Iceland denies problems with cash floe

And you thought the markets had our leaders in a spin. Iceland's government is in emergency mode.

Last Updated: 06 Nov 2012

Prime Minister Geir Haarde has been appearing in New York, joined at times by Baugur executive chairman Jon Asgeir Johannesson, to reassure international investors that his beleaguered country is still a sound financial player. And now the Icelandic treasury is stepping in to rescue perceptions further, by conducting an Ikr10bn auction of short-term bonds, and issuing initial Ikr50bn certificates of deposit with special terms. The aim is to bolster short-term market liquidity, sending out the message that ‘everything is going to be okay really, no, honest’.

So why the concern? The Icelandic krona has hit a record low against the euro, and this week its central bank announced an unexpected 1.25% rise in interest rates, up to a staggering 15%, in a bid to restore confidence in the currency. The government has a current account deficit of 16% against GDP, and had to deal with inflation of 6.8% last month. Little surprise then that international investors may have questioned the country’s ability to handle itself should economic conditions turn even colder.

Here at MT we’ve always been keen Iceland watchers, observing with fascination as it transformed from dour, state-run volcanic wilderness to one of the world’s most acquisitively entrepreneurial nations. Especially when the looting arrived on these shores, with companies such as Baugur claiming large swathes of our high street.

But the Icelandic business model has its share of sceptics. There have been question marks over the sustainability of the high levels of cheap borrowing which funded its incredible overseas expansion. One native, who had advised on more than £1 billion-worth of deals for his fellow Icelanders, put it succinctly in an anonymous interview with the FT: 'Iceland is an over-leveraged hedge fund with all bets going in one direction – outside the country'. And with the credit cycle turning, the government has found itself in a position remarkably like that of the hedge funds right now – scrambling to reassure everyone that everything is going to be just fine.

And it’s being joined on its quest by Baugur, which has followed up its UK raids by eyeing the US, mulling a takeover of the Saks department store chain, in which it has an 8% stake. It has plastered on a brave face, claiming it’s impervious to developments at home, but its portfolio has been suffering. Its stakes in Woolworth, French Connection, Moss Bros, Booker and Debenhams fell more than £100m last year to £250m. And it won’t have been cheered by yesterday’s events at Debenhams – shares there tumbled 17% yesterday as one of its key investors, Merrill Lynch Private Equity, bailed out.

All of which suggests things are about to get even chillier in the Arctic Circle.

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