NCPA - National Center for Policy Analysis

Iceland Shows Other Europeans How to Survive Bankruptcy

September 17, 2012

In the midst of warnings about economic catastrophe, governments have been scrambling to bailout their banks to stave off bankruptcy. As mainland Europe tries to keep countries from a collapse of the banking system, they can learn a lesson from Iceland on how temporary financial collapse is better for long-term economic recovery, says Matthew Feeny, assistant editor of Reason 24/7.

  • In 2007, Iceland's gross domestic product (GDP) per capita was a little over $65,500.
  • During the onset of the financial collapse in 2008, Iceland's central bank attempted to bailout its biggest banks because of its guarantee of future bailouts in 2001.
  • But Iceland bankrupted itself in an attempt to bailout the banks, putting the central bank out of commission.
  • As a result, the country experienced bankruptcy and by 2009 the per capita GDP dropped by almost half to $38,000.

Despite the nosedive of Iceland's GDP, the International Monetary Fund has described Iceland's economic performance as impressive. Since 2009, Iceland has managed to shrink its deficit, reduce unemployment and grow its economy.

Iceland's performance is a testament to the benefits of forgoing bailouts and allowing institutions that are "too-big-to-fail" to fail. Iceland's collapse was the impetus for a restructuring of finances that enabled growth.

With the Eurozone concerned about Greece's collapse, one need not look further than Iceland for how to move forward. Instead, governments are bailing out Greek banks to keep them from collapsing and exiting the Eurozone. However, the example of Iceland shows that financial collapses are followed by quick and strong recoveries.

Many countries are worried about the diplomatic fallout associated with a financial collapse. As was the case with Iceland, many of the assets held by Icelandic banks were foreign. This had potential to ruin relations with neighboring countries. And while some countries did get upset with Iceland, it was quickly forgotten and Iceland recovered its reputation. But if policymakers continue to bailout Greece, it will likely be more severe and cause more diplomatic backlash than if they were to allow Greece's financial sector to collapse.

Source: Matthew Feeny, "Iceland Shows Other Europeans How to Survive Bankruptcy," Reason Magazine, September 7, 2012.


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