Sigrún Davíðsdóttir's Icelog

“Is this a retrade?” creditors will be asking themselves as they scrutinise the agreement reached between the Icelandic Task Force, the government’s advisers, and representatives of the three estates. As regards LBI and Kaupthing, probably not – relevant decisions will be made according to the June 8 agreement. However, Glitnir is a different case: yes, it is a retrade but the June agreement was probably never going to work for Glitnir. the main thing is that the present agreement with Glitnir and earlier with LBI (and Kaupthing probably by the end of this week), which means that the yoke of the capital controls will be off Icelandic shoulders.

Without much ado LBI announced last week that it was ready for a composition following the June 8 guide-lines. The LBI situation is very different from Glitnir and Kaupthing – LBI has hardly any ISK assets to speak of, it doesn’t own Landsbankinn, the Icelandic state does. The relative ease can be seen from the fact that the LBI stability contribution is only ISK14bn. The lion share of the LBI funds goes to priority creditors, i.e. the UK Treasury and those who bought the claims of the Dutch Central Bank earlier this year but the stability contribution will be paid by those holding general claims.

Kaupthing is due to pay ISK120bn in stability contribution according to the June 8 guidelines and will most likely do so. Will its main Icelandic asset, Arion bank, also end up in public ownership? That is unlikely, the constellation in Kaupthing is entirely different compared to Glitnir. Kaupthing’s only ISK asset is Arion bank, whereas Glitnir had around ISK150bn in ISK cash and assets, in addition to Íslandsbanki, i.e. the problem of foreign-owned ISK assets is much greater in Glitnir than Kaupthing.

Consequently, Glitnir was a much harder nut to crack. The task force accepted Glitnir’s solution in the letter Glitnir sent in, as did the other banks, in connection to the June 8 plan; i.e. the task force accepted that the solution Glitnir suggested fulfilled the stability criteria. However, at a closer scrutiny – most likely done by the CBI (which should have been kept closer to the negotiations because they have the necessary insight but weren’t) – it became clear that no, it actually did not. Therefor a retrade, i.e. a new agreement for Glitnir.

Discussing the Glitnir agreement on Rúv October 20 minister of finance Bjarni Benediktsson stated that “we (i.e the government) intervened in the process at the right time.” Another way to look at it is that it took the government two and a half years of wrestling to agree to sing from the same hymn sheet and accept that should the process be consensual the only sensible way was to negotiate the outcome with creditors.

After deducting priority claims the stability contribution amounts to 80% of the ISK assets in the tree estates or 20% of their total assets – interestingly, numbers that have been swirling in the air from 2012. Something in this direction has always been the obvious solution. The delay in acting on it was the political price.

The contribution, which in June amounted to ISK334bn – ISK14bn from LBI, ISK120bn from Kaupthing (given that the finalising brings no further changes) and ISK200bn from Glitnir – will now most likely amount to almost ISK380bn, with the increase coming from the new Glitnir agreement.

The June plan versus the new plan

Benediktsson mentioned that the government had intervened, a word which could for years not be uttered aloud. In the October 20 statement it is for the first time mentioned that there were indeed negotiations. This was necessary because contrary to what the task force stated in June the Glitnir June proposals did indeed not fulfil the CBI stability criteria.

So what is the difference between the June and the new proposals (see the details here)?

The key item is Íslandsbanki. At the end of last year the bank’s capital was ISK184bn of which ISK175bn or 95% belongs to Glitnir, 5% to the Icelandic state (which owns 5% shares in the bank).

The June plan was to lower the capital by a dividend of ISK37bn, i.e. dividend paid out in ISK, in addition to dividend paid out in foreign currency, amounting to ISK16bn, roughly reducing the bank’s capital down to ISK120bn. The dividend paid out in ISK was to go towards the stability contribution, i.e. to the Icelandic state; the foreign currency dividend to creditors.

The plan was all along to sell the bank for foreign currency, i.e. convert this ISK asset into foreign currency asset so the creditors could easily be paid out without upsetting the holy grail in all of this – Iceland’s balance of payment.

Further, the June agreement stipulated that 60% from the expected sale in foreign currency would go towards the stability contribution, i.e. paid in foreign currency whereas the Glitnir’s creditors would get 40%.

The June snag

So far, so sensible. Except this apparently so perfect plan had one snag: Íslandsbanki did not have the financial strength to pay all this dividend in addition to the deposits of the failed banks, which creditors could take over at composition (the three estates have deposits in the three banks – Landsbankinn, Arionbank and Íslandsbanki – amounting to ISK109bn in ISK and ISK138bn in foreign currency at end of 2014; table vii-2).

This problem became clear in July when Glitnir and Íslandsbanki came to an agreement regarding the recapitalisation of Íslandsbanki which involved extending the maturity of Glitnir’s deposits in Íslandsbanki. The stability contribution clearly had to be paid out in cash, not by a bond.

So what are the changes made in the new plan?

The creditors pass on the ISK16bn dividend (that should have been paid out in foreign currency) and they also pass on the 40% in the hoped-for foreign currency sale of Íslandsbanki (which frankly did not seem about to happen, also because the foreign owners might not suit the political commanding heights in Iceland) – in total, they pass on ISK63bn.

What do they get in return for this sum? They don’t need to refinance a subordinate foreign currency loan, which the Icelandic state placed in Íslandsbanki, set up to entail Glitnir’s domestic operations. In Glitnir’s accounts end of June 2015 this is put at ISK20bn.*

Thus, what the creditors are in reality giving up is ISK16bn + (0.4 x 120bn) – 20bn = ISK44bn or 25% of their share of Íslandsbanki capital of ISK175bn. The task force is offering them to buy the bank at price to book 0.75.

Given that Landsbanki and Kaupthing will pay respectively ISK14bn and ISK120bn in stability contribution and Glitnir will now pay additional ISK244bn, the total is ISK378bn.

The most important outcome is that is the one Benediktsson has long been advocating, as has i.a. the IMF and the CBI: a consensual agreement, meaning that creditors take this as a final solution and will not sue the Icelandic state neither for this nor earlier actions, i.a. tax on the estates in 2014. No legal wrangling, no litigation all over the world that could delay the lifting of the capital controls for unforeseeable future. The stability tax is out, the stability contribution in.

Through the prism of Icelandic politics

Nothing can be understood in this lengthy process since Kaupthing and Glitnir presented their composition plans in 2012 and 2013 except through the prism of Icelandic politics.

Panic politics is now a passé possibility for the Progressive party. At ca. 10% in polls, compared to 24% in the elections in spring 2013, prime minister Sigmundur Davíð Gunnlaugsson could in theory have attempted to raise hell and claim that the difference between the tax and the contribution was unacceptable and he was the man fighting Iceland’s case to wring more out of creditors than the paltry ca. ISK400bn compared to ISK850bn from the tax. However, with the standing of the Pirate party in the polls – ca. 35% over the last few months – any discontent is more likely to fatten the Pirates rather than the progressives.

The June plan was to a certain degree presented on false premises by putting so much emphasis on the tax and how much it would bring. The risk linked to the non-consensual stability tax was humongous, compared to low risk of a negotiated and consensual stability contribution. These numbers have lingered on in the debate, thus kept on skewing it.

It took less than six years to bankrupt the privatised banks (they were fully privatised by end of 2002), many Icelanders will now feel uneasy that the state now owns not only one but two banks. However, that is a challenge for Icelanders to solve and will test how much, if anything was learnt following the 2008 collapse.

A good deal for Iceland?

Is this a good deal for Iceland? And is this a good deal for creditors? Yes. Both parties have a great interest in bringing the matter to a close. Iceland needs to move out of the shadow of the capital controls and now that the economy is booming again (perhaps dangerously so but that’s another saga) it’s paramount to make full use of the good times. The creditors will want to run for the exit, with whatever they get in order to invest elsewhere and get out of the sphere of Icelandic politics.

Both parties will be asking themselves what is the price of risk. Reducing uncertainty will be a profit for both parties and not the least for Icelanders themselves. In addition, Iceland should be worried about the reputational risk. As I have pointed out earlier the path towards a deal has, from the point of view of foreigners “been tortuous, with new deadlines, conflicting messages from Icelandic politicians and deals that are a deal until the authorities think of something else. Some may think this is maverick and cool, little Iceland fooling the financial markets. Others will beg to differ.”

I have earlier written extensively on all aspects of the estates and capital controls so please browse and search if you are looking for specific issues.

*Update: as stated, creditors don’t need to refinance the loan – not easy to measure the time value of money involved. They do however get what remains of the loan as a payment for Íslandsbanki, which means that their gain is a bit more than ISK20bn, to be precise.

Follow me on Twitter for running updates.