a small economy. I have the words of Milton Friedman for this, although I value my own judgement more. We already have valuable Canadian investments in Iceland and we are not afraid to receive more. Our real adversary is the European Union, mainly because it has a political motivation for its interest in Iceland.

Determinant, you repeatedly say “nothing to do with Canada” The article by Alex Jurshevski is mainly about the advantages to Iceland of adopting the Loonie. There are advantages to Canada also and Ottawa does know this and has expressed desire to open talks. Furthermore, you seem to be phrasing your words like you are the Canadian government, which I do not believe that you are !

Where is your source for this statement: “The Bank of Canada thinks your crazy for wanting a currency board, which says as much about their viewpoint as yours.” I have not yet been in contact with Bank of Canada, but believe me I will soon. Notice that although adopting the Loonie and establishing a currency board with CAD are in effect the similar currency regime, there are differences which must be evaluated.

[Patrick]

Loftur, would you say your views are typical of the views of people in Iceland? In addition to Nick's questions, I'm wondering: what if Iceland suffers some kind of shock that requires a downward adjustment of prices and wages? If it was me, I'd hate to limit myself to 'internal devaluation' as the only means of adjustment. Just look at the terrible situation in Spain and the Baltic. Anyway, having the Krona and your own central bank sure seems to have served Iceland very well. What didn't work well was bank regulation. Rather than adopting the loonie, perhaps Iceland would consider outsourcing to OSFI and bringing the BoC and Finance in to advise on regulation.

[Loftur Altice Þorsteinsson]

Patrick, unfortunately I have no way of answering how many people in Iceland share all my views. The economic problems are obvious, but there are divided opinions regarding solutions. What is causing much confusion and difficulties are the EU assimilation efforts by the Europhiles lead government.

Actually all our economic difficulties are in one way or another resulting from the EU assimilation efforts by the Europhiles. This all started in 1994 when the country was forced to enter the European Economic Area (EEA).

The entry into EEA was forced though Alþingi and although a large number of people signed a petition asking the president to refuse signing the law and thus to call a national referendum, the president miserably failed the people. All opinion polls showed that the legislation would have been rejected.

Internal devaluation is not so difficult in case there is a genuine economic shock. The general public would recognize such an event and agree to necessary measures. This is particularly true of the people now living and having experienced the reckless behaviour of the ruling class, or “valda-aðall” as we call these people.

The central bank of Iceland has a terrible record of continuous devaluations and generally wrong decisions. The Icelandic Króna has since 1939 lost 99.95% of its value against the Danish Króna. The two groups leading the country down this disastrous path are (1) owners of the fishing industries who always wish to obtain higher earnings and (2) currency speculators, who use devaluations to increase their profits.

[K]

Loftur,

I agree with you about lenders of last resort. You don't need them and they just cause moral hazard. But you don't need deposit insurance either. It causes the same moral hazard problems and I think you are wrong to think that you can cause insured banks to be stable though regulation alone. Some kind of LOLR is a necessary result of deposit insurance.

But Iceland could have its cake and eat it too. Lets say you want to adopt the Canadian dollar in order to avoid extreme exchange rate volatility. Create a fund that holds Canadian dollars (or some other basket of currencies), but whose units are the Icelandic Krona (sort of like SDRs). The units are fully redeemable in the underlying assets, thus guaranteeing exchange rate stability. Then let *everybody* hold their money directly as fund units.

In case of recession, the monetary authority could decide to "split" the fund units, thus causing *nominal* depreciation/inflation. Such action would not cause real loss to the holders of money (they would have more Krona, each worth less), but it would be an easy way to achieve an internal wage/price devaluation or general debt reduction. Interest rates would adjust with the expected rate of unit splits (or consolidations).

There is nothing wrong with also letting the banks issue "money." Just make sure everybody understands that they are taking credit risk if they deposit at a commercial bank and that there is a risk free electronic alternative.

If you avoid the temptation to introduce physical hand-to-hand money, you can also eliminate the zero bound and impose negative interest rates if you wish. That would be a major win for macro stability.

[Loftur Altice Þorsteinsson]

K, if I understand you correctly, you are suggesting a currency board arrangement, where devaluation of the operating currency (Króna) is possible. This would be accomplished by handing out more money without increasing the reserve fund (Dollar).

This method to devaluate is not possible under a genuine currency board. Everyone must be absolutely certain that the ratio between the operating currency and the reserve one will not not changed. Therefore the currency board arrangement must be fixed by the constitution. Only extreme difficulties would be allowed to change the arrangement, by the consent of the people through a national referendum. However the idea is interesting.

In my opinion banks can not issue money. They can increase the lending speed, but only to the limit set by authorities for equity ratio of banks. Falsifying the equity ratio was the special method Icelandic banks used to grow fast and fall even faster. The financial authorities failed completely with their supervision and we are gradually placing these people in prison.

[K]

Loftur: "Everyone must be absolutely certain that the ratio between the operating currency and the reserve one will not be changed."

The reason for that is that under the usual peg arrangement (see e.g. DK) if you don't commit 100% to the peg, you'd be subject to constant speculative attacks. But under the arrangement I'm proposing there is no possibility of speculation since convertibility is structurally guaranteed. It would be like attacking the value of an ETF against the underlying basket of stocks. Futile. Normally under a currency board, if a devaluation occurs the holders of money lose. In this case they wouldn't, since they would all receive additional money in proportion to their current holdings. Splits would be almost as inconsequential as a regular stock split. The only effect would be the impact on inflation and nominal contracts (like fixed rate debt).

BTW, I'm not in fact recommending that most of the backing assets should be foreign currency, since if you are going to have a significant quantity of non-bank money you need to make sure that it is funneled into productive investment. I'd advocate backing the money with both foreign and domestic liquid real assets (e.g. stocks) in a proportion in which typical Icelanders would want to hold capital assets.

Finally, you don't want to think of macro stabilization in such an economy in standard NK terms, since money is more like outside money. In this case inflation and the short rate would move together and the CB would have less direct control over the real rate. It would be more like a traditional monetarist perspective where the CB controls the quantity of the medium of exchange and therefore prices quite directly. A purely nominal solution for nominal problems.

"In my opinion banks can not issue money."

That doesn't strike me as a matter of opinion. In fractional reserve systems (all of the currently existing ones?) banks do create money. You may be in favour of that, which is a supportable position, but that doesn't make it false.

[Determinant]

Loftur:

Determinant, you repeatedly say “nothing to do with Canada” The article by Alex Jurshevski is mainly about the advantages to Iceland of adopting the Loonie. There are advantages to Canada also and Ottawa does know this and has expressed desire to open talks. Furthermore, you seem to be phrasing your words like you are the Canadian government, which I do not believe that you are !

This was not the position of the Bank of Canada and the Department of Finance as reported in the Globe & Mail. The Canadian Envoy was muzzled because he didn't represent Canada's actual position. He was countermanded by Finance, the Bank of Canada and his Department of Foreign affairs superiors in Ottawa.

http://www.theglobeandmail.com/report-on-business/economy/currencies/canadian-envoy-to-iceland-sparks-loonie-controversy/article2356634/

http://www.theglobeandmail.com/report-on-business/economy/currencies/canadian-envoy-to-iceland-sparks-loonie-controversy/article2356634/

http://news.nationalpost.com/2012/03/14/is-iceland-loonie-to-start-using-canadas-currency/

In my opinion banks can not issue money. They can increase the lending speed, but only to the limit set by authorities for equity ratio of banks. Falsifying the equity ratio was the special method Icelandic banks used to grow fast and fall even faster. The financial authorities failed completely with their supervision and we are gradually placing these people in prison.

Actually we used this system to great effect until 1934 in Canada, we inherited it from Scotland as our banking system is Scottish in inspiration. Somehow Calvinism and boring banks seem to go hand in hand.

I'm not the Canadian Government by I have spent a considerable amount of trying to secure a job in the Public Service of Canada, the federal bureaucracy, so I am a budding bureaucrat. Safe to say most of Ottawa thinks Iceland is out to lunch on this one.

Though I note that Iceland using the Canadian dollar and more critically borrowing in Canada has significant risks. When Newfoundland defaulted in 1933 its bonds were issued in Canadian Dollars and held by Canadian banks. A Canadian was the third commissioner to sit on the Committee of Inquiry that Westminster set up to look into Newfoundland's problems. We paid for their default as did London. We paid off London in the end when we assumed Newfoundland's debt when they entered Confederation. These arrangements have risks.

Now if Iceland wants to apply to become a Province, that is another matter entirely. Unlike the EU our federation is a functioning democracy and we are honest about our intentions of annexation. Though I have to say we achieved our Manifest Destiny in 1949 when Newfoundland entered Confederation. "Our Proud Dominion now extends, From Cape Race to Nootka Sound. May Peace forever be our lot and plenteous stores abound (bum bum)...."

[K]

Loftur: Unlike Determinant, I don't at all believe that the government of Canada has any problem with the use of the Loonie by foreigners, private or sovereign. It is an unconditional benefit to Canada (seignorage as Nick points out - agree with your calculation btw Nick). The reluctance to speak out is consistent with a general policy of never interfering in other countries' domestic politics. I would think that an official request for acquiescence (without any special requested support) would be cordially received by the Canadian government, and no objection would be made. At your own risk, of course.

[edeast]

I think K's comments and tone have been more useful, and more reflective of what I expect to be the governments position. I think it is an unsafe bet to take Determinant's position. It was merely bad form for the ambassador to attempt to address a political event rather than the government. Which is exactly what Joseph Lavoie said.

[genauer]

I think we had this discussion earlier here. The Viking entity is just one court ruling away to be found racist criminal. They owe UK and NL 5 billion Euro, and I think, after what had happened last year, nobody in Europe is in any mood to tolerate more financial crime. NL and UK will be free and applauded to execute the law. The EU is 80 % of Iceland trade, and I don't see Canada to replace that in a significant way. Confiscations, blocking financial transactions, seizing all assets related to Iceland are the typical consequences for criminals. Helpers get punished as well. Iran was just cut off the SWIFT system, discussed here earlier. I doubt anybody in Europe would care anything about cutting off all Canadian banks involved with penalty evasions from Iceland.

I think it is also very clear that Iceland can never join Europe camouflaging as a kind of "nation". It is just a sub province size entity. And the relevant thing to do in Europe in the next 10 years is to not permanently do ever more injustice to the large, honest, hard working and tax paying majorities for the benefit of tiny habitual criminal "veto swagging" peripheral special interests. Not for London bankers, not for Greek tax cheats, not for Iceland enemies of law and treaties.

My expectation is, it will be either a province of Canada, and Canada paying the outstanding bill, or province of Denmark.

Scottish banking, "boring", like RBS, 99 % owned by the english government now, after being briefly "the largest by assets in the world". I would not like to touch this s..... with a nine foot pole. The other example of Scottish rectitude was Gordon Brown, the master of "new labour" fiscal day dreaming, or ?

[genauer]

LOL, correction,
it should be > 99%, but according to wikipedia http://en.wikipedia.org/wiki/The_Royal_Bank_of_Scotland_Group
the gov share is only 84%. How does such a thing happen ?

My understanding is that in functioning bankruptcy proceedings (US, DE, .... SE, Can ?), the former stock holders are just wiped out completely, in the moment the gov has to take over.

[Loftur Altice Þorsteinsson]

Determinant, thank you for inviting Iceland to become a province of Canada. We will consider the matter in 2112, but do not yet start preparing any celebrations. I am sure that democracy does exist in Canada, which is not the case in the European Union.

I hope that you will obtain a job with the Canadian government if that is really what you desire.

[Loftur Altice Þorsteinsson]

Genauer, your prison wardens are very lenient to allow you access to the internet.

Iceland´s defence before the EFTA Court is here:

http://www.utanrikisraduneyti.is/media/icesave-2011-12/Malsvorn-stjornvalda-i-Icesave-malinu.pdf

Our offence before the European Court of Justice has started:

http://samstada-thjodar.blog.is/blog/samstada-thjodar/entry/1223267/

[Determinant]

Determinant, thank you for inviting Iceland to become a province of Canada. We will consider the matter in 2112, but do not yet start preparing any celebrations. I am sure that democracy does exist in Canada, which is not the case in the European Union.

Why thank you. :)

There is a scandal going around about automated telephone calls and their improper use in a federal election, but those allegations remain unproven and under investigation by Elections Canada. But the mere accusation against the government was enough to cause outrage. Canadians will tolerate many things, but not messing with elections (unless it's a Confederation election and you're a Confederate).

I have been worked as poll staff in two federal elections and Elections Canada is an outstanding organization. Their training materials are top-notch and their procedures are first-rate. They are very, very good at what they do which is taking volunteer staff from all across Canada and teaching them to run free and fair election by following the manual.

[genauer]

@ Sokoloff (March 10)

I think you are spot on. It is always Willem Buiter as the mouthpiece of Citigroup,
who has all those interesting ideas, how to make central european tax paxpayers pay for
every other entity, like his employer or Iceland.
To the applause of Paul Krugman, who es never shy to support such crimes,
like breaking the Maastricht treaty, etc.

@RebelEconomist
I think your analysis from March 2010 was pretty precise,
including the advice that prompt acknowledgement of the debt is an advantage for Iceland,
and will certainly not cause any misery for them.

As I referenced here above, German authorities just seized the assets from the criminal
Iceland entities. I really like your saying "possession is nine tenths of the law"!

Now it is up to NL and UK, who have some skin in the game, and will mete out the justice.

@Odin
manifest destiny, purchasing Alaska, squeeze play on Greenland, True North ....

True Madness, from a central European perspective : - )

@Determinant
Recommending Loftur to read about Newfoundland is very good advice. Becoming a canadian province is the
best thing the folks on Iceland can hope for.
Your "complete takeover of debt for colonies entering Confederation was a standard procedure."
shows that you understand clearly the implications for Canada.
It will always end in complete annexation, no matter what is written in the next few years.

[genauer]

@Loftur

your 75 pages http://www.utanrikisraduneyti.is/media/icesave-2011-12/Malsvorn-stjornvalda-i-Icesave-malinu.pdf

is pretty hilarious. page 2: "the claim is entirely misconceived" gave me the best laugh for a few days.
Before I read: (page 3) "funding of deposit-guarantee schemes by credit institutions should be harmonised to ensure
they are able to withstand a "mid sized" bank failure - meaning a failure concerning 0.81% of eligible deposits"

This means, that date 8th of March 2012 the entire Iceland entity is still completely delusional, incompatible with
a western world outside your insane asylum.

A "Guarantee" is something with the full faith and credit of a "nation" behind it, which you are very clearly not.
Complete Failure of Supervision and elementay economic knowledge, whom to blame in the psychatric ward ?

Your own blog:
http://samstada-thjodar.blog.is/blog/samstada-thjodar/entry/1223267/

- Sending letters to Some EU web page, and getting some one sentence answer from some sub secretary,
like "we told you already 2 times before about the irrelevancy" and perceiving this as an "offence before the European Court of Justice has started:"

- not being able to reproduce the real letter, but mimicking it.

- endless non-sensical repetition of "unprecedented difficult situation"

- "Liability claims against the United Kingdom and the Netherlands will arise from the breaches of these states against Iceland. The enormous damage done to Iceland by the United Kingdom and the Netherlands is in the order of IKR.10.000.000.000.000. This equals about EUR.200.000 per person living in Iceland. One of the consequences of the crimes done by the United Kingdom and the Netherlands is massive emigration from Iceland."

Reading all this from you, I think you should go and see a (psycho) doctor.