Will they choose the euro, or the American dollar or, heavenly days, the loonie? Will they pick a currency behind door 1, 2 or 3?
Will they dollarize?
I’m talking about the Icelanders, of course. Having privatized the banks and let them behave as if they were Vikings out plundering the world only to discover that they weren’t Vikings at all but simply incompetent, inexperienced louts with massive egos, the Icelandic government has started looking at creating a system that will take some of the disastrous decision making out its hands and put it into more competent hands.
Iceland, because of its history of Danish rule and having a small group of wealthy farmers who had political control of the country, does not have a long history of taking care of its own business. The Danes ran things. Badly, even very badly. So badly, in fact, that hunger was common, poverty endemic, disaster always at hand because of selling off the exclusive right to trade meant no competition but, instead, loss of control of pricing. A country with a population of approximately 70,000 during the mid-18th C and a small group of farmers knit together by having the same interests, t hat is, keeping wages low, workers disenfranchised, and currying favour with the Danish traders.
The result was a group of land owners who employed seasonal workers and doled out land to share croppers.
The Danish traders, in the meantime, controlled trade. There wasn’t much chance of an Icelander getting a lot of experience at international trade or business in general, unless it was something like guiding foreign visitors to the geysers in summer.
Icelanders weren’t hewers of wood or miners of rock because there was no wood and no ore. They raised sheep and did off-shore fishing with hook and line in a survivalist economy.
They eventually got the Danes to quit selling the exclusive rights to trade with them and once the English and Scots started turning up to buy sheep and horses and whatever surplus the Icelanders had, there was actually money in the economy. Before that, it was all trade, a lot of which was priced in butter. In 1878 there was still no bank in Reykjavik. It would have been pretty difficult to have taken deposits in butter.
There was some Danish silver around. When reports say someone was paid in dollars, those were rigs dollars, Danish dollars. There weren’t many of them.
Iceland was a curiosity. German, French and English explorers and tourists made the dangerous and difficult trip to see the volcanos, the geysers, the lava fields. They left behind coin in kind. But it was a very small amount and most of it went to a few guides and outfitters in Reykjavik.
Then, after a lot of campaigning, Iceland got its constitution back. It got to make its own financial decisions. WWI drove agricultural and sea products up in price. WWII brought the English and then the American occupiers who paid for everything instead of looting. If you are going to have occupiers, they’re the kind you want. They pumped a lot of money into the economy. They’re gone now and Iceland no longer holds a strategic place for the defense of the Americans and their allies.
But Iceland lagged. It was slow to mechanize. It clung to old ways. However, when it modernized, it went for it flat out.
The problem is that Iceland doesn’t have much in the way of resources. Seafood. Tourism. Wool products. Bjork. Cheap electricity. The cheap electricity is good for smelting bauxite into aluminum. It’s not like the country is sitting on diamond fields or nickel deposits. The climate dictates against agriculture. So, what the Icelanders needed was a product that didn’t require these things. In international finance, it found just what was needed. Some cell phones, computers, the ability to issue bonds, make loans, and take in deposits. Shazam. The perfect product.
The problem was that the country is still small. No longer 70,000 but 300,000 people. That’s still about the size of Victoria, BC and Victoria, BC wouldn’t dream of providing in and of itself all the people needed to create an international financial empire. Icelanders are astounding in that they often master a variety of skills, often at a very high level. They say it is because there are so few of them.
However, that doesn’t make a poet an international banker. It doesn’t make a chef a hedge fund manager. It doesn’t suddenly give someone running a gift shop for tourists, the ability to run a chain of clothing stores.
The craziness was so great that no one bothered to ask if there shouldn’t be some restrictions on the ability of the banks to borrow and lend money. No one asked why the Icelandic banks could offer interest rates on their bank deposits or on their bonds many times greater than banks and bankers in institutions with hundreds of years of accumulated experience. No one asked how the banks were making money. If the banks were providing large loans to favoured lends, it was just business as usual, capitalist cronyism.
You see, the old mentality still existed. There were still the important ruling families who took for granted their right to make decisions, the right to make money, the right to fill the positions of power. That’s the way it’s always been. Iceland never had a resident king or royal family but it still had a ruling class that over a very long time had come to believe they had the right to run things, no matter whether they were competent or not. The problem was that everybody else was part of the system. They believed it, too.
The system created a monetary unit that was volatile. Inflation was a problem. Therefore, mortgages were tied to inflation. People chose to dollarize, or, in this case, Danishize. They took out mortgages in Danish currency. That way their mortgages didn’t go up with inflation. Which was great, until the krona fell by fifty percent and people’s mortgages doubled.
What people in Iceland were doing is what people do everywhere when they don’t trust their currency. They try to deal in a stable currency. In Cuba, the official currency is the peso but what people want is the American dollar. The same is true everywhere. We all want our hard earned money to retain its value. What is happening in these cases is called a flight from domestic money. However, the more people buy foreign currency, the lower the domestic currency falls. Governments deal with this by imposing currency controls. Iceland did this. You had to get a permit to buy other currencies.
Who wants to hold kronur if they’re going to be worth half as much and if the real exchange rate, never mind what the government says, is steadily dropping.
Can the Icelandic government give its citizens places to put their savings so that they hold their value? If not, people will want to trade those kronur for anything that will retain its value, including Canadian dollars.
If, as we’ve recently heard, Iceland might adopt the Canadian dollar, it could no longer be the lender of last resort for any of its banks that got into financial trouble. It couldn’t simply print money or create it electronically. What the Icelandic government could still do is raise taxes and offer bonds for sale. However, raising taxes in a time of recession is difficult, if not impossible, and given the losses Greek bond holders just suffered, lenders are going to want to be paid high interest rates and given guarantees against default.
Still, if converting to the Canadian dollar imposes some external discipline upon the Icelandic government and the banks, it may well be worthwhile. Dollarization is already used in numerous countries such as the British Virgin Islands, the Caribbean Netherlands, East Timor, El Salvador, Panama.
These are not uncharted waters. However, that doesn’t mean they aren’t full of reefs and no Icelandic Prime Minister wants to become Iceland’s Captain Schettino. Iceland, in 2008, looked a lot like the Costa Concordia. It looks now like the Costa Concordia might look like if it were patched and re-floated. The Canadian loonie might be the tug needed to tow it to dry dock.The question is who is capable of being its new captain?