As Már Guðmundsson governor of the Icelandic Central Bank, CBI underlined at a press conference today ordinary Icelanders have not felt the capital controls for a long time. Today, the controls are lifted for not only individuals but also for companies and the pension funds. Earlier limits have been lifted – de facto the capital controls are coming to an end in Iceland, more than eight years after they were put in place end of November 2008.
What remains in place is the following, according to the CBI press release:
i) derivatives trading for purposes other than hedging; ii) foreign exchange transactions carried out between residents and non-residents without the intermediation of a financial undertaking; and iii) in certain instances, foreign-denominated lending by residents to non-residents. It is necessary to continue to restrict such transactions in order to prevent carry trade on the basis of investments not subject to special reserve requirements pursuant to Temporary Provision III of the Foreign Exchange Act and the Rules on Special Reserve Requirements on New Foreign Currency Inflows, no. 490/2016. Guidelines explaining the above-mentioned restrictions will be issued to accompany the Rules.
The measures announced today were mostly as could be expected. However, the unknown variable was what offshore króna holders would be offered. Last summer they were offered a rate of ISK190 a euro; the onshore rate was ca. ISK140 at the time. The four large funds holding most of the remaining offshore króna – Loomis Sayles, Autonomy, Eaton Vance and Discovery Capital Management – refused that offer and have since been locked into low interest rates with an uncertain date of exit.
Now the offer is quite a bit more attractive: ISK137.50 a euro; the onshore rate is today ISK115.41. Last year, the offshore króna holders were offering ISK160 a euro, quite a bit better had the government been willing to accept it last year.
The CBI has lowered its bar, presumably because getting rid of the offshore króna holdings is seen as a bonus for Iceland. The sums captured inside the capital controls now amount to ISK195bn, less than 10% of GDP. Settling this last important part of trapped offshore króna means that Iceland can now take a step out of the shadow of the 2008 banking collapse – a chapter is coming to an end.
Former prime minister and former leader of the Progressive party Sigmundur Davíð Gunnlaugsson, forced to resign because of his offshore holdings exposed in the Panama papers, wrote today on Facebook that now the vulture funds were being rewarded; the funds had known they could crush the Icelandic government and that’s what they have now done. Others will beg to differ.
According to governor Guðmundsson the amount of offshore króna exiting at the new offer is just under ISK90bn. As far as I’m aware three of the four large funds have agreed to the present offer, which remains in place for the coming two weeks. One fund is considering its options, which must include testing the legality of earlier measures, a route the funds had already embarked on.
In total the four funds hold ISK120bn, further ISK12bn are holdings in shares, which are not being sold (thus nothing volatile there) and ISK60bn are deposits owned by various investors (some of whom might well have forgotten about their holdings or who are for some reason unaware of being the lucky owners of some Icelandic króna).
This means that although ISK90bn is less than half of the remaining offshore króna it’s roughly 3/4 of the offshore króna that could potentially move (though the funds do indeed want to keep their Icelandic relatively high-interest króna assets but that’s another saga).
What now remains in place is hindrance on inflows – as I’ve said earlier some would call it another form of capital controls but I side with the CBI that already in 2012 announced the conditions after capital controls would not be like before November 2008. Iceland isn’t interested in being the destination of money flows looking for lucrative interest rates. Consequently, prudent measures are in place since last summer.
Benedikt Jóhannesson minister of finance called today “a day of gladness.” Given that the controls had already been eased it’s unlikely the Icelandic króna will move much tomorrow or the coming days. The pension funds have good reasons to be vary of moving abroad. Though foreign investments would be wise as means of hedging foreign markets of low interest rates and high asset prices are not inviting.
Iceland is booming – the economy grew by 7.2%(!) of GDP last year. No exaggeration that there are good times in Iceland but good times aren’t necessarily easy times in a small economy with its own currency. With capital controls out of the way Iceland there is one thing less to worry about, the rating agencies will see this as a favourable move that might soon be expressed in more favourable ratings, eventually meaning lower interest rates in Iceland – so as to end on an optimistic note.
PS Why was the government keen to act now re offshore króna holders? Well, first for the entirely obvious reasons that Iceland is doing very well with large foreign currency reserves (not entirely trivial to invest them sensibly) and consequently it’s difficult to claim that economic hardship bars solution. In addition, as the minister of finance mentioned today: the rating agencies have indicated that the rating might move up, with the benefits such as lower interest rates when the sovereign borrows, spilling over into lower interest rates in Iceland. Last, it seems that the International Monetary Fund, very patient so far, was starting to air its worries: Iceland couldn’t keep boxing in the offshore króna holders indefinitely.
From top prime minister Bjarni Benediktsson, minister of finance Benedikt Johannesson (the two ministers are closely related, both from one of the most prominent business families in Iceland) and Már Guðmundsson governor of the CBI. Screenshots from the press conference today – notice the painting behind the two ministers: by Jóhannes Kjarval (1882-1972) the most iconic Icelandic artist, whose favourite motive was Icelandic landscape, most notable the lava landscape like here.
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An application with the Reykjavík District Court for independent assessment of the Icelandic economy, launched by two of the funds holding the majority of the Icelandic offshore króna, has been met by the Court. Originally, the funds had eleven requests; the Court granted three of them according the Icelandic daily DV.
The two funds claim the measures taken against the offshore króna holders this summer – effectively forcing them out at a great discount or freezing the funds at below-inflation interest rates – are harmful measures, utterly unnecessary in the booming Icelandic economy. They now want an independent assessment of the economy, in order to show that the Icelandic government could well afford more generous terms.
According to a recent decision by the EFTA Surveillance Authority the offhore króna measures were within the remit of the Icelandic government and did not break any EEA rules.
The measures no doubt had a sobering effect on foreign visitors but it the use of a new tool to temper inflows, announced in June this year that has had an effect: according to new figures released by the Central Bank, inflows into Icelandic sovereign bonds have completely stopped since June when the measures were put in place.
There had been some concern that the large inflows might jeopardise Icelandic financial stability as indeed it did in 2008 when capital controls were put in place exactly because of these inflows. Governor of Central Bank Már Guðmundsson said earlier this year that the renewed inflows, which the Bank would monitor, were a sign of trust in the Icelandic economy. Well, no worries – the measures in June stopped the inflows.
For earlier Icelog on the offshore króna issues please search the website.
Update: this piece has been updated as the earlier report re the effect on inflows was incorrect.
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The EFTA Surveillance Authority, ESA, has now closed two complaints re treatment of offshore króna assets by Icelandic authority: ESA finds the Icelandic laws in compliance with the EEA Agreement (see ESA press release here, the full decision here). The disputed laws were part of measures taken in order to remove capital controls in Iceland.
I have earlier written extensively about the offshore króna issue, also the rather bizarre action taken by the so-called Iceland Watch against the Central Bank of Iceland, which rubbed Icelanders, even those sympathetic to the point of view taken by the offshore króna holders, completely the wrong way. The sound points, which can be made by the offshore króna holders, were missed or ignored and instead the Iceland Watch action was shrill and shallow, based on spurious facts.
In general EEA states are permitted, under the EEA Agreement, to take protective measures when a states is experiencing difficulties as regards its balance of payments. As spelled out in the press release the states, in such situations, “are allowed to implement a national economic and monetary policy aimed at overcoming economic difficulties, as long as the criteria for these protective measures are met.”
As Frank J. Büchel, the ESA College member responsible for financial markets sums it up: “Iceland’s treatment of offshore króna assets is a protective measure within the meaning of the EEA Agreement. The overall objective of the Icelandic law is to create a foundation for unrestricted cross-border trade with Icelandic krónur, which will eventually allow Iceland to again participate fully in the free movement of capital.”
The funds in question, Eaton Vance and Autonomy, are testing their case in an Icelandic court.
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Iceland is, in my opinion, the most offshorised economy in the world, from the point of view of how pervasive it was. The banks diligently sold offshore solutions as an everyman product. I talked about this topic as a Tax Justice Network workshop in spring. This was also the topic of an interview Naomi Fowler from the TJN recently did with me.
After the collapse of the Icelandic banks in October 2008 my attention turned to the role of offshorisation in Iceland. The banks operated in London, the Channel Islands and most important of all, in Luxembourg.
The widespread offshorisation, its effect and general lessons of offshorisation in Iceland was the topic of the interview Naomi Fowler did with me for Tax Justice Network recently, see here.
After my talk at the TJN spring workshop I wrote an article on the TJN see here.
The general lesson is: offshore creates an onshore shelter from tax, rules and regulation and thus creates a two tier society where tax, rules and regulation becomes optional for those offshored while living onshore, wether it’s in Iceland, the UK, US or elsewhere…
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Holders of Icelandic offshore króna holders seem to have gained some intriguing friends. A so-called think tank, Institute for Liberty with the slogan “Defending America’s Right To Be Free” has suddenly found the urge to set up a project called “Iceland Watch” with its own website, specifically to follow, it seems, how Icelandic authorities deal with offshore króna holders (inter alia linking to some of my blogs).
The focus of interest, according to the Institute, is the following:
“The Institute for Liberty has followed Iceland’s path to recovery since the 2008 collapse and has developed an increased concern over recent protectionist economic policies like the discriminatory practices against offshore króna investors.
“In creating Iceland Watch, we aim to keep the public apprised of any anti-democratic and anti-free trade policies put into place by the Althingi, Iceland’s parliament, which could threaten the property rights of offshore investors in Iceland’s króna.
“Holders of Iceland’s offshore krona include several American investors, which serve a variety of retail investors like retirees with 401k plans and institutional investors such as corporate and public retirement plans, foundations, and endowments.
“Despite investors’ willingness to support Iceland during its time of transition and several distinct offers to negotiate good faith solutions, the Icelandic government refuses to offer anything other than a clear take-it-or-leave-it scenario. The discrimination against foreign investors is disturbing and could affect millions of American holders of 401k and retirement accounts.
“When Iceland’s parliament, the Althingi, convenes its Summer Special Session on August 15, its actions will indicate whether the island nation will reintegrate itself into international free markets or further its isolation by instating new costly, misguided policies that chill investment and economic growth.”
The Institute’s website indicates it’s also interested in Puerto Rico’s debt, another place where American investment funds struggle to get repaid. More intriguingly, the Institute has also fought Obamacare and other typically far-right interests.
Indeed, the Institute is part of ad hoc networks of “think tanks,” non-profit organisations and ,,grassroots” organisations funded by far-right American billionaires such as David and Charles Koch and the hedge fund owner Paul Singer, who for years fought the Argentinian government, now a settled issue.
The Institute is mentioned in Jane Mayer’s insightful and well-documented analysis of the money powers on the right-wing of the Republican party, far more right-wing than the mainstream Grand Old Party is. Powers, that for a few decades have pumped money into setting up phoney “grassroots” organisations in support of the tobacco industry, against environmental issues and lately, Obamacare. Mayer’s book, Dark Money; The Hidden History of the Billionaires Behind the Rise of the Radical Right, came out in spring, an essential read to understand the undercurrents in US politics the last decades and the issues behind political funding, now open to anonymous donations, and the Citizens United ruling in 2010.
According to Mayer, Institute for Liberty got lucky with funding, yet another node in the efforts to fight Obamacare; in 2009 it received $1.5m:
Four hundred thousand dollars of these funds were channeled back to DCI Group (Washington PR company, instrumental according to Mayer in fighting Obamacare) for “consulting.” The previous year, the Institute for Liberty’s entire budget had been $52,000. Suddenly it was so awash with cash that the group’s president, Andrew Langer, told the The Washington Post,‘ “This year has been really serendipitous for us.” He said a donor, whom he declined to name, had earmarked the funds for a five-state advertising blitz targeting Obama’s health-care plan. (Mayer, p.192).
As I’ve pointed out earlier, there have been some articles popping up here and there – op-ed in WSJ, guest blog on FT Alphaville and the most recent on The Street, “Iceland Should Learn From Argentina’s Bad Example” by Aldo Abraham, an Argentinian academic.
No need to point out that of course all of the media rumbling is orchestrated, driven as it is by non-journalistic input; as seen from Mayer’s book the DCI Group has links to the Institute. Everyone fights their turf as best they can, the links to the knights of dark money is rather unsettling but “à chacun son goût.” It is intriguing to see the cause of Icelandic offshore króna holders as part of this picture: not necessarily surprising but yes, intriguing.
The Princeton economist Angus Deaton, summarises masterly in his powerfully argued “The Great Escape” that the worrying trend in US politics is the tendency of interest groups to buy influence in Washington.
As spelled out in earlier blogs Argentina is potentially a worrying example for Iceland: it fought creditors and then settled after a decade of costly legal wrangling, beneficial for the lawyers involved and corrupt powers but deeply deeply harmful for Argentina. In Iceland, voices similar to those Argentinian politicians who fought the Argentinian debtors can be heard. Elections are coming up in October, politicians will hardly strife to be on the side of foreign creditors although successful plan last year re the estates of the failed banks, based on agreement with creditors, is a positive argument for co-operation with creditors.
Views vary: some claim Iceland’s cause is wholly different from Argentina. However, although Iceland has graduated from the earlier IMF program the Fund is still closely connected to Iceland; it’s difficult to imagine that the Fund’s views will be ignored. Happily, Iceland is blossoming and, according to the latest IMF report, has more than gained what it lost on the crisis, i.e. it’s difficult to argue for any emergency actions. In the end, Iceland will have to decide on the best course to follow so as to adhere to the rule of law and further prosperity.
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Congressman Dennis A Ross has written a letter, see below, to Sunil Sabharval, US Executive Director at the International Monetary Fund, IMF, inquiring as to what US officials knew about the offshore króna actions taken by the Icelandic government. The Congressman’s mission is clearly to safeguard US interests, i.e. the interest of US funds holding offshore króna, a problem I have dealt with extensively in earlier blogs, inter alia here. Although not stated explicitly, the most sensitive underlying assets are sovereign securities, payable in Icelandic króna.
In the letter the reasons for the Icelandic collapse are somewhat simplified to say the very least, apparently easier to blame the government than the banks; also rather funny to see the offshore króna holders treated as entirely blameless lured by good deals, another saga.
The thrust of the letter is that since Iceland has now recovered well from its 2008 crisis Iceland shouldn’t be discounting the offshore króna or offering the investors punitive terms. – Further to this: intriguingly, Iceland had not made a loss on the 2008 banking crisis but a gain of 9% of GDP(!), according to the latest IMF Article IV Consultation statement on Iceland, from June 22.
The Congressman points out that the offshore króna holders (i.e. the largest holders) have come up with various solution but Icelandic authorities have been unwilling to take any notice. He now wants to know if US officials are aware of what is going on – and he expects an answer, which as far as I know has not yet been given. IMF has preached a cooperative approach to lift capital controls, reiterated in its June statement on Iceland but seems to consent with the action taken by Icelandic authorities re the offshore króna.
Here is Congressman Ross’ letter:
Last time, this time – in general
As I recounted at length in the years, months and days up to the plan to lift capital controls on the estates of the banks, presented June 8 last year, Icelandic authorities dithered for long due to infighting until they took the plunge – to be fair, the authorities claimed it just took time to prepare the plan and refused all allegations of infighting. But the plunge wasn’t taken until it was clear the plan was supported by the largest creditors.
The same now with the offshore króna action, it all took longer than had been planned, my understanding is that it took long because of different views; however, those involved say it just took the time it took, complicated matters etc. Yet, this time the government acted unilaterally, no agreement with the largest offshore króna holders. Thus inter alia the above letter, I assume.
The government claims the offshore króna holders do not act as a group, contrary to the creditors to the old banks. That isn’t wholly correct – each estate had to be dealt with separately and support was sought for each estate. Thus, the creditors were not a unified group but three groups. So much for that argument now re the offshore króna holders.
As a ground for pride Bjarni Benediktsson minister of finance has pointed out that there was no legal aftermath to the plan last year. Quite true but that’s because the plan wasn’t passed until creditors’ support was ensured. Which is exactly the opposite of now where the government has acted unilaterally re the offshore króna holders who consequently have taken the first steps towards legal action.
In addition, there is the concern Congressman Ross shows, as well as articles in the Wall Street Journal and FT Alphaville, as I have mentioned in earlier blogs – offshore króna holders are clearly trying to point out to the world that Iceland, by planning a haircut on the offshore króna assets (when they are converted into foreign currency) doesn’t intend to honour its international commitments.
Last time, this time – in particular
I have earlier pointed out that I was wondering if the Icelandic government was going to make use of some “tricky teleological interpretation” in its dealings with offshore króna holders.
I didn’t explain in any detail what I had in mind but here it is:
Long before the June 8 plan last year, the Icelandic government claimed it couldn’t possibly have anything to do with the composition of three private banks. Right, except that composition was meaningless if it wasn’t clear beforehand how much of the Icelandic assets creditors (only 10% of the assets went to Icelandic creditors, mostly the CBI) could convert into foreign currency. Composition agreement couldn’t be reached until the government had found a solution i.e a haircut, which the creditors could agree to – that was what mostly took so long to solve.
This time, the core of the offshore króna problem is similar regarding sovereign securities. The government can claim that it’s honouring all its obligations as it will pay out any such securities in full and on time… in króna. The thing is that offshore króna holders can – or could, the auction is now over – either choose to convert at ISK190 a euro (the onshore rate is now ISK136, was ISK139 at the time of the auction) or have their króna kept on a special deposit account at 0.5% interest rates with no maturity in sight. The question is if this is seen as fair… or not.
Last year, the government came to the conclusion that it had to step in to facilitate a composition. Now, it’s just shrugging its shoulder and the message is, as I’ve stated earlier, “let them litigate” – alors, last year, the goal was to prevent legal action, this year it’s bring it on…
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After markets closed May 20, minister of finance Bjarni Benediktsson introduced a new Bill (text in English) on offshore ISK, now amounting to ISK319bn, around 14% of Icelandic GDP.
As expected, offshore ISK owners are will be offered to participate in an auction. Those who don’t accept the offer will see their funds put into so-called “Central Bank of Iceland certificates of deposit: Debt instruments issued by the Central Bank of Iceland to deposit money banks that hold offshore króna assets in accounts subject to special restrictions.”
The restrictions are special indeed: the debt instrument will only carry interest of 0.5%, to be reviewed every year. In addition, this debt instrument does not have a specified maturity. As interest rates in Iceland are well above 0.5% and not likely to be near this rate any time soon, the offer is to participate in an auction or have the funds locked in at negative interest rates forever and a day, i.e. well below market rates in Iceland.
If the word “expropriation” comes to mind the 4.1 Chapter is on “Provisions of the Constitution and the European Human Rights Convention”:
The recommendations in the bill of legislation have been drafted with the aim of maintaining compliance with the Constitution and the European Human Rights Convention, particularly as regards protection of ownership rights and prohibition of discrimination. Failure to adhere to these principles could create liability for compensatory damages on the basis of Article 72, Paragraph 1 of the Constitution, cf. also the protection of ownership rights according to the European Human Rights Convention, or could constitute illegal discrimination, which would be in violation of the non-discrimination rule contained in Article 65 of the Constitution, cf. also the prohibition of discrimination on the basis of subjective considerations, according to the European Human Rights Convention and the EEA Agreement.
It is clear that the beneficial owners of offshore króna assets are residents and non-residents and that disposal of offshore króna assets has been subject to restrictions ever since the capital controls were imposed. The extraordinary circumstances currently prevailing are considered to justify the transfer of offshore króna assets in the form of electronically registered securities to administrative accounts with the Central Bank of Iceland and the transfer of deposit balances to accounts that will be subject to the special restrictions provided for in the bill of legislation. The same principles lie behind the recommendation that payments due to other offshore króna assets be subjected to comparable restrictions.
It is appropriate to emphasise that the bill of legislation does not represent a transfer of ownership rights. Furthermore, changes in the custody of króna-denominated assets are not conducive to eroding their value, with reference to the fact that the authorisations for disposal will be either unchanged or more liberal. Nevertheless, it can be said that, by stipulating changes in administration of custody, owners’ right of disposal are being restricted as regards the selection of an administrator.
The Central Bank is authorised to charge administrative fees on offshore króna assets, but these fees shall not exceed the Bank’s actual incurred expense. The restrictions in the bill of legislation centre mainly on owners’ right to decide where their assets are held in custody.
The restrictions provided for in the bill are an element in the vital task of reducing the risk attached to the aforementioned offshore króna assets. The conditions prevailing at the time this bill of legislation is presented – i.e., the imposition of capital controls following the financial crisis in autumn 2008, the steps taken since then, and the damage that protracted capital controls do to the domestic economy – are discussed in detail in Section 2. Furthermore, reference is made to the discussion in that section concerning the necessary scope of the measures provided for in the bill of legislation.
The continued restrictions on the right to dispose of offshore króna assets are based on vital public interest considerations. These restrictions are a necessary element of measures to release the pressure that offshore króna assets could put on the exchange rate of the Icelandic króna, other things being equal, and they are also a way to give the owners of the assets the option of releasing them without jeopardising exchange rate stability. The objective of the bill is to enable the liberalisation of capital controls on households and businesses in Iceland, and also on owners of offshore króna assets. (Emphasis mine).
The situation of the Icelandic economy can be debated but it is, for the time being, fairly if not extraordinary good.
The above mentioned “continued restrictions” indicate that as capital controls are lifted on others, those who hold offshore ISK but didn’t want to participate in the auction are effectively kept locked in.
As soon as plan to lift capital controls was announced in June last year, carry trades on the ISK rose. Intriguingly, part of the present locked-in offshore ISK stems from carry trades (actually often long-term investment rather than only hot inflows). This means, that even before the old overhang has been released, new inflows have started – either a sign of the market’s extremely short memory or faith in the Icelandic economy.
The government carefully avoided legal wrangling with creditors of the estates of the fallen banks. The question is if the new Bill does the same trick and leads to a satisfactory outcome for all. The above are points likely to cause consternation among the four largest holders of offshore ISK, all institutional investors. The question is if it’s more important for them to find a solution and finally clarify the situation or if they see the new measures as an infringement on their legal rights.
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After my talk on “Iceland: the offshorisation of an economy” at the Tax Justice Network Workshop on “Corruption and the Role of Tax Havens” I was invited to blog on the Icelandic offshore lessons. Thanks a million to TJN for the invite, the blog is here.
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“Corruption and the role of tax havens” was the headline of the annual workshop of the Tax Justice Network – and the word Luxembourg was heard quite often there.
There were plenty of interesting talks, much to learn. Two things are still playing around in my head: an exchange on the offshore bubble inside, not outside, of our Western countries – and the destructive role of Luxembourg when it comes to both taxation and finance.
Offshore is actually onshore
I was on a panel today about “Stories of secrecy;” I gave a talk about “Iceland, the offshorisation of an economy” and Richard Smith from Naked Capitalism talked about the role of Scottish LPs in the Moldova bank robbery where $800 were syphoned off, into offshore companies. Nicholas Shaxson, author of “Treasure Islands,” was the moderator.
Shaxson mentioned the increasing focus on financial stability and the offshore universe, something that is very clear when it comes to Iceland and events in autumn 2008 – the offshorisation did not alone cause the banking collapse but it played its role in hiding money, connections, ownership, debt and everything else that can be hidden offshore.
One image I have been toying with lately, in order to explain the dangerous effect of offshorisation, is that each Western country is like a balloon where law and order, civil society seems to permeate the whole balloon. However, at a closer look, the offshore is like a bubble inside the balloon, where civil society is kept out, where bankers, accountants and other facilitators, together with companies and wealthy individuals act as if the rules of society, the social pact, didn’t exist; i.a. have created this safe haven from law and order.
What we should really be focusing on is that offshore isn’t outside of our countries, it is right within, creating a space immune to all the things the social pact otherwise touches, the social pact of taxation, rule of law etc. And it hugely undermines financial stability… as we saw in 2008, not only in Iceland.
Luxembourg: at the heart of dirty deals and tax destruction
Omri Marian is an assistant professor of law at the Irvine School of Law, University of California. He has studied 172 of the tax contracts the Lux Leaks brought into the open. His very illuminating point is that at first glance the Luxembourg tax laws looks just as sophisticated as tax laws normally do in Western countries. However, there is simply no execution of this convincingly looking legal tax code.
It sounds insane but one person, a certain Marius Kohl, was in charge of agreeing to all the privately negotiated “advance tax agreement,” effectively the tax for individual companies. The agreements, normally running to hundreds of pages, would often be signed off by the very hard-working Kohl on the day of application.
This reminded my of my experience with the Luxembourg financial regulator, Commission de Surveillance du Secteur Financier, CSSF. After the collapse of the Icelandic banks in October 2008 it slowly dawned on me that most of the banks’ dirty deals, especially in Kaupthing and Landsbanki, had been run through their Luxembourg operations.
Yet, when I asked lawyers and accountants I was told that all was in good order in Luxembourg, they had strict laws regarding the financial sector; the CSSF was there to keep an eye on things.
Listening to Marian it dawned on me that yes, this is how Luxembourg does it: it pays lip service to European rules and regulation and what you normally expect from a Western democracy by having a legal code on tax and the finance sector. But that’s all: the laws exist but only on paper – there is no execution to speak of.
Some years ago I visited the CSSF, got an audience with some six or seven people there. A very memorable meeting; we sat at the largest meeting table I have ever sat at; I on one side, the CSSF-ers on the other side. I told them what was slowly coming to light in Iceland: the alleged fraud and shenanigans, the loans with light covenants and little or no collaterals and guarantees, alleged market manipulations via the banks’ proprietary trading and share parking in companies the banks finances etc. – so, weren’t they going to look into the banks’ operations. There were darting eyes and down-cast faces: no, no need to do anything, all in good order in Luxembourg. D’accord…
I intend to write further on the thoughts above – but suffice it to say that if the European Union is at all serious about acting on the offshorisation of the European economies it has to make sure that Luxembourg not only adorns itself with all the correct-looking legal codes but actually enforces it, i.a. by having the staff needed to do so.
*Nicholas Shaxson blogged today on the Tax Justice Network on these aspects of Luxembourg and quoted some of my earlier blogs on Luxembourg, i.a. my observations that Luxembourg attract financial companies because they know full well that Luxembourg is a safe haven… from regulatory scrutiny.
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In a formal signing ceremony 16 January 2003 a group of Icelandic investors and the German bank Hauck & Aufhäuser purchased shares in a publicly-owned Icelandic bank. Paul Gatti represented the German bank, proudly airing the intension of being a long-term owner together with the Icelandic businessman Ólafur Ólafsson. What neither Gatti nor Ólafsson mentioned was that earlier that same day, at a meeting abroad, their representatives had signed a secret contract guaranteeing that the Icelandic bank Kaupthing, called ‘puffin’ in their emails, would finance the H&A purchase in Búnaðarbanki. A large share of the profit, 57,5 million USD, would accrue to Ólafsson via an offshore company, whereas 46,5 million USD was transferred to the offshore company Dekhill Advisors Limited, whose real owners remain unknown. Thus, Ólafsson and the H&A bankers fooled Icelandic authorities with the diligent help of advisors from Société General. – This 14 year old saga has surfaced now thanks to the Panama Papers. What emerges is a story of deception similar to the famous al Thani story, which incidentally sent Ólafsson and some of the Kaupthing managers involved in the ‘puffin plot’ to prison in 2015. Ólafsson is however still a wealthy businessman in Iceland.
The privatisation of the banking sector in Iceland started in 1998. By 2002 when the government announced it was ready to sell 45.8% in Búnaðarbanki, the agrarian bank, it announced that foreign investors would be a plus. When Ólafur Ólafsson, already a well-known businessman, had gathered a group of Icelandic investors, he informed the authorities that his group would include the a foreign investor.
At first, it seemed the French bank Société General would be a co-investor but that changed last minute. Instead of the large French bank came a small German bank no one had heard of, Hauck & Aufhäuser, represented by Peter Gatti, then a managing partner at H&A. But the ink of the purchase agreement had hardly dried when it was rumoured that H&A was only a front for Ólafsson.
Thirteen years later, a report by Reykjavík District judge Kjartan Björgvinsson, published in Iceland this week, confirms the rumours but the deception ran much deeper: through hidden agreements Ólafsson got his share in Búnaðarbanki more or less paid for by Kaupthing. Together with Kaupthing managers, two Société General advisers, an offshore expert in Luxembourg, Gatti and H&A legal adviser Martin Zeil, later a prominent FDP politician in Bayern, Ólafsson spun a web of lies and deceit. A few months after H&A pretended to buy into Búnaðarbanki the hidden agreements made an even greater sense when tiny Kaupthing bought the much larger Búnaðarbanki. Until Kaupthing collapsed in 2008 Ólafsson was Kaupthing’s second largest shareholder and, it can be argued, Kaupthing’s hidden mastermind.
The H&A deceit turned out to be only an exercise for a much more spectacular market manipulation. In the feverish atmosphere of September 2008, Ólafsson, following a similar pattern as in 2003, got a Qatari sheikh to borrow money from Kaupthing and pretend he bought 5.1% in Kaupthing as a proof of Kaupthing’s strength. Ólafsson was charged with market manipulation in 2015 and sentenced to 4 ½ years in prison, together with Kaupthing managers Sigurður Einarsson, Hreiðar Már Sigurðsson and Magnús Guðmundsson, all partners in Ólafsson’s H&A deceit.
Preparing the ‘puffin plot’
Two SocGen bankers, Michael Sautter and Ralf Darpe, worked closely with Ólafsson from autumn 2002 to prepare buying the 45.8% of Búnaðarbanki the Icelandic government intended to sell. Ólafsson gave the impression that SocGen would be the foreign co-investor with his holding company, Egla. Sautter, who had worked on bank privatisation in Israel and Greece, said in an interview with the Icelandic Morgunblaðið in September 2002 that strong core investors were better than a spread ownership, which was being discussed prior to the privatisation. In hindsight it’s easy to guess that the appearances of Ólafsson’s advisers were part of his orchestrated plot.
But something did not work out with SocGen: by mid December 2002 the bank withdrew from the joint venture with Ólafsson who asked for an extended deadline from the authorities to come up with new foreign co-investors. The SocGen bankers now offered to assist in finding a foreign investor and that’s how Ólafsson got introduced to H&A, Peter Gatti and Martin Zeil.
The privately held H&A came into being in 1998 when two private Frankfurt banks merged: 70% was owned by wealthy individuals, the rest held by BayernLB and two insurance companies.
Until last moment Ólafsson withheld who the foreign investor would be but assuring the authorities there would be one. And lo and behold, Peter Gatti showed up at the signing ceremony 16 January 2003, held in the afternoon in an old and elegant building in Reykjavík, formerly a public library. H&A bought the shares in Búnaðarbanki through Egla, Ólafsson’s holding company, which also meant that Ólafsson was in full control of the Búnaðarbanki shares.
At the ceremony in Reykjavík Gatti played the part of an enthusiastic investor, promising to bring contacts and knowledge to the Icelandic banking sector. To the media Ólafsson in his calmly assuring way praised the German bank, which would be valuable to Búnaðarbanki and Icelandic banking. “We chose the German bank,” he stated, “because they were the best for Búnaðarbanki and for our endeavours.”
The particular benefit for Búnaðarbanki never materialised but the arrangement certainly turned out to be extremely lucrative for Ólafsson and others involved. However, it wasn’t the agreement signed in Reykjavík but another one signed some hours earlier, far from Reykjavík, that did the trick.
The hidden agreements at the heart of the ‘puffin plot’
The other agreement, in two parts, signed far away from Reykjavík told a very different story than the show put on at the old library in Reykjavík.
That agreement came into being following hectic preparation by Guðmundur Hjaltason, who worked for Ólafsson, Sautter and Darpe, Gatti and Zeil, an offshore expert in Luxembourg Karim van den Ende and a group of Kaupthing bankers. The Kaupthing bankers were Sigurður Einarsson, Hreiðar Már Sigurðsson, Steingrímur Kárason, Bjarki Diego and Magnús Guðmundsson who have all been convicted of various fraud and sentenced to prison, and two others, Kristín Pétursdóttir, now an investor in Reykjavík and Eggert Hilmarsson, Kaupthing’s trusted lawyer in Luxembourg. Karim Van den Ende is a well known name in Iceland from his part in various dubious Kaupthing deals through his Luxembourg firm, KV Associates.
The drafts had been flying back and forth by email between the members this group. Three days before the signing ceremony Zeil was rather worried, as can be seen from an email published in the new report. One of his questions was:
Will or can Hauck & Aufhäuser be forced by Icelandic law to declare if it acts on its own behalf or as trustee or agent of a third party?
Zeil’s email, where he also asked for an independent legal opinion, caused a flurry of emails between the Kaupthing staff. Bjarki Diego concluded it would on the whole be best that “as few as possible would know about this.”
But how was the H&A investment presented at the H&A? According to Helmut Landwehr, a managing partner and board member at H&A at the time of the scam, who gave a statement to the Icelandic investigators the bank was never an investor in Iceland; H&A only held the shares for a client. Had there been an investment it would have needed to be approved by the H&A board. – This raises the question if Gatti said one thing in Iceland and another to his H&A colleagues, except of course for Zeil who operated with Gatti.
The offshored profits
The hidden agreement rested on offshore companies provided by van den Ende. Kaupthing set up an offshore company, Welling & Partners, that placed $35.5m, H&A’s part in the Búnaðarbanki share purchase, on an account with H&A, which then paid this sum to Icelandic authorities as a payment for its Búnaðarbanki purchase. In other words, H&A didn’t actually itself finance its purchase in the Icelandic bank; it was a front for Ólafsson. H&A was paid €1m for the service.
Then comes the really clever bit: H&A promised it would not sell to anyone but Welling & Partners – and it would sell its share at an agreed time for the same amount it had paid for it, $35.5m. When that time came, in 2005, the H&A share in Búnaðarbanki was worth quite a bit more, $104m to be precise.
Kaupthing then quietly bought the shares so as to release the profit – and here comes another interesting twist: this profit of over $100m went to two offshore companies: $57.5m to Marine Choice, owned by Ólafsson and $46.5m to a company called Dekhill Partners. Kaupthing then invested Ólafsson’s profit in various international companies.
In the new report the investigator points out that the owners of Dekhill Partners are nowhere named but strong indications point to Lýður and Ágúst Guðmundsson, Kaupthing’s largest shareholders who still own businesses in the UK and Iceland.
At some point in the process, which took around two years, the loans to Welling & Partners were not paid directly into Welling but channelled via other offshore companies. This is a common feature in the questionable deals in Icelandic banks, most likely done to hide from auditors and regulators big loans to companies with little or no assets to pledge.
Who profited from the ‘puffin plot’?
Ólafsson is born in 1957, holds a business degree from the University of Iceland and started early in business, first related to state-owned companies, most likely through family relations: his father was close to the Progressive party, the traditional agrarian party, and the coop movement. Ólafsson is known to have close ties to the Progressives and thought to be the party’s major sponsor, though mostly a hidden one.
Ólafsson was also close to Kaupthing from early on and was soon the bank’s second largest shareholder. The largest was Exista, owned by the Guðmundsson brothers.
There are other deals where Ólafsson has operated with foreigners who appeared as independent investors but at a closer scrutiny were only a front for Ólafsson and Kaupthing’s interests. The case that felled Ólafsson was the al Thani case: Mohammed Bin Khalifa al Thani announced in September 2008 a purchase of 5.1% in Kaupthing. The 0.1% over the 5% was important because it meant the purchase had to be flagged, made visible. To the Icelandic media Ólafsson announced the al Thani investment showed the great position and strength of Kaupthing.
In 2012, when the Special Prosecutor charged Sigurður Einarsson, Magnús Guðmundsson, Hreiðar Már Sigurðsson and Ólafsson for their part in the al Thani case it turned out that al Thani’s purchase was financed by Kaupthing and the lending fraudulent. Ólafsson was charged with market manipulation and sentenced in 2015 to 4 ½ years in prison. He had only been in prison for a brief period when laws were miraculously changed, shortening the period white-collar criminals need to spend in prison. Since his movements are restricted it drew some media attention when he crashed his helicopter (he escaped unharmed) shortly after leaving prison but he is electronically tagged and can’t leave the country until the prison sentence has passed.
The Guðmundsson brothers became closely connected to Kaupthing already in the late 1990s while Kaupthing was only a small private bank. Lýður, the younger brother was in 2014 sentenced to eight month in prison, five of which were suspended, for withholding information on trades in Exista, where he and his brother were the largest shareholders.
Both Ólafsson and the Guðmundsson brothers profited handsomely from their Kaupthing connections. Given Ólafsson’s role in the H&A alleged investment and later in the al Thani case it is safe to conclude that Ólafsson was a driving force in Kaupthing and could perhaps be called the bank’s mastermind.
In spite of being hit by Kaupthing’s collapse Ólafsson and the brothers are still fabulously wealthy with trophy assets in various countries. This may come as a surprise but a characteristic of the Icelandic way of banking was that loans to favoured clients had very light covenants and often insufficient pledges meaning the loans couldn’t be recovered, the underlying assets were protected from administrators and the banks would carry the losses. How much this applied to Ólafsson and Guðmundsson is hard to tell but yes, this was how the Icelandic banks treated certain clients like the banks’ largest shareholders and their close collaborators.
When Ólafsson was called to answer questions in the recent H&A investigation he refused to appear. After a legal challenge from the investigators and a Supreme Court ruling Ólafsson was obliged to show up. It turned out he didn’t remember very much.
Ólafsson engages a pr firm to take of his image. After the publication of the new report on the H&A purchase Ólafsson issued a statement. Far from addressing the issues at stake he said neither the state nor Icelanders had lost money on the purchase. Over the last months Ólafsson has waged a campaign against individual judges who dealt with his case, an unpleasant novelty in Iceland.
The Panama Papers added the bits needed to understand the H&A scam
In spite of Gatti’s presence at the signing ceremony in January 2003 the rumours continued, even more so as H&A was never very visible and then sold its share in Búnaðarbanki/Kaupthing. One person, Vilhjálmur Bjarnason, now an Independence party MP, did more than anyone to investigate the H&A purchase and keep the questions alive. Some years later, having scrutinised the H&A annual accounts he pointed out that the bank simply couldn’t have been the owner.
Much due to Bjarnason’s diligence the sale was twice investigated before 2010 by the Icelandic National Audit Office, which didn’t find anything suspicious. The investigation now has thoroughly confirmed Bjarnason’s doubts.
Both in earlier investigations and the recent H&A investigation Icelandic authorities have asked the German supervisors, Bundesanstalt für Finanzdienstleistungsaufschicht, BaFin, for information, a request that has never been granted. During the present investigation the investigators requested information on the H&A ownership in 2003. The BaFin answer was that it could only give that information to its Icelandic opposite number, the Icelandic FME. When FME made the request BaFin refused just the same – a shocking lack of German willingness to assist and hugely upsetting.
The BaFin seems to see its role more as a defender of German banking reputation than facilitating scrutiny of German banks.
The Icelandic Special Investigative Commission, SIC, set up in December 2008 to investigate the banking collapse did investigate the H&A purchase, exposed the role played by the offshore companies but could not identify the owners of the offshore companies involved and thus could not see who really profited.
The Panama leak last year exposed the beneficial owners of the offshore companies. That leak didn’t just oust the then Icelandic prime minister Sigmundur Davíð Gunnlaugsson, incidentally a leader of the Progressive party at the time but also threw up names familiar to those who had looked at the H&A purchase earlier.
Last summer, the Parliament Ombudsman, Tryggvi Gunnarsson who was one of the three members of the SIC made public he had new information regarding the H&A purchase, which should be investigated. The Alþingi then appointed District judge Kjartan Björgvinsson to investigate the matter.
By combining data the SIC had at its disposal and Panama documents the investigators were able to piece together the story above. However, Dekhill Partners was not connected to Mossack Fonseca where the Panama Papers originated, which means that the name of the owners isn’t found black on white. However, circumstantial evidence points at the Gudmundsson brothers.
How relevant is this old saga of privatisation fourteen years ago?
The ‘puffin plot’ saga is still relevant because some of the protagonists are still influential in Iceland and more importantly there is another wave of bank privatisation coming in Iceland. The Icelandic state owns Íslandsbanki, 98.2% in Landsbanki and 13% in Arion.
Four foreign funds and banks – Attestor Capital, Taconic Capital, Och-Ziff and Goldman Sachs – recently bought shares in Arion, in total 29.18% of Arion. Kaupskil, the holding company replacing Kaupthing (holding the rest of Kaupthing assets, owned by Kaupthing creditors) now owns 57.9% in Arion and then there is the 13% owned by the Icelandic state.
The new owners in Arion hold their shares via offshore vehicles and now Icelanders feel they are again being taken for a ride by opaque offshorised companies with unclear ownership. In its latest Statement on Iceland the IMF warned of a weak financial regulators, FME, open to political pressure, particularly worrying with the coming privatisation in mind. The Fund also warned that investors like the new investors in Arion were not the ideal long-term owners.
The palpable fear in Iceland is that these new owners are a new front for Icelandic businessmen like H&A. Although that is, to my mind, a fanciful idea, it shows the level of distrust. Icelanders have however learnt there is a good reason to fear offshorised owners.
The task ahead in re-privatising the Icelandic banks won’t be easy. The H&A saga shows that foreign banks can’t necessarily be trusted to give sound advice. The new owners in Arion are not ideal. The thought of again seeing Icelandic businessmen buying sizeable chunks of the Icelandic banks is unsettling, also with Ólafsson’s scam with H&A in mind.
It’s no less worrying seeing Icelandic pension funds, that traditionally refrain from exerting shareholder power, joining forces with Icelandic businessmen who then fill the void left by the funds to exert power well beyond their own shareholding. Or or… it’s easy to imagine various versions of horror scenarios.
In short, the nightmare scenario would be a new version of the old banking system where owners like Ólafsson and their closest collaborators rose to become not only the largest shareholders but the largest borrowers with access to covenant-light non-recoverable loans. Out of the relatively small ‘puffin plot’ Ólafsson pocketed $57.5m. The numbers rose in the coming years and so did the level of opacity. Ólafsson is still one of the wealthiest Icelanders, owning a shipping company, large property portfolio as well as some of Iceland’s finest horses.
In 2008, five years after the banks were fully privatised the game was up for the Icelandic banks. The country was in a state of turmoil and it ended in tears for so many, for example the thousands of small investors who had put their savings into the shares of the banks; Kaupthing had close to 40.000 shareholders. It all ended in tears… except for the small group of large shareholders and other favoured clients that enjoyed the light-covenant loans, which sustained them, even beyond the demise of the banks that enriched them.
Obs.: the text has been updated with some corrections, i.a. the state share sold in 2003 was 45.8% and not 48.8% as stated earlier.
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