FacebookTwitterGoogle+RedditEmail

The Icelandic Follies

Those who thought we have seen as much financial craziness as possible from this small island-country are in for a big surprise. The nuttiness is just beginning. Iceland is apparently considering adopting the Canadian dollar as its official currency.It is hard to know where to begin the ridicule. If they had any sense, the people of Iceland would be thanking the god of small currencies every day for the fact that the country had its own currency, as opposed to say, being part of the eurozone at the time that its financial system imploded.

As a result of having its own currency, the country was able to make much of the necessary adjustment to the crisis by allowing the value of its currency to decline relative to the currencies of its trading partners. This made imports more expensive, sharply reducing the volume of imports. The lower-valued Icelandic kroner also made its exports cheaper, leading to a surge in exports.The effect of this change in relative prices was that Iceland’s massive trade deficit, which soared to more than 28 percent of GDP in 2008, is projected to be turned into a surplus of more than 3.0 percent of GDP this year. This incredible turnaround restored the economy to growth in 2011 and has started to bring Iceland’s unemployment rate down.

The 6.7 percent unemployment rate Iceland reported for the fourth quarter of 2011 is high by Icelandic standards but looks great compared with the euro-bound crisis countries. The most recent unemployment rate reported for Portugal was 13.6 percent, for Ireland 14.5 percent, Greece 19.2 percent, and Spain 22.9 percent.

These countries were cursed by being on the euro for three reasons. First, they were stuck with the European Central Bank’s (ECB) obsession with inflation. While much of the debt burden of ordinary Icelanders has been alleviated by two years of 12 percent inflation (2008 and 2009), debtors in the eurozone crisis countries have had to suffer through the ECB’s celebration of continuing low inflation.

Second, by being unable to devalue their currency, the eurozone countries could not rely on a jump in net exports to provide the same boost to growth as in Iceland. Finally, being a part of the euro meant that the ECB, along with its partners the IMF and the European Commission, were able to demand budget cuts and tax increases even in the middle of a steep recession, slowing economies in the crisis countries even further.

The imbalances created by Iceland’s financial excesses of the last decade dwarfed anything seen in the troubled eurozone countries. Its current account deficit exploded to an incredible 26 percent of GDP in 2006. This was enough to even get the attention of the IMF, an organization not ordinarily troubled by irrational exuberance in private markets. If Iceland did not have the freedom to use the devaluation of its currency as a key part of its adjustment process, it might be looking at a decade or more of stagnation and high unemployment.

Rather than celebrating this good luck, Iceland’s leadership seems intent on putting the country into the same sort of straightjacket as its less-fortunate eurozone neighbors. If Iceland were to join any major currency block, it would immediately lose the flexibility that protected it during its recovery from the crisis. For this reason, the country should be extremely cautious about the terms under which it relinquishes control of its currency.

However the choice of Canada is especially bizarre. As a major exporter of oil, Canada’s currency is likely to follow the price of oil. This means that when the price of oil is high, the Canadian and also the Icelandic currency will rise in value. This will have the effect of raising the price of Icelandic goods and services relative to prices in other countries.

That will make Iceland less competitive in the world economy. It will be buying cheap imports from abroad instead of domestically produced goods and its exports, for example tourism, will shrivel as people decide that Iceland is too expensive.

Canada has this problem as well. In recent months there have been several instances where major manufacturers announced decisions to relocate to the United States to take advantage of the relatively lower costs here. The difference between Canada and Iceland in this story is that Canada will have the income from its oil to tap to help ameliorate the displacement that results from a rise in the value of its currency. Iceland is not likely to be able to share in Canada’s oil wealth in the same way.

The last time Iceland’s leaders were infected with nutty ideas about the economy they hired Frederick Mishkin, a prominent U.S. economist to say that everything was just fine even as the financial system was just about to implode. Let’s hope the public forces them to take a more serious route this time.

Dean Baker is the co-director of the Center for Economic and Policy Research (CEPR). He is the author of Plunder and Blunder: The Rise and Fall of the Bubble Economy and False Profits: Recoverying From the Bubble Economy.

This article originally appeared on Al Jazeera.

More articles by:

Dean Baker is a macroeconomist and co-director of the Center for Economic and Policy Research in Washington, DC. He previously worked as a senior economist at the Economic Policy Institute and an assistant professor at Bucknell University.

July 18, 2018
Bruce E. Levine
Politics and Psychiatry: the Cost of the Trauma Cover-Up
Frank Stricker
The Crummy Good Economy and the New Serfdom
Linda Ford
Red Fawn Fallis and the Felony of Being Attacked by Cops
David Mattson
Entrusting Grizzlies to a Basket of Deplorables?
Stephen F. Eisenman
Want Gun Control? Arm the Left (It Worked Before)
CJ Hopkins
Trump’s Treasonous Traitor Summit or: How Liberals Learned to Stop Worrying and Love the New McCarthyism
Patrick Bond
State of the BRICS Class Struggle: Repression, Austerity and Worker Militancy
Dan Corjescu
The USA and Russia: Two Sides of the Same Criminal Corporate Coin
The Hudson Report
How Argentina Got the Biggest Loan in the History of the IMF
Kenn Orphan
You Call This Treason?
Max Parry
Ukraine’s Anti-Roma Pogroms Ignored as Russia is Blamed for Global Far Right Resurgence
Ed Meek
Acts of Resistance
July 17, 2018
Conn Hallinan
Trump & The Big Bad Bugs
Robert Hunziker
Trump Kills Science, Nature Strikes Back
John Grant
The Politics of Cruelty
Kenneth Surin
Calculated Buffoonery: Trump in the UK
Binoy Kampmark
Helsinki Theatrics: Trump Meets Putin
Patrick Bond
BRICS From Above, Seen Critically From Below
Jim Kavanagh
Fighting Fake Stories: The New Yorker, Israel and Obama
Daniel Falcone
Chomsky on the Trump NATO Ruse
W. T. Whitney
Oil Underground in Neuquén, Argentina – and a New US Military Base There
Doug Rawlings
Ken Burns’ “The Vietnam War” was Nominated for an Emmy, Does It Deserve It?
Rajan Menon
The United States of Inequality
Thomas Knapp
Have Mueller and Rosenstein Finally Gone Too Far?
Cesar Chelala
An Insatiable Salesman
Dean Baker
Truth, Trump and the Washington Post
Mel Gurtov
Human Rights Trumped
Binoy Kampmark
Putin’s Football Gambit: How the World Cup Paid Off
July 16, 2018
Sheldon Richman
Trump Turns to Gaza as Middle East Deal of the Century Collapses
Charles Pierson
Kirstjen Nielsen Just Wants to Protect You
Brett Wilkins
The Lydda Death March and the Israeli State of Denial
Patrick Cockburn
Trump Knows That the US Can Exercise More Power in a UK Weakened by Brexit
Robert Fisk
The Fisherman of Sarajevo Told Tales Past Wars and Wars to Come
Gary Leupp
When Did Russia Become an Adversary?
Uri Avnery
“Not Enough!”
Dave Lindorff
Undermining Trump-Putin Summit Means Promoting War
Manuel E. Yepe
World Trade War Has Begun
Binoy Kampmark
Trump Stomps Britain
Wim Laven
The Best Deals are the Deals that Develop Peace
Kary Love
Can We Learn from Heinrich Himmler’s Daughter? Should We?
Jeffrey St. Clair
Franklin Lamb, Requiescat in Pace
Weekend Edition
July 13, 2018
Friday - Sunday
Brian Cloughley
Lessons That Should Have Been Learned From NATO’s Destruction of Libya
Paul Street
Time to Stop Playing “Simon Says” with James Madison and Alexander Hamilton
Jeffrey St. Clair
Roaming Charges: In the Land of Formula and Honey
Aidan O'Brien
Ireland’s Intellectuals Bow to the Queen of Chaos 
FacebookTwitterGoogle+RedditEmail