Key lesson from Iceland crisis is 'let banks fail': analysts

REYKJAVIK - Three years after Iceland's banks collapsed and the country teetered on the brink, its economy is recovering, proof that governments should let failing lenders go bust and protect taxpayers, analysts say.

The North Atlantic island saw its three biggest banks go belly-up in the October 2008 as its overstretched financial sector collapsed under the weight of the global crisis sparked by the crash of US investment giant Lehman Brothers.

The banks became insolvent within a matter of weeks and Reykjavik was forced to let them fail and seek a $2.25 billion bailout from the International Monetary Fund.

After three years of harsh austerity measures, the country's economy is now showing signs of health despite the current global financial and economic crisis that has Greece verging on default and other eurozone states under pressure.

" The lesson that could be learned from Iceland's way of handling its crisis is that it is important to shield taxpayers and government finances from bearing the cost of a financial crisis to the extent possible," Islandsbanki analyst Jon Bjarki Bentsson told AFP.

" Even if our way of dealing with the crisis was not by choice but due to the inability of the government to support the banks back in 2008 due to their size relative to the economy, this has turned out relatively well for us," Bentsson said.

Iceland's banking sector had assets worth 11 times the country's total gross domestic product (GDP) at their peak.

Nobel Prize-winning US economist Paul Krugman echoed Bentsson.

" Where everyone else bailed out the bankers and made the public pay the price, Iceland let the banks go bust and actually expanded its social safety net," he wrote in a recent commentary in the New York Times.

" Where everyone else was fixated on trying to placate international investors, Iceland imposed temporary controls on the movement of capital to give itself room to maneuver," he said.

During a visit to Reykjavik last week, Krugman also said Iceland has the krona to thank for its recovery, warning against the notion that adopting the euro can protect against economic imbalances.

" Iceland's economic rebound shows the advantages of being outside the euro. This notion that by joining the euro you would be safe would come as news to the Spaniards," he said, referring to one of the key eurozone states struggling to put its public finances in order.

Iceland's example cannot be directly compared to the dramatic problems currently seen in Greece or Italy, however.

" The big difference between Greece, Italy, etc at the moment and Iceland back in 2008 is that the latter was a banking crisis caused by the collapse of an oversized banking sector while the former is the result of a sovereign debt crisis that has spilled over into the European banking sector," Bentsson said.

" In Iceland, the government was actually in a sound position debt-wise before the crisis."

Iceland's former prime minister Geir Haarde, in power during the 2008 meltdown and currently facing trial over his handling of the crisis, has insisted his government did the right thing early on by letting the banks fail and making creditors carry the losses.

" We saved the country from going bankrupt," Haarde, 68, told AFP in an interview in July.

" That is evident if you look at our situation now and you compare it to Ireland or not to mention Greece," he said, adding that the two debt-wracked EU countries " made mistakes that we did not make ... We did not guarantee the external debts of the banking system."

Like Ireland and Latvia, also rescued by international bailout packages and now in recovery, Iceland implemented strict austerity measures and is now reaping the fruits of its efforts.

So much so that its central bank on Wednesday raised its key interest rate by a quarter point to 4.75 percent, in sharp contrast to most other developed countries which have slashed their borrowing costs amid the current crises.

It said economic growth in the first half of 2011 was 2.5 percent and was forecast to be just over 3.0 percent for the year as a whole.

David Stefansson, a research analyst at Arion Bank, told AFP Iceland hiked its rates because it " is in a different place in the economic (cycle) than other countries.

" The central bank thinks that other central banks in similar circumstances can afford to keep interest rates low, and even lower them, because expected inflation abroad is in general quite (a bit) lower," he said.

- AFP /ls

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France Readying New Austerity Package

Dolce Vita hangover: Italy the new focus in crisis

(AP:MILAN) The Dolce Vita lasted for a long time in Italy, but now it's back to reality.

Postwar prosperity allowed hundreds of thousands of workers to retire with full benefits before the age of 50. Public spending ran over, creating bloated bureaucracies and a political class that consume half of the national wealth generated each year. Easygoing Italians, expecting little from the state, rarely think twice about paying under the table for home improvements, dental work or even a frothy cappuccino.

But the bill for decades of excess is coming due, and the price to escape Europe's sovereign debt crisis is steeper than many feared.

Premier Silvio Berlusconi, the tenacious leader who has survived sex scandals and multiple criminal prosecutions to head three governments since 1994, is losing his grip on power and lacks the political muscle to push through change.

During an economic summit in France, he asked the International Monetary Fund to monitor the country's reform efforts, a humiliating development for the world's seventh largest economy.

The deepening crisis has already shaken three governments _ in Ireland, Portugal and Spain, where early elections are scheduled in two weeks _ and Greece's Socialist-led government is struggling to form a unity government after narrowly surviving a confidence vote. Many thank Italy will be next.

" Berlusconi's time is up," Ferruccio de Bortoli, editor of the leading Italian daily Corriere della Sera, wrote this week. " He risks bringing down his party _ which should push him to leave _ and above all the whole country."

The government's turmoil reflects a deepening unease about the financial uncertainty that is gathering over the country.

Italians, still hurting from the 2008 financial crisis that slowed factories and idled workers, are paying with continued economic turmoil and austerity moves that are hurting consumer confidence. And the broader fear is that Italy, if it faces default on its enormous euro1.9 trillion ($2.62 trillion) debt, would drag down the eurozone, if not the global economy.

" We, the young ones that pay the highest price, we are the ones who are paying for the crisis," said Giuseppe Muscanera, a teacher from Bologna, at an opposition rally in Rome on Saturday demanding Berlusconi's ouster.

" We can start rebuilding through a serious governing class, with ideas, that wants to work," he said.

The ultimate fear is that Italy might need to ask for a bailout to handle its enormous euro1.9 trillion ($2.6 trillion) debt load. That would be simply too expensive for the eurozone, and could trigger a default that would break up the currency zone and drag down the global economy.

For at least a decade, Italy has been getting by with high public debt and low growth without setting off major warning bells. Unlike their government, Italian households save a lot and a majority own their own homes. That insulated the country from the real estate crashes and private debt crises that hit other economies, like Spain, so hard in 2008.

Unlike many eurozone countries _ even rich and stable Germany _ Italy did not have to bail out its banks during the 2008 global credit crunch because they had avoided excessive risk-taking.

But the past two years' sovereign debt crisis has changed all that. After Europe was forced to bail out Greece, Ireland and Portugal, investors reviewed their assumptions about how risky government bonds in Europe were. Fearing the worst, many traders started selling their Spanish or Italian bonds in favor of the safer ones, mainly from Germany.

Some economists have blamed Europe's slow and indecisive handling of the debt crisis for allowing investors' concerns about bigger economies to grow.

The possibility that Italy may need a bailout rises each time its borrowing costs go up. Borrowing rates on 10-year bonds reached a euro-era high of over 6 percent last week. Italy's new chief central banker Ignazio Visco insists Italy can survive with rates of up to 8 percent, but the extra cost of borrowing is eroding the savings the government gleans from its austerity measures. That sort of downward spiral is what has pushed Greece to need multiple bailouts.

Mario Draghi, an Italian who just took over as European Central Bank president, said this week that since joining the euro, Italy had enjoyed unnaturally low interest rates because its monetary policy was linked to that of stronger economies like Germany.

" For a long time spreads between sovereign bonds in the euro area were very narrow. In point of fact, they did not reflect the different realities of different countries," Draghi told a news conference after his inaugural ECB meeting.

Draghi suggested it was normal that a country like Italy should have higher borrowing costs than Germany. In fact, enjoying low rates had allowed the Italian government to avoid the tough growth-boosting reforms that it needed. Now that they are higher, Rome is scrambling to agree on reforms.

To avert default, Berlusconi's increasingly fractious governing coalition is under intense international pressure to approve and implement measures to balance the budget and spur growth _ the only sure way to bring down national public debt. But infighting has been hindering those efforts.

In Italy, politicians have bristled at suggestions that Italy has given up its sovereignty. For the opposition, it has become another barb against Berlusconi: He's not up to the job. But economists, ordinary Italians and even the respected octogenarian president have to some degree welcomed the outside intervention _ seeing it as both a safeguard and a reasonable trade-off for membership in the European Union, and the euro.

After failing to come up with emergency measures that would take immediate effect this week, Berlusconi proposed legislation that he promises to put to a confidence vote within two weeks. If he loses, he must step down.

The new measures include a plan to sell government assets, which is expected to raise euro5 billion a year over the next three years and tax breaks to encourage employment for the young and to get women back into the work force in a country where youth unemployment is running at 29 percent and just 48 percent of women have jobs. The legislation would also allow stores to stay open on Sundays and open up closed professions.

Berlusconi has also pledged to raise the retirement age to 67 for all classes of workers, to match European trends, despite the fierce resistance of his allies the Northern League.

Among the measures still missing, but on international watchers' wish lists, are labor market reforms and reducing political costs.

The way forward is uncertain, however, as entrenched interests make change difficult in Italy.

Union workers have protests against the government plan to loosen the labor law so that businesses can more easily fire unproductive workers.

Even before the confidence vote, Berlusconi will face another test when parliament for a second time considers approval of government accounts. Normally a formality, the accounts failed by one vote last month. A second failure would further damage Berlusconi's government, perhaps fatally.

Already, loyal members of his People of Liberty Party have been defecting to the opposition, and urging him to form a broader government that would be able to comfortably push through reforms _ and avoid early elections.

Italy's President Giorgio Napolitano, who would be in charge of choosing an interim government if Berlusconi's collapses, has been meeting with party leaders to size up alternatives. But he has said he won't act until he sees how the majority lines up in parliament.

Not even allies are optimistic.

" I don't know how many days or weeks this government has. It's certain that a majority that manages with few votes can't continue for long," said Guido Crosetto, a lawmaker in Berlusconi's party.

Fed-up consumers planning for 'Bank Transfer Day'

By CANDICE CHOI
AP Personal Finance Writer

(AP:NEW YORK) It's moving day for bank customers.

A grassroots movement that sprang to life last month is urging bank customers to close their accounts in favor of credit unions by Saturday.

The spirit behind " Bank Transfer Day" caught fire with the Occupy Wall Street protests around the country and had more than 79,000 supporters on its Facebook page as of Friday. The movement has already helped beat back Bank of America's plan to start charging a $5 debit card fee.

It's not clear to what extent the banking industry's about-face on debit card fees will extinguish the anger driving the movement. But many supporters say their actions are about far more than any single complaint.

" It's too little, too late," said Kristen Christian, the 27-year-old Los Angeles small business owner who started " Bank Transfer Day." She already opened accounts at two credit unions in preparation for cutting ties with Bank of America this weekend.

" Consumers are waking up and seeing that they have options," she said.

Even with its public support, however, it's not likely that any account closings that take place on Saturday will make a big dent with industry titans such as Chase, which is the largest bank in the country with some 26.5 million checking accounts.

But the call to action shows just how incensed consumers were at the prospect of a debit card fee at a time of so much economic uncertainty. Even those who were appeased by the industry's reversal may have tapped into a new sense of empowerment.

That's the case for Dan Blakemore, a Bank of America customer for the past 10 years. He said he no longer plans to close his checking account now that the debit fee has been scrapped. But he'll be on the lookout for any other changes that might hit his wallet.

" I'm pretty confident they're going to find some way to get that extra money," said Blakemore, a 28-year-old who works for a nonprofit fundraiser in New York City. " I'll just have to see if it offends my sensibility enough to close the account."

Bank of America Corp., Citigroup Inc., JPMorgan Chase & Co. and Wells Fargo & Co. are keeping mum on whether they've seen an uptick in account closures in recent weeks. But credit unions and small community banks have been basking in the spotlight and issuing press releases highlighting what they say are superior interest rates and more intimate service, along with tips on how consumers can transfer accounts. They haven't been shy about the surge in new business they're enjoying either.

Navy Federal Credit Union, the largest credit union in the country, says new account openings in September and October were up 38 percent from a year ago. National Capital Bank, a two-branch community bank in Washington, D.C., says the vast majority of its new account openings in recent weeks have been by fed up Bank of America customers.

" The debit fee was definitely a driver," said Noah Wilcox, president of Grand Rapids State Bank in Minnesota, which is also enjoying a lift in account openings.

Because credit unions and community banks vary so greatly in size, however, it's hard to gauge the total scope of the defections they're reporting. For example, the Lower East Side People's Federal Credit Union in New York City says it's enjoying more than 55 new account openings a week. That's a big jump from its average of about 10 new accounts per week, but insignificant when weighed against the portfolios of the nation's largest banks.

Big banks have also learned that customer grumblings don't always translate into action. That's particularly true for those who have multiple accounts, direct deposit and automatic bill pay many decide that switching just isn't worth the hassle.

" People will do a lot of complaining before they actually uproot and move," notes Mark Schwanhausser, a banking analyst with Javelin Strategy & Research.

The recent firestorm over debit card fees was " in a class of its own" because customers saw it as a charge for accessing their own money, he said.

The timing of Bank of America's fee announcement was unfortunate on multiple levels as well. In addition to the anxiety many are feeling amid high unemployment and stagnant wages, the news broke just as the Occupy Wall Street protests were capturing the national spotlight.

And big banks have been a key target for Occupy Wall Street, which has tapped into the lingering resentment many harbor over the role of banks in the financial meltdown of 2008.

Last month, two dozen Occupy Wall Street protestors were arrested when they entered a Citibank branch in New York City and refused to leave. Protestors have also banged drums and demonstrated outside bank branches in other cities PNC Bank twice closed branches in downtown Pittsburgh last week after protestors entered.

But those are the extremes. Schwanhausser of Javelin said many customers will likely be placated by the industry's white flag on debit card fees.

" People are people going to look at that Nov. 5 date and say `We made our point'," Schwanhausser said

The banking industry may feel the same way representatives for Bank of America, Chase, Citi and Wells Fargo indicate they haven't done anything to prepare branch employees for a surge in account closings this weekend. Then again, many of the closures may have already taken place.

Molly Katchpole, a 22-year-old nanny in Washington, D.C., who started an online petition urging Bank of America to drop its debit card fee, says the bank's about-face won't win her back.

" The damage is done," said Katchpole, who has since joined a credit union in Washington, D.C.