Recovering from Neoliberal Disaster:
Why Iceland and Latvia Won’t (and Can’t) Pay the EU for the Kleptocrats’ Ripoffs


by Prof. Michael Hudson
Global Research, August 17, 2009


Can Iceland and Latvia pay the foreign debts run up by a fairly narrow layer of their population?

The European Union and International Monetary Fund have told them to replace private debts with public obligations, and to pay by raising taxes, slashing public spending and obliging citizens to deplete their savings.

Resentment is growing not only toward those who ran up these debts – Iceland’s bankrupt Kaupthing and Landsbanki with its Icesave accounts, and heavily debt-leveraged property owners and privatizers in the Baltics and Central Europe – but also toward the neoliberal foreign advisors and creditors who pressured these governments to sell off the banks and public infrastructure to insiders.

Support in Iceland for joining the EU has fallen to just over a third of the population, while Latvia’s Harmony Center party, the first since independence to include a large segment of the Russian-speaking population, has gained a majority in Riga and is becoming the most popular national party. Popular protests in both countries have triggered rising political pressure to limit the debt burden to a reasonable ability to pay.

This political pressure came to a head over the weekend in Reykjavik’s Parliament. The Althing agreed a deal, expected to be formalized today, which would severely restrict payments to the UK and Netherlands in compensation for their cost in bailing out their domestic Icesave depositors.

This agreement is, so far as I am aware, the first since the 1920s to subordinate foreign debt to the country’s ability to pay. Iceland’s payments will be limited to 6 per cent of growth in gross domestic product as of 2008. If creditors take actions that stifle the Icelandic economy with austerity and if emigration continues at current rates to escape from the debt-ridden economy, there will be no growth and they will not get paid.

A similar problem was debated eighty years ago over Germany’s World War I reparations. But policy makers are still confused over the distinction between squeezing out a domestic fiscal surplus and the ability to pay foreign debts. No matter how much a government may tax its economy, there is a problem of turning the money into foreign currency. As John Maynard Keynes explained, unless debtor countries can export more, they must pay either by borrowing (German states and municipalities borrowed dollars in New York and cashed them in for domestic currency with the Reichsbank, which paid the dollars to the Allies) or by selling off domestic assets. Iceland has rejected these self-destructive policies.

There is a limit to how much foreign payment an economy can make. Higher domestic taxes do not mean that a government can turn this revenue into foreign exchange. This reality is reflected in Iceland’s insistence that payments on its Icesave debts, and related obligations stemming from the failed privatization of its banking system, be limited to some percentage (say, 3 percent) of growth in gross domestic product (GDP). There is assumption that part of this growth can be reflected in exports, but if that is not the case, Iceland is insisting on “conditionalitiesâ€