Icelander here - there seem's to be a lot of misconception about what happened in Iceland. We technically let the banks fail, but at no point did my debit card stop working, my online bank go down or my money disappear.
Joe_the_user says we simply nationalized the banks, but that's not true - here's how it was done:
For each bank X (Glitnir, Kaupthing, Landsbanki), there government created their own new X. The following was by force brought into each new X:
This of course created a debt between the new X and the remains of each old X, which took some time to resolve.
On the other hand, a lot of things were left in the falling banks, including international branches, investment accounts (i.e. accounts with interests related to stock performance) and more.
These selective operations of course caused a international controversy (Icesave dispute, e.t.c.), but if the government had let all the banks fail without these transfers - the damage to our economy would have been much greater.
The proper term for what happened is the old banks were put into receivership. This has lasted for a lot longer than is healthy and the husks of the old banks are really poisonous to the economy and the political landscape. Some argue it would have been better to face the catastrophe of a crash than the languishing death spiral that ensued.
>Some argue it would have been better to face the catastrophe of a crash
There was a crash, and the catastrophe was faced by putting the banks into receivership. The alternative was a public bailout, and is only preferable for people who make their incomes by investing in undercapitalized banks.
I meant: put through bankruptcy. That would have been catastrophic for the economy because Iceland would not have had a financial sector at all for some time.
I'm being pretty vague since I'm not really an expert, but yes the old banks were put into receivership but not bankruptcy.
However, previous laws from 2002 already established that financial institutes would not go through normal bankruptcy ( http://www.althingi.is/altext/stjt/2002.161.html ), but I'm not sure how that would have worked out.
I should have put things in a more nuanced fashion.
But the point is that there was no "let the debts fall on the floor, start afresh" action.
And yes, a lot of international stuff was left hanging but as other posters have mentioned, the UK and other central banks stepped in for a lot of consumer-level deposits.
Some portion of speculators were left hanging by the US response to the crisis too. Wow!
My main point is there was many differences in detail but no really fundamental difference between the US response to the crisis and the Icelandic one. Both supported their banks in the main because they had, at least to maintain their existing money-economy.
Part of this is that anyone on Facebook or similar sites is going to see a steady stream of factoids about how Iceland wasn't "fooled by the bankers", I'm responding to such rot.
Also, all the state created entities were eventually returned to private hands, pretty much the same private hands.
An interesting point is there is a difference between damage to paper valuations and damage to the real economy. In Iceland's case there may have been a big paper impact where before the crash your currency was worth so many dollars and after many fewer but in the real world people had the same houses and cars and kept their jobs and so on. In Ireland on the other hand people lost their jobs and houses, topped themselves, emigrated and so on. At the end of the day real wealth and human well being are what counts and the financial system is only a tool to achieve that.
Because the value of most of the things you needed to buy (mostly other people's labors in food service, etc.) was cut in half too. Of course this doesn't count imports (which became twice as expensive in real terms) but that's a hit that can actually be survived.
The value of their paychecks probably remained about constant for local goods such as food and rent. They probably fell a lot in terms of things like flying to London to go shopping and that is a real change but probably one they can live.
It's really the value of their paychecks relative to imports. (In a small country, you do have to export a lot relative to GDP, but you can wind up exporting cheaper too)
Most definately, although the currency has been very unstable from the beginning.
In fact, the ISK/USD has gone from 7.25kr/USD (1981) up to 97.5kr/USD (2001), down to 62.7kr/USD (2005) and is now at 115kr/USD. So yes, half it's value relative to 2005.
However, this probably paint an overly pretty picture, because the currency is essentially fixed by the central bank and protected with restrictive regulations.
For example, if I want to buy USD, I have to show the bank an airline ticket and there's a limit to how much I can buy (< 6.000$ )
First, the majority of Iceland does NOT want to join the EU - and the Mackerel dispute is not helping, since Iceland's main fear of the EU is due to the fishing policies.
To pick up the Europe, Iceland would have to lower their national debt, among other things. However, that's not an restriction to join the EU.
Too-big-to-fail banks is a rational compromise. Some Russians might still remember the failure of Sberbank in 90ths which was a disaster for millions of families (it was the only place to have savings account). You probably cannot imagine what a hell it will be if something like AIG or BoA would allow to fail. At least no government or rich elite could survive such kind of event which very probably will trigger a new period of forceful and bloody wealth redistribution (which is what all revolutions is all about). So govt choices to print its way out of being overthrown.
What Iceland did is subtly different. It lets foreign banks to fail, to bear the consequences of their own risky and stupid investments, and refused to tax its own people to cover foreign bankers loses.
Russians do even "better", they just says to its own folks "sorry, your money is gone" (what can you do?). Sometimes they bother to invent excuses for foreign investors, such as "tax returns" or "market cobditions", but that's very uncommon event. Usually your money just gone and people who did it are "clever guys".)
Notice also how gun ownership indirectly restricts a corrupted government from just plainly robbing it's citizens and promt it to invent some more complicated, less efficient, slow schemes.)
AIG failed. A team in London trading CDS broke the company. The only reason why the corpse of AIG was kept alive was because AIG owed Goldman Sachs a lot of money. Taxpayer bail-out funds that went to AIG passed straight through and into the bank account of Goldman Sachs.
I recently saw an ad by AIG. It's actually sickening. This company failed. Their assets should have been taken over by good insurance companies who managed their risks properly and did not engage in speculative instruments.
By rewarding bad actors like AIG, moral hazard has been introduced into the markets. Anybody who says they support free markets and capitalism must surely agree that AIG should have been allowed to fail. Yes, it would have caused chaos but that's why lawyers and bankruptcy courts exists.
With politicians picking the winners and losers, it's no wonder lobbying is such a popular business.
AIG should have been allowed to fail, and I don't think it would have caused as much chaos as we actually got. The insurance parts of AIG (regulated by the states) were good, it was the financial products division (regulated by the feds) that double dipped and failed. The states would have dealt with the insurance parts in a better manner than the fed.
GM should have been allowed to go into bankruptcy (given the Feds wanted to kill Buick, the best seller for GM in China) and dig out themselves.
[edit] although Iceland's bank and AIG are totally different scenarios
The insurance part needs to run collaboratively across the whole country at least for the economies of scale to kick in. AIG are still a recognisable brand, and an insurance company of that scale is an incredible asset for a society to have (as are Allianz and AXA, etc...)
Also, large insurance companies are incredibly complex, and take a very long time to build up. It would be very silly to let something like that go under for short-sighted reasons.
>Also, large insurance companies are incredibly complex, and take a very long time to build up. It would be very silly to let something like that go under for short-sighted reasons.
I agree. AIG shouldn't have been so short-sighted. But since they were, they deserve to fail like every other business who doesn't adequately plan for the future.
"insurance company of that scale is an incredible asset for a society to have"
Not when it means keeping the ill-handled, tax payer killing investment company. It failed and we did a massive disservice to the tax payers by keeping it open.
> What Iceland did is subtly different. It lets foreign
> banks to fail, to bear the consequences of their own
> risky and stupid investments, and refused to tax its own
> people to cover foreign bankers loses.
What?
Hundreds of thousands of personal depositors across Europe saw their money go poof in Icelandic banks, and their local governments had to pick up the bill. If you are a tax payer in the UK, for example, you got a gigantic FU from the Icelandic government who said "nah, we're not going to bail out our banks, you guys should instead".
You are Engla, the mother of little Johnny. One day, at Johnny's school shows up a little girl called Bjork. Bjork seems to come from a nice family, and you like her Mom, Icelandi.
One day Johnny comes home from school and says Bjork is running some kind of saving scheme, and can he put his pocket money in it? You remember some of the older kids at school doing something similar one time, so you say sure, because besides, Icelandi seems like a nice lady, and you're sure she's got her eye on it.
Johnny gives a bit of his pocket money to Bjork every month, and Bjork's little saving scheme seems to be going really well. Bjork seems a little better dressed these days, and Icelandi is driving a new car. Icelandi is always prattling on at the PTA about how clever little Bjork is.
One day, Johnny comes home in tears. Apparently Bjork showed up at school and said she'd lost track of her accounts, and she no longer had any money to give him. You ring up Icelandi, furious, and ask her to refund little Johnny's money.
"No no", says she, "I think you'll find it's all on Bjork, and not my responsibility". You note she still has her shiny car. Later that day, you find out Icelandi completely refunded Thor, Bjork's little brother, for all the money he had lost, but every other child at school also lost all their money.
Icelandi is hailed on the internet as some kind of popular hero.
I think you're missing part of the story... That part where Ameri's sons/daughters (well only the most privileged ones) went to the Casino on everyone else's dime by obfuscating credit derivatives (Default Swaps) and crashed the entire system.
Seems sort of relevant to an analogy about international finance around this time since the economies are so interconnected.
You're implying that financial markets are not international and that a huge crisis in one will not cause great strife in another?
The crisis was not 'American' in any way, it was international, as is finance. If one group monkeys with the system it causes issues everywhere (even worse if it is a concerted effort by multiple groups). This is especially true if 'trust' in the system is shot to hell which is what derivatives are built and traded upon.
I am not implying that financial markets are not international. Quite the contrary -- you'll note the parent comment referred to Iceland and the UK -- international.
The parent comment offered a simplifying model, that explained fairly clearly that the government Iceland treated classes of bank creditors(i.e. depositors) differently, and thus it was not fully correct to say either that they were bailed out, or they were let to fail. It all depended on where you sat.
Your comment offered no further elucidation, no further relevant information and strained the analogy past the breaking point.
Credit is built on trust (credo = I believe); derivatives are built on contracts.
Whoa Nelly! That analogy was strained past the breaking point long before I pointed the funny stick at it... That was more or less the point to be honest. Attempting to discuss international finance with a schoolyard analogy seems ridiculously oversimplified in the extreme. (also I like the name "Ameri" for a genderless parent. Sue me!) :)
It sounded like you were attempting to imply that there was ignorance of finance being international (or so it seemed... I could be wrong there) and I was pointing out that was not true.
Also contracts and trust are not opposing ideas nor do they address the same aspect of a thing. I'd venture to say that the entire market is (at least to some extent) based on 'trust' that it is not being heavily gamed and information is not being outright falsified.
> Later that day, you find out Icelandi completely refunded Thor, Bjork's little brother, for all the money he had lost, but every other child at school also lost all their money.
It's important to note that Icelandi didn't refund Thor out of her own (Icelandi's) own pocket. Instead, she took the money to reimburse Thor from what remained of the pool of money that Bjork had collected from everyone.
In effect, Thor was reimbursed in full at everyone else's expense.
If you look at a graph of Iceland's GDP, you can see a gently upwardly-curving trend from 1960 thru today, with a massive, abberrant spike sticking up from the trendline from 2004-2008. That's how Icelandi bought her shiny new car.
There is a saying in Tennessee, well its a saying in Texas, I'm sure its in Tennessee too. "If can't spot the sucker after your first half hour at the table you are the sucker."
But really... If bailing out all the foreign investors with the Icelandic public's money (who by and large didn't court the foreign investors in the first place) is the other option... It seems sort of obvious what a country that cares about, or pretends to care about, it's public at large (rather than just its banking elite and financial industry in general) would do.
Not saying it's 'right' or 'wrong' really, but when people invested large amounts of money overseas (into Iceland from wherever) they were gambling and hoping for a gain they couldn't get at home. Sometimes you get burned when you take risks. Sometimes you don't.
People didn't invest large amounts of money overseas. This was not a case of greedy people putting money into some dodgy offshore scheme. That's not what happened at all.
People saved money with Icelandic banks that had opened branches in the UK and the Netherlands. We're not talking about investors - we're talking about depositors, who were supposed to have been protected by a deposit guarantee scheme in the banks' home country.
That is not the story afaik (though I'd happily accept being shown otherwise). There was a great deal of investment 'overseas'. It truly sucks that depositors (who were storing their money in an overseas institution for a better rate) got burned. But I think it is naive to say that the majority of the money lost was simply people storing their paychecks in the bank. The entire finance game was rigged in the first place (as many events have shown) and it seems like everyone was going to get f'd by no fault of their own.
Iceland protecting their public (at the expense of their financial industry) and actually prosecuting (some) of those at fault seems a damn sight better than just having everyone pay out the nose (which happened anyway) and letting gamblers get off with no risk.
I don't think Iceland is popular for screwing the UK and saving themselves, I think they're popular for punishing their bankers, which is something your analogy doesn't seem to make any mention of...
As opposed to getting off the hook totally free and having all the other kids in school, who were smart enough not to invest, put in their own lunch money to pay for everyone who was dumb (greedy?) enough to invest.
Edit: How is that fair to the kids who weren't involved and now have less money for lunch?
Referring to the Icelandic public who would have been burned as well for the UK/Holland public's investments (at no tangible benefit to their public at large). While the UK/Holland investors, who lost their investments, lost a gamble and their country decided to minimize it for them (Edit: Likely to most of their population's chagrin).
Or perhaps the people investing in the Icelandic banks were not investing? Was this some sort of special investment where you get a better rate than the regional banks without any sort of risk?
When the entire game is rigged, and you're hoping to make a few quid out the side, you're probably going to get totally screwed somewhere, at some point. It totally sucks, I agree, but are you surprised that if someone could insulate themselves they would?
Also there have been consequences for Iceland, particularly in terms of trust, and there won't be a lot of foreign investment in their financial structure anytime soon.
> Or perhaps the people investing in the Icelandic banks were not investing? Was this some sort of special investment where you get a better rate than the regional banks without any sort of risk?
Yes, in fact, that's pretty much it. The infamous Icesave accounts were savings accounts, not investments in the way you'd normally think of them. They were savings accounts that paid higher interest rates than just about anyone else in town (about 6% in the UK), but they still had the equivalent of FDIC protections (for the American readers out there).
The problem is that the Icelandic equivalent to the FDIC had nowhere near enough money to actually pay back all the guaranteed deposits that were lost, so they said, "We'll pay the Icelanders back first and then....hey look! A squirrel!"
The UK and the Netherlands stepped in to cover the losses of their own citizens, but they also took Iceland to the European Court for failing to honor the required guarantees. The importance was somewhat lessened as the assets of the failed Landsbanki bank that had offered these accounts could cover quite a lot of the debt owed to the UK and the Dutch, but yeah, Iceland did sort of screw them. Not that they had much choice, but there you go.
Except you're not asking Bjorks mom for the money. Rather, like a brute debt collector for the mafia, you go for her extended kin, her great-great-grandmother, an uncle or her 4th cousin, you know, people she's related to but has no contact with (the common public of iceland)
You then ask these people to forgo everything they have worked for the last ten years in order to pay a debt for some spoiled little bitch they have no contact or control over.
the main problem with this analogy is that you have it structured so that Bjork is the "daughter", which is what your whole denouement relies on (where we're supposed to be pissed at Icelandi for not covering for Bjork's mistakes). Bjork and Icelandi are, in a much more accurate version of this story, just friends, and Bjork lives in Icelandi's house. Icelandi is in no reasonable world culpable for Bjork's fuckups.
oh, and as others have mentioned, you also glossed over the fact that Icelandi "repo's all of Bjork's stuff" and effectively "kicks her out of the house".
The decision was about foreign, mostly UK, banks who gave (they call it "invested") money to Icelandic trading desks. These money were denied to pay back taken from Icelandic citizens. Keeping local banks from default on domestic deposits in favor to "foreign investors" (speculators) and letting them to face loses is what the govt of Iceland did, which was a proper decision. Overconfident, high ranked idiots who put funds in an obvious ponzi scheme are those who shall bear the consequences.
This is pretty misleading. Iceland could let their banks fail for several reasons. First, they were not essential to the global banking system. Second, while Iceland's equity market lost a lot of its market value, it really did not hurt the citizens of Iceland - they invested as most do, in U.S. and Europe with some emerging markets allocation.
As is pointed out, the decision to let the banks in Iceland fail is applauded by many...but this is due to the ridiculous size of Iceland's banking system compared to the rest of its economy. Also, don't forget, the same IMF that says they did the right thing now, said 6 months before the crash that there was no problem with the size of Iceland's banking sector relative to the rest of the economy.
This article seems to selectively reveal information based on a pre-existing belief held by the author.
All the claims about Iceland doing things differently are useless and I am quite sick of hearing them.
Like the US, Iceland provided financial support for its ailing bank system when the crisis appeared. That Iceland officially nationalized banks and the US left the banks officially in private hands is really a trivial detail. Iceland supported their banks and ultimately returned them to the control of their previous owners, the same effective strategy as the US.
And some unsecured creditors lost in Iceland and in the US, depending on the circumstances. Again, a detail, not the main picture, which wasn't really that different than here.
Just stop with the "Iceland's different" baloney, just stop.
> All the claims about Iceland doing things differently are useless
I don't understand your comment. What Iceland did - allow its banks to default on their debts - is completely different from what eg. Ireland did, ie. nationalise the debt.
That it then nationalised the bankrupt banks is a different matter. It nationalised them, sure, after they defaulted on the debt.
Ireland is actually the exception; they were the only country to do that.
The consensus of mainstream economics at the time was "holy shit are you fucking nuts?", and I don't think it looks any more sane with the benefit of time.
Actually, not quite. Spain hasn't nationalized the debt directly but instead, since the beginning of the crisis, is continuously pumping money into banks that should have gone under. It is ruinous to Spain's public finances, but we don't hear so much about it, since the relative size of that particular debacle is smaller than the Irish "public finances suicide by banking".
The spanish banks more exposed to the construction bubble bust were the "cajas". They are not for profit saving banks, and not private, they are controlled by politicians and unions.
They have saved them because they had huge holes created giving high risk loans to the friends of the political parties heads. Une big example is Bankia (previously caja madrid), the president of bankia was a friend of Aznar and certainly underqualified.
His last big hole was the sale of a prefered stock emission to small savers and old people(no big financial entiy bought those), to save the caja from default. They made people think that they were saving products, they've lost 90% of the invested quantity.
There are other cases of billions of € in credits to construction companies that were unable to repay, the high manager in charge of the operation joining thd board afterwards...
Private banks like santander or BBV are not that exposed to the construction bubble, they are not the ones that need a bailout.
It's a big shame..
The consensus of almost everyone, from mainstream economists to the man on the street was (and continues to be) that the Irish bank bailout was insane. Bailing out unsecured bank bond holders is madness. There was some extremely murky political reasons why the bailout happened[1]. Debt-to-GDP ratio has skyrocketed to north of 125% (from well under 100% and yearly surpluses), huge unemployment etc.
Iceland banks didn't collapse, the government nationalized them to prevent their collapse. (Edit: as another poster mentions a portion of the debt was paid down by other states too. Again, that's a detail, not a fundamental difference).
Some foreign-deposit operations did collapse but the bulk of the banks, their shares and national operations, were protected by the state.
"The Financial Supervisory Authority (FME) has acted to "ring-fence" the Icelandic operations of Landsbanki and Glitnir, stating its aim of "continued banking operations for Icelandic families and businesses."[126] NBI (originally known as Nýi Landsbanki) was set up on 9 October with 200 billion krónur in equity and 2,300 billion krónur of assets.[127] Nýi Glitnir was set up on 15 October with 110 billion krónur in equity and 1,200 billion krónur of assets.[128]
Talks with Icelandic pension funds to sell Kaupthing as a going concern broke down on 17 October,[129] and Nýja Kaupþing was set up on 22 October with 75 billion krónur in equity and 700 billion krónur of assets.[130]
The equity in all three new banks was supplied by the Icelandic government, and amounted to 30% of Iceland's GDP...."
You are so wrong on so many levels that it's scary.
> Iceland banks didn't collapse, the government nationalized them to prevent their collapse. (Edit: as another poster mentions a portion of the debt was paid down by other states too. Again, that's a detail, not a fundamental difference).
It is a fundamental difference. When Iceland took over its banks, it basically said: your deposits are insured if you are a tax-payer. Customers living elsewhere, share holders and (non-Icelandic?) bond holders were wiped out; they were owed something one day, zero the next, and it matters little to Icelanders who may have generously picked up the tab -- they didn't. The banks were recapitalized when needed, and a few bank execs got thrown in jail for good measure.
I beg to ask how this is in any way similar to what happened in the US, the UK or Ireland. Or Greece, for that matter.
Are you sure non-Iceland people were wiped out? I know someone who had an account at Kauphting and, after freaking out for months he eventually got all his money back.
Here, for example, in english it says: "Credit agricole and Keytrade save Kauphting's client" and explains how the 21 000 belgians who had accounts at Kauphting didn't lose a dime.
They were subsequently bailed out by foreign governments and/or entities, but from Iceland's standpoint — which is the important one when it comes to their taxpayers' finances — they were wiped out.
That is why the UK and Holland, in particular, were so pissed at Iceland and threatened to block EU-entry negotiations at one point. They spectacularly footed the bill, and I presume so did other countries. They then sent it to Iceland.
Iceland, on its end, raised its middle finger. Slowly.
Not just once, either.
The politicians tried to sneak the debt back in to be accommodating. And twice, a popular vote was organized and the referendum yielded a big fat no by a massive landslide.
If you look in Wikipedia article, you will notice a variety of bank shares were also guarantee because that too was necessary to prevent the financial system from collapsing.
Icelanders, Americans and Greek have all experienced a sharp reduction in their standard of living (Icelanders, like Greeks, experienced this through a large currency devaluation). Both Icelanders and Americans live more or less under the same system that existed before the crisis.
Bernie Madoff was not a bank exec and was not involved in or the cause of the financial crisis, he was just exposed by it as the tide went out.
All the devils are here has a nice history of this financial crisis, I thought, and no-one who was involved in the fraud which caused the collapse of AIG, for example, was convicted, though there have been some investigations, AFAIK.
Also Iceland defaulted on its external debt and only protected national interests - the UK and US didn't really do anything similar, they have chosen to inflate their way out of debt instead.
I don't think it was fraud that caused AIG problems, it was making really bad business decisions. Meanwhile, Joseph Cassano the guy at AIG FP London responsible for a lot of the problems walked away with at least $280 million
Well, GS knowingly sold AIG junk CDOs days before the collapse, while shorting those same CDOs to make money on them. I'd call that fraud. I think they were fined less than they made on the deal, and no-one was punished. Of course AIG deserves blame, but so do those who tricked them into buying junk.
In Liar's Poker Michael Lewis describes his time as a bond salesman for Salomon Brothers and the realization that everything he was selling was junk, after all, it the bonds that he was selling were a good investment why would Salomon Brothers be selling them?
[Edit: He also describes the right of passage for new bond salesmen - when you bankrupt your first client....]
> Well, GS knowingly sold AIG junk CDOs days before the collapse, while shorting those same CDOs to make money on them. I'd call that fraud.
That's not fraud. It's probably unethical, but businesses selling customers products they know are shit is more or less legal, or at most the subject of a civil action by the purchaser. I mean, look at the software industry. How many software companies sell products that are buggy crap, that they know are buggy crap? And when it comes to investments, that basic dynamic is at the heart of a lot of sales. If I think this investment is a great deal that's going to just go up and up, why would I sell it to you?
I'm willing to entertain the idea that what GS did crossed the line in terms of the standard of ethics people expect of investment professionals, which maybe should be higher than for businesses generally. Maybe we should put such standards in place and make them enforceable,[1] but it wouldn't be fair to throw people in jail for what they did before those standards were in place.
[1] For example, it would be punishable ethical breach for a lawyer to represent a client then take a financial position adverse to the client's interests.
It's dancing right on the line of fraud, isn't it? The elements of a fraud case are (paraphrasing model jury instructions) (a) a false statement, (b) intentionally made, of (c) a material fact that (d) someone reasonably relied on and (e) was injured (usually, financially) by.
The only thing missing from a fraud case in the "selling shit products" story is "knowingly making false statements", right?
grey-area's summary of the WSJ article isn't accurate.
GS knowingly sold AIG junk CDOs days before the collapse
GS didn't sell CDOs to AIG. GS didn't actually sell anything to AIG. GS bought insurance (in the form of credit default swaps) on the CDOs from AIG and apparently sold at least some of those swaps on to other banks for a profit.
If Goldman had done something to accelerate the deterioration of the value of the CDOs (something like insuring a house and then burning it down), then you could probably claim GS was in the wrong. AIG would have known it was insuring subprime mortgage CDOs. There also isn't anything in the article asserting that GS misrepresented the quality of the loans or anything like that.
Thanks for the correction. My contention is that they knowingly screwed over their client by recommending one thing while they played the other side of the deal. They were fined for doing so, but it doesn't seem a very effective punishment to me.
They're potentially using insider information on deals and risk in order to profit; I'm not sure they should even be allowed to bet against their clients, because it gives them all sorts of perverse incentives. But it's a complex area, and I'm no expert in it...
I agree it would be hard for that to end in a fraud conviction, and as you say perhaps more regulation would be required for that to even be possible, but perhaps more regulation of this area is required.
I'm not sure they should even be allowed to bet against their clients, because it gives them all sorts of perverse incentives.
You have to consider that when an investment bank sells you a structured product it then naturally has the opposite position. If you want something that pays off if interest rates rise, an investment bank can sell you something like that in the form of an interest rate swap. You are now long interest rates and the bank is short them, but there wasn't anything malicious there. The bank just sold you the product you wanted. Now the bank has to hedge somehow or sell the swap on to someone who wants to be short interest rates. It may have clients that are interested in that sort of exposure.
I'm not trying to defend Goldman here, but when people say things like "banks are betting against their clients" it usually shows a misunderstanding of the business.
I think your link and the actual SEC charges [1] are saying slightly different things. The portfolio backing the synthetic CDO was constructed by a Goldman client (Paulson and Co, a hedge fund) specifically so they (Paulson) could short it. That's fine. But the marketing material [2] for the CDO they used to sell the long end to clients makes no mention of Paulson and it specifically says that the portfolio was selected by another company (ACA Management) and that ACA had "commitment to long-term bondholder and counterparty security". If you flip through the slide deck (it's actually pretty readable) you find many slides dedicated to talking about ACA and its bona fides.
That was the fraud. It told its clients the portfolio had been created by someone who was trying to put together a reasonable-ish CDO when in fact it had been put together with the exact opposite in mind. I will also point out that there are no claims by the SEC that Goldman itself was short the CDO.
Thank you, your description does make Goldman Sachs sound to me like a boiler room operation to identify marks (or muppets if you prefer), who can be sold doomed products in order to make money for GS and their real customers (people like Paulson). I can't imagine why anyone does business with such sharks unless they have to, and it does sound like it could be legislated against. I'll have a read of the documents so I understand it better though.
That a portion of their debt was paid by other states is the key. Ireland swallowed all of the bank debt, and Iceland did not. There is not a day that goes by in which that is not considered in Ireland.
No, it's not Icelands debt paid by other states, it is a debt of Icelandic private bank that is paid out by other states. Why do you think that Iceland has more obligation to pay up a debt of icelandic _private_ bank than, say, Romania or Zimbabwe?
Iceland never claimed any kind of insurance of foreign deposits, so was not in any way obliged to pay them up.
The UK's position (AIUI) was that membership of the European Economic Area means that Iceland can not treat its own citizens' savings differently than those of other EEA member states' citizens. Hence the whole squabbling about repayment and such, which is still ongoing.
Yes, UK's position ;) But I guess UK's position is based on interests of affected UK citizens, and doesn't have to be valid. I guess there are different ways to read these EEA treaties and regulations than what UK and Netherlands says, otherwise Iceland would be kicked out long ago for non-compliance.
I'm far from an expert. In a lot of cases, what you say seems true. The Nationalization angle is BS for sure. But, there are some differences that are important. Foreign depositors did not get bailed out, not by Iceland. That in itself is a big deal. That's a clearer definition at least of what a bailout is. The banks went bust and deposits were lost. Then foreign central banks returned some despots to their own citizens. Iceland paid out its own citizens and some depositors were not guaranteed by anyone.
It's clear for instance that UK public money went to UK depositors. The UK is entitled (though maybe unwise) to do this and it sets up a framework for explicit guarantees. In Ireland's case, god knows who really got bailed out. The EU loaned Ireland money to loan to their banks to pay back depositors who were other banks..etc. There was pressure from Germany as both the source of much of the financing and the destination of much of it (Irish banks owed money to German banks). No one went bankrupt, for a normal definition of the term.
It amounts (in my limited understanding) to a few important difference that leave the system far more robust. (1) there is some transparency. It is knowable who is getting bailed out and where the money is coming from. (2) Some long tail risk is put onto depositors, especially foreign/large depositors so it can be priced in. A Hayekian sort of systemic risk reduction. (3) It appears to have reduced the flow of money from poorer future people to current rich people. (4) It clearly defines depositor bailouts as depositor bailouts. Money goes from the public purse to Ms Gunnarsdotter's. In other bailouts (Ireland) the public was driven to fear that banks would collapse and their savings wiped out unless some unknown quantity of money was put into an unknown funnel from where it would flow (among other places) back into their deposit accounts.
IMO we need to come to a long term setup that is simple enough for a first year economics student to understand and first year finance student to price. A guarantee is fine, if we can set it to an affordable level (say, deposits up to €25k) payable directly from the government to qualifying depositors with potential recovery by a bankruptcy court.
"No one went bankrupt, for a normal definition of the term."
A lot of people who borrowed from the Irish banks were forced to go bankrupt - apparently mostly those who had borrowed relatively small sums (less than 20 million or so).
A bank failure vs. bailout is irrelevant to the financial health to the bank's debtors. Failure vs. bailout is only important to the banks creditors.
Those who borrowed from the banks and went bankrupt were the cause, rather than the result, of the banking crisis (speaking purely from an accounting perspective -- no moral or policy judgement.)
Let's not forget that Iceland's banks were bailed out by foreign governments. All those UK "Icesave" high interest savings accounts were bailed out by the Bank of England.
If Iceland had more than 300,000 people, you can be damn sure the debt wouldn't have been forgiven, and there would be tariffs on cod and aluminium until it was paid back.
This is the important point: 'It's where the customers went, UK customers. Freely."
If you go to a foreign bank for tax, interest or other benefits you are exercising a high degree of financial autonomy, choosing a banking system to be a part of. It's not a default decision by someone who needed somewhere to deposit their £438 per week salary. I really don't think you can make the same argument about guaranteeing deposits in these cases, especially without a (low) cap of £10,000 or so.
The Bank of England bailout transferred money from future middle class workers in the UK to wealthy and upper-middle class people, maybe 2 generations apart. I think it was immoral.
Icesave was a UK arm of the Icelandic bank. They were regulated by the UK's FSA and included in the UK's compensation scheme (FSCS). I checked before I put my ISA with them. I believe at the time deposits upto £60,000 were covered (the limit is now something like £80,000 or £100.000).
As part of the EU scheme I think the intention was for local compensation schemes to pay out to consumers and reclaim from the bank's home countries if the bank failed. Obviously this part didn't happen (and possibly could never have happened) but if the FSCS did not list Icesave I would not have invested.
My due diligence was checking the bank was properly covered by the UK scheme and that I did not have more money in it than was covered by the UK's compensation scheme.
A case can be made that those investing more than the scheme should have lost money (not necessarily just for Icelandic banks but also for the UK banks that were bailed out) or that FSCS should not have committed to compensate but they did so they really did need to pay out.
It was slightly more complex than that. Icesave was registered under the "passport" scheme, which meant that technically savers would have had to claim the first EUR 20,000 from the Bank's host country (Iceland in this case), with any top-up remainder being covered by the FSCS (up to I think around GBP 50 or 60k as you mentioned). Savers were fortunate in that the UK government stepped in and guranteed everything up to the limit.
(I too had an Icesave account at the time, it was a fearful couple weeks)
What's also important to remember is that only retail investors were bailed out. Council's and the like lost everything.
I (probably stupidly and naively but in the end luckily) didn't pay that close attention and just trusted that the FSCS would come through. I was in the fortunate position of not needing the cash in the short term though.
It may have been a £50K limit, the precise number wasn't an issue for me at the time as I wasn't near either figure.
Where do you stand on that know? Would you be willing to take a substantially lower interest rate in a UK based account over a foreign, more ambiguously guaranteed one?
Would probably still trust FSCS upto it's stated limits (although I would reread/print relevent bits from their website and might do research before investing in Icelandic, Greek, Cypriot and maybe even Italian banks to check there is no risk of devaluation and default that isn't covered.
> Did the Icelandic government ever agree to this liability?
I believe it was part of some European agreement for open access to financial markets but I don't know the details. So I think that the answer is probably: Yes.
Edit: I've upvoted a sibling post with the judgment on the case. I haven't read it all but it seems clear to me that the rules were complicated and there were good reasons to believe that Iceland had such a liability.
>Was their ability to meet it ever looked in to?
Obviously not sufficiently. It may be that it was looked into initially when it was small and manageable but no-one said stop when the Icelandic banks grew beyond the ability of their government to rescue. Of course if you withdraw cover you can trigger the bank run that brings down the system. With hindsight you know that you should have stepped in to restrict opening of accounts before the risky position was reached.
Edit2 to add: Agree that FSA were at fault. My post was to explain the extent to which it was not an exotic foreign investment but a normal option available to regular customers and with the normal bank compensation scheme in place.
icesave heavily advertised in the UK and had a UK based operation.
they were supposedly also beholden to the EU depositor protection scheme, if they weren't then most depositors wouldn't have touched icesave.
on the eve of the crisis the Icelandic politicians told the UK that they would pay out to UK depositors, then after the UK had paid out they changed their mind.
no one could have predicted that the day before the collapse the Icelandic parliament would withdraw their promise
Icelandic legal system does not operate under a common law system, so promise is just that, a promise and nothing more. If they have actually signed a contract, a guarantee or passed a law, that would be another topic.
Not going to go down to well with a UK pensioner who lost their savings. And UK tax payers like my self who are effectively bailing out Icelandic debts.
Not really - we are bailing out people from the UK who chose to deposit their money in an Icelandic bank to get higher returns ignoring the fact that higher returns almost certainly implies higher risk.
If someone is daft enough to deposit their cash abroad to get higher returns without doing enough due diligence as to where they are depositing their money that's their problem - not mine or any other taxpayers.
to add to that, it is important that they be held accountable for the outcomes of that decision. There are 2 options: (1)depositors are guaranteed by taxpayers (2)depositors are not guaranteed by taxpayers. The EU is trying to implement a 3rd option: banks never lose depositors' deposits.
The 3rd option is nonsensical. At some point banks will fail. The market works better when the decision maker has skin in the game but there will still be failures and we (nations and individuals including pensioners cannot be shielded from reality completely.
Right, it was UK capital, UK profit, UK risk, they were just using the Icelandic banks for more favorable tax and trading conditions. I swear, it sometimes seems like the whole of UK is in finance and looking at screwing the system globally.
There are key differences. Ireland, Spain and Greece are members of both the EU and the Eurozone. Iceland is a member of neither.
IANAL but I understand that what Iceland did would not have been permissible under EU law. That is part of the reason why Ireland, for example, took the path it did, in relation to the bank bail-outs.
I'll give you the Eurozone...
Makes it impossible to devaluate and much harder to put capital controls in place (though Cyprius manage to do so while being in the Eurozone).
However, what Iceland did was still unilateral.
They didn't ask for anybody's permission and didn't expect their decision to be accepted.
Laws and treaties still need to be enforced and those countries are still sovereign.
What happens if a country does something that is against EU law ?
At worst, they may be expelled from the EU.
So it's really a matter of comparing the advantages of EU membership to the cost of the path of action that was taken.
> That Iceland officially nationalized banks and the US left the banks officially in private hands is really a trivial detail.
That detail is anything but trivial. It's the difference between giving the assets of a company to creditors during bankrupcy, or just clearing the debts, and keeping the assets as company possessions (and keeping the company owners).
To tell you the truth, I still can not understand how the US (out of all countries, the one where people do not trust the State) accepted that bank bailout.
I agree. This has been happening for years and it drives me mad. There are individuals all over the world worth as much as icelands gdp and there are small towns in china with a greater population
This is how capitalism is supposed to work. If a firm goes bankrupt, just let it fail. Might bring some short term pain, but it creates a healthier economy in the long run.
Bailouts are contrary to the spirit of capitalism.
Problem is, that was exactly what drove policy in the United States between 1929 and 1933.
In the mean time, lending disappeared which caused grave liquidity problems for otherwise solvent firms both in the financial sector and in the "real economy." Those firms failed to meet their obligations producing a chain reaction which continued until severe government intervention put a stop to it years later.
Bernanke and many others were playing off the 1933 script in 2008. Bernanke himself had actually written a book about the Great Depression. I'm not at all happy with what has happened on wall street since 2008 but Bernanke and many others were operating in good faith trying to prevent a catastrophe.
There is really no parallel between the USA (in 2008 or 1929) and Iceland in 2008.
In the case of Iceland, you have a series of hedge funds, basically, domiciled in Iceland but speculating on foreign securities using foreign capital. They had little to do with cod fishing or hot springs or aluminum smelting but when they exploded, the foreign bondholders wagged their fingers at Iceland and said "this is your problem now, you fix it."
Icelanders wisely said "no," they opted not to impoverish themselves to make good the debts of local private hedge funds to the foreign speculators.
> Problem is, that was exactly what drove policy in the United States between 1929 and 1933.
I don't understand how people think that the policy during 1929-1933 was "do nothing" when the following things occurred during that time period: Smoot-Hawley Tariff Act, Glass-Steagall Act, the Federal Home Loan Bank Act, the Emergency Relief and Construction Act, the Reconstruction Finance Corporation, the Hoover Dam(!), and more.
Despite Hoover stating that he wanted less government intervention, that isn't actually what happened. Basically, the notion that "we did nothing" during 1929-1933 (as you've suggested) is a giant misconception that really needs to die.
The Glass-Steagall Act, at least, what people mean when they say "Glass-Steagall" was passed in 1933 and signed by FDR.[0]
You are correct, of course that Hoover didn't "fiddle while Rome burned" but fiscal policy was largely non-interventionist and monetary policy tight until the Emergency Banking Act of 1933[1] which was the "severe government intervention" I mentioned in the OP.
The government heavily interfered in 1929 under President Herbert Hoover instead of taking the tact taken by President Harding in 1921 to cut the budget, fix taxes, and right the ship. You would think Hoover would have learned from Harding being his Secretary of Commerce, but he turned out to be an idiot and sent us into a tailspin that didn't get fixed until 1946.
Bernanke should have looked earlier and not to the policies of Hoover. I fear we will have the same continuing problem until we look to 1946 to get us out.
I am more thinking the drop in government spending from $84 billion in 1945 (big debt) to under $30 billion in 1946 (surplus) and the tax cuts from 1948. Rebuilding someone else is generally not seen as a plus to the overall economy.
>Rebuilding someone else is generally not seen as a plus to the overall economy.
Maybe at full employment it's not. In a country winding down production from WWII, rebuilding someone else is the best thing that could possibly happen to the economy.
Government production would down (thus the budget), but domestic production for domestic items kicked in pretty hard. You might want to check the labor statistics of the day.
WWII production did wind down, however, and had to be replaced. This was aided by paying US companies to rebuild Europe and Japan.
If Britain or France has come out of the war unscathed and been able to rebuild the rest of Europe, the postwar history of the United States would have been significantly different.
"This was aided by paying US companies to rebuild Europe and Japan."
How much money was spent on manufacturing here for both versus total GDP?
"If Britain or France has come out of the war unscathed and been able to rebuild the rest of Europe, the postwar history of the United States would have been significantly different."
The US would have still been fine and given the same policies minus the Marshall Plan, we would have had less government spending. Also, if the UK and France came out unscathed then the US would probably have not needed to enter the war in Europe.
That's not really true. Companies regulated under Solvency II will require sufficient capital to survive a 1 in 200 years worst case event. Sort of (but not really), 1 in 200 companies will face death-knell liquidity crisis every year.
The question is, what do we do then? Do we let a company that took 50 years to build up fail? It is so easy to destroy something, and such a pain in the ass to build it.
Maybe the idea instead is to make it such that we only have to bail out a portion of the 1 in 200 companies that fail each year? The portion that should be considered a going concern.
What about General Motors? That is an incredible wealth-generating asset. A blip in the cash-flow statement could have made that into 1-2% of its productive capability, but the US didn't let that go down.
>What about General Motors? That is an incredible wealth-generating asset. A blip in the cash-flow statement could have made that into 1-2% of its productive capability, but the US didn't let that go down.
You make it sound like GM had no control over it. And that additionally, when a company goes bankrupt, all the wealth just disappears into thin air. Neither is true.
It does not disappear into thin air, in the same way the rubber from a burst balloon can still be used to tie your hair back (but not as severe, and the recovery rate might be as high as 60%, but I would suspect very, very much lower in the case of a fire-sale of GM's assets)
> The question is, what do we do then? Do we let a company that took 50 years to build up fail? It is so easy to destroy something, and such a pain in the ass to build it.
What's the alternative? Tax people and give their money to the aristocracy (because you just created one)?
I am certainly not aristocracy. The US government stepped in with temporary funding to stop GM going under. I stepped in later to replace that funding by buying some high risk equity (about enough to buy a used car-tyre). So did lots of other people. Luckily, I made a return for this investment (others, not so much).
You might call that crony capitalism. In non-western countries giving money to an official in return for favourable economic conditions is called a bribe, in the US, Canada and Europe it's called 'lobbying'.
The terms crony-capitalism, klepto-capitalism, and casino-capitalism are all very descriptive of the US economic system, which has become like a bad Yakov Smirnoff joke: "In America, bank robs you!"
So what's happened to the $85 billion a month ($1 trillion a year) that Ben Bernake has pumped into the banks in the last year, during the third round of quantitative easing (QE3)? "It all got bottled up in the banks, and essentially none of it ... got lent out." Source: http://www.npr.org/2013/12/17/251796694/year-in-numbers-the-...
QE as any kind of remedy is a farce. At best it has a kind of placebo effect on the stock market. In reality, with QE the Fed exchanges reserve deposits for treasury securities to execute policy aimed at lowering longer term rates which is supposed to increase demand for loans. Those reserve deposits are not lent out because reserve deposits are never lent out. Reserve deposits are used for interbank settlement.
Iceland has a population of 320,000. It's the size of a small city. And all of the banks they let fail dealt primarily with money from outside of their borders - letting those banks fail had not material impact on their economy. If it had been a bank where Icelandic people got their mortgages they'd have bailed it out just like every other nation.
Well, ok. Brazil has a 200 million population, and banks that deal almost exclusively with internal deposits. At the 90's the country faced a very similar problem, and applied almost exactly the same remedy - nationalized the banks, the governemnt paid the depositors, and sold the resulting banks out (the part that differs).
If you care to look, it endend about as well as Iceland, a short term impact, with growth resuming just after it.
Practically, that's not really all that different from what the United States did, but instead of a drawn out process they did it in quickfire sales. The government forced the bankrupt banks to sell themselves to the non-bankrupt banks for virtually nothing. And it loaned and took stock (which is partial nationalization) in the non-bankrupt banks so those banks could pay the debts of the newly acquired failed banks.
The government basically forcibly reorganized the banking system in a matter of weeks.
The only difference is stockholders from the failed banks only lost 98-99% of their investment instead of 100%. A small price to pay for a quick solution to the largest financial crisis in 80 years.
Iceland did almost everything right. They stiffed the bank creditors to avoid aggravating the moral hazard problem, just like the textbooks recommend. In the eurozone the bank creditors are being bailed out. They relied of fiscal policy to address S/I and debt issues, and let monetary policy address AD, just as the New Keynesians were recommending in the 1990s. In the eurozone they combined tight money with reckless deficits. And now Iceland is growing fast and the eurozone is stagnating.
If we skip central banks and let the big banks fail we will have real market economy. As it now private banks make new debt money from thin air and are being saved again and again by central banks. The big banks pay them selfes big bonuses during good years, the people pay for this by inflation by the new debt money the central bank creates too save the too big to fail banks.
Given the population size of Iceland policies that work well there might not be instantly replicable on a larger scale. Nevertheless, Iceland is a fantastic place to visit.
Being such a small welfare nation makes Iceland special in many ways. Their political openness and strong traditions of democracy are very interesting to observe, popular examples of which are the Bobby Fischer and Wikileaks stories. Iceland is often considered the world's oldest active democracy, their parliament was founded in 930 A.D.
Also the rugged nature is incredibly fascinating, and while easy to overlook it is one of the most amazing holiday destinations I have ever experienced.
This is weird but it seems very little countries have alot going for them. They have to be efficient I guess.
Estonia is the other one, government and all processes are entirely computerized and PKI is used to control access. Yeah I know it is a tangent - but the other summer I make from the story is that the smaller the government the more tansparent it has to be - there are fewer combinations for government bureaucrats to use to further their own private agendas that may well be to the detriment of the entire country.
Iceland were spot on in letting the market decide the fate of the banks. Here in the UK we claim banks have too much power and point the finger at 'Capitalism'. But Brown bailed out our banks with tax money which artificially empowered and allowed for risks.
Boomerang by Michael Lewis is a pretty book on the Icelandic financial crisis. If you've read the Big Short, then Boomerang is a look at the reverberating effects of the financial crisis of 2008 throughout the third world.
Greece's unemployment is 28% (unofficially over 40% - my estimation) not because of the banks being saved, but because of a bureaucratic economic model that is stuck in the 70s.
One thing to remember about Iceland is that it has a very small population. (About 400,000). So the whole country has about the same population as Miami, FL.
For each bank X (Glitnir, Kaupthing, Landsbanki), there government created their own new X. The following was by force brought into each new X:
This of course created a debt between the new X and the remains of each old X, which took some time to resolve.On the other hand, a lot of things were left in the falling banks, including international branches, investment accounts (i.e. accounts with interests related to stock performance) and more.
These selective operations of course caused a international controversy (Icesave dispute, e.t.c.), but if the government had let all the banks fail without these transfers - the damage to our economy would have been much greater.