Abstract
The paper describes the impressive economic progress made by Iceland in implementing program policies, stabilizing the exchange rate, and bringing inflation down, under a program supported by a Stand-By Arrangement (SBA). The authorities noted that key challenges are to reduce the high level of unemployment, lift capital controls, accelerate private sector debt restructuring, and strengthen financial sector supervision and regulation. The full implementation of the economic program will create favorable conditions for economic progress based on sustainable public finances, private enterprise, and free markets.
This staff statement provides an update on developments and their implications for the program since the issuance of the Staff Report. These developments do not alter the thrust of the Staff Appraisal.
Risks to external financing have diminished after all three credit rating agencies affirmed Iceland’s rating. Rating agencies updated their assessments of Iceland following the referendum on the Icesave agreement. Last week, Standard & Poor’s affirmed Iceland’s BBB- long-term foreign currency rating and removed Iceland from its “credit watch” list. This followed a previous announcement by Moody’s, affirming Iceland’s local and foreign currency ratings of Baa3. Fitch also kept its rating unchanged, but raised the outlook from “negative” to “stable”. The authorities have indicated that they plan to proceed with a bond issuance in international capital markets in the near future. Iceland’s CDS spreads fell to 210 bps in recent days.
Landsbanki’s Resolution Committee has further increased its asset recovery projections. In a recent report, the resolution committee announced that the recovery process as of end-March would likely cover at least 94 percent of the priority claims (depending on the exchange rate assumption) rather than 90 percent estimated earlier.
The CBI announced on May 23 an auction of foreign currency—the first step toward a comprehensive lifting of capital controls. Offshore krona holders were invited to present offers to sell ISK 15 billion in exchange for foreign currency in an auction to be held on June 7. The spread between the onshore and offshore exchange rates declined following the announcement.
The eruption of the Grímsvötn volcano appears likely to have a limited impact on the economy. Although it is too early to assess the full impact on tourism and public finances, signs of abating volcanic activity suggest that this eruption should impact the economy less severely than the Eyjafjallajokull eruption in 2010.