Sigrún Davíðsdóttir's Icelog

The Ministry of finance has now introduced the third and last significant step towards lifting capital controls. After lifting controls on the estates of the failed banks last year and the disputed action earlier this year to solve, or box in, offshore króna holders, it’s now as promised since the elections in 2013 time to lift controls on Icelanders, both individuals and companies, just in time for the coming election on October 29. All but the very wealthiest Icelanders will now be outside controls. And Icelanders? They don’t pay much attention to this latest step.

Ordinary Icelanders have not much felt the capital controls in their daily lives since the capital controls only cover investment but now those wealthy enough to want to buy property abroad or invest in foreign companies etc. can do so. The main points are the following, according to the Ministry of finance press release:

• That outward foreign direct investment be unrestricted but subject to confirmation by the Central Bank of Iceland.
• That investment in financial instruments issued in foreign currency, other monetary claims in foreign currency, and prepayment and full payment (retirement) of foreign-denominated loans be permissible up to a given amount, upon satisfaction of specified conditions.
• That individuals be authorised to purchase one piece of real estate abroad per calendar year, irrespective of the purchase price and the reason for the purchase.
• That requirements that residents repatriate foreign currency be eased and that they be lifted entirely in connection with loans taken abroad by individuals for real estate or motor vehicle purchases abroad, or for investment abroad.
• That various special restrictions be eased or lifted entirely, including individuals’ authorisation to purchase foreign currency for travel.
• That the Central Bank of Iceland’s authorisations to gather information be expanded so that the Bank can promote price stability and financial stability more effectively.

As of 1 January 2017, the following are to take effect:

• The ceiling on investment in financial instruments issued in foreign currency, other monetary claims in foreign currency, and prepayment and full payment (retirement) of foreign-denominated loans will be raised.
• Transfers of deposit balances will be permissible for amounts below  a certain ceiling. The requirement for domestic custody of foreign securities investments will be revoked. This will enable residents and non-residents to transfer deposits and securities to and from Iceland and to trade in securities abroad within the limits specified in the bill.
• Individuals’ authorisation to purchase foreign currency in cash will be expanded significantly.

Capital controls lifted in a record boom

All of this is made easier since Iceland is enjoying a record boom with tourism flourishing and more foreign reserves compared to more or less any time in the country’s recent history. As I’ve mentioned earlier, Icelandic authorities don’t regard it as a problem that the largest offshore króna holders are preparing to test in court(s) the earlier decisions regarding the offshore króna, i.e. either a haircut in an auction or a lock-in with 0.5% interest rates, effectively negative in Icelandic context and no expiry date. Nor does the comparison with Argentina seem to cause worries in Iceland.

Easing out of the capital controls is obviously a hugely important step for Iceland. Yet, it has mostly gone unnoticed in the media. The reason is that people normally haven’t noticed the controls except in minor things like having to bring a flight ticket in order to buy travel currency. For those running companies it’s been a different story, the controls have both been annoying and harmful. Measuring losses due to capital controls isn’t easy but in 2014 The Icelandic Chamber of Commerce estimated it to be ISK80bn annually. As the CBI and others have frequently pointed out the longer controls remain in place the greater the harm.

The CBI has put in place safety measures re foreign inflows. Some claim this means that controls are still in place but that’s certainly not how I see it. By 2012 the CBI had already announced in a report, Prudential Rules Following Capital Controls, that as well as lifting capital controls the bank would also develop financial stability rules in order to temper foreign inflows if needed, much like other countries with have done such as Asian countries under similar circumstances.

Collapse measures out, political distrust in

Alors, after almost eight years with capital controls Iceland has now almost entirely graduated from that part of the banking collapse, certainly a significant step towards normality. The question is still if the second measure, i.e. re offshore króna holders, will come back  to haunt the country.

Though the emergency measures from 2008 have disappeared over the years politically the collapse still looms large in Icelandic politics. It’s not that the collapse itself is frequently discussed, not at all, but it shapes the hues and colours of the political debate. Quite specifically, the collapse has inter alia stoked distrust in politicians both in general and in certain politicians, due to their stories, still looms large. Icelanders are willing to throw their trust on new parties, next to be tested in the coming election.

One obviously prudent measure not introduced in Iceland is the separation of retail and investment banking. Three governments have ignored doing this, meaning that there is probably a silent political will to sell Landsbanki and Íslandsbanki without this safety measure. Hugely indicative of the influence of powerful private interests, quite worrying for the public interest.

Now, mostly free of restraining controls the Icelandic króna, the currency of the world’s smallest independent economy with own currency, will again be free (with the safety jacket of financial stability rules) to float in the large ocean of international finance. Trying times await booming Iceland, testing if the right lessons were learnt in 2008.

*Here is an earlier blog on the offshore króna problem and potential litigation; here is the latest one on offshore króna holders and their US political contacts.

Fitch has downgraded “Iceland’s Long-Term Local Currency (LTLC) IDR to ‘BBB+’ from ‘A-‘. The Outlook is Stable.” – The downgrade results not from Icelandic conditions but are due to changes Fitch has introduced to reflect regulatory changes, see here.

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“Iceland’s selective default?” was the topic of a seminar in New York this week, organised by EMTA, the association of emerging markets investors. The measures taken by the Icelandic government and the Central Bank to reduce the offshore króna have placed the question mark in the question. Sadly, that question mark was not erased at the meeting but that doesn’t seem to worry the Icelandic government.

The concept selective default has been waved around recently in connection with the measures taken by the Icelandic government: at the strategic time, just before – what is or was to be – the last offshore króna auction, two foreign experts waved the “selective default” banner in Wall Street Journal and FT Alphaville (see my latest on this).

The two writers were present at the EMTA event in New York, James Glassman as the moderator, with Arturo Porzecanski on the panel together with Magnús Árni Skúlason, an Icelandic economist advising some of the funds holding the offshore króna and Lee Buchheit from Cleary, Gottlieb, advising the Icelandic government.*

Very much contrary to how the estates of the failed banks were dealt with last year (as I have repeatedly pointed out) – when nothing was finalised until the creditors had agreed to the measures – the Icelandic government, advised by Cleary, is engaging with offshore króna holders, to use an Icelandic expression, “with two ram’s horns,” meaning belligerently. Or as Buchheit said: let them litigate.

It is indeed a real possibility that the largest funds will litigate their way through this mess. The question is what that would entail for Iceland in terms of inter alia long-lasting and costly litigation, negative effect on credit ratings and possible delays in lifting capital controls, the goal of the whole exercise. In addition, several interesting points came up in the debate: the banks’ estate v offshore króna; recent restrictions on inflows; discrimination based on nationality – and was the recent auction really the last one?

Litigation: a real threat?

Icelandic authorities have deemed the auction successful because of good participation although CBI governor was more cautious. True, there were plenty of bids – but small ones. The large offshore króna holders didn’t participate or their offers weren’t accepted. Ergo, the bulk of the offshore króna is still inside capital controls. There is now litigation in the air, the largest offshore króna holders, all large international funds, have taken the first steps in that direction. The question is what the effect on Iceland and the Icelandic economy will be.

Buchheit said he wanted to puncture what the articles by Glasman and Porzecanski stated. He dismissed that the offshore króna holders had any claim on the Icelandic sovereign. Waving a dollar note, he stated that owning this note didn’t make him a creditor to the US; equally, owning a króna didn’t make the offshore króna holders a creditor to the Icelandic sovereign. – However, the large offshore króna holders aren’t waving króna bills but Treasury securities; around 2/3 of the offshore ISK319bn are Treasury securities which makes the situation slightly more convoluted.

Dismissing any comparison with Argentina, Buchheit did however neither directly counter the argument that the underlying assets are indeed Treasury securities nor give any tangible argument against the Argentina comparison except claiming it was not true. The funds could try litigating but neither Britain nor the Netherlands had found great sympathy for their cause, he said.

This must refer to the Icesave dispute, ruled on by the EFTA Court in January 2013 (link to the Judgement and my digest of the main points.) From the point of view of Iceland this seems a worryingly feeble argument since that dispute was, as far as I can see, fundamentally different from the issues at stake re the offshore króna (see below). Also, the argument that the offshore króna holders had bought their assets with a haircut inside capital controls seems beside the point; the point is that an owner of these securities can demand a payment on time and in full.

The testing point will be if courts – in Iceland and possibly elsewhere – will side with offshore króna holders or not. After all, Argentina decided to negotiate with those holding Argentinian sovereign bonds after a costly dispute lasting 15 years where Cleary Gottlieb was their main adviser (but not Buchheit until at the recent and final negotiations).

Cooperation last year, none this year

It now seems that the Icelandic strategy is to fix the offshore króna overhang with this last auction with remaining funds placed on locked low-interest accounts with the CBI, as the Treasury securities reach maturity, thus ignoring the possible legal risk. The next steps will then be towards lifting controls on the domestic economy, most importantly the pension funds. Only later will the locked accounts be revisited.

Magnús Árni Skúlason stressed that the funds he advised had come up with many proposals as to how to solve the issue. He pointed out that due to the very strong and booming Icelandic economy and sizeable foreign currency reserves it was difficult to argue for a haircut on grounds of a weak economy.

As I’ve repeatedly pointed out I find the difference in approach last year with the creditors of the failed banks and now with the offshore króna holders perplexing. In the latest IMF Article IV Consultation with Iceland, concluded on June 20, the IMF compares its 2014 recommendations with Authorities’ responses. On capital controls the IMF recommended in 2014 that the “updated liberalization strategy should be comprehensive, conditions based, and with an emphasis on a cooperative approach with appropriate incentives.”

As to the Authorities’ response the “updated liberalization strategy released in June 2015 takes a staged approach. The bank estates were resolved first, in a cooperative manner, which minimized legal and reputational risks and won credit rating upgrades. The authorities are now working to release offshore króna investments via an auction. Residents will be addressed thereafter (emphasis mine).

Minister of finance Bjarni Benediktsson has earlier emphasised the same as the IMF above, as did Buchheit at the EMTA meeting, that creditors have not challenged the measures last year in lifting capital controls on the banks’ estates. Due to the “cooperative manner” last year there were no legal challenges, which again raises the question why it’s suddenly not important to avoid the legal and reputational risk. So far, no clear answer.

Misconceptions on Icelandic “vindictiveness”

In his FT Alphaville guest blog Arturo Porzecanski criticised the Icelandic government for its measures on offshore króna, pointing out that the measures would place Iceland in selective default. He also strongly criticised recent law authorising the CBI to impose measures to discourage foreign inflows into Iceland.

Porzecanski embellished his points further at the EMTA meeting. According to him, the Icelandic government is, in his words, being “vindictive;” as if investors were responsible for the 2008 crisis, the government now wanted to “bleed investors” as it had tried last year with what he called a “departure tax” on creditors of the failed bank. However, he didn’t mention that the outcome an agreement with creditors (see my blog). To him this all smelled of punitive coercive action, just as in Greece and Argentina.

The tone in Iceland towards foreign investors has at times been harsh, mainly because of the politics at play, but Porzecanski’s description is to my mind out of proportions. After all, a 2010 report by an Icelandic Special Investigative Commission on the 2008 banking collapse, firmly and squarely placing the responsibility with Icelandic authorities, the CBI and politicians. And Icelandic bankers have been sentenced to imprisonment for criminal actions before the collapse of the banks.

The measures to temper inflows have long been expected: already in 2012 the CBI published a report on Prudential Rules Following Capital Controls, outlining what is needed to preserve financial stability once the capital controls have been lifted. Quoting IMF research one of the measures announced is restricting inflows, as indeed many countries have done over the past decades.

Porzecanski claims this is just done because the inflows were seen as a problem earlier, saying there is no justification for this measure. Well, he is right that the inflows were seen as a problem earlier, indeed the capital controls were put in place with the blessing of the IMF because of inflows, now the offshore króna overhang. As Porzecanski should be aware of and as emphasized in the 2012 report, IMF research underpins these measures, as do many economists. From the publication of the 2012 report it was clear that in due course these fairly traditional restrictions would be made use of.

Discriminating between foreigners and Icelanders?

A question from the audience at the EMTA event, on potential discrimination between Icelanders and foreigners, raised some interesting issues. The point was that Icelanders holding a króna would get a full króna whereas the offshore króna measures subjected foreign króna holders to getting only say 70 aurar (100 aurar = 1 króna). Buchheit’s point was that there was no discrimination involved. – Yet, the question still raises an interesting aspect.

The Emergency Law, passed on 6 October 2008 did differentiate between deposits held by individuals and entities domiciled in Iceland and abroad (which has partly shaped the definition of the offshore króna). This division was in fact a version of splitting the banks into a bad and good bank since roughly the foreign loans were put into the estates and Icelandic deposits into the new, living banks (it was slightly more complicated but this is the rough outline). – The Emergency Law has been contested in Icelandic courts and found to be in accordance with the constitution and Iceland’s international obligations.– These were extreme measures in extreme time taken by a sovereign defending its vital interests.

Eventual discrimination came up also in the Icesave case as the EFTA Surveillance Authority claimed in the EFTA Court, focusing on the use of the Icelandic Deposit Guarantee Fund, TIF. The question of discrimination was deflected in the Judgement due to the course of events in Iceland: the deposits had indeed been moved from the failed banks to the new banks but not reimbursed by the Icelandic TIF. Consequently, the Icelandic TIF didn’t need to reimburse foreign depositors, i.e. there was on discriminations involved and no breach of the relevant Directive. – Maybe it’s my lack of legal intricacies but I don’t quite see the relevance of the EFTA Court Icesave Ruling for the offshore króna problematic (as above, link to the Judgement and my digest of the main points.)

Is this really the last auction – and more confusion

In his introductory remarks Buchheit mentioned offhandedly that there are FX auctions all the time and this latest one was just another auction, in a series of 22 offshore króna auctions. Porzecanski asked if this meant this latest really was just another auction, would there be auctions following this announced last one but got no answer.

Porzecanski also pointed out that this last auction was indeed not a proper auction, more like bringing work of art to an auction house which then would set the price, i.e. no bidder on the other side.

During the question and answer session Skúlason mentioned that one concern of his was that part of the underlying assets was indeed Treasury bonds. Buchheit agreed there were some bonds, which would be paid in full and on time as Iceland had a stainless record in terms of fulfilling its sovereign obligations: it has never defaulted. – This statement seems to conflict with earlier statements – unless there is some tricky teleological interpretation behind the advice to the Icelandic government.

Last year, my main worry regarding the estates of the failed banks was if the government was ever going to have the political strength to agree on the necessary measures (mainly the haircut of the estates’ króna assets) and secondly that these measures would steer clear of legal risks. This year, the worry is that for some inexplicable reasons the cooperative method isn’t in vogue, in Iceland, possibly leading to legal risks and reputational damage so astutely avoided last year. Maybe I’m missing something but the discussions at the EMTA meeting didn’t inspire much confidence: “let them litigate” sounded decidedly belligerent compared to the cooperative approach last year.

*I had been invited to join the panel but ended up only listening via phone from London.

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The outcome of the offshore króna auction 16 June has now been made public: offers at the rate of ISK190 a euro or lower were accepted. According to the Central Bank of Iceland press release a “total of 1,646 offers were submitted and 1,619 accepted; however, these figures could be subject to change upon final settlement. The amount of the accepted offers totalled just over 72 b.kr., out of nearly 178 b.kr. offered for sale in the auction.” – The on-shore rate is ISK139 to the euro. The question is how credible this outcome is, given the good economic conditions in Iceland. (Further to the background see an earlier Icelog here).

Although the auction apparently was a final offer the CBI is now offering to “purchase offshore króna assets not sold in the auction at the auction exchange rate of 190 kr. per euro.” The terms and conditions will be published tomorrow with the deadline at 10 o’clock this coming Monday morning, 27 June. The finale outcome of the 16 June auction and potential transactions in the following days, until Monday morning, will be published that Monday with settlement of both transactions completed on that day.

This outcome is far from the stock of ISK319bn that the offshore króna amounts to. The auction was supposed to be the last in a series of 23 auctions; this offer to buy offshore króna at the auction price of ISK190 is now a tail to that last auction.

In an interview on Rúv tonight, CBI governor Már Guðmundsson said that out of 1,646 offers submitted 1,619 had been accepted, or 98%. This means there are now a whole lot fewer offshore króna holders left – but the problem is, as Guðmundsson rightly acknowledges, that all the big funds holding these assets are holding on to their króna. “It is clear that the rather big holders have either not participated or offered a rate we could not accept,” said Guðmundsson.

In a cage – at the back of the queue

The governor said that with the auction out of the way, capital controls can now be lifted on domestic entities and individuals, i.e. Icelandic companies, pension funds etc. The process has been designed in such a way, according to Guðmundsson “that those who do not leave now stay in a similar financial environment as they have been in so far as to investment offers with added changes, which were necessary to secure that this environment would be stable even if we lift controls on domestic entities. They (i.e. the offshore króna holders) will now go to the back of the queue, they were at the front and then at some point it will again be their turn.”

This is undoubtedly a description the big offshore króna holders will contest. They will claim that conditions have been seriously tightened. When their assets mature these assets will automatically go into deposits at 0.5% interest rates, effectively negative interest rates, held with the CBI, very much akin to the cage that Guðmundsson once described so vividly at a meeting in Iceland.*

Thus the big offshore króna holders, who did not participate (or offered a non-accepted rate) will now feel they are in a cage at the back of a queue not knowing when they will be released. Or in other words: they will claim that the sovereign isn’t paying back its loans.

Calling things their right names

What is it called if a country pays only some of its debt? The term is “selective default” – and worryingly that’s now the term attached to Iceland if offshore króna holders, where Icelandic sovereign bonds and T-bills are the underlying assets, are not paid out in full.

Offering a rate of ISK190 to a euro when the on-shore rate is ISK139 in a country doing pretty well seems like a drastic haircut – and it is incidentally involuntary, from the point of view of the offshore króna holders, although the Icelandic government claims there was a fair second offer, i.e. the cage at the end of the queue.

In a defiant answer to a WSJ op ed, minister of finance Bjarni Benediktsson rejects that Iceland can be compared to Argentina. However, he fails to point out that after fighting creditors for fifteen years Argentina did indeed finally settle with creditors. A country can claim as much as it wants that it’s honouring all its obligation but the arbiter is not the country itself but the International Swaps and Derivatives Association, ISDA, which decides on which events release credit default swaps.

Reputation risk

I have earlier talked about the mixed messages from Iceland in dealing with creditors. Last year, great care was taken in negotiating with creditors when it came to lifting capital controls on the estates of the three collapsed banks.

This time, when the sovereign is directly involved, contrary to last year, the strategy is to offer a cage at the back of a queue with no date as to when that backend will be served. There must be a strategy somewhere but I can’t see it, which is worrying since the outcome could be lengthy court cases in all and sunder jurisdictions for years to come. In the world of short-term politics that would inevitably be a problem for another day and another government.

In the meantime, the financing cost of all things Icelandic, whether state or private sector, will either go up or stay as it is, instead of going down as it well could soon with the bright economic prospects there are (and as Moody’s had already beckoned). This was kept in mind last year. Now it seems that this past of playing carefully was not a prologue to the present but an aberration. Consequently, Iceland might be back to a costly future of reputation risk.

*At a public meeting on the offshore ISK in 2013, some of those present argued that the solution to the Icelandic current account problem was just to cage in the foreign-owned assets so capital controls could be lifted on the domestic part of the economy. Present at the meeting was CBI governor Már Guðmundsson who pointed that when new investors would then arrive in Iceland they would see the cage and ask who was in it. “The investors who invested in Iceland last time around.” (From an earlier Icelog).

Update: This morning, Wed. 22 June, minister of finance Benediktsson talked at Euromoney Global Borrowers and Investors Forum where I interviewed him afterwards; Benediktsson claimed the offshore króna auction had been a success in terms of the many bids received and now those remaining would have to wait. He said there had been no legal aftermath following the composition of the estates last year, precisely because it had been well prepared but said he was not worried this time. It was to be expected that the hedge funds holding offshore króna were making a noise but that was nothing the minister was worried about.

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While the Icelandic government is planning to play clever and give offshore króna holders, i.e. sovereign bondholders, a haircut – apparently because the Icelandic economy isn’t strong enough – Kaupthing, the largest owner of Arion bank , and that bank are assessing how to make use of the strong Icelandic economy with regards to Kaupthing’s shares in Arion. An intriguing case of “mixed messages”… now that another step is being taken to further ease the capital controls, in place since November 2008.

In the past few days, two articles have appeared – an op ed in Wall Street Journal and a guest blog on FT Alphaville – spelling out that Iceland is about to opt for a sovereign default, quite voluntarily and apparently with open eyes.

Iceland, of course, doesn’t quite see it that way, as I explained recently at some length. That said, I have been utterly baffled why Iceland, having taken such care last year to avoid all legal risk by negotiating with the creditors of the three fallen banks, is now reverting to the tactic, which at the time of the collapsing banks in October 2008 was half (but not quite) jestingly called “xxck the foreigners.”

Last year, some foreign pundits were comparing Iceland’s situation with Argentina, a wholly misplaced comparison since the government was no partner to the composition of the estates of the banks though the government had to take on the role of a facilitator in solving problems related to the foreign-owned, i.e. offshore ISK assets of the estates.

The outcome was around 75% haircut of the Icelandic assets. So successful was this step towards easing  capital controls that foreign inflows into sovereign bonds started at once, now amounting to around 5% of GDP – nothing compared to the 44% of GDP in November 2008 when the capital controls were put in place, under the auspice of the International Monetary Fund.

This time the government IS the other party since the offshore ISK assets are sovereign securities, which led James Glassman in the WSJ and then Arturo Porzecanski* in FT Alphaville to compare Iceland to Argentina: Iceland was about to turn into a very chilly version of Argentina.

Actually, after years of legal wrangling Argentina has of course finally settled with creditors, advised by the law firm Cleary Gottlieb, also advising Iceland (though somewhat ominously Cleary was the adviser not only in solving the Argentinian problem but also during the dark years); Argentina is now happily borrowing again. Financial firms have a notoriously short memory, after all they can’t afford to hold grudges. But the legal wrangling all over the world did blight the lives of Argentinians for around 15 years and no need to minimise how unpleasant and costly it all was.

The Icelandic situation right now is that tomorrow, on June 16, the Central Bank of Iceland will hold an auction for OS ISK holders (all info here). After setting the terms in such a way that a hair cut was all but inevitable for those participating in the auction and negative interest rates for those who didn’t the terms were changed this week – last minute wisdom… or panic, depending on the reader:

The amendments to the Terms of Auction removes ambiguity about whether, in spite of the auction results, the Bank can decide on a more favourable auction price than is specified in the table. As before, all owners of offshore krónur will receive the same price for their krónur, as the auction has a single-price format, which applies irrespective of whether the price accepted is lower than is specified in the table. It is appropriate to reiterate that as before, the Central Bank reserves the right to accept some or all of the offers submitted, or to reject all of them (emphasis mine).

Effectively, the CBI can now choose to accept the best offer… or well, come up with a better one.

Two questions: why this sudden and very late change and why was such care taken last year to negotiate whereas now it’s a take it or leave it offer?

As to the sudden change I don’t know but given the fact that a high participation is needed to solve the issue – or otherwise the OS ISK will be locked up in a really cold dungeon, i.e. at negative interest rates with no maturity in sight but only some vague words of a revision when suitable – it can be surmised that the CBI sensed that the large OS ISK holders were not going to participate: they have indicated as much. Although the auction is set for June 16 this isn’t the kind of auction where bidders walk in from the street and wave their hands; the bids will have been placed earlier due to time-consuming procedures.

On the different approach last year v now I had already made some guesses in my last blog: whetted appetite for collecting more for the state coffers, following last year’s windfall from the estates’ ISK assets; political need for a victory before the planned election in October (no date set yet); the certainty that OS ISK owners can’t rely on Icelandic courts to rule in their favour against the sovereign; using the harsh terms as a stick to beat the ISK holders (but when?) – I don’t find any of these very plausible, partly because I don’t see any of these reasons as a winning strategy.

One lesson from the Argentina very very long struggle is that international creditors rely on a many-pronged strategy, i.a. legal actions not only in the home country of the bond issuer but in many jurisdictions. I refuse to believe that Icelandic courts would side with the sovereign against the law but ultimately that’s not a deciding point since legal action will, most likely, be taken in many jurisdictions. And it’s not up to Iceland to define if a certain action is a default event or not.

The fact that two non-journalistic articles have already been published in international finance media indicates interest in certain quarters and a preparation, meaning that the large OS ISK holders, quite unsurprisingly, already have their plan A B and C mapped.

Considering the strong Icelandic economy Iceland has in general a weak case for forcing a haircut on holders of Icelandic sovereign bonds. The government can certainly hold its course but testing its limits to such a degree that it loses control of the situation – as it would i.a. if legal action were taken against it – shows at best lack of realism and worst a staggering stupidity.

That brings me to the same question as earlier: after the care taken last year to avoid time consuming action and legal risk why is the government and the CBI now opting for a course that involves all the things religiously avoided last year?

*In his blog Porzecanski is dismayed that the CBI and the government have recently passed a Bill to temper inflows. This action does however not come as any surprise. Already in its 2012 outline of prudence rules following the lifting of capital controls the CBI spelled out various measures which would be used in the future to secure financial stability. Considering the fact that the inflows in the years up to 2008 ultimately caused Iceland to opt for the capital controls, now being eased, this prudence is highly sensible, in my opinion. Yes, interest rates could be lowered in order to temper the appetite of international investors but that’s another thought for another day. In short, I definitely don’t share Porzecanski’s view though I can see his point. There is an Icelandic saying that a burnt child stays away from the fire – and that is, I’m sorry to say, an apt description of the mood in Iceland re foreign inflows.

Updated: Minister of Finance Bjarni Benediktsson has now responded in the Wall Street Journal, claiming that Iceland shares little with Argentina except that creditors have bought distressed debt at knock-down prices. – However, in the end it only matters who holds the debt, not how it was acquired. Also, Benediktsson does not mention that after legal wrangling, at great cost also legal cost, over 15 difficult years Argentina did indeed negotiate with creditors.

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In the months leading up to the June 2015 plan on moving the three banking estates out of capital controls minister of finance Bjarni Benediktsson was adamant about avoiding legal risk. Indeed, that plan was only announced once the creditors had agreed to a haircut on the estates’ króna assets. The new Act on the offshore króna raises some legal issues as two of the four funds holding the lion share of these assets have pointed out in a letter to Alþingi. Intriguingly and contrary to last year, Benediktsson and the Central Bank of Iceland now seem to be intensely relaxed about legal risk though this time, contrary to last year, it really is the state that is the counterparty.

There has been little debate in Iceland regarding the offshore ISK and measures to lift controls on its owners. Certainly, the numbers are fundamentally different from when these offshore ISK, i.e. owned by foreigners (individuals or entities registered abroad; can in theory be Icelandic and are in some cases) caused the introduction of capital controls in November 2008. At the time these assets amounted to 44% of Icelandic GDP; now they amount to 14% of GDP or ISK319bn.

The largest part of the offshore ISK is owned by a few large institutional investors, two of them being Autonomy Capital and Eaton Vance. The underlying assets are Icelandic sovereign bonds and T-bills, meaning that the counterparty here is the Icelandic state.

As with creditors last year there have been meetings between the large offshore ISK owners and Icelandic representatives of the ministry of finance and the CBI. Contrary to last year, when nothing was done until it had been negotiated with the creditors of the estates, no agreement was reached before the new Act was passed in parliament this weekend.

Officials met with representatives of offshore ISK holders yesterday in New York to inform them of the new measures.

The state sure will pay its debt or… maybe not

Last year, creditors to the estates agreed to roughly a 75% haircut on the estates’ ISK assets. This outcome came as no surprise but had been more or less foreseen for the last several years, based on the Icelandic current account: this is what Iceland could manage without upsetting financial stability.

Hawkes among Icelandic officials have been adamant that offshore ISK owners should endure a similar fate. That however goes against the rule that a state pays its debt in full. At a hearing in the parliament’s economy and trade committee a CBI official underlined this fact: the sovereign will pay its debt.

This is clearly what the funds owning the offshore ISK have literally been banking on: the state is its counterparty and a state pays its debt.

Two options: ISK220 for a euro or deposit at negative rate

The new Act (English translation of the Bill) stipulates that offshore ISK holders can participate in an auction where the reference exchange rate will be ISK220 for the euro, more than a third higher than the present onshore rate of ISK140.

There was a meeting in New York yesterday, where the measures were explained. Clearly, a higher participation in the auction would lead to a better price (creating a version of “prisoner’s dilemma”…) but the funds might also calculate that they were better off heading to court.

If an auction doesn’t tempt them the assets will be turned into a “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.” This debt instrument has no maturity, interest rates are set at 0.5% but will be reviewed annually. Needless to say, 0.5% in Iceland is negative interest rates, well below inflation.

Effectively, the offer is either a haircut of more than a third of the assets or a lock-in at negative interest rates for unspecified time.

If the haircut was meant as a carrot compared to the lock-in stick, offshore ISK owners might well keep in mind the CBI official’s words that the sovereign was of course going to pay its debt in full – and simply head for the courts.

Property rights and human rights

Over the weekend, Eaton Vance and Autonomy sent a clarification of their stance to parliament (here, in Icelandic). The funds protest the Bill defines all offshore ISK as being “potentially more volatile than other króna-denominated assets, as the latter are subject to a home bias.” This does not at all apply to the funds, they claim since they have already shown a preference to being long-term investors in Iceland, i.e. they are willing to buy Icelandic bonds and T-bills.

In addition, they point out that considering growth and good state of the Icelandic economy, the present offer can’t be justified by hardship, as emergency measures following the banking collapse in October 2008.

Furthermore, the funds see their position as being strong since a partial payment would amount to a credit event, thus putting the state into default, with all the unpleasant consequences involved – a potentially expensive experience for Iceland, both the state, public institutions and companies.

There is a “Provisions of the Constitution and the European Human Rights Convention” in the Bill, stating that 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.” – The funds clearly disagree and consider these provisions to be inadequate.

A legal risk but so what…

One view heard from one of those involved on the Icelandic side is that the measures are clearly close to the margin of the possible and postulate a clear legal risk. However, there was no need for Icelandic authorities to pay any special attention to problems the offshore ISK holders might identify, according to this source. Yes, the offshore ISK owners could now decide to challenge the Act but perhaps they had already had enough of wrangling with Icelandic authorities and might just be ready to call it a day. And anyway, an Icelandic court is unlikely to rule against the parliament, states the source.

That is certainly one way of seeing the situation. What I find difficult to explain is why the minister of finance and other officials were so adamant last year about avoiding all possible legal risks, by beforehand securing the creditors’ support to the plan to lift controls for the estates – but are now apparently intensely relaxed about possible legal risks and the pretty obvious invitation to a legal challenge.

All the more surprising since the creditors to the estates had known for a long time that they would only get part of their ISK assets whereas the offshore ISK owners are certainly counting on the state paying back and in full.

Could the Act be only a stick (as was the “stability tax” last year), are talks still going on? That’s one version and an Act of law can certainly be changed. That said, I still find the Act looking surprisingly like a final act if the intention is to explore further avenues with offshore ISK holders.

Reputation risk and “those in the cage”

At a public meeting on the offshore ISK in 2013, some of those present argued that the solution to the Icelandic current account problem was just to cage in the foreign-owned assets so capital controls could be lifted on the domestic part of the economy. Present at the meeting was CBI governor Már Guðmundsson who pointed that when new investors would then arrive in Iceland they would see the cage and ask who was in it. “The investors who invested in Iceland last time around.”

This doesn’t seem to be the most alluring introduction to Iceland but that is none the less what seems about to happen: offshore ISK holders are being offered a cage, unless they prefer fleecing.

Icelandic officials will clearly have Icelandic interests at heart. Last year, it seemed that these interests were best safeguarded by negotiating an outcome with creditors so as to secure a full harmony in the outcome and execution. With the offshore ISK the same officials seem to act in the certain belief that the state can dictate an outcome it wishes, with no need to pay any special attention to those who lent money to the state and who are also willing to continue lending. It will take some time before it’s clear if this is a sound judgement and what the possible reputation risk will be.

Update: here is further information from Ministry of finance on the new Act.

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It’s no exaggeration to say that Icelanders are stunned to see another old politician throwing his gauntlet into the presidential ring: Davíð Oddsson is running for president, competing with Ólafur Ragnar Grímsson, his old political adversary from decades ago. There are several other candidates but the most serious threat to the political oldies is Guðni Th Jóhannesson lecturer in history. Icelanders will now be invited to watch a battle as if stuck in the 1990s or watching ahead with Jóhannesson and the younger candidates. 

“Davíð” is a common name in Iceland but an Icelander hearing the name “Davíð” without further qualifications will know who is being referred to. Davíð Oddsson has been a fixture in Icelandic politics since elected mayor in 1982. Born in 1948 he is five years younger than president Ólafur Ragnar Grímsson. As a leader of the conservative Independence party (1991-2005) Oddsson often fought ferociously against Grímsson the leftie in the 1980s and the 1990s until Grímsson moved to Bessastaðir, the presidential residence. – After all, the most famous description of Oddsson, that the at the time prime minister had a “shitty nature” (“skítlegt eðli” in Icelandic sounds much ruder), came from Grímsson.

Formally Grímsson left the political scene in 1996 but others claim the old politician has never left politics, just adapted his tactics to his role. All of this seemed history – until today when Oddsson announced he would run against Grímsson. Icelanders now feel they are being dragged into the political battles of earlier decades. Both Grímsson and Oddsson feel they “won” the Icesave dispute, a clear example of dragging the past into the present. The question is if Icelanders want to look back or onwards.

Oddsson brings the distant past and the banking collapse into the present

As a prime minister from 1991 to 2004 Oddsson became the longest serving PM in Iceland. After a year as a foreign minister he moved to the Central Bank of Iceland, serving as a governor until early 2009 when he was hounded out by public protest and the left government. He was then offered the post of editor of  Morgunblaðið, the newspaper once Icelandic strongest private media.

Among his supporters Oddsson is seen as a strong and fearless politician. Albeit, it’s likely that his supporters are losing numbers, not because they change their mind but because they are mostly old and are slowly leaving this world. These people see him as the best PM ever, later ignominiously treated in 2009 by “the loony left” and activists.

Younger people remember his time as a governor where the CBI lost around ISK270bn on repro deals with the banks in the year before the 2008 banking collapse: the CBI knew what was going on but didn’t want to stop the merry-go-round. Again, others will claim nothing else could be done. However, the loss was large and real.

On the the day the banking collapse became a reality, 6 October 2008, Oddsson decided to lend €500m to Kaupthing – this lending is one of the very few unexplained and inexplicable actions related to the banking collapse (see my blog on this loan).

Oddsson: writing for the fishing industry and his own irritation

Morgunblaðið is owned by two large and powerful fishing companies and has been seen as an untiring campaigner for the fishing industry’s interests, against the European Union, against taxing the fishing industry etc.

As a PM Oddsson did lead Iceland into the European internal market by the agreement on the European Economic Area in 1993 but has grown ever more EU-sceptic. As editor, he has in addition cultivated his own unrelenting irritation against Rúv, the public broadcaster. Oddsson’s pen is sharp and merciless, in the latter years often more fierce than funny.

By deciding to run Oddsson brings all of his past into the present, both the deeds he’s still admired for by some conservative voters and the more questionable time, i.e. as a governor. Facebook has been ablaze in Iceland today, inter alia bringing up that the Time Magazine named Oddsson as one of 25 leaders from the world of banking and politics responsible for the banking crisis in 2008: he was earlier an avid campaigner for regulation-light and oversaw the privatisation of the banks, in  addition to the repo lending.

Icelandic presidents and changing public taste

The first Icelandic president, Sveinn Björnsson, was a politician voted by parliament as the Icelandic republic was founded in 1944. When Björnsson died in 1952 the second president Ásgeir Ásgeirsson, a social democrat was duly elected, remaining in office until he retired in 1968.

Before Ólafur Ragnar Grímsson’s victory in 1996, Icelanders had twice rejected politicians in favour of non-politicians. In 1968 the director of the Icelandic National Museum Kristján Eldjárn was voted president, beating Gunnar Thoroddsen, a conservative politician and Ásgeirsson’s son-in-law; in 1980 Vigdís Finnbogadóttir lecturer in French became the first Icelandic female president, also writing international history as the first woman democratically elected as president. The two had reached national fame through television, Eldjárn with a TV program on Icelandic archeology, Finnbogadóttir by teaching French on TV.

In 1996, times had changed and a politician won over several non-politicians. Grímsson, a divisive politician who started his political career in the Progressive party before moving farther left, to the People’s Alliance, won, much aided by his very charming Icelandic wife Guðrún Katrín Þorbergsdóttir. She died in 1998, after which he met the British-Israeli Dorrit Moussaieff, born into a wealthy family owning a jewellery business where she has later worked. They got married in 2003.

Surreal choices

It was already surreal to see a sitting president running for the sixth time. To see one of his political rivals from Grímsson’s political past conjures up a situation, which is beyond weird. Oddsson’s candidacy is not wholly surprising: it was frequently mentioned as a possibility in 2012 and this time there have been persistent rumours.

A four(!)-page article in Morgunblaðið, by an old friend of Oddsson on Oddsson, richly adorned with photos of the glorious leader with other glorious leaders, appeared last week, out of the blue; it now makes greater sense though the tone is no less comic. Think of the Guardian running four pages on Alan Rusbridger or the Financial Times on Lionel Barber…

The day Grímsson repeated his 2012 act by changing his mind and announcing he would run, contrary to his declaration in his New Year address, Morgunblaðið published a particularly vitriolic editorial about the man who couldn’t leave power. It was widely thought that part of the anger stemmed from the fact that Oddsson had been planning to run but hadn’t planned on challenging Grímsson.

Grímsson’s decision was however not as well received as in 2012. Lately, his wife’s links to offshore companies have done little to enthuse voters. Oddsson might think this paves his road to Bessastaðir. In addition, some are guessing he counts on Grímsson withdrawing – all of this are pure guesses.

As Oddsson rightly said this morning, politicians can no longer count on the party allegiance of voters; Icelandic voters have been extremely fickle lately. It was however remarkable how tepid the answer was from Bjarni Benediktsson leader of the Independence party when asked if he would support Oddsson: “I think the answer to this question is partly, no actually let us say wholly self-evident. But I believe Davíð will appeal to people far beyond the party.”

Oddsson has time and again scolded, reprimanded and denigrated Benediktsson in Morgunblaðið. From this point of view Benediktsson’s tone is understandable. Oddsson hasn’t made life easy for the party leadership; there will be many there who will feel no reason to show any allegiance at all. There will be those who see Oddsson as an earlier leader who time and again has made life very difficult for the party leadership by his comments; he has repeatedly be seen as a very vocal backseat driver, unhappy about his seat, certain of knowing what’s best for the party as the leader in more glorious times of much greater support.

Who could beat Grímsson and Oddsson?

Not an easy task because of the electoral system: the candidate getting the greatest number of votes will be president; there is no second round in case no one gets a clear majority. There are now around ten candidates running, some have already withdrawn, unclear what happens with these two political titans… or dinosaurs, depending on the point of view.

Andri Snær Magnason is a well-known writer and environmental campaigner in Iceland, born in 1973. There was some buzz around his candidacy but he only seems to appeal to a small group of “latte-licking” 101 inhabitants, i.e. hipster in the centre of Reykjavík.

Born in 1968, Guðni Th. Jóhannesson has been a vocal public intellectual in the Icelandic political debate, not taking political sides but a voice of reason and historical oversight. With a Canadian wife and four young children and a daughter from a previous relationship he represents something entirely different from the two old politicians.

Both Grímsson and Oddsson argue for their candidacy by claiming that Iceland is going through perilous times and need an experienced captain. Johannesson doesn’t recognise the peril, any more than most Icelanders seem to do, and he propagates optimism and a firm belief in the future of Iceland.

Grímsson and Oddsson might to a certain extent appeal to the same voters leaving most likely Jóhannesson as a choice for those who want to tear themselves from former political debates and of problems. But because of the peculiarity of the electoral system, it’s not entirely easy to predict the outcome.

*Updated: after flip-flopping on earlier decision president Ólafur Ragnar Grímsson has now withdrawn his candidacy. Davíð Oddsson, rumoured to have known or had an inkling that Grímsson would leave the race, is now the only candidate of the old political guard in Iceland. The question is if Icelanders still want the old… or prefer new faces. It seems that Guðni Johannesson has a strong following. Remains to be seen, the elections are 25 June.

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The resignation of prime minister Sigmundur Davíð Gunnlaugsson is the most spectacular event stemming from the leaked Panama papers. Gunnlaugsson resigned less than two days after the infamous interview, broadcast April 3, where two journalists asked him about Wintris, the offshore company linked to him and his wife. – So far, five others have resigned because of coverage related to the Panama papers.

Noticeably, Gunnlaugsson only resigned as prime minister, not as leader of the Progressive party. Yet, Progressive members have now shown their disdain for party members’ offshore activities:  yesterday, the chair of the Progressive party, Hrólfur Ölvisson resigned after a coverage, again based on the Panama papers.

Ölvisson, until then only known to a small circle of Progressives, has made use of more than one offshore company, i.a. to hide ownership. Also, Ölvisson enjoying political connections, benefitted from the type of loans the Icelandic banks issued to well-connected people, i.e. loans with no or light guarantee, collaterals and covenants, essentially leaving all risk with the bank. – Several bankers have been sent to prison for breach of fiduciary duty by issuing such loans.

Ölvisson has had close business relations to Finnur Ingólfsson, a Progressive MP and minister before he became governor of the Central Bank of Icelandi. He did only make a short stop at the CBI, leaving after only two years, in autumn 2002, when the privatisation of the banks was ongoing. Ingólfsson was part of the group, all with ties to the Progressive party, who then bought Búnaðarbanki. When Kaupthing, a much smaller bank, bought Búnaðarbanki, the close ties of the group moved along to Kaupthing.

Also this week, two pension fund directors resigned, Kristján Örn Sigurðsson and Kári Arnór Kárason. Both figure in the Panama papers, both had set up offshore companies, Kárason in 1999 and 2004, Sigurdsson before and after the banking collapse in October 2008. As far as can be seen neither made use of the companies, i.e. the businesses of the companies didn’t evolve as planned.

Vilhjálmur Þorsteinsson is a well-known investor in Iceland. His wealth stems originally from his tech ventures and later fom investments. He was named in the reporting before April 3 and then resigned as a cashier for the Social Democratic Alliance. When further offshore ventures came to light, which he had vehemently denied he had, he resigned from the board of the web-media Kjarninn, which he has invested in.

The first one to resign, even before Gunnlaugsson, was Júlíus Vífill Ingvarsson, a Reykjavík councillor from the Independence party. Ingvarsson set up an offshore company as late as 2014. He went public with it after having been asked about it by journalists from the International Consortium of Investigative Journalists, resigning at the same time. His motivation for the company was that he wanted to set up a private pension saving fund although it’s impossible to set up such a fund and define it as a private pension plan.

The leader of Independence party and minister of finance Bjarni Benediktsson was exposed as an owner of an offshore company to encompass property investment with two other Icelanders in Dubai. However, he has resisted demands to resign, he still enjoys the support of his party, which following Gunnlaugsson’s resignation made a significant gain in the opinion polls, jumping fom 20% to 27%.

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Icelanders are catching their breath after an eventful week that it started with an infamous interview on April 3 where the then prime minster Sigmundur Davíð Gunnlaugsson failed to tell the truth on being confronted with Wintris, a BVI company in the name of his wife and himself. The following day, Icelanders broke all records in demonstrations and on the third day Gunnlaugsson resigned as a prime minister. Now Gunnlaugsson has gone on indeterminate leave. His party will hardly be keen on keeping Gunnlaugsson as a leader; one of its MPs says Gunnlaugsson lied. The Progressive’s vice chairman has replaced Gunnlaugsson as an MP and the coalition stays on, with some reshuffling. The question is what more the Panama papers will expose of Iceland, the most offshorised country in the world. The political effects aren’t yet clear but the popularity of the Pirate party has grown. And all of this is happening in country where the economy is thriving.

“It’s October 2008 all over again,” many Icelanders said following the famous, or infamous, TV interview April 3 with then prime minister Sigmundur Davíð Gunnlaugsson on his BVI company Wintris. There was this sense that the whole world was watching and Iceland, embodied in this one hapless politician who couldn’t but lie about an offshore company he clearly didn’t want to discuss, wasn’t putting on a brilliant performance.

When the TV interview was aired all over the world, Icelanders were already familiar with Wintris and the story Gunnlaugsson wanted to tell. The Panama documents contradicted his version. But he wasn’t the only Icelandic politician mentioned in the Panama papers: minister of finance and leader of the Independence party Bjarni Benediktsson was linked to a Seychelles company as is Ólöf Nordal minister of justice, through her husband, an Alcoa director. The companies these two are linked to were dissolved some years ago contrary to Wintris.

Already by Monday evening, 24 hours after the interview, Gunnlaugsson had lost the support of the Independence party. Benediktsson’s first comment, from his family’s pied à terre in Florida, was that the government was not necessarily continuing as if nothing had happened. Therefore, the question Tuesday morning was just how Gunnlaugsson’s departure would take place, not if – but no one had foreseen such a messy and ungracious departure.

All of this has simply strengthened the Pirate party even further; after all, that party thrives on the unpopularity of the other parties rather than its own deeds.

On Monday April Gunnlaugsson announced he would be taking a leave without mentioning when he would be back. Although he remains a party leader the Progressive party hardly plans to commit a collective hara-kiri by having him lead the party in the coming elections; there are already voices from his party demanding that he should step down as a leader and an MP. Benediktsson still struggles to silence questions regarding his offshore company.

In spite of the political tempest the economy is booming, largely due to factors outside of Icelandic control such as tourism, good fisheries, high fish prices on foreign markets and low oil prices.

March 15: Wintris introduced in an inaccurate and misleading statement

Wintris was first brought to the attention of Icelanders on Facebook March 15 by Gunnlaugsson’s wife, Anna Sigurlaug Pálsdóttir. From the first presentation of a company “registered abroad” the Wintris saga has infuriated Icelanders due to misleading and false information.

Pálsdóttir stated she felt forced to mention Wintris in order to silence slanderous rumours. Further she claimed that due to some unspecified European Union regulations she, as the prime minister’s wife, was under a particularly strict control.

This latter statement was shown to be baseless; possibly she somehow had in mind rules on “Politically Exposed Persons,” irrelevant in this context. Wintris wasn’t registered abroad but offshore, a very different matter. Thus, the first statement was misleading to say the very least and now, four weeks after first mentioning Wintris Gunnlaugsson has still not been able to silence questions raised by Wintris and his earlier attempts to clarify the issue.

Pálsdóttir didn’t mention that her Facebook statement rose from the fact that four days two journalists, a Swedish journalist and an Icelandic one had asked her husband about Wintris on camera. Gunnlaugsson’s spokesman only reluctantly mentioned the queries to Icelandic media some days after the Facebook statement without mentioning how Gunnlaugsson had reacted to the questions.

Tax issues still unexplained

Gunnlaugsson has time and again stated he has paid all taxes due. A letter from a KPMG employee to support that tax had been paid, published March 16 didn’t suffice to stamp out suspicion.

In particular, the prime minister hasn’t answered questions if “Controlled Foreign Corporation,” CFC, form, has been filed on Wintris. This weekend, Gunnlaugsson stated in an interview that no CFC form was needed for Wintris because it is not an operational company. Yet, according to the Icelandic tax code no such distinction is made as to an CFC form, it should be filed for all companies in low-tax jurisdictions. In addition, BVI companies and many other offshore companies can only be holding companies. That’s the whole idea.

Pálsdóttir’s wealth stems from inheritance her father paid her in 2007, after she sued her him for her share of the inheritance claiming her brother, a well-known businessman in Iceland, had been favoured so far. As she already owned these assets when she married Gunnlaugsson in 2010, signing a pre-nuptial would have been the correct form or having her specified by her father as the sole owner of the assets. No documents have been brought forward to show that Wintris only belongs to her.

Gunnlaugsson states that he didn’t register Wintris in the parliamentarians’ register of interest because it belongs to his wife. He tells a story of the company “mistakenly” bearing his name to begin with. Panama documents counteract his version; there is no indication he wasn’t supposed to own the company.

The unexpected creditor

Wintris already exposed the prime minister to the dilemma of being a prime minister in a Western country that is fighting the opacity of offshorisation. But more was to come: it turned out that Wintris held claims in the collapsed banks due to investing in the banks’ bonds before the collapse. Thus, the prime minister who was one of those forming the policy on how to deal with the banks’ estates had a hidden skin in that game.

Gunnlaugsson claims it would have been awkward if it had been known that his wife’s company held these claims. Others beg to differ: it was hardly any less awkward to be seen as having been compromised because of Wintris. I don’t for a moment think the outcome of the negotiations with the banks’ creditor was influenced by the fact that the prime minister had financial interests in that process. But in a Western democracy it is unacceptable that such interests had been hidden.

April 3: TV interview exposes a web of lies and deceit

Icelanders had been drip-fed information on Wintris prior to the April 3 interview: from March 15 when Wintris’ existence first became public knowledge in Iceland until the April 3 interview Gunnlaugsson had tried as he could to make the matter go away. It hadn’t. On the day of the interview he made his final attempt: in a blog he yet again told his version and in particular attacked Rúv (and the writer of this blog) for unfair reporting.

Gunnlaugsson’s Wintris story seemed unconvincing before the interview April 3. He had not used the time up to the interview wisely. The Progressive parliamentary group had no idea what awaited them when they sat down in front of the TV set to watch an Icelandic programme on the Panama documents watched by practically every Icelander.

Gunnlaugsson’s ungraceful dealing with the unexpected questions regarding Wintris was certainly embarrassing. Worse was, as Progressive MP Frosti Sigurjónsson has now stated, that Gunnlaugsson seemed to have lied about Wintris.

Wintris was set up in 2007, the couple had moved to Iceland by 2008 and there would have been ample time to repatriate the company to Iceland. Even keeping the money invested abroad doesn’t explain the existence of Wintris: it is perfectly possible to invest without owning an offshore vehicle.

In addition to the above, the story as told in the documents was i.a. that Gunnlaugsson had on December 31 2009 sold his share in the company to his wife for $1; the date is significant since tax reporting rules changed the following day. This also means that he owned the company when he was elected as an MP in March 2009. Yet, in spite of this sale Gunnlaugsson still held power of attorney in Wintris.

Extolling the virtues of Iceland – and yet keeping one’s assets abroad

Worst of all is perhaps the hypocrisy: Gunnlaugsson has talked at length about the need to drum up Iceland, extolling the virtues of all things Icelandic. It upsets Icelanders that Gunnlaugsson didn’t trust Iceland with his family’s own money, which had indeed originated in Iceland. And with Iceland locked in capital controls since November 2008 neither people nor companies can invest abroad. Indeed, even a sale of $1 in a foreign company would have needed an exemption from the Central Bank; it’s not clear if this exemption was sought for Gunnlaugsson’s sale in Wintris.

In one of his first speeches abroad, at a meeting in London in autumn 2013 held by Invest in Iceland, Icelandic banks and public bodies, he ended his speech by saying he hoped “to see you and your money in Iceland.” – Neither investors nor Icelanders knew at the time that the wealth of his family was firmly placed outside of Iceland.

Tuesday April 5: threats, bluff and a resignation shrouded in euphemism

Already on Monday evening I had heard from sources that the Independence party was unwilling to save Gunnlaugsson and wanted him out. The first public announcement was a Facebook message from Gunnlaugsson early on Tuesday stating there were only two option he could offer: either that the Independence party supported him or he would call an election.

This he wrote after he had talked to Benediktsson but without mentioning that Benediktsson told him he saw a third option: a government without Gunnlaugsson.

Gunnlaugsson’s Facebook message sounded like a threat and that’s how president Ólafur Ragnar Grímsson understood the situation when Gunnlaugsson asked to see him at 11am. Gunnlaugsson arrived with his permanent secretary and another civil servant from the prime minister’s office. These two waited while Gunnlaugsson talked to Grímsson. The meeting ended with Gunnlaugsson storming out, unwilling to talk to the waiting media.

Grímsson however took the unprecedented steps of informing the media: he said Gunnlaugsson had asked him to dissolve parliament and call election. Grímsson denied, saying he didn’t feel Gunnlaugsson had conferred with Benediktsson and his MPs; Grímsson felt, like Benediktsson there was the third option, of the coalition finding their feet together thus calling Gunnlaugsson’s bluff. Now it was Gunnlaugsson who had run out of option: he was forced to resign.

Yet again, Gunnlaugsson tried to define things his own way: he wasn’t resigning but only “stepping aside” as he insisted on calling the result of his spectacular flop where he had tried to force the Independence party to either support him or else face elections.

In the evening came another breath-taking move by Gunnlaugsson: he claimed Grímsson had misunderstood his move or was lying – he hadn’t made any threats and was only scouting the possibilities. Yet, the president’s story fully rhymed with Gunnlaugsson’s Facebook message that morning. Grímsson quickly corrected him: he hadn’t misunderstood and he, Grímsson was in charge.

The weekend following the Panama interview Gunnlaugsson tried yet again to redefine the course of events: his two options that fateful Tuesday had sprung for his magnanimous attempt to save Benediktsson from what might have been a coup in the Independence party. Again, an interpretation few take seriously and certainly denied by Benediktsson.

Offshore stinks

Things are certainly going well in Iceland in terms of the economy. However, there has been a growing sentiment over the last months that the corrupt business practices from the boom haven’t been eradicated: that the banks are still selling assets to favoured clients and that political ties still matter. (See my take here on Panama documents and corruption).

Adding Wintris and the Panama connections to this sentiments has created a poisonous atmosphere in Iceland, as seen from the fact that never have so many people demonstrated in Iceland as on April 4. Demonstrations have continued though nothing like on that day.

Like in may other countries Trust is in short supply in Icelandic politics. However, trust could easily be greatly mended just by telling the truth – but that hasn’t quite been understood.

Gunnlaugsson came into Icelandic politics in autumn of 2008. He went to Norway just after the collapse claiming it would be no problem getting a Norwegian loan to save Iceland. Nothing came of it. Following questions from the media on his CV after being elected the Progressives’ leader in January 2009 he gave conflicting answers as to what he had been studying, where and when.

Gunnlaugsson’s great interest is city planning and cultural heritage; he tried unsuccessfully to get his own sketches of new buildings in the centre of Reykjavík agreed on and amassed power over cultural institutions under his office. Apart from the lying, much of his doings were simply weird but not necessarily in an endearing way.

A new coalition with the old parties under a new prime minister

Gunnlaugsson suggested that Sigurður Ingi Jóhannsson should be his successor and named a new foreign minister, not from the parliamentary group but an economist from the Central Bank, Lilja Alfreðsdóttir, who having been his adviser is seen to be close to Gunnlaugsson. Appointing Alfreðsdóttir hardly won Gunnlaugsson much popularity among Progressive’s MPs.

During the weeks of wrangling over Wintris Jóhannsson had been a staunch supporter of Gunnlaugsson, at one time saying it was difficult to own money in Iceland, implying that owning an offshore company was logical. This comment went viral. On his first appearance in Alþingi today Jóhannsson had completely changed his tune, now wanting to ban Icelanders owning offshore companies. Benediktsson is still fighting nagging suspicions regarding his offshore ties.

It remains to be seen how the new government of the old coalition will tackle things. Now that the Gunnlaugsson’s government has found an agreement with the creditors of the banks’ estate, an important step towards lifting the capital controls, the next needs to be re the offshore króna. That step has taken much longer than previously thought, indicating that it’s clearly much complicated problem to solve than it appeared to be.

The pirates will shape the political future

The left side of Icelandic politics is still in tatters. On the whole, the four old parties – the two coalition parties, the social democrats and the Left Green, in addition to the much younger Bright Future, a split from the social democrats – do not appeal to voters.

Instead, voters are flocking to the untested Pirate party who score well above 30% in opinion polls with the old big party, Independence party at ca. 20%, their lowest every. The Progressive party has fallen below 10%; both coalition parties got 25% in the last elections. Other parties are around 10% except Bright future that hover around 5%.

The pirate MPs make a point of not promising much except that they will try finding a logical solution to the problems as they arise. They also want to position themselves beyond the old schism of left and right, want new politics of participation and direct democracy. As to the economy their policies are not clear.

Their great emphasis has been on a new constitution, set in motion after the 2008 collapse, never brought to fruition but already existing in a draft. Once Alþingi has voted on it the pirates want to call another election; the constitution has to be agreed on by two parliaments. Many see a new constitution as something of a pet project of no urgency, with the danger that the pirates get lost in this process rather than focusing on more important issues.

The new government hasn’t set a date for the coming election; it should be in either September or October. If by that time the political undercurrents in Iceland haven’t changed greatly it’s clear that the pirates will be setting the political agenda and will almost certainly be in a position to choose a coalition partner.

As a sign of the great discontent one business leader said to me well before the Panama papers shook Icelandic politics: “I can’t wait to see the pirates in power; they can’t be worse than what we have now.”

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“It is not evident that the government will remain in power,” was the cryptic answer from minister of finance and leader of the Independence party Bjarni Benediktsson earlier today. Tonight, the Progressive councillors on the Akureyri city council issued a statement pointing out that prime minister and their leader Sigmundur Davíð Gunnlaugsson has lost all trust and should resign. – It now seems that tomorrow the Independence party will tell Gunnlaugsson that he no longer has their support. The will set in motion events not entirely easy to predict.

As Benediktsson unceremoniously refused to lend prime minister Sigmundur Davíð Gunnlaugsson his support he did indeed spell the end of the government – it makes no sense for Benediktsson to sow the seeds of uncertainty unless he means to harvest a political opportunity. This also seems to be the mood in his parliamentary group: there is not the slightest wish or will to save Gunnlaugsson’s political skin. However, how it will end and what the process will be out of this uncertainty is… uncertain, to say the very least.

Benediktsson was absent from the political scene today as he has been in his family flat in Florida. He claimed he lost his flight on Sunday though the news-site Kjarninn investigated the matter and found no reported delays on Benediktsson’s route to Iceland.

It was in a phone call with Icelandic media that Benediktsson stated his lack of support for Gunnlaugsson. The parliamentary group had met and no doubt this is what he gathered from his troops.

This leaves it all but evident what now will happen: there is no appetite within the Independence parliamentary group to support Gunnlaugsson after his newly acquired international fame – too many Icelanders were utterly dismayed to see the documents counteracting his version of the Wintris story, his efforts over the last two weeks to blame the media for negative reporting and finally how he dealt with the challenge from the Swedish journalist who interviewed him.

So many Icelanders feel that the good reputation Iceland built up following the 2008 crisis has now been if not destroyed then at least blemished. Seeing the prime minister in Alþingi today refusing to acknowledge that the BVI, where his wife’s company is registers, is on the Ministry of finance list of tax havens and claiming that also Sweden is a tax haven didn’t sound like a winning argument.

Theoretically, Gunnlaugsson can now resign but he can also call election and resign. There is zero appetite in the Independence party to see Gunnlaugsson lead a minority government. There might however be willingness among the some of the other parties to form a government under Benediktsson’s premiership.

Tough the Pirates will no doubt call for elections right away they might not be too unhappy to gain time in order to strengthen their party organisation and recruit candidates in order to lessen their unavoidable growing pain.

The question is how damaging the Panama papers will prove for Benediktsson given the fact that Gunnlaugsson will be stepping down due to his offshore connections. Another question is what role president Ólafur Ragnar Grímsson will play – after all, Grímsson chose Gunnlaugsson over Benediktsson who won more votes at the 2013 elections; the two parties got the same number of MPs but Grímsson’s argument for choosing Gunnlaugsson was that his party had gained more from the 2009 election.

This and that might happen in Icelandic politics in the coming day – the course is by no means clear – but it now seems certain that the event triggering it all will be the resignation of prime minister Gunnlaugsson and that starting point is likely to take place tomorrow. When his resignation comes it will be the first political casualty of the Panama leak – after the events of 2008 there is little sympathy in Iceland for a leading politician playing hide and seek, in and out of tax havens, with the nation.

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Together with leaders from Russia, Ukraine and a few other countries Iceland isn’t happy to compare itself with the story of prime minister Sigmundur Davíð Gunnlaugsson played a key role in tonight’s exposure of the Panama law firm Mossack Fonseca. Documents shown do not support his earlier version of his involvement with Wintris, the BVI linked to him and his wife.

In an interview on Rúv professor of history and a frequent commentator on the collapse and related matters Guðni Th. Johannesson said: “First and foremost I find it sad that men, who want to and claim they want to lead by good example, who say the grand plan is to believe in Iceland then decide that their money is better off elsewhere.” – His words are directed to the prime minister who repeatedly has talk of the necessity to believe in Iceland.

The focus is now ia on the political future of the prime minister. It is unlikely he will see this exposure as any reason to step down as prime minister and leader of the Progressive party. One question is what his own party will do. Since the election 2013 Gunnlaugsson has seen the support for the party dwindle. The exposure now is unlikely to reverse that path, which might make the party’s members of parliament despair for their future in the elections set to be in spring 2017. So far, no one has dared to step forth to criticise the prime minister.

Another and more relevant question is what the coalition partner, the Independence party, will do. Given the anger in Iceland over the revelations – already clear even before the program on Rúv tonight (here, in Icelandic) – it would be a political harakiri for the Independence party to support the prime minister.

However, as shown by the Panama Papers Indepence leader and minister of finance Bjarni Benediktsson also had an offshore company though that story, however inglorious, pales in comparison to Gunnlaugsson’s company.

Other politicians, shown to have owned offshore companies, will also have to ponder on their position. All owners of these companies have questions to answer not only related to tax but to law on capital controls.

It was not an entirely popular decision within the Independence party to support Gunnlaugsson as prime minister after the election in 2013. The reason was that many thought this was the party’s only way to get into power. With the situation now it’s clear that supporting Gunnlaugsson might have come at a very high price for the party. The situation now will be a tricky topic for the Independence party to handle and that’s what the politics in Iceland in the coming days will revolve around.

During the boom years Iceland turned into possibly the most offshorised country in the world as I’ve pointed out earlier. Iceland has done remarkably well following the collapse in autumn 2008 but the economic revival will have its limits if its political class prefers to be compared to Russia and Ukraine.

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