Sigrún Davíðsdóttir's Icelog

Icelog has followed the sad case of Landsbanki Luxembourg equity release loans for some years now. Those who took these loans in the years up to the collapse of the bank in October 2008 have for years been fighting for an investigation into these loans – in terms of the soundness of the original scheme, Landsbanki’s handling of the investments that were supposed to finance the loans, Landsbanki’s alleged breach of investing terms by investing in Landsbanki and Kaupthing bonds and then the whole handling of the bank’s administrator Yvette Hamilius.

After investigating these claims the French investigative judge van Ruymbeke opened an investigation. Following his investigation chairman of Landsbanki board Björgólfur Guðmundsson, Landsbanki Luxembourg manager Gunnar Thoroddssen, seven employees of the Luxembourg bank and the estate of Landsbanki Luxembourg, represented by Hamilius have now been charged with fraud and various other offenses.

Many other banks have settled equity release loans out of Luxembourg but not Landsbanki. This case is yet another example of the lax client protection there is in Europe when it comes to banking – another is FX loans, which I wrote about in my last blog (also on Fistful of Euros).

It takes long time to handle complaints; to begin with the authorities tend to shrug off any allegation of a bank’s mishandling, even now after so many cases of banks’  rather inglorious and harmful behaviour. What is so galling about the Landsbanki Luxembourg case is that most of the clients were elderly and/or retired people. For those who have been struggling to find clear answers regarding those loans the last step in France is a step in the right direction.

*See here for some earlier Icelogs on the investigation and the Landsbanki Luxembourg saga.

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Back in the 1980s Australians, many of them farmers, were offered low-interest loans, appealing in a high-interest environment. With changes in currency rates the loans in Swiss francs and Japanese yen quickly became much beyond the means of the borrowers to service with ensuing pain and suffering. The same story has since played out in country after country with the obvious lesson reiterated: for people with income only in their domestic currency FX borrowing is too high-risk to be wise. Icelanders felt the FX loans’ pain as the Icelandic króna depreciated 2008 as did many Eastern-European countries. – All these loans, often the result of predatory lending, follow the same pattern and it is no coincidence where they hit. There is now ample case for countries to take action: banks should be forbidden to lend in FX to private individuals with all their income in the domestic currency.

Australia in the 1980s, New Zealand in the 1990s, Iceland and a whole raft of other European countries in the 2000s saw liberalised markets but inflation was high and so were interest rates. By taking an FX loan or even just a loan pegged to FX the high domestic interest rates could be avoided – it seemed too good to be true.

Sadly it was indeed too good to be true: currency fluctuations changed the circumstances and servicing FX loans for those with income in the domestic currency became unsustainable. For loans running over many years this was, statistically seen, almost unavoidable. FX loans have turned into a huge problem in countries such Croatia, Bosnia, Bulgaria, Montenegro, Poland and Ukraine but politicians and banks have ignored the problem. These cases were spelled out at a conference on CHF/FX loans in Cyprus in December. Organised by Katherine Alexander-Theodotou president of the UK Anglo-Hellenic and Cypriot Law Association and various representatives of organisations fighting FX loans, the organisers have recently set up European Legal Committee for Consumer Rights to co-ordinate their work in the various countries marred by FX loans.

The recent shock of the CHF appreciation is now forcing the problem into the foreground in these countries. But more should be done: this problem should be solved once and for all because as long as banks and investors see profits in these loans this sorry saga will continue in new countries.

Australia in the 1980s

In Australia banks started offering customers, many of them farmers, yen and CHF loans in the 1980s. With Australian interest rates at around 10-16% the 7% rates of the yen and the CHF was attractive. When the Australian dollar started depreciating in 1986 the difference in interest rates was by far not enough to compensate for the new ratio between the Aussie dollar and other currencies.

As always, the borrowers first tried to keep on paying, then to negotiate new terms with the banks followed by court cases, mostly based on the banks’ negligence of warning the borrowers of the inherent risk of FX loans. To begin with, the borrowers were fighting on their own, not realising that there were so many others in the same situation.

The banks had the upper hand in court: people should have understood the risk and it was neigh impossible for the borrowers to prove what the bankers had said or not said, promised or not several years earlier. The banks claimed the loans had been issued in good faith and foreseeing the Aussie dollar depreciation had been impossible.

Westpac had been particularly successful in the FX loan market. In 1991 a former Westpac executive, John McLennan, leaked two letters from 1986 showing that the bank was well aware of the risk. What ensued was an investigation, which exposed that not only had Westpac been aware of the risk but a law firm had helped it covering its track. This turned into a classic whistle-blower case: Westpac sued McLennan but later settled.

The letters set the story straight, politicians finally turned against the banks and thus the borrowers got the upper hand and some compensation. But all of this only happened five years after the depreciation, leaving many borrowers bankrupt with all the tragedies such events bring on.

The Australian saga entails the same elements later seen in country after country: banks lend in FX to people who neither have an FX income nor are particularly well-placed to gauge the risk; politicians side with the banks – and only after much struggle and long time are borrowers able to get a write-down or other assistance. But by then, tragedies such as divorce or homes lost have already happened and things can never be the same or compensated.

Iceland: where politicians sided with borrowers

High inflation and consequently high interest rates characterised booming Iceland after the privatisation of the financial system in 2003. Banks were eager to grow by issuing loans and lend funds they borrowed internationally. With credit boom in Iceland savings were insufficient to satisfy the credit demand. Icelandic borrowers were offered so called “currency basket loans”: FX indexed loans usually based on a mixture of currency, usually US$, euro, CHF and yen.

As in Australia, things changed and fairly quickly. From October 2007 to October 2008 the króna had been depreciating drastically: €1 cost ISK85 at the beginning of this period but ISK150 in the end; by October 2009 the €1 stood at ISK185.

Borrowers complained, turned to their banks and some individual solutions were found. However, quickly borrowers were not only turning to the banks but to courts. There were no class actions but individuals sought to court, the cases were well publicised and others in the same situation followed them intently.

Already in June 2010 the first Supreme Court judgment fell regarding two such cases. According to the ruling it was against Icelandic law to tie interest rates on Icelandic loans, loans in Icelandic króna, to foreign currency but perfectly legal to lend in FX.

The result was huge uncertainty: first of all, which loans were legal and which were not, i.e. which loans were real FX loans and which were only FX indexed loans – and if some of these loans were illegal what should the interest rates be?

The banks distinguished between loans to private individuals and to companies where company loans have mostly been regarded as legal FX loans, i.e. the companies did indeed receive FX whereas loans to individuals have all been treated as illegal, i.e. not proper FX loans but only with interest rates tied to FX, no matter the form. The Supreme Court ruled that instead of the FX currency interest rates the lowest CBI rates should be used causing substantial losses to the banks.

The Supreme Court has by now ruled in around thirty FX loans’ cases. There are however still on-going FX loan cases in the courts, some of them related to consumer information such as Directive 87/102/EEC The Consumer Credit Directive, Directive 93/13/EEC The Unfair Terms Directive and Directive 2005/29/EC The Unfair Commercial Practices Directive

The peculiarity of the Icelandic FX loans saga is that from the first borrowers had political support, very much contrary to other countries where FX loans have been common. This is partly due to the fact the Icelandic households have long been highly indebted, which has to a certain degree tilted sympathy towards debtors rather than towards those who are trying to save money.

Croatia, Hungary and Poland

The fight of Croatian FX borrowers have their own organisation, the Franc Association but their fight has been arduous, as covered earlier on Icelog. Already last year, Franc won a case against eight banks, all foreign or foreign-owned subsidiaries: UniCredit – Zagrebačka Banka, Intesa SanPaolo – Privredna Banka Zagreb, Erste & Steiermärkische Bank, Raiffeisenbank Austria, Hypo Alpe-Adria-Bank, OTP Bank, Société Générale – Splitska banka and Sberbenk.

The banks were found to have violated customer protection law by not informing clients properly. Further, the Croatian government has now decided to freeze interest rates for one year while further solutions will be sought, with banks forced to take a write-down on these loans.

In Hungary, where FX loans were among the most widespread in Eastern Europe before the 2008 crash, the government ordered banks last year to fix conversion of euro and CHF loans into Hungarian florints to a rate well below market levels. Following the recent CHF deprivation the government has said that no further action will be taken.

Polish FX loans have not been issued since the financial crisis of 2008 but the number of loans before that had been high, which means that many are still suffering their effect. Last year, governor of the Polish Central Bank Marek Belka said these loans were a ticking time-bomb. It certainly has blown up now with the CHF appreciation. The Polish government is now seeking a solution and regulators are investigating collusion on lending terms among the banks issuing the FX loans.

The underlying mechanism of FX loans

Although FX loan sagas vary in details from country to country the general mechanism is everywhere the same, always with four actors involved: international financial institutions looking for interest margins; investors, often called “Belgian dentists,” i.e. wealthy individuals looking for moderate-risk long-term investments; domestic financial institutions (often foreign subsidiaries) selling domestic currency, looking to lend in FX; domestic borrowers looking for low-interest loans.

The FX loans are normally marketed to middle or low-income earners in small or transition economies, recently been liberalised, with unstable currency or where the currency lacks credibility – and/or where interest rates are high. The banks issuing the loans are often, but not always, foreign banks, operating in a weak legal environment with weak or no customer protection.

There are certainly FX loans in other countries, such as the UK but there they have mostly been issued to wealthy borrowers often financing property deals abroad. The situation can certainly be painful for those individuals but these loans are anomalous, hitting only a very limited part of borrowers. In France, many local councils are struggling with CHF loans and fighting financial institutions in court, again clearly a major problem for the councils but now following the general pattern of FX loans listed above.

The general description above fits Australia, New Zealand, Iceland – and the countries where many borrowers have been sorely struggling with FX/CHF loans since 2008, i.a. Poland, Croatia, Hungary and other countries. With the exception of Iceland these countries have been fighting the banks for years, often with limited or only very late success. Only the recent CHF appreciation has finally managed to clearly demonstrate the calamity these loans are for normal borrowers with income only in their domestic currency.

The only sensible solution to FX (predatory) lending

For more than thirty years FX loans have periodically been causing huge harm and personal tragedy in country after country. The pattern is always the same. Banks continue this type of lending, every time minimising or ignoring the risk to unenlightened borrowers. The only new elements are a new country and new people to suffer the consequences.

Since this story has been repeating itself for decades, bankers issuing these loans cannot reasonably claim to be unaware of the risk. Instead, FX lending to private individuals with no FX hedge increasingly looks like predatory lending: the banks must have been aware of the risk and known that the risk had indeed materialised earlier in other countries.

Bankers have so far shown little aptitude of learning anything at all from the past few decades. National and international organisations working in the field of financial regulation and consumer protection should work towards making FX lending to private individuals with no FX hedge illegal. Until that happens the FX loans will continue to find new countries to wreck havoc in.

*Another side to the FX lending is whether the banks issuing the loans have properly hedged their FX exposure of their liabilities. There is indication that banks in i.a. Austria, Croatia and Hungary have held more CHF assets than liabilities. This is another interesting aspect, which I hope to cover later.

If any Icelog reader has documents showing that banks were aware of the risk of FX borrowing to clients but did wilfully not inform them I would be interested in hearing from them.

Update 15.11.22 – obs: some of the links are now out of date. 

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As expected, there has been a reshuffle among the Icelandic advisers on capital controls – a new group has been formed. Freyr Hermannsson from the CBI has been left out. As before, the new group is led by Glenn Kim, with two vice chairmen. Sigurður Hannesson, whose remit as adviser on capital controls was announced already on January 9 by his employer MP Bank, is one of the two chairmen. Why MP Bank stepped out of line and announced Hannesson’s move before the government did is still unclear. After all, the CEO of MP Bank is married to prime minister Sigmundur Davíð Gunnlaugsson’s sister so the coordination should have been simple.

Hannesson is a close friend of prime minister Sigmundur Davíð Gunnlaugsson and said to have been a strong influence on Gunnlaugsson for a long time. Allegedly, Hannesson talked Gunnlaugsson into accepting that the loan write-down, the so-called “correction” could not be the ISK300bn as Gunnlaugsson had mentioned earlier but only ISK80bn. Also, Hannesson is said to have explained the importance to the PM of solving the dispute regarding the LBI agreement. Hannesson, a soft-spoken mathematician is unassuming and quiet in public but jolly among friends. He is generally popular and respected and seen as an amenable person.

A trusted lieutenant of the PM Hannesson is seen as someone who could add the power of decision-making to the new group although the word “negotiate” is still not uttered by anyone in power – no plans to negotiate with creditors though that will have to happen in some way if a reasonable solution is to be found any time soon. “Hannesson seeks solutions in every case and being a banker he will understand the environment of the creditors,” one source said.

With Benedikt Gíslason, an adviser to Bjarni Benediktsson minister of finance and leader of the Independence party, as the other vice chairman to division of power is taken care of at the top; Glenn Kim has the leaders’ representatives on each side. Gíslason is already tried and tested and enjoys the trust of Benediktsson. Gíslason’s demeanor is similar to Hannesson, a quiet and soft-spoken person.

Eiríkur Svavarsson remains on the group. Seen as somewhat dogmatic and stuck in the Icesave dispute, where he was fiercely against negotiating and supported the EFTA Court path, he is the only lawyer, apart from Ingibjörg Guðbjartsdóttir from the CBI. Among the new-comers he will enjoy a status as veteran of the process since the PM set up the first but at the time unannounced advisory group in November 2013. In addition to these five there are Jón Þ. Sigurgeirsson from the CBI where he runs the governor’s office and is generally seen as close to governor Már Guðmundsson.

“New phase towards lifting the capital controls” is the headline for the Ministry of Finance press release announcing the new group. Up until the announcements there were speculations and conflicting statements as to what would happen. “There is one thing today and another tomorrow,” one source close to the process said.

Björn Valur Gíslason, an ex-MP for the Left Green, has posted a list on his blog of quotes, linked to media coverage, by the PM and Benediktsson where they have been promising to lift the controls very soon ever since they came to power. It is a good revision of big words and broken promises, so far. In August 2013, just after coming to power the PM announced he would appoint an ” abolition” manager to abolish the controls. This job was never filled and it took months until the first group was appointed. Recently, after the PM said there would be decisive action this month, Benediktsson said it really did not matter if something happened before the end of this month or next month. Somewhat comic, with all these earlier promises in mind.

With the new group in place it seems likely it will take some time to study the options as stated in the press release. The new here is that there is something to study. As I’ve pointed out earlier, spring might seem some plans sprouting.

*Updated from an earlier version.

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After rumours on imminent changes or reshuffle of advisers working on capital controls it now seems that such movements are indeed about to happen.

According to DV (now owned by Progressive Party supporters who hired journalist Hörður Ægisson, previously at Morgunblaðið, a constant source of scoops from the CBI and the ministry of finance; media-ownership in Iceland is an increasingly intriguing saga, big changes there these days and weeks) Freyr Hermannsson, Eiríkur Svavarsson and the chairman of the (previous/present?) advisory committee Glenn Kim will not be continuing.

The new name is Sigurður Hannesson* from MP Bank, known in Iceland as a close friend of prime minister Sigmundur Davíð Gunnlaugsson and believed to have been a source of ideas for the PM over the years. Hannesson was a chairman of a working group advising on indexed loans, a topic close to the PM’s heart. Benedikt Gíslason, an adviser to minister of finance Bjarni Benediktsson and a member of the Glenn Kim committee, is also said to be part of the committee in spe. An alleged third member of the committee is not been named in DV.

If this move turns out to be true and the task of this group, manned only by Icelanders, will be to identify solutions to ease or lift the capital controls this spells two things: a) the solutions will be “home-brewed,” i.e. not formed in co-operation with anyone familiar with the international debt-scene b) the PM is strengthening his grip on the topic of capital control although it is formally under Benediktsson’s ministry. If this becomes too obvious it will make the already unhappy Independence party parliamentary group, feeling that their bigger party is continuously working on Progressive party policies and not their own, yet more unhappy.

The Glenn Kim group was the second group set up to work on the capital controls and its task seemed to be to find solutions to finally find ways to  lifting the controls. No plans have been made public in spite of Benediktsson repeatedly saying that such plans would be finalised by the end of the year. A refrain from the leaders, especially the PM, has been that creditors have to meet the expectations of the government and the interests of Iceland. It now seems that neither the first group nor the second have come up with the solution the two leaders expected them to. So the leaders might as well try their luck yet again.

Everything done so far has been marked by a lack of unity by the two coalition leaders. Another group seems a way of postponing action. With all the work done by the CBI, the first group and then the Glenn group it surely seems unlikely that much is left to discover. What is more likely is that the PM and Benediktsson still are, as is widely rumoured, at loggerheads on how to proceed. A new group would then be an exercise in can-kicking. As one source said: “As long as the two leaders have not negotiated a solution amongst themselves no solution is in sight.”

What could possibly focus the minds of the two leaders? One underlying issue is the future ownership of Íslandsbanki and Arion, owned respectively by Glitnir and Kaupthing, i.e. creditors. If the two leaders, both from wealthy families with ties in the business sector, want to influence who gets to own the banks their time to do it is limited; the next election is scheduled in spring 2017. Iceland, right now with a contracting** economy, is smarting from capital controls and the leaders are playing the fiddle – or at least fiddling with their advisers.

*Update: MP Bank has now confirmed that Hannesson will take a temporary leave from the bank to work as an adviser on capital controls to the government. Interestingly, neither the Office of the Prime Minister nor the ministry of finance have mentioned this new adviser. 

**Update: one Icelandic reader disagrees that the Icelandic economy is contracting pointing out that the stats for the first nine months shows less growth than previously but this is expected to change with the whole-year stats. This is indeed the general expectations among Icelandic economists; I’ve even heard that the reason for the unexpected dip are staff changes at the Icelandic Statistical Bureau. However, I spoke to one person with a keen insight into the Icelandic labour market whose impressions were in accordance with the stats. – Remains to be seen, more on this later.

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The new year, 2015, will be a “fun year” a foreign observer of Icelandic politics and economics mentioned to me – and he might well be right. It is just not clear yet for whom it will be fun. Sigmundur Davíð Gunnlaugsson mentioned future action regarding capital controls in his New Year’s address (only in Icelandic) in the first part of the new year.

Gunnlaugsson pointed out that although much has been achieved, there is still capital controls in Iceland. “The so-called estates of the collapsed banks, which have already operated longer than is preferable, are the greatest hindrance in lifting capital controls. In the beginning the estates were not taxed although they are in most respect run like companies. But with the estates now being taxed the financial scope, unavoidable part of lifting the controls, is now finally beginning to come into being. It is necessary that these companies contribute their due to society. In many foreign countries, for example in the US, financial companies, which in most cases were kept going with access to the state coffers, have been made to pay sky-high fines in addition to repaying loans to make up the damage they had caused societies.”

Gunnlaugsson added that after preparatory work in evaluating the aftermath of the financial shock the government is now well-placed to take important action early in the new year. “The Icelandic nation has already shouldered all the cost it can be expected to because of the international financial shock – cost that could easily have been much higher and even unbearable if Icelanders had not guarded its right (hint: Icesave).” – I will leave it to the reader to try to match these words to reality, i.a. tax on estates in general and the relations of fines paid by banks and damages done.

Gunnlaugsson has since said in Icelandic media that something could happen already in January.

It remains to be seen. As earlier, my feeling is that the two coalition leaders, Gunnlaugsson and Bjarni Benediktsson minister of finance, have not yet reached an agreement as to how to proceed. Until that happens the really fateful steps towards lifting the capital controls will not be taken.

Whatever happens, Icelanders celebrated New Year as is their custom – with a glorious fireworks show, which culminated at midnight, as seen below. The fun has already been tested, skál and happy merry New Year!

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