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Could the Iceland crisis have been predicted?

Brighton & Hove City Council has revealed that they withdrew all investments with one of the collapsed Icelandic banks a year prior to the recent problems.

In light of recent news that other local councils have lost money in Iceland, questions have been raised about the University’s investment choices.

This October the University of Sussex had £3m frozen in the Icelandic bank Landsbanki. This money was on a short-term deposit in the UK based bank Heritage which is in turn owned by Landsbanki. Since the Icelandic banks were taken into administration there has been some debate about whether this collapse had been predicted several months before it happened.

The unusually high interest rates showed the first signs of problems in Iceland. Despite these suspiciously high interest rates it is understandable that so many people and institutes invested money in these banks. Savers were assured that their money would be protected by law and that their deposits would be reimbursed in the event of financial turmoil. Unfortunately, it is no longer a guarantee that this money will be returned.

Warning signs of this economic disaster could be seen as early as March. Simon Watkins wrote on thisismoney.co.uk on the March 16 2008 that: “These [Icelandic] banks are now seen as the most unsafe in the developed world.” Similarly Professor Willem Buiter of London School of Economics (LSE), wrote a paper in April 2008 about Iceland’s banking sector, warning of the collapse, although it wasn’t until after the banks were taken into administration that the paper was published.

The University of Sussex, however insists that when the investment was made that it was in complete accordance with the University’s policies and procedure. Alan Spencer, Director of Finance at the University of Sussex states: “At the time the deposit was made, the criteria set by SRC and council in credit ratings terms and size of deposit were met in full.” This financial venture therefore was one that wouldn’t be considered especially risky. Alan Spencer also emphasises that, “In practice, there has been no confirmed loss yet,” as there is still a possibility that a portion of the deposit will be returned.

Two members of the Economics Department at the University of Sussex both agree that although there were some doubts about the stability of the Icelandic banking system, it was not known for definite and certainly was not common knowledge. If this had been the case then it would be highly unusual for so many institutions to have invested such large sums of money in Iceland. Some establishments were fortunate enough to take these doubts, although not solid evidence, as a warning sign of future trouble. In his article about the collapse of the banks in Iceland Professor Willem Buiter raises the interesting point that, “There is no such thing as a safe bank,” although it is still uncertain whether this banking venture was one that had very obvious risks.

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