Central Banker: Iceland State Default Very Unlikely Skip to content

Central Banker: Iceland State Default Very Unlikely

THE risk of Icelandic sovereign default is “almost non-existent” and the country could honour all of its debt obligations by relying purely on its existing reserves, its central bank governor said in an interview on the sidelines of meetings at the Bank for International Settlements in Basel, Mar Gudmundsson said agreement could be reached on the repayment of losses linked to failed internet bank Icesave within one to two weeks.

But he also warned that an extended dispute could damage Iceland’s economy. “It’s conceivable that there could be a settlement on Icesave within one to two weeks if there isn’t a backlash from the referendum,” Mr Gudmundsson told Dow Jones Newswires, adding there was “no reason” to expect Iceland’s currency, the Krona, to take a hit on the result of the vote.

The concern, he said, would be if negotiations dragged on, raising the possibility of downgrades by rating agencies, delaying expected aid from the International Monetary Fund and Nordic countries, and creating more economic uncertainty. “If it starts to do that to a significant degree, then our recovery program will be delayed,” Mr Gudmundsson said.

“We will not be able to take any steps to lift the capital controls in the near term; the room for maneuver for monetary policy would be less than we would like…; and then this would effect the level of investment in the economy and have macroeconomic consequences.” Going forward, the key issues will be setting Iceland’s economy on a recovery track, and ensuring it can honor the heavy debt repayments that will come due in the autumn of 2011 and early 2012, worth €1.4bn and €400 million.

In a worst case scenario, Iceland could honor those obligations without the hoped-for external aid, but that would take its reserves to a very low level, making it very vulnerable, and necessitating a bigger economic adjustment. “You would not be able to intervene to support the exchange rate, you would actually aim for a higher current account surplus with lower living standards,” Mr Gudmundsson said. “You would have to do more fiscal retrenchment; you would have less financing to smooth the adjustment, so the adjustment would just have to be harder.”

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