System Failure in Iceland and the 2008 Global Financial Crisis
Abstract: Financial manias and subsequent crashes are classic, recurrent and well documented side-effects of capitalism. In this paper we examine whether the explosive rise of modern banking in Iceland and the subsequent crash of the country’s financial system involved new or unusual features. We ask two main questions: First, how in less than five years did inexperienced local financers of this mini economy manage to become significant players in international capital markets? Second, why did Iceland’s entire financial system fail when the global credit bubble burst? The paper is organized as follows: First we briefly describe the institutional transition that took place in Iceland toward the end of the 20th century and during the first years of the 21st century, setting the stage for subsequent events. We then explain the financial bubble in terms of a chance concurrence of several factors that enabled the small country to enter international financial markets in a big way. The following section explains why the country’s three main banks collapsed simultaneously and crushed Iceland’s financial system. Finally we summarizes our results and briefly considers the economic outlook for the country.
