ANS. Iceland led to a crisis because it was devastated by a liquidity crisis that arose from the global financial crisis. Over the preceding five years, Iceland's banks transformed into huge financial entities, controlling amounts of money far greater than the country's own wealth. In 2001, banks were deregulated in Iceland. This set the stage for banks to upload debts when foreign companies were accumulated. The crisis unfolded when banks were unable to refinance their debts. It is estimated that the three major banks held foreign debt in excess of €50 billion, or about €160,000 per Icelandic resident, compared with Iceland's gross domestic product of €8.5 billion. This was the reason why the crisis has happened in Iceland.
This situation can be avoidable if they had taken the following measures:
If they have promoted more export have substitute of import so that the foreign reserves have been used in importing important products such as crude oil, medicines, etc.
If they have stoped giving excess loan and concentrated on how to recover from consumers
Had stop lending money where they know that it can not b recovered
Stop doing interbank lending and making understand other bank that this situation can arise so stop giving loans to customers.
Stop investing in market were there are chances of losses.
If they had repaid their loan than the depositor had might not withdrawn their money from the Iceland's bank.
ANS. Icelandic banks had expanded rapidly into overseas markets prior to the financial crisis, resulting in its banking system becoming over-extended. Iceland's three largest banks - Glitnir, Landsbanki and Kaupthing experienced a run on their foreign currency liabilities. Given their high leverage, they quickly collapsed. The entire banking system accounted for almost 900 per cent or a staggering 10 times Iceland's GDP. These three banks represented 85 per cent of Iceland's banking sector. Due to this people started to with draw their money from bank as they were afraid of getting bank insolvent.
At first, the government drew up a plan to nationalize the first bank to show major fissures. However, the transfer of assets never went through and in hindsight, this was probably Iceland's salvation. This bank's has grown so much that Iceland has to depend upon on this bank transaction. It holds maximum foreign exchange reserves so when they have to import something this bank's would help them. This bank acts as a facilitator for various types of loans. It turned out that at the time of the banks' collapse, the banking system accounted for almost 900 per cent, or a staggering 10 times Iceland's GDP.
Iceland's banks have financed their expansion with loans on the interbank lending market and, more recently, by deposits from outside Iceland (which are also a form of external debt). Households also took on a large amount of debt, equivalent to 213% of disposable income, which led to inflation. As with many banks around the world, the Icelandic banks found it increasingly difficult or impossible to roll over their loans in the interbank market, their creditors insisting on payment while no other banks were willing to make fresh loans. In such a situation, a bank would normally have to ask for a loan from the central bank as the lender of last resort. However, in Iceland the banks were so much larger than the national economy that the Central Bank of Iceland and the Icelandic government could not guarantee the payment of the banks' debts, leading to the collapse of the banks. This was the reason why Icelandic bank were having crisis.
This meant to depositor in reduce in faith in Iceland's market return and also were afraid of incurring heavy losses in their market as their currency value has been drastically depreciated compared to dollar and Euro. Due to credit rating agency's rating the depositor was also afraid of not getting their money back. Due to this all the prices had gone up due to inflation and people has to face this problem and has to purchase or import at higher price compared to earlier price.
3) ANS. If there is no financial stability in India than following things can happen:
Inflation rate can be increased and the purchasing power of the consumer can reduce. Due to inflation prices of commodities may go high and chances that there would loss incurred by the commodity producing company
Debt and liability of the country would increase as there is need for development of the country and if we are unable to pay back than the liability would be increased so much that we will be unable to pay our loans on time and we have to sell our assets
Due to inflation, all the interest rate would be increased including home loan, car loan, educational loan, etc. so the consumer will b unable to take the loan as they will be incapable to pay their interest rate
As there will be crisis many company would incur heavy losses so the Unemployment rate would be increased.
Foreign currency reserves will be decreased as there will be more imports than exports.
In order to avoid this situation India should learn from Iceland crisis and should take the following decision:
India should promote export on the other hand they should look towards import so that our foreign reserves would be increased and there should be a proper stability between imports and exports.
It should promote FDI (Foreign Direct Investment) and FII (Foreign Institutional Investment) so that our foreign reserves are increased.
India should give various tax benefits for foreign companies so that they get attracted and start there business in India. This will help to create an employment opportunities
4) ANS. Iceland has now applied to join the EUROPEAN UINON (EU) but although Iceland's monetary policy credibility has been seriously damaged by the financial crisis, even before the crisis, unsatisfactory inflation outcomes had already undermined the credibility of the monetary framework and, consequently, inflation expectations were poorly anchored. It takes time to rebuild credibility, and even then, maintaining it might be very difficult
After the collapse of the Icelandic financial system the Iceland was prepared to consider a variety of options to solve the currency problem in Iceland. For Iceland to achieve the macroeconomic conditions for euro adoption - low inflation, stable exchange rate and low deficits and debts - will pose a difficult policy challenge in the years ahead. But this would in any case be an important ingredient in securing the necessary macroeconomic stabilization following the crisis.
In our opinion Iceland should join European Union as there would be the advantage that Icelandic membership could bring to the EU probably play an even bigger role. Although Iceland is virtually bankrupt due to their high debt position, it is not like the country has become an underdeveloped country, or would become in the near future. Chances are that Iceland would become a net payer to the EU within a relatively short period, certainly when compared to countries like, Bulgaria, Croatia or even Spain or Portugal.
