Why Iceland?
Few people would think of the subprime crisis as affecting a country like Iceland, yet, the meltdown of Iceland's finances is essential to the understanding of how the subprime debacle has undone a lot of Europe's economy.
Iceland is a remote European nation. Their golden reputation for handling imbedded social difficulties has made it the top country in the United Nations recent human development index, but observers are saying Iceland could evolve as the most recent casualty of the subprime crisis.
How it Happened?
Iceland's banks did not gamble on washed out subprime stocks, they received their funds from international investors; thus, Iceland was deeply dependent on these investors' funds. During normal economic cycles, this would not have been a problem; however, these are not normal financial times.
To comprehend, the subprime crisis, one must realize that investors had not done their "homework." They did not realize the problems that are inherent to lending money to people with poor credit backgrounds. Investors now think that there are problems behind every door and now even borrowers with "clean credit" histories can find it almost impossible to obtain credit.
The results
Iceland was sure that global credit would be available despite any possible scenario. Unfortunately, this supposition was incorrect. They key here is that speculators saw this as an opportunity to possibly run down the value of the krona, Iceland's currency. Further, they foresaw a run on the banks.
Observers cite the story of how in 1998 hedge funds conspired to attack the currency of Hong Kong's financial system. This financial maneuver was quelled by the government's purchase of a large piece of the stock market, however, it cannot be stated that this sort of "maneuver" is planned for Iceland.
The Implications
Iceland's current problems clearly demonstrate the strong ties of global markets; what happens in one place on the globe stirs the pot in other nations.
Iceland is not totally devoid of responsibility. The country went wild with spending and borrowing. Such behavior incites the interest of foreign investors and may persuade them to invest elsewhere. In order to keep, the krona on an even keel, Iceland's central bank has raised interest rates to 15 percent, this action is sure to slow the Icelandic economy.
The financial problems of Iceland seem immaterial, but when viewed as a microcosm of the entire subprime crisis, it offers a clear and unique way to understand what is occurring in the worldwide financial circles in the year 2008.
Written by Sandra Pianin |
