Iceland, originally considered "the happiest country in the world" by the world, fell into the hell of national bankruptcy overnight. If we delve deeper into the reasons for Iceland's bankruptcy, we may be able to discover the culprits and serve as a reference for other countries.
Iceland was originally a small country with a population of 30,000 whose main financial income was fishery, tourism, and US military garrison assistance. In 2003, due to the increase in global demand for raw materials and the fact that investors such as Alcoa believed that Iceland could provide a large amount of cheap and clean energy with hydropower, they successively invested in the construction of giant aluminum smelting plants in Iceland. The continuous influx of foreign investment (mostly related to energy resources) has pushed up the Icelandic economy over the past decade and become a victim of the support operation of borrowing and high consumption, turning the Icelandic economy into a mini version of the US economy, and the national debt clock has long been broken. surface.
On the other hand, the entry of a large amount of foreign capital has greatly increased the labor market demand in Iceland, and the labor demand in short supply has also continued to push up the wages in Iceland. Driven by high wages, there is a hidden crisis of inflation. Because everyone is optimistic about the future economy, they continue to borrow money from banks for consumption. Personal loans have grown by as much as 70% every year, and the Icelandic stock market has more than tripled.
Due to the early appreciation of the Icelandic currency krona due to the large demand for foreign capital, Icelandic companies were also happy to enjoy the benefits of appreciation and borrowed large amounts to purchase foreign companies. Under the vicious cycle of Icelanders using debt to finance their debts, Iceland's total debt ratio is as high as 3.5 times its GDP, surpassing the debt-laden United States.
In order to curb inflation caused by foreign investment and support the Icelandic currency, the Central Bank of Iceland continues to raise interest rates. However, the high interest rate policy of the Central Bank of Iceland has attracted international bloodthirsty speculators to continuously move money for arbitrage, which has accelerated the financial crisis in a vicious circle.
As early as the beginning of this year, many credit rating agencies discovered that Iceland’s economy was experiencing unreasonable prosperity and lowered its credit rating. At this time, the ratio of Iceland's short-term borrowings to its foreign exchange reserves was already 1.35 times its exports. The high debt ratio forced the Icelandic central bank to adopt a tightening monetary policy. However, the tightening monetary policy forced the banks to reduce their support to enterprises and households. financing, and reducing the liquidity of funds.
According to statistics, the ratio of Iceland’s housing purchase expenditures to GDP has dropped by 5 to 10 percent due to tightening policies. Judging from an economy as small as Iceland's, the reduction in GDP will lead to an increase in public expenditure, and Iceland's finances may turn from a surplus to a deficit. If the situation continues to deteriorate, the financial system may be involved. In order to solve the risk of financial institutions being involved, the government must step in to solve the crisis. This is also the main reason why the Icelandic government must step in to borrow money from other countries.
The irony is that high government borrowing, large amounts of foreign investment and overheated consumer spending created the illusion of wealth in Iceland in the past, and these three main factors that promoted the Icelandic economy have now become the culprits of Iceland's crisis. The depreciation of the Icelandic currency, the krona, has led to an accelerated withdrawal of foreign capital, similar to what happened in Thailand during the Asian financial crisis.
The Icelandic central bank’s liquid assets are only about 4 billion euros, but the total foreign debt of Iceland’s four major banks is as high as 100 billion euros. The government is unable to provide relief if it wants to. Iceland's imports account for 45% of its GDP, and its purchasing power has plummeted due to consumption contraction and currency depreciation. A series of domino effects have led to Iceland facing a bankruptcy crisis today.
Faced with the unstoppable decline, Iceland has now taken over three of the largest banks in the country. The Prime Minister also admitted that small countries are not suitable for an overly open economy. Perhaps this is a great opportunity for countries and regions currently pursuing economic development. Good warning. Look at Iceland and think about yourself. Maybe we can learn something from Iceland.