The Icelandic Government has reached an agreement ad referendum with a mission from the International Monetary Fund (IMF) on a comprehensive stabilisation programme. Iceland has reached agreement ad referendum with a mission from the IMF on an economic stabilisation programme that could be supported by a stand-by arrangement with the fund. The mission will now return to Washington to get approval of this programme from the IMF’s management. The Icelandic prime minister is confident that the IMF’s management will support the programme and submit it for approval by the IMF’s excecutive board as soon as possible. The economic program will be supported by an SDR1.4bn (US$2bn) loan under a two-year Stand-By-Arrangement. Iceland would be able to draw SDR560m (US$830m) immediately after the Board approval. It is also expected that an agreement with the IMF will encourage lending from other sources.
The objectives of the programme are as follows:
- Restore confidence in the Icelandic economy and stabilise the Icelandic krona through a comprehensive and strong macro-economic program;
- Restore fiscal sustainability and prepare a strong medium-term fiscal consolidation programme;
- Implement a sound banking strategy to re-establish a viable banking system to support the Icelandic economy.
The short term stabilisation of the exchange rate is essential in order to get inflation under control and normalise business conditions, particularly with regard to foreign trade. This will be achieved by reintroducing a flexible exchange rate regime backed up by strong foreign currency reserves and the full commitment of the Central Bank of Iceland to apply the means necessary to get the desired results. Given the relatively large depreciation that has already taken place, and the contraction in domestic demand which is expected, there is little doubt that following the initial stabilisation period, a significant currency appreciation is to be expected. However, the exchange rate may show considerable volatility in the beginning, which the programme is designed to address. Another main objective of our program is to create sound fiscal strategies given the extraordinary challenge that public finances in Iceland are now facing as a result of the cost of bank restructuring and the inevitable revenue loss as the economy slows down. To obtain the fiscal objectives there will be a need to limit the discretionary relaxation in the current budget proposal and to implement significant tightening of the structural balance in the medium term, which is a necessary precondition for a sustainable growth path of the Icelandic economy. Finally, our program aims to facilitate the creation of a sound banking system for Iceland by a series of reforms regarding operational procedures as well as a revision of financial regulation in accordance with international best-practice. This will include, among other things, revised articles of bank insolvency as well as general insolvency rules.
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