Iceland: Recent Economic Developments

This paper reviews economic developments in Iceland during 1990–96. It analyzes the origins of the current economic expansion associated with a swing in the current account and in emerging inflation pressure. Three driving forces are emphasized: the positive supply shock affecting the fisheries; the expansion of the power intensive industry; and brisk increases in real wages over the past two years (1995–96). The paper highlights that the main sources of upside risks comprise the likely construction of a new aluminum smelter.

Abstract

This paper reviews economic developments in Iceland during 1990–96. It analyzes the origins of the current economic expansion associated with a swing in the current account and in emerging inflation pressure. Three driving forces are emphasized: the positive supply shock affecting the fisheries; the expansion of the power intensive industry; and brisk increases in real wages over the past two years (1995–96). The paper highlights that the main sources of upside risks comprise the likely construction of a new aluminum smelter.

V. MONETARY AND FINANCIAL DEVELOPMENTS AND ISSUES58

A. Recent Monetary Developments

Introduction

149. Monetary policy in Iceland has given increasing prominence to the objective of price stability in recent years. The policy of keeping the exchange rate stable but adjustable, using it as the intermediate target of monetary policy, and maintaining its value against a basket of currencies within a 6 percent band (2¼ percent until August 1995) has been the centerpiece of monetary policy since 1989. This development follows years of high and variable inflation associated with frequent exchange rate devaluations. In recent years, the Central Bank has pursued a more conservative monetary policy, as reflected, for example, in relatively high short-term interest rate differentials with abroad. The exchange rate devaluations that have taken place since 1989 have largely reflected changes in the external environment with minimal effects on inflation.

150. During 1996, the exchange rate remained relatively stable. Short-term interest rates were lowered in April, but were raised in September as tensions in the foreign exchange market increased. Long-term rates also fell at the beginning of 1996 but by end-year had risen back to the levels prevailing at the beginning of the year. A major development was the decision by the Central Bank to cease its market-making activities for long-term Treasury bonds. The persistence of monetary disequilibrium resulting from the early redemption in July of callable bonds maturing in 2000, however, illustrates the vulnerability of the system to shocks.

Exchange rate and foreign reserves

151. Fluctuations in the krona were modest during the course of 1996 and largely reflected developments in the capital account (Chart 1). Earlier in the year, increased capital inflows strengthened the exchange rate, but by end-year a reversal in capital movements and concerns over the outlook for inflation resulted in the depreciation of the krona, partially reversing the original appreciation. The exchange rate, however, remained well within the old 2¼ percent band, and close to (albeit persistently below) the central rate set in June 1993. The real effective exchange rate for krona based on retail prices also remained stable, while that based on unit labor costs appreciated slightly (Chart 2). Despite the modest appreciation of the unit- labor-cost-based real exchange rate over the past two years, competitiveness remains favorable by historical standards.

CHART 1
CHART 1

ICELAND THE EXCHANGE RATE OF THE KRONA 1/

(Index: 12/31/1991=100)

Citation: IMF Staff Country Reports 1997, 015; 10.5089/9781451819205.002.A005

Source: Central Bank of Iceland.1/ Against the official currency basket up to September 6, 1995: ECU=76x, US$=18x, JPY=6x; trade-weighted basket thereafter.
CHART 2
CHART 2

ICELAND EFFECTIVE EXCHANGE RATES

(Indices: 1990=100)

Citation: IMF Staff Country Reports 1997, 015; 10.5089/9781451819205.002.A005

Sources: Central Bank of Iceland; and IMF, International Financial Statistics.

152. The central bank’s net foreign reserves at the end of 1995 were ISK 13.8 billion, equivalent to only 1.2 months of imports. As interest differentials were allowed to rise during the early part of 1996 and foreign official borrowing continued, the capital account balance strengthened and the reserve position improved significantly during the early part of 1996, almost doubling by July. Further monetary tightening in September strengthened the net reserve position further, to an estimated ISK 30.7 billion in December.

Interest rate developments

153. The Central Bank lowered short-term interest rates by 0.75 percentage points in April 1996 as interest rates abroad continued to fall and as the foreign exchange position improved. The injection of liquidity resulting from the early redemption of callable long-term bonds (see below) put further downward pressure on short-term rates. In September, the need to reverse the weakening of the foreign reserves position, protect the currency, and subdue inflationary pressure prompted the Central Bank to raise the rates by 0.4 percentage points, partly reversing the easing earlier in the year (Chart 3).

CHART 3
CHART 3

ICELAND INTEREST RATES

(In percent)

Citation: IMF Staff Country Reports 1997, 015; 10.5089/9781451819205.002.A005

Sources: Central Bank of Iceland, Economic Statistics, Annual Report; and data provided by Icelandic authorities.

154. The yields on 5-year treasury bonds and housing bonds declined during the first half of the year, reflecting favorable money and foreign exchange market conditions. Soon after the reduction in short-term rates in April, however, they started to rise, reversing their initial decline by the end of 1996. Rates on indexed bank loans followed a similar path during the course of 1996 but with rather less variability.

155. Short-term nominal interest rate differentials with Germany, which fell temporarily to 250 basis points following the interest rate reduction in April, increased significantly during the course of the year to nearly 400 basis points by end-year, as monetary easing elsewhere in Europe was not followed in Iceland (Chart 4). The differential with the United Kingdom 10-year indexed treasury bonds followed closely the movements in long-term bonds, falling in the first half of 1996 but rising by the same amount in the second half of the year, remaining broadly unchanged by end-year.

CHART 4
CHART 4

ICELAND INTEREST RATES AND FOREIGN RESERVES

Citation: IMF Staff Country Reports 1997, 015; 10.5089/9781451819205.002.A005

Sources: Central Bank of Iceland; CSO, Financial Statistics (United Kingdom); Bundesbank (Germany); and IMF, International Financial Statistics.1/ Ten-year indexed Treasury bond yield minus 2.5% Treasury index-linked 2016 bond yield (United Kingdom).

156. In line with lower inflation over the past decade, growth in monetary aggregates has fallen significantly in recent years (Chart 5). During the course of 1996, M3 grew at a rate of around 7 percent while Ml grew rather more vigorously at around 15 percent, reflecting strong growth in consumer expenditure and portfolio shifts into non-liquid assets.59

CHART 5
CHART 5

ICELAND MONETARY AGGREGATES

(12-month percent change)

Citation: IMF Staff Country Reports 1997, 015; 10.5089/9781451819205.002.A005

Source: Central Bank of Iceland, Economic Statistics.

Monetary implications of the early redemption of bonds in July

157. A major development in debt management in 1996 with significant implications for the conduct of monetary policy was the early redemption in July of callable savings bonds maturing in 2000. The bonds, totaling ISK 17 billion, equivalent to about three quarters of total bonds sold in 1996, or about 3½ of GDP, were redeemed in order to reduce debt interest costs over the remaining life of the bonds. The implication was a significant increase in liquidity, with lingering effects in the financial markets.

158. The redemption led to a doubling of transactions volume on the bond market during 1996 compared with 1995. Because the prevailing rates on long-term bonds were considered too high, the Treasury offered only a limited amount of 20-year bonds in exchange for the redeemable bonds. As a result, only half of the bonds were exchanged for long-term bonds and the rest remained in relatively liquid form, causing an initial situation of excess demand for long-term bonds. The holders of the redeemable bonds, mainly pension funds, turned to the securities houses and exchanged the redeemable bonds for long-term bonds in the secondary market, largely housing bonds purchased from mutual funds. The mutual funds took the opportunity to reallocate their portfolios by exchanging long-term bonds for short-term Treasury bills that the houses bought from the Treasury in exchange for the redeemable bonds. Thus, the initial excess demand for long-term bonds disappeared with the release of housing bonds by the securities houses. At the same time market expectations that the Treasury would issue additional long-term bonds, driving down their prices, reduced demand for long-term bonds, creating an excess supply at the end of the process. Short-term bill holders waited for long-term rates to rise and securities houses resisted an upward move in long-term rates by not offering long-term bonds at lower market-clearing prices. Long-term rates have risen somewhat since then. However, it appears that excess supply of long-term bonds and excess demand for short term bills have persisted. The incident illustrated the ability of the houses to significantly influence the determination of long-term rates, reflecting in part the relatively underdeveloped state of financial markets in Iceland.

B. Developing Financial Markets

Introduction

159. Reforms initiated in the mid 1980s aimed at reducing state involvement in financial markets, making room for market forces to play an increasing role in the development of the financial system60. The authorities now intend to take further steps with a view to strengthening financial market efficiency and liquidity. This section examines recent and prospective reforms in the financial market. Notably, these include plans to reconstruct the state-owned banks and the investment credit funds and structural reforms in the securities market to strengthen market liquidity and efficiency.

Restructuring the state-owned banks and investment funds

160. The current policy agenda involves incorporating banks and credit funds61. Draft bills were expected to be submitted to parliament by late 1996 and early 1997. The change are envisaged to take effect in July 1997 for the banks, and in January 1998 for the credit funds. Although there are intentions to eventually privatize these institutions, this is not at present on the agenda62.

161. The state-owned Agriculture Bank of Iceland and National Bank of Iceland will be transformed into limited companies following a financial restructuring. The bill permits the issuance and selling of additional shares to raise capital, but not the sale of state–owned shares. Once the banks are incorporated and dividend policy is enforced, this will focus more attention on the need to reduce operating costs including through a restructuring of branch networks.

162. The investment credit funds—the Fisheries Investment Fund, The Industrial Loan Fund and the Industrial Development Fund—will be incorporated into two entities: the Investment Fund (IF) and the Innovation and Development Fund (IDF). These institutions will not be authorized to take deposits. They will no longer be restricted to operate in specific sectors of the industry or service. The IF will function like an investment bank, and at most 49 percent of the shares will be sold around the time of its foundation. As for the IDF, the state will retain the majority of the shares, and it is anticipated that rules analogous to those for the Nordic Investment Bank will be enforced. The IDF is expected to play an active role in the early stages of venture capital and projects financing, consistent with the government’s view that state involvement needs to be redirected from traditional to more complex financial services that would not be provided by the market.

163. Parliament also recently adopted changes in legislation and regulation toward the banking sector to comply with the EEA agreement63. On deposit insurance, some changes are dictated by the agreement. The existing deposit insurance scheme requires banks to contribute to a fund until it reaches a minimum of 1 percent of total deposits. There is one fund for the commercial banks and one for the state owned banks. The authorities are also reviewing the surveillance system with a view to merging the Bank Inspectorate with the Insurance Supervisory Authority.

Securities market reform

164. Secondary market trading for government bonds takes place on the Iceland Stock Exchange (ISE). In February 1996, the Central Bank (CBI) agreed with three securities houses that they would assume responsibility for market making in the secondary market for long-term government bonds. The Central Bank relinquished its role as a market maker based on the judgement that the markets had developed sufficiently to function smoothly without daily intervention by the Bank, and that efforts to control long term interest rates could compromise other monetary policy targets. The Bank continues to make the market for Treasury bills.

165. The new agreements whereby securities houses act as market makers are formally custodian agreements whereby the CBI places a part of its long government bond and note portfolio, amounting to ISK 300 million, in the hands of the securities houses in exchange for the custodians undertaking the market making role. Renumeration is stipulated as a 5 percent share of the yield or loss of the portfolio in each quarter, and as a fee based on the volume of transactions forming the basis for the auctions of the agreements. A major concern was whether the minimum bids and offers specified in the agreement would be high enough to facilitate trading in the market. Early experience with the system indicates that market making has been associated with ample trading volumes and yield spreads moving lower to below 10 basis points. Ultimately this reform will be instrumental in fostering increasing depth and liquidity of financial markets.

166. The cessation of market-making activities in long-term bonds has not affected the Bank’s involvement in the market via its open market operations, which take place through the sale and purchase of treasury bills, and through a repo facility. The repo facility operates on the basis of treasury bills, government bonds, or marketable securities such as housing bonds. The Bank ensures the equality between the repo and the 10-day treasury bill rates so that either could be used as policy instrument.

167. To further the development of securities markets, clearance and settlement systems are in need of reform, as suggested by instances of settlement failures in 1996 against a background of strongly expanding trade. A central depository for securities is scheduled to open in 1998 following establishment of a limited liability company jointly owned by the banks, the brokerage houses, the government and the pension funds.

168. The Central Bank intends to play a less central role in the foreign exchange market, requiring participants to be market makers, posting 2-way prices and taking part in interventions. These changes, due to become effective by March 1997, would likely make prices more market-determined, increasing short-term exchange rate fluctuations.

169. The equity market have been growing in recent years. Some 30 companies are listed on the Icelandic Stock Exchange and market capitalization has increased from less than 1 percent of GDP in 1991 to about 18 percent of GDP in 1996. The underdeveloped capital market and the prohibitively high costs for many small firms to list on the Stock Exchange resulted in many small firms had problems raising capital. To make equity capital more easy available for small firms, an informal OTC market started operating in 1992 allowing its members to utilize the Exchange’s trading and information system for trading in this market. Currently the OTC market comprises some 20 companies; some companies have recently moved from the OTC market to the Stock Exchange. The proposed IDF is anticipated to contribute in the early stages of business development of small and medium sized firms.

170. Another major sector of Iceland’s domestic securities markets consists of housing bonds issued by the State Housing Board, carrying a government guarantee. The outstanding stock of housing bonds is comparable in size to that of government bonds. This system involves a non-market allocation of credit and places housing credit risk on the government. Discussion of alternatives has, however, been inconclusive, with the most obvious solution—transferring housing credit to the banks—running up against the banks’ capital adequacy requirements. Any reform is likely to be a protracted process over several years.

Liberalization of international capital flows

171. Restrictions on foreign ownership are being liberalized in accordance with the EEA agreement. Limits on foreign ownership in the energy sector, the banking sector and airline operations is being abolished. The main exception is fishing and primary fish processing where indirect foreign ownership is restricted to 25 percent. As fishing is perceived as a risky business activity, the energy sector is singled out as the most promising area for foreign direct investment. In terms of outward direct investment, the fishing industry has expanded in recent years accounting for the bulk of investment abroad of ISK 6,530 million by the food, beverages and tobacco industry. The IDF is foreseen to contribute actively in promoting and supporting internationalization, co-investing with companies abroad.

172. Portfolio capital flows in and out of Iceland are limited. In 1995 foreigners invested ISK 19 million in Icelandic securities leaving the stock at ISK 10 million at the end of 1995. The low level of foreign investment in Icelandic securities is largely attributed to lack of market liquidity, settlement and clearing risk, and the widespread indexation of the market.

C. Debt Management Strategy

Introduction

173. While Iceland’s public debt to GDP ratio of some 50 percent is not large by international standards64, the foreign currency component of nearly 60 percent of total debt stands out in relation to many countries (see de Fontenay et al, 1994); and financial indexation, until recently almost universal, is still widespread.

174. This section outlines the institutional and procedural aspects of Icelandic debt management, and analyzes the size and composition of the debt stock in terms of instruments, currency denomination, and maturity. Areas where reform is needed are identified.

Debt management policy

175. The National Debt Management Agency (NDMA) manages the public debt and performs the borrowing and debt management functions of the Treasury. The principal objectives of the NDMA, enacted in law in 1990, include responsibilities “to maintain the foreign and domestic interest cost and financing cost of the Treasury at a minimum, “ and “to further strengthen the market for government securities in the domestic capital market through marketing efforts.” Under a special agreement, the Central Bank acts as the borrowing agent in foreign markets, with the International Department being responsible for preparation and execution.

176. In practice the major decisions with regard to borrowing strategy are made by the Ministry of Finance. Decisions related to the share of foreign and domestic borrowing, maturity choice and the composition of debt instruments are not determined by specific rules, but are taken informally on a discretionary basis. The general approach taken is to finance as much as possible in the domestic market without putting inordinate upward strain on domestic interest rates, raising the remainder externally.

177. The domestic financial market is very small and relatively underdeveloped. The market for government debt is dominated by four banks and five securities houses, of which three are owned by the banks, making the market highly oligopolistic. Portfolio investment by foreigners is practically nonexistent due to the lack of liquidity and transparency of the domestic market resulting in part from widespread indexation and limited confidence in the Icelandic krona.

Public and Treasury Debt

178. Treasury gross debt has been trending upwards from about 20 percent of GDP in the early 1980s to almost 50 percent in 1996. The foreign currency component has been increasing steadily, particularly since 1990 (Chart 6). Treasury gross debt stood at ISK 233 billion in 1995, with a foreign component of 55 percent. Domestically, the largest component is Treasury bonds accounting for 70 percent of the total, with the remaining debt issued as Treasury bills and notes, and other domestic liabilities.

CHART 6
CHART 6

ICELAND TREASURY DEBT

(In percent of GDP)

Citation: IMF Staff Country Reports 1997, 015; 10.5089/9781451819205.002.A005

Source: Ministry of Finance.
Domestic debt

179. On the domestic market, regular auctions are held for T-bills (with maturities of 3, 6 and 12 months); for Treasury notes (maturities of 3 and 5 years), and for Treasury bonds (maturities of 10 and 20 years). The NDMA issues a calendar of auctions one year in advance and announces the approximate amount of securities to be sold one week ahead of each auction. Auctions typically include one and two maturities of Treasury bills and bonds, respectively. Except for short-term Treasury bills, there is no reservation price for auctions and the proposed yields can differ from market rates.

180. Treasury bonds, followed by Treasury bills, are by far the most common instrument.

Domestic Debt of the Treasury, Instrument

(In billions of ISK, end of year)

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Source: The Central Bank.

181. Most of the Treasury bonds are indexed to the consumer price index but some are indexed to the SDR and the ECU65. In 1995, the Ministry of Finance started to issue 5 year non-indexed Treasury notes and stopped selling 5-year indexed bonds with a view to reducing price indexation in short- and medium-term obligations. The Treasury’s access to an overdraft facility in the Central Bank was closed in 1992. The stock of housing bonds is comparable in size to that of Treasury bonds; although used to finance private housing, they are guaranteed by the government and implicitly carry a fiscal cost. About half of the bonds and ¾ of the housing bonds are held by credit institutions; treasury notes are held by deposit money banks, the Central Bank and the pension funds.

182. The policy of reducing indexation in short- and medium-term obligations is reflected in the average maturity of indexed Treasury bonds (about 6 years) being significantly longer than that of nominal Treasury notes (about 3 years). Investors require a much higher compensation for holding nominal bonds, as reflected in a 9.3 percent nominal interest rate compared to 5.7 percent for indexed bonds, given 2.3 percent inflation in 1996. Nominal Treasury bills with a short maturity, however, offer comparatively low-cost borrowing.

Treasury Domestic Debt, Average Maturity and Interest Rate December 31, 1996

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Source: The National Debt Management Office

Selected Interest Rates

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Source: The Central Bank.
External debt

183. Preliminary external debt data for September 1996 indicate that general government liabilities amounted to ISK 143 billion in long-term paper, mainly made up of Treasury debt of ISK 137 billion.

Long Term External Debt Position

(ISK billion, end of period)

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Source: The Central Bank.

184. The currency composition of the Treasury external debt is dominated by the U.S. dollar (33 percent), the deutsche mark (30 percent), the Japanese yen (12 percent) and the pound sterling (11 percent). The share of European currencies has been expanding in recent years at the expense of the U.S. dollar and the Japanese yen. Some 70 percent of the Treasury borrowing is with fixed interest rates, and the rest is floating rate debt, with Libor-USD standing for 20 percent of all floating debt. The floating foreign debt includes borrowing through the Euro Commercial Paper programme. This program was established in 1985 and renegotiated in 1995, increasing the program from U.S. $350 million to U.S. $500 million and also making multi-currency issuance possible.

185. The average interest rate, in foreign currency terms, on public sector external debt has been broadly unchanged in recent years at around 6.5 percent. Comparisons of interest rates between public and private sectors mainly reflect differences in maturity structure, in shares of fixed and floating rate debt, in market conditions when issued, and to a lesser extent in currency composition. Real and nominal interest rates on long-term domestic currency debt seem to have been significantly higher than the foreign currency debt, without taking exchange rate risk into account. At the end of 1995, the bulk of payments were due from 1999 to 2004.

Treasury Foreign Debt by Currency

(In percent)

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Source: The Central Bank.

Refers to central government debt.

Average Interest Rates on External Debt

(In percent)

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Source: The Central Bank

Amortization of Treasury External Funded Debt

(End of period)

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Source: The Central Bank

Debt management and macroeconomic policy

186. The heavy reliance on foreign currency borrowing has costs as well as benefits. It exposes debt to currency fluctuations and may hamper the development of domestic financial markets. It can also be viewed as an opportunity to borrow at lower interest rates and as a strategic tool supporting policies of low inflation.

187. The move toward a more stable macroeconomic environment has had beneficial effects on the cost of servicing the public debt. The recent upgrade of Icelandic debt in foreign markets, reflecting increased macroeconomic stability, bears witness to this67. Furthermore, a more stable environment has allowed the Icelandic authorities to de-index parts of the financial system, with beneficial effects on the functioning of markets. Indexation has been a feature of financial market for 30 years.

Foreign currency debt and inflation

188. The rise in the foreign currency component of public debt since 1990, which coincides with the beginning of added emphasis on price stability, is consistent with the strategy of improving the credibility of anti-inflationary policies. Underlining the increase in foreign borrowing is Iceland’s abolition of restrictions on capital mobility and deregulated interest rates, largely doing away with the possibility of borrowing domestically at below-market rates. A case in point is the removal of the 5 percent cap on real yields on long-term indexed bonds maintained 1993-1995 by which interest rates were artificially held down.

189. The merit of resorting to foreign currency debt is grounded in the link between the currency denomination and maturity of the public debt and the incentives of the authorities to erode its value by retreat to unexpected inflation. This link is stronger the longer the maturity and the larger the public debt. Borrowing in foreign currency removes the incentives to reduce the ex-post real value of government debt by reducing the effects of inflation surprises on the size of the debt. This is also true of indexed debt, whose extensive use is another distinguishing feature of Icelandic debt management; indexation in Iceland applies to longer maturities, and nominal debt is only available at the shorter end (see below).

190. It is, however, crucial to strike a balance between increased credibility of disinflation policies and increased exchange rate exposure. The foreign currency part exposes the domestic currency value of foreign liabilities to fluctuations in the exchange rate as well as increasing the probability of default. This is accentuated in the case of Iceland given its vulnerability to external shocks. This vulnerability in turn heightens the probability of a confidence crisis. Moreover, Iceland’s experience with widespread financial indexation associated with continuing high inflation suggests that credibility gains were limited. An additional argument against foreign borrowing is that it may weaken fiscal discipline since part of the debt servicing cost associated with exchange-rate charges is recorded as a capital loss rather than as interest expenditure.68

Policies toward de-indexation

191. Iceland has issued indexed bonds continuously since 1964, and was subject to high inflation through the 1970s and 1980s. The increased credibility of commitment to price stability has enabled Iceland to undertake de-indexation of the financial system.

192. In conjunction with financial market liberalization and reforms begun in the mid-1980s, the government has stated its intention to decrease the scope of financial indexation.69 A June 1995 central bank regulation dictates an agenda of reducing indexation for government securities, bank deposits, loans and other financial instruments. The minimum term on loans and obligations to which indexation can apply has been increased in stages (currently at least two years for loans and obligations, and one year for deposits), with the aim of eliminating the indexation of instruments with a maturity of less than seven years by the year 2000. There is no intention of eliminating indexation altogether at present because of the fears of squeezed supply of long-term loans and upward pressure on interest rates resulting from the increase in risk.

193. While there is no formal target for the share of non-indexed bonds, market acceptance of non-indexed securities may be an indication of financial health and confidence in stabilization policies. In effect this policy signals the authorities’ commitment to low price rises. De-indexation may also help boost the liquidity of markets as indexation is perceived to be a leading obstacle to participation by foreign investors (see Fry, 1996).

194. With the issuance of 5-year nominal notes in November 1995, de facto benchmarks exist for indexed and nominal securities with residual maturities less than 5 years, and for indexed securities with maturities up to 20 years. In part motivated by the need to conserve on liquidity, the strategy has been to initially concentrate indexation to issues of 5 years or more, and avoiding overlapping indexed and non-indexed issues at similar maturities. So far, the market has not taken part in issuing similar instruments.

195. As markets develop, the introduction of a nominal bond will provide the monetary authorities with a new source of information when estimating inflation expectations, comparing the rates on indexed and nominal debt70. Furthermore, an active money market greatly facilitates the capacity of the central bank to implement its policy by using indirect instruments. In this sense, the introduction of nominal long debt instruments has a bearing on the effectiveness of monetary policy.

Concluding remarks

196. Present and prospective macroeconomic performance is likely the main determinant of the cost and efficiency of government debt management. However, large and growing government debt stocks are heightening the importance of minimizing the costs of placing and servicing the debt. To make debt attractive, especially for international, but also for domestic investors, improvements in liquidity standards, transparency, issuing and trading efficiency, and tax treatment would be needed (see Broker, 1993 and IMF, 1994).

197. Widespread indexation, a large foreign component of public debt, and a narrow investor base are all factors indicating high direct borrowing costs. Iceland would benefit from opening up its financial markets to foreign investors; the move toward de-indexing the financial system as well as other steps to increase the markets’ liquidity and transparency will play a welcome role in this regard.

REFERENCES

  • Broker, Gunther, 1993, Government Securities and Debt Management in the 1990s, OECD.

  • Dattells, Peter, 1993, The microstructure of government securities markets, WP/95/117

  • de Fontenay, Patrick, Milesi-Ferretti Gian Maria, and Huw Pill, 1995, The role of foreign currency debt in public debt management, WP/95/21

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  • Fry, Max, 1996, Developing voluntary domestic markets for government debt, Bank of England quarterly bulletin, November, 449-461.

  • International Monetary Fund, 1994, International Capital Markets, Developments, Prospects and Policy Issues.

  • Price, Robert, 1996, The rationale and design of inflation linked indexed bonds, WP/96, forthcoming.

STATISTICAL APPENDIX

Table A1.

Iceland: GDP and Expenditure Components 1/

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Source: National Economic Institute.

Volume changes are based on 1990 prices.

Official estimates and forecasts as of October 1996.

Change as a percentage of GNP of previous year.

GNP adjusted for changes in terms of trade.

Table A2.

Iceland: Gross Fixed Capital Formation 1/

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Source: The National Economic Institute.

Volume changes are based on 1990 prices.

Official estimates and forecasts as of November 1996.

Including aquaculture.

Table A3.

Iceland: Gross Domestic Product by Sectors

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Source: National Economic Institute.
Table A4.

Iceland: Fish Catch and Marine Production

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Source: The National Economic Institute.

Official estimates and forecasts as of November 1996.

Catch values deflated by average price of export production.

Table A5.

Iceland: Export Production and Merchandise Exports

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Source: National Economic Institute.

Official estimates and forecasts as of October 1996.

Table A6.

Iceland: Balance of Payments on Current Account

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Source: Central Bank of Iceland.
Table A7.

Iceland: Merchandise Trade by Commodity

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Source: Statistical Bureau of Iceland; and National Economic Institute.

Official estimates as of November 1996.

Table A8.

Iceland: Merchandise Trade by Area

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Source: Statistical Bureau of Iceland.
Table A9.

Iceland: Unemployment, Wages, and Prices

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Source: The National Economic Institute.

Official estimates as of October 1996.

Planned hiring less layoffs.

Relative to the consumer price index.

Table A10.

Iceland: Selected Short-term Interest Rates

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Source: Central Bank of Iceland; and IMF, International Financial Statistics.

Annual average and end of month figures.

End of period figures.

Central Bank’s bids on the Icelandic Stock Exchange.

Table A11.

Iceland: Selected Long-term and Deposit Money Banks’ Interest Rates

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Sources: Central Bank of Iceland; and IMF, International Financial Statistics.

End of period figures.

Annual average or end of month figures.

Central Bank’s bids on the Icelandic Stock Exchange.

Market makers’ bids on the Icelandic Stock Exchange.