Table of Contents
This report looks at the effect of Icelandic banking crisis on UK local councils. Local authorities are the various councils in the UK.
The first part of the report will be looking at the literature review of the topic. This review gives a definition of the bank crisis and the various crises that have happened in the past four centuries. It gives an overview of crises and their occurrences over the past years. The second part of the review gives an overview of past financial crises that have occurred in the past centuries and their causes. It will also give an overview of the greatest crises that have occurred, such as the Great Depression, and also how the central banks were created, as well as a further look at how central banks like the Bank of England was founded and the role they played during crisis periods. Bank crisis has been a much-discussed topic, especially in the last 120 years, because of the irregularity of regulations placed on banks. Bank crises are mostly accompanied by a fall in the stock market because of a reduction in the value of assets owned by the banks (Gale, 2008). Such economic phenomena, including bank crises, were well known to take place in emerging economies and developing countries, but this changed completing in the later part of the 20th Century and the beginning of the 21st Century. Government authorities have tried for more than a century to set strict regulations for commercial banks to follow in order to prevent banking crises, but this has proven to be of little success as is evidence by the collapse of several banks in the last few years. The creation of central banks in countries like the UK and Sweden was enacted to prevent a crisis that may affect the world’s economy. The creation of the Bank of England, which acted as the government banker to prevent any crises, was one of the steps taken by the government in the past.
Most blame the United States of America for the crisis the world is facing today, but forget to look at the wrong moves most of their banks have made and those bad investment decisions taken by them and others. Countries such as Sweden, the UK, the USA, Switzerland and Luxemburg have gained experience in banking services over the past years and know how to set regulations to prevent investors and local government from losing their money. This is not the case with Icelandic banks. Iceland was a country that was dominated by tourism and forestry and had little experience in the banking industry; fishing was what Iceland was traditionally known for. The country decided to turn its economy around by relying on 75% of its total income from banking by creating three major banks: Glitnir, Landsbanki and Kaupthing and investing in different overseas countries such as the UK and The Netherlands (BBC.co.uk, 2008). Their regulations were not strong enough to protect the banks from going under and the banks did not have a good experience from carrying out business overseas. The Icelandic banks grew so fast that they attracted a great many depositors and this gave it an advantage in exploring the EEA market. This reputation did not last for long as the banks were in the situation of not being able to pay their loans they had got a result the fall of Lehman Brothers where Glitnir had most of its investments (BBC.co.uk). This fall led to twin crises that affected both banks and the exchange rate of the country’s currency. Countries in the UK were affected by the Icelandic banking crises. Local authorities like councils and charity organisations also felt the impact of the fall of the Icelandic banks. Many councils – somewhat irresponsibly – deposited money in Kaupthing and Landsbanki branches in the UK because of the high return the banks were offering customers. Council finance directors, financial advisors, and financial journalists et al, never seemed once to question how banks from Iceland, a country with such a small population and no tradition of banking, could offer such high interest rates or whether the risk was high. The banks fell as fast as they rose to become the fastest fall of banks in history. This put the government on high alert for a bank crisis and it tried to recover depositors’ money. Individual depositors have more advantage in a situation like this than local councils as their deposits may well be guaranteed to a certain level. Local councils lost a lot of investment in these banks – millions of pounds – and it has affected them and their budgets in many ways.
The second part of this report looks at research methods for this report in order to answer the research question. The research will be done by collecting secondary data from websites, journals and books to help answer the question. This will give a clear understanding of what happened immediately after the crisis and how it has affected local government in the UK both in the short-run and long-run. The limitations of the research method will also be given.
UK councils, charities and other authorities invested a large amount of their money in the Icelandic banks. The main focus of this report will be discussed in part 3. This part details the effect of the Icelandic banking crisis on local government. Most of the problem is about the lack of trust and confidence the council will be facing from the local community who will ultimately pay for the stupidity and arrogant and irresponsible risk-taking of those supposed to be investing public money responsibly. Despite warnings, some local councils still went further to invest in the banks making the problem more severe in the eyes of tax payers. The provision of services the government had made plans to carry out in its community will be limited.
Finally, a conclusion and some recommendations will be given on how the government and the local council can overcome the problems they are facing as a result of the bank crisis and the lack of trust from the public. This will be a combination of ideas to bring the local government and the community together in order to go through this crisis period.
A banking crisis is a severe financial distress capable of resulting in an erosion of most and even all of the capital in the banking system (Gale, 2007). Bordo et al (2000) identified four periods where banking crises prevailed which include; Golden Era (1880-1913), the Inter War Years (1919-1939), Bretton Woods Periods (1945-1971) and recent Periods (1973-1998). Twin crises occur when there are both bank and currency crises occurring at the same time causing more severe crises than each crisis occurring on its own at different times (Gale, 2007).
Over the last three years, both the government and the public have lost confidence in the banking system because of its fall. The economic downturn today comes arguably as a result of crises over the 120 years lasting on an average of two to three years costing five to ten percent of GDP which could be worse in the case where there is recession associated with the crises (Gale, 2007). There is always a fiscal cost associated with crisis which is the amount the government will have to spend to recapitalise or reimburse banks and depositors (Gale, 2007).
Despite the government’s effort to eliminate crises, people tend to question government inconsistent macroeconomic policies and therefore believe that the recent economic crisis is caused by governments themselves (Gale, 2007). The recent crisis was caused by a number of factors that include: a steep decline in economic activities due to large losses, bank collapses and exchange rate falls which damages the net worth of those who borrow in foreign currencies (Honohan and Laeven, 2005). A fall in industries just like the real estate industry that plays a great part in the net worth of borrowers and which will reduce the value of their collateral and therefore cause a fall in the loan market (Honohan and Laeven, 2005).Since the year 1933, many economic theories have supported the banking system and have considered it to be super-safe (Rothbard, 2006). This is not the case today as the collapse of the real estate market has greatly affected banks today causing bank assets to go down (Rothbard, 2006).
Economic crisis in not limited to emerging economies like Indonesia, South Korea and Thailand that experienced great economic crisis with a significant fall in their GDP and currency and stock market plunge in 1971 (Gale, 2007). The most dramatic situations concerning financial crises happened in the first half of the 20th Century with The Great Depression in the USA and the bank crisis in the 1930’s and the Market Crash in 1929 (Gale, 2007). Due to the crises faced during this first half of the 20th Century, particularly The Great Depression, the central banks like The Bank of England learnt to prevent such crises (Gale, 2007). The Bank of Sweden and The Bank of England were the first central banks to be created in the 1660’s that later helped in the 18th and 19th Centuries, like in the Overhead and Gurney Crisis that hit the United Kingdom in 1866 (Gale, 2007). The Bank of England was not a central bank before the 18th Century, but it strived to gain its reputation over the years by acting as a banker for the state and as one of the City of London’s major financial institution to develop its characteristics as a central bank to help minimise crises in the 18th Century (Fforde, 1992; Roberts and Kyaston, 1995).
During panic periods, people withdraw money from banks and held it as currency because they worried about the banks in which they had made their deposits (Gale, 2007). Countries such as the UK experienced fewer banking panics between 1870 and 1933 because of experiences gained in the past through the Bank of England and their ability manipulate discount rates (Gale, 2007). The USA did not have a central bank from 1836-1914 and therefore failed to develop extensive branch networks and encourage free regulations in the banking system leading to serious banking panics and economic disruption in 1837 and 1857 (Gale, 2007).
The various governments had to step up to solve these crises that happened in the 1930s by allocating funds to different industries through banks that were owned by the state and those that where heavily regulated (Gale, 2007). As years went by, crises became more difficult to manage as it was caused by not just one but many factors including lack of formal bank regulations, contraction in lending in the property market, expansion of interbank market and mismanagement of risks by banks (Singh, 2007).
The frequency of economic crisis since 1971 is no different to that before 1914 with an occurrence of a 10 year interval over the last 400 years (Bordo et al, 2000; Kindleberger, 1993). The central banks have always made sure to eliminate panic which has always been associated with a decline in economic activities (Gale, 2007). The crisis that hit in the 19th Century caused a lot of theories to be developed in order to prevent the situation. One of the most influential writers, Bagehot, described three ways banks should lend (Gale, 2007). The first is to lend freely at high interest rates to those with good collateral, secondly, valuing assets at between panic and pre-panic period prices, and lastly by allowing institutions with poor collateral to fail (Gale, 2007)
Many have blamed the USA over the past centuries for the financial crises because of the inefficiencies in its banking system which led to creating the Federal Reserve System in 1914 with a regional structure and a decision making power which was decentralised and later changed to help prevent panics (Gale, 2007).
There is a strong relationship that exists between bank crises and the stock market with evidence of four major banking panics that have been identified and accompanied by a crash in the stock market in the past, before the First World War (Gale, 2007).
The low stock prices in the years 1873, 1884, 1893 and 1902 were caused by banks giving out loans to borrowers causing them to drop the prices of their collateral to pay back their loans when asked by the bank, leading to a fall in prices because buyers of the collateral did not have enough money to pay at the time of sale (Gale, 2007).
Bank crisis in the UK is not a strange climate because in 1966 this was the experience faced by banks when bank rates were raised right up to 7% which was the second time in two years which led to high unemployment rates, a decline in industrial production and operation below capacity (Wodsworth and Bank, 2006).The UK government also tried to implement some measures to control the crisis by calling for a comprehensive standstill for six months wages and a further six months severe restraint (Wodsworth and Bank, 2006).
The year 1968 was the most memorable year of the post war period that had to do with eventful and monetary affairs in the UK when Sterling went down and bank rates went up again to 8% despite government efforts to drop interest rates (Wodsworth and Bank, 2006). The Banks of England acts as primary banker to the central government by performing functions like managing majority payments made between the government and the rest of the economy, therefore any crises the banks face will affect local government (Gilbody, 1998)
Iceland was ranked the most developed country in 2007 by United Nations’ Human Development Index after it changed to near sole dependence on its financial services for economic development (Parliament.co.uk, 2009). The question many would be justified in asking here is why a country which depended mostly on tourism and forestry and which had so little experience in the financial service would want to take such a great risk. In just a short period, the country starting facing big crises with a fall in exchange rates and banking system also known as the twin crisis (Parliament.co.uk, 2009).
There were three main Icelandic banks; Glitnir, Landsbanki and Kaupthing which held around 85% of the total banking assets in the country before the collapse of banks in Iceland which were monitored by the Financial Supervisory Authority and had a consolidated asset increase from 100% of GDP in 2004 to 923% in 2007 with 50% of their assets held abroad by the end of 2007 and 75% of borrowing dependent on the whole sale market (Kaupthing.com, 2007; Parliament.co.uk, 2009). The Icelandic Banks’ rapid growth created a quicker and easier opportunity for the banks to enter other European countries which was facilitated by the fact that it is a member of the European Economic Area (EEA) (Fridriksson, 2009; Parliament.co.uk, 2009).
The collapse of Glitnir came to the open when the bank had to pay a large amount on its loan and had to be done my liquidising its assets (Parliament.co.uk, 2009). This fall was caused by the fall of Lehman Brothers in which most banks like Glitnir has invested and were forced to write off their Lehman related investment and eroding access to funds leading to falling equity prices, frozen credit and money markets, and Glitnir’s inability to renew its loan (Parliament.co.uk, 2009). Landsbanki bank also followed a week later with problems of large loans sought by both Glitnir and Landsbanki of €4 billion from Russia, that even the Icelandic government could not manage (Mason, 2008; Parliament.co.uk, 2009). Landsbanki was closed with about €4 billion of retail deposits in its UK branch (Parliament.co.uk, 2009)
Graph 1; External debt position of Iceland (percentage of GDP)
Source; Parliament.co.uk, 2009
The graph above shows how much icelandic banks owed to foreign depositor in their banks. This amount continued to increase and the banks expanded to other European countries and having a good reputation at the begining. This was encouraged by credit rating agencies by telling local authorities these banks where realiable in their operationgs.
Iceland has faced serious economic crisis due to the failure of its over-extended banking system with its three largest banks; Glitnir, Landsbanki and Kaupthing having a combined debt of six times the nation’s GDP of €14 Billion (Danielsson, 2009). After Iceland decided to lay their economic future mostly in the hands of the banking future, the country decided to privatise and regulate their banking system, therefore developing in to a gigantic hedge fund and the banks grew to about 10 times the size of their economy (Danielsson, 2009). Icelandic banks tried to copy this method of economic success from countries like Switzerland and Luxemburg but failed to understand that despite government support Icelandic got, these countries have experienced running banks for centuries and the Icelandic government as cheerleaders and not as responsible authorities (Danielsson, 2009). This means the Icelandic banks lacked experience in banking like other countries in order to create an economy that is dependent on mostly its banking sector. Icelandic banks got it all wrong when they decided to start borrowing from other banks, opening high interest saving accounts with other banks in Europe, and providing liquidity from European savers (Danielsson, 2009).
Graph 2; Chart 4: Foreign deposits at Deposit money banks (Millions Króna)
Source; Parliament.co.uk, 2009
The graph above shows the amount of deposits Icelandic banks made overseas, They were too sure about their operations and were forgetting about whether exchange rates were going to drop or not.
Icelandic banks did not realise the wrong and irresponsible decisions they were making because it all happened before the global economic crisis became serious, which in turn made them more vulnerable because of the high risks they took coupled with inadequate management and insufficient supervision from the government (Danielsson, 2009).
Salaries froze and are even falling today; the economy is expected to contract by up to
about 10% in 2009 and even more in 2010; falling tax revenues and increased demand for government services are all problems being faced by the government today (Danielsson, 2009).
Despite warnings from other foreign governments for a regularised system, the Icelandic government paid little attention to these warnings and could only reply by telling them everything would work out alright (Danielsson, 2009). In October 2008, the banks collapsed and this affected the economy greatly, more than it would have done if the Icelandic government had listened to warnings from foreign governments and taken action to wind them down in an orderly manner (Danielsson, 2009). This fall led to a twin crisis with a fall in both the banks and currency.
Graph 3; the exchange rate between the Icelandic Króna and the Euro (Króna/Euro)
Source; Parliamen.co.uk, 2009
The Graph above shows the exchange rate between the Icelandic currency, the Krona, and the Euro over 10 years. It could be observed that the Krona gained a lot of strength from 2006 right until around October of 2008 when the banks started failing.
This collapse needed the attention of the IMF to help the country to support its exchange rate by implementing strict controls on exchange rates (Danielsson, 2009). Being in a situation like this affected the country severely as their debts exploded causing many companies to fail leading to massive lay offs (Danielsson, 2009). The Icelandic government fell and the value of their currency plummeted, leading many to wish they’d joined the EU and the Euro.
Despite all this, the government still argues that economic crisis in Iceland was caused by the global credit crunch – essentially, this is arguably called ‘passing the buck’.
This looks at the various methods and data used to study this topic and also quantitative and qualitative approaches that are carried out to come up with a possible answer to the research question.
The research question is; “Investigation into how Icelandic Banking crises affected local authorities in the UK”. This research will be done by carrying out secondary research on the impact the Icelandic banking crisis has had on UK local authorities.
This looks at the various cases where bank crises have affected local government. This will include collecting secondary information from journals, books and websites to analyse the impact of bank crises on local authorities. This information has been collected and analysed using secondary information written by various writers on similar topics.
This will also cover studies from local government: local councils and authorities. This will include analysis of the information being provided and various ways local government is coping with the situation. This research will also involve how the banking crisis has affected individuals through these local authorities.
This date analysis will involve collecting secondary data and analysing them. This second method involves quantitative data being used. These data will show the impact of the crisis on the banks themselves using graphs.
This research is limited to secondary data information with no primary data being collected. Primary data has not been provided because of the lack of access to reliable sources holding such information and also because most of the information needed can be got from the secondary data. The main assumption of this report is by considering local authorities to be mainly local councils.
Icelandic banks decided to expand to the United Kingdom just like other European countries which led to complexity and confusion in the structure of ownerships (Parliament.co.uk, 2009). Icelandic banks like Landsbanki Island operated in the UK under the name Icesave and under the FME regulation not the UK’s Financial Service Authority (Parliament.co.uk, 2009). Kaupthing also took over Singer to form a UK investment bank called Kaupthing Singer and Friendlander which was regulated under the FSA and protected by the UK’s Financial Services Compensation Scheme (FSCS) (Parliament.co.uk, 2009). These two Icelandic banks became attractive banks for depositors in the UK retail saving market by offering competitive rates and return of one their products and on depositors’ money (Parliament.co.uk, 2009). The impact of Icelandic banking crisis started affecting UK in October 2008 when the bank announced customers could no longer deposit of withdraw money from the bank because it was being taken in to receivership (Parliament.co.uk, 2009).
British firms invested a total of £12 billion in Icelandic banks while over 100 local authorities in the UK deposited almost £850 million in these banks and 60 charities deposited £120 million (BBC.co.uk, 2008). There have been great concerns if banks like Kaupthing have enough assets to pay local authorities and charities with concerns also on the financial damage it might cause councils as they fight for councils to be guaranteed as personal customers are (BBC.co.uk, 2008).
Councils like Aberdeen City Council signed a deal with Landsbanki to partly fund seven of its new primary and two secondary school buildings, but the building work was suspended when the bank was taken under Icelandic government control (Cramb, 2008). This affected the council in so many ways despite the fact they did not invest any money in the bank. The development in the educational sector will slow down as building of the schools will be stopped for the moment. This will change the council’s development plans for the Aberdeen area and also reduce the people’s confidence in their local council as they cannot meet their targets or make right decisions concerning their finances. Another Scottish council that invested in the Icelandic banks is North Ayshire council. They invested £15 million in both Glitnir and Landsbanki, the highest investment by a local council in Scotland (Cramb, 2008). Other Scottish councils that invested in the Icelandic banks include South Ayrshire (£5 million), South Lanarshire (£7.5 Million) and Moray Council (£2 million) (Cramb, 2008). A total of 123 authorities deposited an amount of over £900 million in Icelandic banks which are about 3% of local authorities’ total deposits (Parliament.co.uk, 2009). Most of these councils were not advised not to invest money in such banks; the government could not stop them because local authorities in the UK are allowed to invest in whatever opportunity they think best as long as they spread their risk according to the Chartered in statute of Public Finance and Accounting regulations (Parliament.co.uk, 2009). Councillors depended on credit rating agencies to advice them on the credit rating of the banks, but despite warnings given by these agencies in May 2008 concerning poor credit rating of Glitnir and Kaupthing, some local councils still deposited a total of about £32.8 million in these banks a few days (Improvementnetwork.gov.uk, 2008; Parliament.co.uk, 2009). One wonders what the point of local government finance directors may be if they are making such irresponsible decisions and mismanaging taxpayers’ money so very badly; councils’ money would indeed have been safer under the proverbial mattress.
The five top deposits by councils in the UK were as follows (BBC.co.uk, 2008)
- Kent County Council – £50 million
- Nottingham City Council – £42 million
- Haringey Borough Council – £37 million
- Norfolk County Council – £32.5 million
- Dorset County Council – £28.1 million
All these created panic within the council as employees were not sure of their jobs and the council could not function well and faced short term difficulties especially with cash flow. In Kent county council, leaders were asked to resign for making bad decisions on investments and trying to blame the Labour Party for their mistakes (kentnews.co.uk, 2008). The Conservative Party also warned that the crisis will affect the amount and quality of services that the council will provide to the community (kentnews.co.uk, 2008).
Local authorities get loans from banks to invest in real estate during periods of building boom (for example the building boom of 1930); therefore the bank crisis will definitely affect mortgage finance and bank lending for construction (burden and Campbell, 1985).
The council provides a lot of services to communities and to central government. The main problem councils are facing after the Icelandic bank crisis is insufficient amount to carry out these activities and gaining the trust of taxpayers again. A lot of these councils have already made plans on the deposited amount in the banks and their returns. This will mean changing their budgeting plans and changing the budgets. Money that was invested in banks might have been used for other purposes in the year 2009 or 2010. All these planned projects will be suspended while the local government look for other ways to meet the financial needs of these projects. Most government authorities have fixed budgets and therefore a disruption in the budget might be more costly as they will have to amend their budget and come out with a different one. This will include employing ‘experts’ to amend the budgets.
Taxpayers are taking this more seriously because the deposits made are taxpayers’ money which is supposed to be used to develop and provide services in the community. This situation has raised a question mark about the way the government – local and national – handles finances. The government has been facing a lot of scandals over the past year concerning how taxpayers’ money is being spent and if the government is doing the right thing to make sure that those handling the finances are well trusted individuals. This has become a major concern in the UK today. Therefore, for a council such as Kent County Council to lose £50 million to a bank after being warned is something taxpayers may well call irresponsible and evidence of lack of experience and management skills or perhaps downright incompetence. It will take a long time for taxpayers to have confidence in the system again.
The effect of the crisis will not affect local authorities in the short run, but if councils do not recover this amount quickly, they might be greatly affected in the long run because jobs might be cut leading to unemployment as the council will not have enough cash flow to pay all its employees. These job cuts might lead to work over load because those vacancies will have to be done by those still working in the council. The council is also finding it difficult to provide some quality services to its community. This is as a result of lack of sufficient cash flow to provide services like housing and quality services to the community which is causing a lot of problems with its citizens today.
The impact of the bank crisis on local authorities cannot be blamed solely on the Icelandic banks; local authorities whose financial directors made the arguably reckless decisions to invest in these banks also bear responsibility here. Local authorities presumably carried out investigations on how experienced and trustworthy these Icelandic banks were before investing in them, but the high interest rates offered seem to blind them to the reality of risk. Failure is arguably not something many companies or organisations are encouraged to think of, but, in cases such as these, investors should know what might happen if the banks go bankrupt, especially when it comes to overseas banks. The impact of the bank crisis would have been less significant if local authorities had considered warnings given by the government and credit rating agencies about the banks in August and September of 2008: surely, that is one of the roles financial managers are expected to fulfil for their substantial salaries? Instead of investing more money in the banks, local authorities should have taken the advice and withdrawn their investments; the question is, why on earth didn’t they? ‘If something looks too good to be true, then it probably is’ would have been a good mantra financial directors could have kept in mind at all times. Another motto: ‘what goes up, must come down’ would also have made them realise that banks growing too fast may also fall just as fast because they hadn’t gained all the necessary experience, and may have woken them up to reality and the need to sensibly manage public money and not take such huge risks, or at least to spread the risk. Investment should, of course, always and regularly be monitored by investors because there are risks being taken. Investors have to know when a company is going down by either hiring an agent to evaluate the risks or by carrying out the evaluation themselves. This might have reduced the impact of the bank crisis on local governments.
The banks and the government of Iceland arguably made some bad decisions from the beginning right to when the banks failed. The first mistake the government made was creating an economy that depended so much on its financial services – they, like some local authority financial directors investing in them, put ‘all their eggs in one basket’ and ultimately got that egg on their face, even though the eggs were not even theirs! Allowing banks to carry out activities overseas put them at greater risk, the risk here being the risk of returning what has been invested by foreign companies or local government authorities. A lot of people now seem to feel that the banks should consider local government investment as individual investing in the banks – (as the money belongs of individuals) – and therefore should be paid back what they invested in the banks. If this were taken into consideration, local authorities would arguably not have been affected as much as they have now. They would have got their investment back without losing the citizens’ confidence.
This report has given an overview on banking and economic crises making references to the one of the biggest crisis today, the Icelandic banking crises. This report has looked at some past cases of economic crises including The Great Depression and also the creation of central banks to prevent crises in many countries. It also looked at the various decades and centuries in which the world has faced its biggest crises. The main focus of the report was to look at the Icelandic banks and how their collapse has affected UK local authorities. The report also looked at the Icelandic banks as a whole, their success and why they failed so as to give a clear idea of why local authorities in the UK have been so affected by this crisis. This later looked at the research method to be used in order to come up with the answer to the research question which was to collect secondary information from journals, websites and books to give clear qualitative information about the finding and the problems these councils face.
Looking at the information given in the report, it could be seen that councils have found it very difficult to manage with a situation like this especially when it come to trust. The council can organise voluntary schemes for the community to help them out. Aberdeen council has indeed asked the community to contribute something to the building of the schools that were already in construction via now worthless deals with the banks. This can help the council to reduce further cost it is going to incur in building these schools as it already owes large sums of money.
However, councils cannot rely just on those in local communities to help out to solve their cash flow problems. They also have to put pressure on central government and the banks to refund what they deposited – though their finance directors chose to deposit the money there and many did not distribute risk amongst many banks but just put all their money in the banks with the highest interest rates – which even a novice could perhaps recognise as the most risky option. Councils have to ask to be treated like individuals who also invested their money in the Icelandic banks. They should perhaps also get back what they invested in the bank as individuals have also got theirs. This can be done with the help of the government. The government can help by putting more pressure on the Icelandic government and treasury to sell the assets of these banks and pay the councils as soon as possible so that the councils to carry out their activities as planned. The council can also encourage taxpayers to help them protest against such delays, and put pressure on the bank and the government to make sure that their money will not mismanaged and will be returned.
The government should also set highly regularised and strict laws to any bank that operates in the UK in order to protect its local councils and home base industries from such crises. Also, decisions made by highly-paid finance directors in local councils should be looked at closely. Councils should be obliged by law to invest just a small amount in such risky foreign banks and they should instead be encouraged to invest more in UK banks and low risk ventures. This can be done by providing a high return to investment by UK banks to local investors. Local councils should not be encouraged by the government to invest in foreign banks. The government can also create laws that foreign banks would have to act under and be controlled by any other UK bank. In short, much more regulation is needed.
The main point here will be that these strict laws will restrict local councils from depositing taxpayers’ money in banks that may offer high rates of return such as Icelandic banks before the fall, but which may be high risk. Crises are sometimes, if not always, difficult to predict especially in a situation like this where the banks are very successful and have attracted so many overseas investors, and which have high ratings from various banks and financial agencies. Investors, including councils, should always check with their credit agencies and get frequent information about the banks they are investing in – and this was arguably not done sufficiently by local councils in recent years. The risk should also always be spread and all the ‘eggs’ not put in one ‘basket’ – all of which is basic common sense, after all. Everyone likes to take opportunities, especially those which can offer a high return, but if they are highly risky then those responsible for our money in local councils should not gamble so recklessly with what is, after all, public money. This will be a lesson local council will hopefully learn from the present crisis, and which all future financial management in local government will now bear in mind.
Graph 3; the exchange rate between the Icelandic Króna and the Euro (Króna/Euro)
Source; Parliamen.co.uk, 2009
External debt position of Iceland (percentage of GDP)
Source; Parliamen.co.uk, 2009
Chart 4: Foreign deposits at Deposit money banks (Millions Króna)
Source; Parliamen.co.uk, 2009
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