Iceland cuts its interest rate to 7%

Iceland’s economy was severely affected by the financial crisis as the banks expanded aggressively overseas following financial deregulation. The banks acquired investments that were greater in value than that of the country’s GDP and therefore were highly vulnerable if there was a run on the bank. Sure enough all three major commercial banks, Landsbanki, Kaupþing Bank and Glitnir went into administration in early October 2008. In fact there was a joke doing the rounds – “What is the capital of Iceland? 30 Krona” However, with easing inflationary pressures (has declined from 7.5% to 5.7% since May) and a stabilising currency (appreciated 4.6% against the US$) Iceland’s central bank cut its key interest rate by 1% to 7%. The interest rate had previously peaked at 18% in late 2008. Relative to the other major economies this key rate is still very high – see graphic below. However the Icelandic economy is still in a serious position. Credit rating agencies have indicated that the Icelandic government needs to settle a $5.5 billion dispute with the Netherlands and the U.K. over collapsed Internet bank Icesave or a $5 billion IMF funded aid programme might be withdrawn .

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