Postings and assignments for students in Econ 3334 at UH
Tuesday, March 25, 2008
Icelandomics
What you've learned in this class doesn't just work in the U.S. This article discusses the situation in Iceland and how they are acting to try and rescue the value of their currency. Can they continually prop up their exchange rate? Why not?
The Iceland article is a fascinating case study in our small open economy model. What we have is a situation in which Iceland's currency is depreciating rapidly and they are attempting, to the best of their ability, to avoid a massive depreciation of their native currency, especially compared to the exchange rates of the euro and the dollar. They have been forced, with what little influence they have, to slide the LM curve to the right as best they can while fighting off inflation. What we also see with this particular situation is that they don't have the increase in production to sustain the flood of currency in their market, and so the printing of new money in this particular example will only serve to destabilize the economy and send inflation spiraling upward. As such, as the Icelandic minister pointed out, they are following a very tight monetary policy and increasing interest rates in order to increase the demand for the Icelandic Krona and increase the effectiveness of their policy instrument. Can they maintain this devil's dance forever? The answer, I suppose, depends on equal parts on their own competence and the gains of the european common market of goods and the Euro used to pay for it. If they cannot manage their tight monetary policy, or if the Euro continues to gain exponentially more valuable, then their currency will collapse. Iceland's position is an excellent example of the very policies we have been studying, where we can see mechanically how what we have been studying is applied by policy makers in order to influence economies. A fantastic article for our class and where we are in our class.
Iceland’s fear is growing amid a coming financial global crisis, says the article, as well as being the first victim as a small open economy. In an attempt to inspire confidence in the krona, Iceland’s currency, and stave off a “full-blown economic crisis,” the central bank increased interest rates from 1.25 percentage points to 15 percent. “Deteriorating financial conditions in global markets” were said to be the reason for this move, said the bank. What is known for sure is that the krona was weakened 22 percent against the euro this year – and confidence in the krona has reasonably dropped. The banking sector was also said to be in danger of collapsing. With the large depreciation of the krona, especially against the euro and the dollar, Iceland is scrambling to fight off inflation. The printing of more money is obviously out of the question. What they want to do is increase interest rates in order to strengthen the krona. If nothing works, then Iceland faces “spiralling increases in prices, wages and the price of foreign exchange”.
Iceland is also seeing sharp downturns in international investment. Policymakers have tried to boost confidence in markets by drawing their attention to Iceland’s “economic fundamentals and the underlying strength of the banks.” They go on to explain that the overheating is being taken care of with the economy slowing down this year – only zero percent growth in 2008, which is down from 2.9 percent in 2007. The article notes that Iceland’s account deficit has narrowed greatly – from 26 percent of GDP in 2006 to just 16 percent in 2007.
The experts continue to play down fears of collapse, stating that “Iceland’s banks are sound by international standards”. Finnur Oddsson, managing director of the Icelandic Chamber of Commerce, says the fears of Iceland’s financial sector toppling are “greatly exaggerated”.
So can Iceland manage to strengthen their currency with the strict monetary policy they are practicing? Increasing the interest rates while production slows down (with the market flooded with currency) also depends on the exchange rate with the euro, and also whatever confidence is left with the krona. If one thing falls through, with the euro gaining more and more valuable, things may not look so good.
This article is about how Iceland is attempting to manage and maintain their money during this time of “global financial turmoil.” The article states that in order to do dodge crisis, the Iceland central bank has already increased interest rates as a way to slow the weakening of their currency. Already, Iceland’s currency has weakened about twenty-two percent against the euro. So right now, the Iceland central bank is desperately trying to fight off the ever-growing threat from inflation. They know that increasing the money supply is not an option right now because they are attempting to increase the value and strength of their currency, the Krona. They are doing this by raising the interest rates. Right now, they are facing “increases in prices…and the price of foreign exchange”, if the central bank’s plan fails to work. Another problem that Iceland is facing at this moment is that they have experienced a sharp decrease in both local and international investor confidence. The Iceland economist and policymakers are working diligently in an attempt to reassure investors that the country’s economy is strong. Although this country is experiencing slow growth, zero percent in 2008, they have still managed to greatly narrow country’s current account deficit “from 26 percent of GDP in 2006 to 16 percent in 2007.” It is true that the “global turmoil” is affecting Iceland’s financials, but Finnur Oddsson, the director of the Icelandic Chamber of Commerce, believes that most of what is happening in Iceland is “greatly exaggerated.” Others feel the same way such as Fredic Mishkin, who stated, “Iceland is not in more danger than some Wall Street banks.” I am not one to believe everything that I hear in the media, but I do think that no matter what is happening in Iceland, it should be attacked straight forward and not played down. I truly hope that things are actually being exaggerated about the severity of the problems being faced by Iceland. I hope that their plan to raise the interest rate will work and will help to raise the exchange rate and strengthen the Krona against other currencies like the euro and the dollar.
Flyguy This article is about Iceland’s fear of an approaching financial global crisis. This correlates with the small open economy model that we discussed in class. The LM curve has been shifted to the right in an attempt to ward off inflation. Iceland could increase the money supply and print more money but this could cause inflation to rise because of limitations in production. Recently, the central bank has increased interest rates as an attempt to hold the value of their currency. Hopefully, this will increase the effectiveness of their monetary policy and increase the demand for the Krona (Iceland’s currency). Some are saying that “Iceland’s banks are sound by international standards”. This may not be true because the demand for international investment has decreased. This also affects the confidence in the Krona and the overall monetary policy.
While Iceland must manage their monetary policy effectively, their success also depends on the euro and the European market for goods. If the euro value continues to increase, this could have negative effects on the Krona and may eventually collapse it. Now this could all be an exaggeration, as Finnur Oddsson points out, or it this could be a very crucial time for Iceland’s economy. Either way, they must be smart and prepare themselves for the worse.
This article describes Iceland’s attempt to stave an economic crisis due to “deteriorating financial conditions in the global market”. Icelandic currency, the krona, has depreciated 22% against the Euro so far this year. The government’s answer to this problem was to raise interest rates to 15%. After the move, the krona gained 6.3% on the dollar and stock trading increased 6.2%. Still, Iceland’s banks are in danger of collapsing and the government id trying to fight inflation. Due to the recent downturn in Iceland’s economy, international investors are wary and not investing very much. The government has tried to boost confidence in markets by drawing their attention to Iceland’s “economic fundamentals and the underlying strength of the banks”. What this means, I’m not sure. One could possibly see a recession, and possibly a depression (although unlikely) in Iceland’s future. In the worst case scenario (if the banks were to fail), then Iceland would face a depression. This would happen because currency reserves would increase while the money supply would decrease. Iceland’s LM curve would shift up and they would see output go down and rates would continue to rise. This would be avoided, however, if the government bailed out failing banks. All in all, I think Iceland’s future depends on the euro, the dollar and the respective markets. If the euro continues to increase, this would have a horrible effect on the Krona and may eventually collapse the Icelandic economy. This seems highly unlikely, as Oddsson points out, but he does warn of the possibility. Most importantly, Iceland must manage their monetary policy wisely in order to avoid a collapse. I believe that Iceland’s economy will recover, but at the same time, they should prepare for the worst. I think the world probably has learned a lesson form the Great Depression and the importance of macroeconomics
A huge endeavor by Iceland’s Central Bank to rescue their currency value and to avert a recession due in part to global financial uncertainty, has been undertaken starting with an increase in the interest rate. Since a higher interest rate equates to a higher demand for the currency, the central bank hopes that this will help re-establish confidence in the Krona. Iceland’s Central Bank presumes that they will need to engage in “tight monetary policy” with the aim of containing inflation and restoring the Krona relative to the Euro and the Dollar. Tight monetary policy, for Iceland, encompasses raising interest rates which will increase the cost of borrowing but help to curb inflation. Although it might seem like Iceland is in serious trouble they still have strengths in their economy that investors should take into account as well. One such factor is the current account deficit of Iceland tapered by 10% from 2006-2007. The central bank’s spokesperson also mentions that “Iceland’s banks are sound by international standards, with deposit ratios in line with international norms, high capital adequacy ratios by European standards and credible funding profiles”. This basically translates to the banks of Iceland are not in immediate danger and that they are up-to-date with most world banking regulations in order to maintain a stable economy.
From class I know that Iceland will not be able to continue raising interest rates to fix inflation and restore value to the Krona. This is because foreign investors will have to buy the Krona to invest in Iceland and this influx of capital increases the demand for money which in turn bids up the value of the Krona. While this might be the goal of Iceland’s Central Bank, they have made domestic goods more expensive relative to foreign goods. This causes a decrease in net export demand. at some point the fall in net exports will offset the effects of raising the interest rate.
This article seemed to make sense until I tried to apply what we’ve learned in lectures. From the article raising r should help raise e, right? Well in our IS/LM model it is the other way around. I’m not sure if it is the difference in world and individual interest rates and fixed or floating exchange rates that confused me?! From the class textbook I was able to figure out that raising r could bid up currency values, but it was in the context of using fiscal policy. From the ways that the curves move it seems to follow that monetary policy can produce the same effect that fiscal policy can in the IS/LM model. Anyways, hopefully Iceland can save the Krona and not fall victim to the global financial hell-hole.
The Financial Times article “Concern for Iceland grows after rate rise” gives the latest update on Iceland and how the Krona surges against the euro and the dollar. There are numerous fears that Iceland could be the very first country to become a victim of the global financial turmoil. This fear grew when Iceland’s central bank abruptly increased interest rates to 1.25 percentage points to 15 percent. The bank did this in an attempt to restore the confidence in the struggling currency and economic crisis. In some ways, the problems facing Iceland are the financial crisis at large. The country has built up a massive current account deficit by borrowing beyond its means for years. Worse still, its banking sector, which is similarly over-extended, is eight times the size of the overall economy. Should it topple, it seems unlikely the central bank would be able to clean up the mess. The bank insists that that the deteriorating financial conditions in global markets had contributed to the emergency move. This prompted the central bank to adopt unusually blunt language warning if the decline was not reversed Iceland faced spiraling increases in prices, wages and the price of foreign exchange.
Ingimundur Fridriksson, governor of Iceland, reports that only time would tell if this move works. This is of great concern for Iceland because they are a small open economy and their economy is affected by a majority of the international economy. The krona gained as much as 6.3 percent against the dollar. This is the biggest gain in more than 15 years. The last time the bank raised their rates was in November of 2007 and planned to leave them unchanged until the middle the year however, it was prepared in the event the krona depreciated severely. Thor Herbertsson, co-author of an influential report in 2006 on Iceland's economy with Fredric Mishkin, a member of the US Federal Reserve board mentioned that Iceland could be thrust into crisis as a result of the global economic situation.
Richard Portes, president of the Centre for Economic Policy Research and the author of a respected report on Iceland’s economy last year has certainly done his part by urging investors to pay more attention to the facts. The central bank has indicated that the weak krona and deteriorating financial conditions in global markets have made it harder for the country to finance its current-account deficit, which stood at 16 percent of gross domestic product in 2007. He has stated that Iceland’s banks are sound by international standards, with deposit ratios in line with international norms. Managing director, Finnur Oddsson stated that although the global turmoil is hurting the financial sector, things in Iceland are exaggerated.
Icelandic financial markets have undergone radical structural changes during the last two decades. The full liberalization of financial markets and the end of the disinflation process has brought about questions whether the current exchange rate regime remains appropriate for the Icelandic economy. Although there have been substantial changes in the implementation of exchange rate policy, with the goal of price stability more prominent than before, the formal arrangement of using the exchange rate as the intermediate target and the cornerstone of monetary policy still remains intact. Some have argued that the costs for Iceland of having its own currency reflected in high interest rate differentials. Others have pointed out that while the current regime was very important during the disinflation process, the long-run sustainability of the regime is questionable. A more flexible exchange rate is therefore appropriate for adopting an inflation target as an alternative monetary anchor.
This Financial Times article discusses how Iceland is undergoing a currency crisis and their attempts to stem it. Iceland is looked at by many of the international community as a likely first victim of the looming recession, a view strengthened by the action of Iceland’s central in increasing interest rates by 1.25 % to 15%. This was done in the hope of increasing the equity of the currency and averting fallout from the credit crisis in the US. Iceland’s problem stems largely from the fact that it has a massive account deficit from continuous loans from foreign investors over many years. On top of this, the banking sector of the economy while acting in a fashion similar to the national government is 8 times the size of the nation’s economy. If this ivory tower were to crumble, it is highly unlikely that the central government would be able to pick up the pieces. The central bank stated brashly that if the decline was not combated, Iceland would face spiraling increases in prices, wages and the price of foreign exchange.
The article quotes Ingimundur Fridriksson of noting that time will be the deciding factor in determining the success of its nation’s measures, which is worrying when considering the fact that Iceland is a small open economy and highly susceptible to fluctuations in the international markets. After the increase by their central bank, the Icelandic Krona gained 6.3% on the dollar, the largest such gain in 15 years. The article also reported that Thor Herbertsson and Fredric Mishkin (a member of the US Federal Reserve board) stated that Iceland could be thrust into crisis as a result of the global economic situation.
Over the past two decades, there have been substantial changes in the structure of Icelandic financial markets, including more complete integration with world economies, liberalization of financial markets and the termination of the disinflation process. These changes indicate that it may be inappropriate for Iceland to maintain its current exchange rate control. There have been some changes in Iceland’s exchange rate policy, consisting primarily of a shift in focus to price stability, but it is not enough. Iceland’s current policy of borrowing money to finance its net exports can not be meaningfully sustained: eventually it will be killed by rising interest rates or someone with enough liquid capital will take the nation to the cleaners a la Soros and England.
My reaction to this article was primarily surprise. It is incredible that a banking sector could be in fact 8-times the size of a country’s output. On one hand I amazed at the literal ability to create money from nothing by making a banking sector like that, but ultimately it will have the same effect of a national government printing money at the press and spending it. Iceland is in for a dive and their only hope is to see if they can negotiate a reasonable exchange and start using the Euro to back its economy. T
David Ibison, with Financial Times, wrote, “Concern for Iceland Grows after Rate Rise”, an article about Iceland struggling to deter the weakening of the Krona. In this year alone the Krona, the national currency of Iceland, has weakened twenty two percent to the euro in value. In order to increase the value of the Krona, the central bank increased interest rates by 1.25 percent to a shocking 15 percent. The bank raised rates the previous November with the intention to keep rates steady unless the Krona continued to depreciate. The central bank says it will continue to pursue strict monetary policy in order to bring inflation under control and keep it there. The main goal of the central bank is to keep the Krona competitive against the Dollar as well as the Euro. Some believe that Iceland is at risk for economic turmoil as a result of the global economic crisis; however Iceland is no more in trouble than some Wall Street banks, according to US Federal Reserve board member, Fredric Mishkin. According to leading Icelandic economists, Iceland is not in as much danger as reported. Policy makers are trying to increase foreign investment by drawing attention to “the country’s economic fundamentals and the underlying strengths of banks.” I am curious to see how much impact a country like Iceland has on the global community. I have only thought of Iceland as exporting Byork and Maria Mena CD’s, however Iceland can be described as a small open economy. From what I have learn about economic policy and economic history, Iceland should continue to monitor changes in inflation and react with loose monetary policy. Shifts in any economy should be expected if not anticipated. In a small country with such a small economy, such as Iceland, a depreciated currency can affect domestic prices severely as imported goods are more expensive and therefore less readily available because a depreciated Krona buys fewer goods from abroad.
Iceland is in a bind. Currently Iceland's interest rate is at and incredible 15 percent, which was just raised to try to stimulate the need for the Krona, Iceland's currency. With increases in inflation, the Krona has depreciated sonsiderably compared to the euro and the dollar. This small open economy is greatly influenced by world economies and to combat inflation they are turning to a very strict monetary policy to increase the demand for the Krona. The article frequently cites a lack of confidence in the Krona being the main factor of the inflation, and to almost advertise the countries bank system he states that they are reliable an adhere to international standards of banking.
The article keeps giving us effects and no causes. As a small open economy they can be greatly influenced buy other large economies but it seems Iceland itself hasn't figured out the initial causes of the lack of confidence. Since they are part of the EU why aren't they seeing a better vlaue for the Krona if their economy is tied to the growing euro, or is there economy so tied to the US economy that it is feeling the credit crunch as well and are their foreign investments mainly tied to the dollar? I feel there is much more to the story we are not getting to fully understand why the interest rate is so high and why inflation has risen so much.
The article,” Concern for Iceland grows after rate rise” describes how Iceland is going through a downfall. The article also point out that central banks had increased interest rates in order to rescue the currency. Iceland was faced with increasing in prices, wages and the increase of foreign exchange. Another point that was described in the article was policymakers have tried to persuade international investors with trusting banks from Iceland. Another important factor that was stated was the downfall of the account deficit that was 26 percent in 2006 and is 16 percent in 2007. Iceland has increased the interest rates to try to save the value of the currency. For instance, the interest rate was 1.25 percent and was drastically raised to 15 percent to save the currency. Also Iceland has suggested increasing prices, wages and increase foreign exchange. These factors would increase the currency but also change how the economy would be in the short run. An increase of prices would decrease the quantity of goods and services that are in demand. An increase of prices would also cause the aggregate demand curve to shift to the right on the aggregate demand curve. The article also mentions that the governor of the central banks had stated,” We are a small open economy and we are obviously affected by moves in the international economy.” Since Iceland is a small economy and if the exchange were to increase in a foreign country, Iceland would be affected with other foreign economies. Iceland banks had also taken action by increasing the currency in November of 2007 and were determined to take any action necessary to keep the currency from decreasing. Iceland has taken any action possible to keep the currency from declining. In my opinion Iceland is a small economy and it is very hard for them to keep up with other economies that are larger. In raising the currency there are a lot of affects, if the currency were to decline Iceland would struggle with foreign currency. Foreign countries would be able to buy more from Iceland since the currency declined but this would be a negative effect for Iceland.
The article begins by stating that Iceland is in a crisis. The central bank has increased its interest rate dramatically. This was done to prevent a further worse economy. The Iceland central bank said that the factors around the world lead to the depreciating the krona. The currency has taken a 22 percent dive relative to the Euro. The depreciating of the currency lead the central bank to use very harsh words. Fridriksson was unsure if the move will pick the economy back up. Currently it seems to paying off with an increase in the value of the krona to the dollar. Further, the Ireland stock market surged upwards. Earlier in November the central bank had increased the rates and was content on not increasing them again, but that has changed, due the circumstances. Inflation in Ireland has exceed expectations greatly. The central bank has explained that there needs to be close scrutiny on the economy to control inflation. There is much uncertainty but Richard Portes enumerates much good about the Ireland economy: Overheating has been taken care of. The account deficit has reduced from 26 percent to 16 perecent. Portes also says that the banks are solid. Finnur Oddsson added that complete economic turmoil will not occur.
I don't believe they can continue to increase the exchange rate. Increasing the exchange rate will increase inflation. Our text book has an illustration of inflation and interest rate. As the interest rate increases, sure enough inflation follows it. Having inflation increase will hurt their economy. People will stop buying things. I think they will have to live with a depreciated value for their currency. This increasing rate will stagnate spending. As the rate increases the economy becomes even smaller. Y continues to move inwards, as the e increases. The economy could worsen. Also, Ireland's economy is a very small economy. Their effect is negligible. I don't believe they have enough reserves to continue increasing the rate. There is a good possibility that they will just run out of the finite currency eventually. They are just entirely too small. So, again they just might have to live with what is happening. And hope the outside economies pick back up. Once they pick back up hopefully there will be a positive effect on Ireland's economy.
Iceland’s current crisis with its currency and exchange rates are of grave concern to its central bank as it tries desperately to maintain the country’s economic standing as well as its own integrity. Iceland just experienced an increase in its interest rates from 1.25 percent to 15 percent in an attempt to restore faith and value in the krona, Iceland’s national currency. The krona has weakened by 22 percent in this year alone. What the central bank is trying to do with this interest hike is restore faith in the nation’s currency. Iceland must use interest rates to control the exchange rates because its small economy can’t handle a mass addition to the money supply and is there by hoping this drastic increase will work to reestablish once lost confidence in the krona. The reason for this sudden disintegration of faith in the krona is due to fear of the perceived economic imbalances and fear that Iceland’s central banking system might crumple. Another issue facing Iceland is that due to these concerns investment, both local and international sectors, has decreased dramatically. This all seems greatly worrying but the country’s policymakers and economist are “on the ball” as it looks. Their move to hike the interest rate seems to be working because the krona experienced a 6.3 percent gain on the dollar the same day of the interest increase. This is a pleasant effect so far but as the governor of the central bank, Ingimundur Fridriksson, said “Only time will tell if this works.”. And as dramatic as the article starts it finishes up with an uplifting request. Richard Potres, president of the Centre for Economic Policy Research, asks that instead of focusing on the fall of the currency exchange rates we look at the progress that Iceland is experiencing and the current data that we have to gather a bigger picture. He points out that the national deficit fell from 26 percent to 16 percent of GDP and also points out reasons to believe that the concerns about the central banking system are overzealous, citing the banks deposit ratios and high capital ratios compared to international standards. I think we should take Portes recommendation and try to watch the GDP/deficit ratio, growth rate and central banking system to ensure that Iceland is on a path to recovery. This plan looks as if it is working, I hope it does. We will all have to just wait and see what happens in the long run, but I always recommend that a plan B be thought up as well. You never know what can happen in the global economic markets unforeseen shocks are not unheard of and it never hurt to be prepared.
13 comments:
The Iceland article is a fascinating case study in our small open economy model. What we have is a situation in which Iceland's currency is depreciating rapidly and they are attempting, to the best of their ability, to avoid a massive depreciation of their native currency, especially compared to the exchange rates of the euro and the dollar. They have been forced, with what little influence they have, to slide the LM curve to the right as best they can while fighting off inflation. What we also see with this particular situation is that they don't have the increase in production to sustain the flood of currency in their market, and so the printing of new money in this particular example will only serve to destabilize the economy and send inflation spiraling upward. As such, as the Icelandic minister pointed out, they are following a very tight monetary policy and increasing interest rates in order to increase the demand for the Icelandic Krona and increase the effectiveness of their policy instrument. Can they maintain this devil's dance forever? The answer, I suppose, depends on equal parts on their own competence and the gains of the european common market of goods and the Euro used to pay for it. If they cannot manage their tight monetary policy, or if the Euro continues to gain exponentially more valuable, then their currency will collapse. Iceland's position is an excellent example of the very policies we have been studying, where we can see mechanically how what we have been studying is applied by policy makers in order to influence economies. A fantastic article for our class and where we are in our class.
Iceland’s fear is growing amid a coming financial global crisis, says the article, as well as being the first victim as a small open economy. In an attempt to inspire confidence in the krona, Iceland’s currency, and stave off a “full-blown economic crisis,” the central bank increased interest rates from 1.25 percentage points to 15 percent. “Deteriorating financial conditions in global markets” were said to be the reason for this move, said the bank. What is known for sure is that the krona was weakened 22 percent against the euro this year – and confidence in the krona has reasonably dropped. The banking sector was also said to be in danger of collapsing. With the large depreciation of the krona, especially against the euro and the dollar, Iceland is scrambling to fight off inflation. The printing of more money is obviously out of the question. What they want to do is increase interest rates in order to strengthen the krona. If nothing works, then Iceland faces “spiralling increases in prices, wages and the price of foreign exchange”.
Iceland is also seeing sharp downturns in international investment. Policymakers have tried to boost confidence in markets by drawing their attention to Iceland’s “economic fundamentals and the underlying strength of the banks.” They go on to explain that the overheating is being taken care of with the economy slowing down this year – only zero percent growth in 2008, which is down from 2.9 percent in 2007. The article notes that Iceland’s account deficit has narrowed greatly – from 26 percent of GDP in 2006 to just 16 percent in 2007.
The experts continue to play down fears of collapse, stating that “Iceland’s banks are sound by international standards”. Finnur Oddsson, managing director of the Icelandic Chamber of Commerce, says the fears of Iceland’s financial sector toppling are “greatly exaggerated”.
So can Iceland manage to strengthen their currency with the strict monetary policy they are practicing? Increasing the interest rates while production slows down (with the market flooded with currency) also depends on the exchange rate with the euro, and also whatever confidence is left with the krona. If one thing falls through, with the euro gaining more and more valuable, things may not look so good.
This article is about how Iceland is attempting to manage and maintain their money during this time of “global financial turmoil.” The article states that in order to do dodge crisis, the Iceland central bank has already increased interest rates as a way to slow the weakening of their currency. Already, Iceland’s currency has weakened about twenty-two percent against the euro.
So right now, the Iceland central bank is desperately trying to fight off the ever-growing threat from inflation. They know that increasing the money supply is not an option right now because they are attempting to increase the value and strength of their currency, the Krona. They are doing this by raising the interest rates. Right now, they are facing “increases in prices…and the price of foreign exchange”, if the central bank’s plan fails to work.
Another problem that Iceland is facing at this moment is that they have experienced a sharp decrease in both local and international investor confidence. The Iceland economist and policymakers are working diligently in an attempt to reassure investors that the country’s economy is strong. Although this country is experiencing slow growth, zero percent in 2008, they have still managed to greatly narrow country’s current account deficit “from 26 percent of GDP in 2006 to 16 percent in 2007.”
It is true that the “global turmoil” is affecting Iceland’s financials, but Finnur Oddsson, the director of the Icelandic Chamber of Commerce, believes that most of what is happening in Iceland is “greatly exaggerated.” Others feel the same way such as Fredic Mishkin, who stated, “Iceland is not in more danger than some Wall Street banks.” I am not one to believe everything that I hear in the media, but I do think that no matter what is happening in Iceland, it should be attacked straight forward and not played down. I truly hope that things are actually being exaggerated about the severity of the problems being faced by Iceland. I hope that their plan to raise the interest rate will work and will help to raise the exchange rate and strengthen the Krona against other currencies like the euro and the dollar.
Flyguy
This article is about Iceland’s fear of an approaching financial global crisis. This correlates with the small open economy model that we discussed in class. The LM curve has been shifted to the right in an attempt to ward off inflation. Iceland could increase the money supply and print more money but this could cause inflation to rise because of limitations in production. Recently, the central bank has increased interest rates as an attempt to hold the value of their currency. Hopefully, this will increase the effectiveness of their monetary policy and increase the demand for the Krona (Iceland’s currency). Some are saying that “Iceland’s banks are sound by international standards”. This may not be true because the demand for international investment has decreased. This also affects the confidence in the Krona and the overall monetary policy.
While Iceland must manage their monetary policy effectively, their success also depends on the euro and the European market for goods. If the euro value continues to increase, this could have negative effects on the Krona and may eventually collapse it. Now this could all be an exaggeration, as Finnur Oddsson points out, or it this could be a very crucial time for Iceland’s economy. Either way, they must be smart and prepare themselves for the worse.
This article describes Iceland’s attempt to stave an economic crisis due to “deteriorating financial conditions in the global market”. Icelandic currency, the krona, has depreciated 22% against the Euro so far this year. The government’s answer to this problem was to raise interest rates to 15%. After the move, the krona gained 6.3% on the dollar and stock trading increased 6.2%. Still, Iceland’s banks are in danger of collapsing and the government id trying to fight inflation. Due to the recent downturn in Iceland’s economy, international investors are wary and not investing very much. The government has tried to boost confidence in markets by drawing their attention to Iceland’s “economic fundamentals and the underlying strength of the banks”. What this means, I’m not sure.
One could possibly see a recession, and possibly a depression (although unlikely) in Iceland’s future. In the worst case scenario (if the banks were to fail), then Iceland would face a depression. This would happen because currency reserves would increase while the money supply would decrease. Iceland’s LM curve would shift up and they would see output go down and rates would continue to rise. This would be avoided, however, if the government bailed out failing banks.
All in all, I think Iceland’s future depends on the euro, the dollar and the respective markets. If the euro continues to increase, this would have a horrible effect on the Krona and may eventually collapse the Icelandic economy. This seems highly unlikely, as Oddsson points out, but he does warn of the possibility. Most importantly, Iceland must manage their monetary policy wisely in order to avoid a collapse. I believe that Iceland’s economy will recover, but at the same time, they should prepare for the worst. I think the world probably has learned a lesson form the Great Depression and the importance of macroeconomics
A huge endeavor by Iceland’s Central Bank to rescue their currency value and to avert a recession due in part to global financial uncertainty, has been undertaken starting with an increase in the interest rate. Since a higher interest rate equates to a higher demand for the currency, the central bank hopes that this will help re-establish confidence in the Krona. Iceland’s Central Bank presumes that they will need to engage in “tight monetary policy” with the aim of containing inflation and restoring the Krona relative to the Euro and the Dollar. Tight monetary policy, for Iceland, encompasses raising interest rates which will increase the cost of borrowing but help to curb inflation.
Although it might seem like Iceland is in serious trouble they still have strengths in their economy that investors should take into account as well. One such factor is the current account deficit of Iceland tapered by 10% from 2006-2007. The central bank’s spokesperson also mentions that “Iceland’s banks are sound by international standards, with deposit ratios in line with international norms, high capital adequacy ratios by European standards and credible funding profiles”. This basically translates to the banks of Iceland are not in immediate danger and that they are up-to-date with most world banking regulations in order to maintain a stable economy.
From class I know that Iceland will not be able to continue raising interest rates to fix inflation and restore value to the Krona. This is because foreign investors will have to buy the Krona to invest in Iceland and this influx of capital increases the demand for money which in turn bids up the value of the Krona. While this might be the goal of Iceland’s Central Bank, they have made domestic goods more expensive relative to foreign goods. This causes a decrease in net export demand. at some point the fall in net exports will offset the effects of raising the interest rate.
This article seemed to make sense until I tried to apply what we’ve learned in lectures. From the article raising r should help raise e, right? Well in our IS/LM model it is the other way around. I’m not sure if it is the difference in world and individual interest rates and fixed or floating exchange rates that confused me?! From the class textbook I was able to figure out that raising r could bid up currency values, but it was in the context of using fiscal policy. From the ways that the curves move it seems to follow that monetary policy can produce the same effect that fiscal policy can in the IS/LM model. Anyways, hopefully Iceland can save the Krona and not fall victim to the global financial hell-hole.
The Financial Times article
“Concern for Iceland grows after rate rise” gives the latest update on Iceland and how the Krona surges against the euro and the dollar. There are numerous fears that Iceland could be the very first country to become a victim of the global financial turmoil. This fear grew when Iceland’s central bank abruptly increased interest rates to 1.25 percentage points to 15 percent. The bank did this in an attempt to restore the confidence in the struggling currency and economic crisis. In some ways, the problems facing Iceland are the financial crisis at large. The country has built up a massive current account deficit by borrowing beyond its means for years. Worse still, its banking sector, which is similarly over-extended, is eight times the size of the overall economy. Should it topple, it seems unlikely the central bank would be able to clean up the mess. The bank insists that that the deteriorating financial conditions in global markets had contributed to the emergency move. This prompted the central bank to adopt unusually blunt language warning if the decline was not reversed Iceland faced spiraling increases in prices, wages and the price of foreign exchange.
Ingimundur Fridriksson, governor of Iceland, reports that only time would tell if this move works. This is of great concern for Iceland because they are a small open economy and their economy is affected by a majority of the international economy. The krona gained as much as 6.3 percent against the dollar. This is the biggest gain in more than 15 years. The last time the bank raised their rates was in November of 2007 and planned to leave them unchanged until the middle the year however, it was prepared in the event the krona depreciated severely. Thor Herbertsson, co-author of an influential report in 2006 on Iceland's economy with Fredric Mishkin, a member of the US Federal Reserve board mentioned that Iceland could be thrust into crisis as a result of the global economic situation.
Richard Portes, president of the Centre for Economic Policy Research and the author of a respected report on Iceland’s economy last year has certainly done his part by urging investors to pay more attention to the facts. The central bank has indicated that the weak krona and deteriorating financial conditions in global markets have made it harder for the country to finance its current-account deficit, which stood at 16 percent of gross domestic product in 2007. He has stated that Iceland’s banks are sound by international standards, with deposit ratios in line with international norms. Managing director, Finnur Oddsson stated that although the global turmoil is hurting the financial sector, things in Iceland are exaggerated.
Icelandic financial markets have undergone radical structural changes during the last two decades. The full liberalization of financial markets and the end of the disinflation process has brought about questions whether the current exchange rate regime remains appropriate for the Icelandic economy. Although there have been substantial changes in the implementation of exchange rate policy, with the goal of price stability more prominent than before, the formal arrangement of using the exchange rate as the intermediate target and the cornerstone of monetary policy still remains intact. Some have argued that the costs for Iceland of having its own currency reflected in high interest rate differentials. Others have pointed out that while the current regime was very important during the disinflation process, the long-run sustainability of the regime is questionable. A more flexible exchange rate is therefore appropriate for adopting an inflation target as an alternative monetary anchor.
This Financial Times article discusses how Iceland is undergoing a currency crisis and their attempts to stem it. Iceland is looked at by many of the international community as a likely first victim of the looming recession, a view strengthened by the action of Iceland’s central in increasing interest rates by 1.25 % to 15%. This was done in the hope of increasing the equity of the currency and averting fallout from the credit crisis in the US. Iceland’s problem stems largely from the fact that it has a massive account deficit from continuous loans from foreign investors over many years. On top of this, the banking sector of the economy while acting in a fashion similar to the national government is 8 times the size of the nation’s economy. If this ivory tower were to crumble, it is highly unlikely that the central government would be able to pick up the pieces. The central bank stated brashly that if the decline was not combated, Iceland would face spiraling increases in prices, wages and the price of foreign exchange.
The article quotes Ingimundur Fridriksson of noting that time will be the deciding factor in determining the success of its nation’s measures, which is worrying when considering the fact that Iceland is a small open economy and highly susceptible to fluctuations in the international markets. After the increase by their central bank, the Icelandic Krona gained 6.3% on the dollar, the largest such gain in 15 years. The article also reported that Thor Herbertsson and Fredric Mishkin (a member of the US Federal Reserve board) stated that Iceland could be thrust into crisis as a result of the global economic situation.
Over the past two decades, there have been substantial changes in the structure of Icelandic financial markets, including more complete integration with world economies, liberalization of financial markets and the termination of the disinflation process. These changes indicate that it may be inappropriate for Iceland to maintain its current exchange rate control. There have been some changes in Iceland’s exchange rate policy, consisting primarily of a shift in focus to price stability, but it is not enough. Iceland’s current policy of borrowing money to finance its net exports can not be meaningfully sustained: eventually it will be killed by rising interest rates or someone with enough liquid capital will take the nation to the cleaners a la Soros and England.
My reaction to this article was primarily surprise. It is incredible that a banking sector could be in fact 8-times the size of a country’s output. On one hand I amazed at the literal ability to create money from nothing by making a banking sector like that, but ultimately it will have the same effect of a national government printing money at the press and spending it. Iceland is in for a dive and their only hope is to see if they can negotiate a reasonable exchange and start using the Euro to back its economy. T
David Ibison, with Financial Times, wrote, “Concern for Iceland Grows after Rate Rise”, an article about Iceland struggling to deter the weakening of the Krona. In this year alone the Krona, the national currency of Iceland, has weakened twenty two percent to the euro in value. In order to increase the value of the Krona, the central bank increased interest rates by 1.25 percent to a shocking 15 percent. The bank raised rates the previous November with the intention to keep rates steady unless the Krona continued to depreciate. The central bank says it will continue to pursue strict monetary policy in order to bring inflation under control and keep it there. The main goal of the central bank is to keep the Krona competitive against the Dollar as well as the Euro. Some believe that Iceland is at risk for economic turmoil as a result of the global economic crisis; however Iceland is no more in trouble than some Wall Street banks, according to US Federal Reserve board member, Fredric Mishkin. According to leading Icelandic economists, Iceland is not in as much danger as reported. Policy makers are trying to increase foreign investment by drawing attention to “the country’s economic fundamentals and the underlying strengths of banks.” I am curious to see how much impact a country like Iceland has on the global community. I have only thought of Iceland as exporting Byork and Maria Mena CD’s, however Iceland can be described as a small open economy. From what I have learn about economic policy and economic history, Iceland should continue to monitor changes in inflation and react with loose monetary policy. Shifts in any economy should be expected if not anticipated. In a small country with such a small economy, such as Iceland, a depreciated currency can affect domestic prices severely as imported goods are more expensive and therefore less readily available because a depreciated Krona buys fewer goods from abroad.
Iceland is in a bind. Currently Iceland's interest rate is at and incredible 15 percent, which was just raised to try to stimulate the need for the Krona, Iceland's currency. With increases in inflation, the Krona has depreciated sonsiderably compared to the euro and the dollar. This small open economy is greatly influenced by world economies and to combat inflation they are turning to a very strict monetary policy to increase the demand for the Krona. The article frequently cites a lack of confidence in the Krona being the main factor of the inflation, and to almost advertise the countries bank system he states that they are reliable an adhere to international standards of banking.
The article keeps giving us effects and no causes. As a small open economy they can be greatly influenced buy other large economies but it seems Iceland itself hasn't figured out the initial causes of the lack of confidence. Since they are part of the EU why aren't they seeing a better vlaue for the Krona if their economy is tied to the growing euro, or is there economy so tied to the US economy that it is feeling the credit crunch as well and are their foreign investments mainly tied to the dollar? I feel there is much more to the story we are not getting to fully understand why the interest rate is so high and why inflation has risen so much.
The article,” Concern for Iceland grows after rate rise” describes how Iceland is going through a downfall. The article also point out that central banks had increased interest rates in order to rescue the currency. Iceland was faced with increasing in prices, wages and the increase of foreign exchange. Another point that was described in the article was policymakers have tried to persuade international investors with trusting banks from Iceland. Another important factor that was stated was the downfall of the account deficit that was 26 percent in 2006 and is 16 percent in 2007.
Iceland has increased the interest rates to try to save the value of the currency. For instance, the interest rate was 1.25 percent and was drastically raised to 15 percent to save the currency. Also Iceland has suggested increasing prices, wages and increase foreign exchange. These factors would increase the currency but also change how the economy would be in the short run. An increase of prices would decrease the quantity of goods and services that are in demand. An increase of prices would also cause the aggregate demand curve to shift to the right on the aggregate demand curve. The article also mentions that the governor of the central banks had stated,” We are a small open economy and we are obviously affected by moves in the international economy.” Since Iceland is a small economy and if the exchange were to increase in a foreign country, Iceland would be affected with other foreign economies. Iceland banks had also taken action by increasing the currency in November of 2007 and were determined to take any action necessary to keep the currency from decreasing. Iceland has taken any action possible to keep the currency from declining.
In my opinion Iceland is a small economy and it is very hard for them to keep up with other economies that are larger. In raising the currency there are a lot of affects, if the currency were to decline Iceland would struggle with foreign currency. Foreign countries would be able to buy more from Iceland since the currency declined but this would be a negative effect for Iceland.
The article begins by stating that Iceland is in a crisis. The central bank has increased its interest rate dramatically. This was done to prevent a further worse economy. The Iceland central bank said that the factors around the world lead to the depreciating the krona. The currency has taken a 22 percent dive relative to the Euro. The depreciating of the currency lead the central bank to use very harsh words. Fridriksson was unsure if the move will pick the economy back up. Currently it seems to paying off with an increase in the value of the krona to the dollar. Further, the Ireland stock market surged upwards. Earlier in November the central bank had increased the rates and was content on not increasing them again, but that has changed, due the circumstances. Inflation in Ireland has exceed expectations greatly. The central bank has explained that there needs to be close scrutiny on the economy to control inflation. There is much uncertainty but Richard Portes enumerates much good about the Ireland economy: Overheating has been taken care of. The account deficit has reduced from 26 percent to 16 perecent. Portes also says that the banks are solid. Finnur Oddsson added that complete economic turmoil will not occur.
I don't believe they can continue to increase the exchange rate. Increasing the exchange rate will increase inflation. Our text book has an illustration of inflation and interest rate. As the interest rate increases, sure enough inflation follows it. Having inflation increase will hurt their economy. People will stop buying things. I think they will have to live with a depreciated value for their currency. This increasing rate will stagnate spending. As the rate increases the economy becomes even smaller. Y continues to move inwards, as the e increases. The economy could worsen. Also, Ireland's economy is a very small economy. Their effect is negligible. I don't believe they have enough reserves to continue increasing the rate. There is a good possibility that they will just run out of the finite currency eventually. They are just entirely too small. So, again they just might have to live with what is happening. And hope the outside economies pick back up. Once they pick back up hopefully there will be a positive effect on Ireland's economy.
Iceland’s current crisis with its currency and exchange rates are of grave concern to its central bank as it tries desperately to maintain the country’s economic standing as well as its own integrity. Iceland just experienced an increase in its interest rates from 1.25 percent to 15 percent in an attempt to restore faith and value in the krona, Iceland’s national currency. The krona has weakened by 22 percent in this year alone. What the central bank is trying to do with this interest hike is restore faith in the nation’s currency. Iceland must use interest rates to control the exchange rates because its small economy can’t handle a mass addition to the money supply and is there by hoping this drastic increase will work to reestablish once lost confidence in the krona. The reason for this sudden disintegration of faith in the krona is due to fear of the perceived economic imbalances and fear that Iceland’s central banking system might crumple. Another issue facing Iceland is that due to these concerns investment, both local and international sectors, has decreased dramatically. This all seems greatly worrying but the country’s policymakers and economist are “on the ball” as it looks. Their move to hike the interest rate seems to be working because the krona experienced a 6.3 percent gain on the dollar the same day of the interest increase. This is a pleasant effect so far but as the governor of the central bank, Ingimundur Fridriksson, said “Only time will tell if this works.”. And as dramatic as the article starts it finishes up with an uplifting request. Richard Potres, president of the Centre for Economic Policy Research, asks that instead of focusing on the fall of the currency exchange rates we look at the progress that Iceland is experiencing and the current data that we have to gather a bigger picture. He points out that the national deficit fell from 26 percent to 16 percent of GDP and also points out reasons to believe that the concerns about the central banking system are overzealous, citing the banks deposit ratios and high capital ratios compared to international standards. I think we should take Portes recommendation and try to watch the GDP/deficit ratio, growth rate and central banking system to ensure that Iceland is on a path to recovery. This plan looks as if it is working, I hope it does. We will all have to just wait and see what happens in the long run, but I always recommend that a plan B be thought up as well. You never know what can happen in the global economic markets unforeseen shocks are not unheard of and it never hurt to be prepared.
-Matt M 0441909
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