Financial Crisis in Iceland 2008

Topics: Iceland, Economy of Iceland, Economics Pages: 13 (2388 words) Published: June 27, 2014


Student: Tran Minh Hieu
CU ID: 5942532
NIIE ID: B1131049
Course: 353FIN
Date: June 27th, 2014

Assessor: Soumitra Chowdhury

1. Events led up to the crisis.2
1.1. Theory of financial crisis.2
1.2. How did the theory work in Icelandic crisis? 3
2. Main causes of Icelandic financial crisis.5
3. Aftermath and Resolutions.6
3.1. Aftermath.6
3.2. Resolutions.7
4. Other resolutions.8

Financial crisis in 2008 considered as the Global Financial Crisis in the world’s first exploded in the USA. According to economic experts, the crisis caused by the securitization and the housing bubble explode has struck directly not only American economy but also the economy of all countries around the world, especially countries in Euro zone such as: German, the UK, France, Iceland, Spanish, Russia, etc. (Encyclopedia Britannica, Inc. 2014) Nevertheless, the country firstly hit by this crisis is Iceland for numerous reasons. Therefore, this assignment will present the important issues surrounding the crisis event of Iceland: its principal causes, its aftermath and how it got out the crisis did. FINANCIAL CRISIS IN ICELAND

1. Events led up to the financial crisis:
1.1. Theory of Financial Crisis:
Iceland is known as a small island in the North of England where the population is around 320 000 but its economy develops hard, especially in finance (Wikimedia Foundation, inc. 2014). However, when the financial crisis exploded in the late September 2008, Iceland was not only the first country hit but also the one influenced the most gravely in Europe. So how did this global crisis stroke the country and why was it hit in a grave way? The keyword of this assignment is financial crisis, that’s why we should have a brief research of its definition and workings according to Gregory Mankiw and Laurence Ball carried out for understanding clearly Icelandic crisis (Bekaert, Hodrick 2012: 7)

Showed in this graph, once the financial crisis arrives, the asset prices will decrease and cause the fall of collateral values favoring the fail of financial institutions and the drop of wealth. From this place the lending goes down and brings about the fall of consumption as well as investment. Logically people are found jobless. As a result this furthers the deterioration of growth prospects, the increase of risk aversion and the default of borrowers which leads again in its turn the failure of financial institutions considered as origin of financial crisis. Finally this crisis provokes once again consequences as revealed above and this repeat is considered as a circle without stop point presenting how the financial crisis works.

1.2. How did the theory work in Icelandic crisis?
The financial crisis in Iceland is an example illustrating this theory. Generally speaking, Iceland comes from the small domestic market. When its economic strategy changed into financial economy, Major Icelanders’ income is from banking. On the one hand, Icelandic banks’ business strategy is “Carry Trade”, i.e. they borrowed capital in interest from foreign countries whose interest rate is low and then invested in other countries believed that they can get higher interest rate (Investopedia, LLC. 2014); on the other hand, at that time Icelanders joined in Subprime Mortgage with low interest rate called ARM by foreign currency. Accordingly as soon as the U.S crisis put an influence on Iceland; the króna declined more than 35% immediately, at the same time the interest rate raised up to 15.5 (Wikimedia Foundation, inc. 2014) Reasonably, borrowers of Subprime Mortgage were unable to continue to pay such high interest rate thus they had to put their assets in pledge....

References: Bekaert, G., Hodrick, J. H., (2012) International Financial Management. 2nd edn. United States: Prentice Hall
Encyclopedia Britannica, Inc
Wikimedia Foundation, inc. (2014) 2008 – 11 Icelandic Financial Crisis [online] available from [20 June 2014]
Wikimedia Foundation, inc
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