The Return of Trust?: Institutions and the Public after the Icelandic Financial Crisis [1 ed.] 9781787433472, 9781787433489

Trust is the fundamental facilitator between actors in society, yet the past decade has seen the public openly question

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The Return of Trust?: Institutions and the Public after the Icelandic Financial Crisis [1 ed.]
 9781787433472, 9781787433489

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Foreword Guðni Th. Jóhannesson


Editors’ Introduction Throstur Olaf Sigurjonsson, David L. Schwarzkopf and Murray Bryant


Part I: The Situation Chapter 1  Restoring Confidence in the Aftermath of Iceland’s Financial Crisis Gylfi Zoega


Chapter 2  Discursive Control Using Emotion and Economics During a Financial Crisis David L. Schwarzkopf and Throstur Olaf Sigurjonsson 


Chapter 3  Public Trust in Institutions in Pre- and Post-Crisis Iceland (I): Take the Lift Down, But Use the Stairs Up Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir


Chapter 4  Trust: Some Questions from a Layperson Einar Már Guðmundsson


Part II: Responses Chapter 5  ‘Not Just Crying About the Money’: Iceland and Globalisation During Boom and Crisis Kristín Loftsdóttir and Már Wolfgang Mixa


vi    Contents

Chapter 6  Restoring Trust in Iceland: Iceland’s IMF Programme Friðrik Már Baldursson and Richard Portes


Chapter 7  A Question of Trust: The Story of Reykjavík Energy Guðrún Erla Jónsdóttir


Chapter 8  Public Trust in Institutions in Pre- and Post-Crisis Iceland (II): Institutionalised Mistrust Sigurbjörg Sigurgeirsdóttir and Guðrún Johnsen


Part III: Moving Forward Chapter 9  Have Icelanders Learned Their Lesson? The Investigation of the Icelandic Collapse and its Aftermath Vilhjálmur Árnason


Chapter 10  Trust and Financial Services: The Impact of Increasing Digitalisation and the Financial Crisis Andreas Oehler and Stefan Wendt


Chapter 11  Post-Crisis Regulation and Supervision of Icelandic Banks Jon Thor Sturluson


Chapter 12  Restoring Trust Through Improved Corporate Governance and Adherence to Gender Quotas Audur Arna Arnardottir and Throstur Olaf Sigurjonsson 


Chapter 13  Governance Mechanisms Post-Crisis Murray Bryant, Throstur Olaf Sigurjonsson and Már Wolfgang Mixa


About the Authors





We call it the Collapse. In the Fall of 2008, in the midst of a global financial crisis, Iceland’s banking system fell apart. The effects of the international catastrophe were felt far and wide but we Icelanders were among those who were hit hardest. Yet it had all looked so promising. In the first years of the new millennium, the banks had expanded manifold. Supremely self-assured Icelandic businessmen (most of the key players were male) swelled in size as well, purchasing hotels and High Street stores, airlines and retail chains. Meanwhile, the public was generally content and unsuspicious. Wages and purchasing power increased substantially. Many people put their savings in money market funds and took out low-interest loans in foreign currencies, trusting the advice given that their investments were secure and that the króna would remain strong. People trusted the politicians and the entrepreneurs. We seemed to live in a golden age of daring, optimism and self-confidence. Some academics and opinion-givers praised the so-called Icelandic style of dynamic management and quick decision-making. Similarly, the authorities fancied Iceland in all seriousness as an international financial centre, and many bankers and business leaders portrayed themselves as modern-day Vikings and voyagers, daring and courageous, yet conscious of their honour and trustworthiness. Abroad, the big credit rating agencies were equally upbeat as they awarded Iceland’s banks triple-A (AAA) ratings and foreign depositors entrusted the banks with their lifetime savings. The self-assured Icelanders were trusted; the good name of Iceland had become a symbol of trust. And then it all collapsed. Before, there had been increased overseas warning signs of economic overheating and overexpansion, and concurrent scepticism and suspicion. Foreign governments, institutes and bankers, so happy and gullible before, began to lose faith in all things Icelandic, especially the financial institutions. Both at home and abroad, deposit-holders grew wary. A classic run on the banks ensued. The trust was gone. On the domestic front, the banks were too big to fail but at the

viii    Foreword

same time too big to be rescued. On the international scene, conversely, the Icelanders were considered too small to be saved, unless they accepted a monitored rescue package to put their house in order. Instead of an international financial centre, Iceland got international assistance. Pride comes before the fall. As the banks were weakening and then crumbling, hopes for concerted rescue efforts vanished in a panicky haze of finger pointing, self-centredness, distrust and denial. Healthy selfconfidence had turned into haughtiness. Thousands of people lost their savings, loans skyrocketed and unemployment rose sharply. The public took to the streets. Amid flames outside parliament and devoid of trust, the government resigned. The restoration process began. It centred on trust. A special prosecutor was given the authority to charge bankers and businesspersons and the courts handed out prison sentences. In general, the public felt that the legal system could be trusted. Also, a parliamentary commission investigated the causes of the banking crisis. While international factors were not overlooked, home-grown roots were highlighted, including arrogance and recklessness – the misuse of trust. In the outside world, the authorities embarked on a faith-building mission, avoiding previous tendencies to highlight the superior qualities of Icelanders in the world of global trade and banking. Furthermore, the collapsed banks were restructured but gone was the notion that they should expand and entice customers abroad. A certain humility was in order. And we weathered the storm. Almost a decade after the Collapse, the Icelandic economy has recovered. The Icelanders’ self-confidence is back as well, buoyed by a tourist boom and the visitors’ favourable impressions of the country and its people. Success in international football and other sports has also given us a welcome boost and Iceland is regularly near the top rank of surveys that measure welfare and prosperity, health and happiness. Of course, there is always room for improvement and reforms. Significantly, in one vital field trust is still lacking. So much more than the banks collapsed during those dire days in late 2008. People’s faith in politicians, political parties and parliament plummeted. Ever since, as surveys demonstrate, it has remained at a critical low. It is up to us all at public positions to work towards the restoration of trust in the political system. In that process, people will be measured by their actions. But any judgement must be fair, not spiteful or excessive. Likewise, key players before the Collapse can understandably be blamed for their mistakes and faults. On reflection, however, it was easy to get caught up in the mood of the times – and to explain is not to justify.

Foreword    ix

Finally, while self-confidence and optimism are welcome virtues, the boom years and the concurrent disaster must teach us the vices of complacency, conceit, falsehood and greed. Then again, this is nothing new. ‘The root of all temptations is avarice and greed’, wrote pastor ­Hallgrímur Pétursson in his 17th century Passion Hymns. ‘He whose words are always fair’, said the author of the ancient Hávamál, the wisdom of the heathen god Ódin, ‘is untrue and not to be trusted’. Guðni Th. Jóhannesson President of the Republic of Iceland

Editors’ Introduction

Reykjavík in the autumn of 2007 was an unusual sight for a visitor expecting a somewhat restrained and socially conscientious European capital. Instead of highly efficient automobiles, wary of costing their owners too much in petrol, there were SUVs and Hummers driving down the main shopping fares of Laugavegur and Skólavörðurstígur, with their studded winter tyres thrumming. The coffeehouses were packed with young people fashionably dressed (invariably in black), and on weekends the bars rang out with song from exciting young bands accompanied by lessthan-well-tuned patrons, who would continue singing from new hit to old standard to rousing football chant well after the sun had risen. Places that offered a chance to dance were packed – often with young Poles who had come to the country to work on one or another of the large construction projects that relied on Iceland’s natural resources. The more sedate had many new restaurants from which to choose, each one’s chef competing with new taste combinations and food designs to match the especially chosen serving-ware. And late in the evening over cognac, older couples would discuss with dear friends the value of their respective residences. Could they get one million US dollars? After all, we are in Reykjavík 101, the centre of the city. The sumarhús (summer cottage) could use some improvements, you know. Oh, and did you see our new car? We financed it in Japanese yen – such a better exchange rate, you know. Those of us in the city in the Fall of 2008 saw a frightening transformation. Our students came to class with their cell phones, checking with spouses or relatives on whether there was anything to procure at the grocery store, because everyone knew that no supplier was extending credit to the stores and so the shelves were growing bare. Breaks in class were times when students would call out to one another the latest krónato-dollar or króna-to-euro exchange rate, everyone inhaling deeply with the typical Icelandic ‘Herna!’ (‘Well!’) as their savings plummeted. The stores whose windows once proclaimed ‘Nytt!’ (‘New!’) now said ‘Útsala!’ (‘Clearance!’). Many closed in the coming months.

xii    Editors’ Introduction

We, the three co-editors – an Icelander, a Canadian and an American – personally experienced the growth of the Icelandic economy prior to 2008, the crash and the aftermath. We saw our friends, colleagues and students share with their fellow-citizens their feelings of anger, frustration, distrust, disbelief, doubt, personal isolation and loss of national identity. Now, 10 years on, Iceland is thrumming again. Coaches pull up to full hotels all year long. Whether it is to visit the natural and historic sites near Reykjavík (the ‘Golden Circle’ of Geysir, Gullfoss and Thingvellir) or to travel away from the city in the hopes of seeing the Northern Lights (really, why else would someone travel to Iceland in winter when there is barely four hours of daylight?), tourism is helping to restore the Icelandic economy. Of course, in between the crisis (kreppa) and the recovery lies a tale. The contributors to this volume are not only some of the storytellers but they have been active participants in helping the nation recover from nearly complete financial collapse. A nation that had been accustomed to being neglected in world news has gone from being the poster-child of the financial crisis of 2008 to an economic phoenix. So much for what the outside world sees. But within the country, how do things stand? As the reader will learn from the various contributions to this volume, many different players in national institutions – financial, general business, political – had led citizens into a set of beliefs that turned sour. It is no surprise, then, that the public’s view of these institutions was less than rosy. In fact, the trust that the public had in most national institutions plummeted even faster than the króna. The question is whether an economic phoenix can also carry with it a renewed public trust. It was with this in mind that we invited contributions to this volume. One can speculate that in a small democratic country, it is perhaps easier to believe that institutions are able to change more quickly than in a large nation. Such a rapid change could suggest that the society emerges from the disaster with a concerted will, a unified voice and a renewed spirit. As our contributors note, in some cases, trust has slowly been restored. In others, there is a long way to go, as changes in institutions and structures have been able only to partially remove distrust and restore a sense of the common weal. Many of our authors come to the same conclusion: Trust remains elusive and even once restored, it is neither stable nor universal, and so building trust is always a work in progress. Let us belabour the obvious: It is not just Iceland that has suffered this change in public reaction to public institutions. What lessons can we learn from one of the first (if not the first) nation to experience the financial

Editors’ Introduction    xiii

crisis, as those responsible for its business and political institutions try to recover the public’s trust? A look through the authors’ backgrounds ‘About the Authors’ will show that we have invited some of the best Icelandic scholars to focus their talents on this situation. Beyond their academic backgrounds, many of the contributors also have been involved in the practical implementation of change over the past decade. Thus, our volume may seem a bit unusual to those expecting a purely academic resource. While the scholarly thinking is sound, we have let our contributors talk freely of their practical experience. In exchange, we as editors have refrained from applying an overly scholarly stratum on top of the various contributions herein. For example, rather than discuss the voluminous literature on trust in this introduction, we are content for the authors to present the most relevant parts of the theory on trust in their articles. We have, however, endeavoured to provide the reader with a guide through the volume as he or she progresses. We include our summaries of the articles in each section as a preface to that section so that the reader can see the connections we consider important. Our hope is that the intelligent reader, even though not a specialist in financial or political matters, will gain some insights into the relationship between institutions and the public they purport to serve. The population of Iceland is presently around 330,000 people, with about two-thirds located in or around the capital, Reykjavík. This means that many experienced the collapse as a community. The reader will see that reflected in the chapters within, as our contributors often recount the same historical sequence of rapid growth in financial institutions, early warnings of problems (ignored), banking disaster, parliamentary special investigations, arrests and trials. Many authors continue this sad chronology with such current events as the release of the Panama Papers and even the most recent government collapse in September 2017. We have not tried to reduce any repetition in recounting this timeline, since it is important to hear each contributor’s view of the common experience. A brief introduction to the highlights of Icelandic culture may provide additional context for the reader. We borrow here from observations made in one of the co-editors’ earlier works (Arnardóttir & Sigurjónsson, 2017, pp. 78–79). Icelanders’ attitudes have grown to represent a balance between their Scandinavian roots and their exposure to US culture via contact with Americans and through American media. In line with Nordic counterparts, the people generally expect power to be more or less evenly distributed in society, meaning also that they expect people to be responsible for the decisions they take. As one can imagine for a

xiv    Editors’ Introduction

small nation whose inhabitants can trace their ancestry back, thanks to voluminous written records, immediate family and close friends matter greatly. Again, similar to other Nordic peoples, the country shows more of an attitude towards gender equality than is commonly seen in western nations. Other aspects of Icelandic culture show stronger parallels to American views. Icelanders can be stereotyped as risk-taking, pragmatic with an eye towards planning (but willing to adjust plans as needed) and willing to try new ideas. At the same time, there is a respect for tradition and an overall optimistic view of the future. There remain a few items to point out for one’s reading comfort. We have translated the names of most Icelandic institutions into English – thus, we use Central Bank rather than Seðlabanki. However, we have allowed authors to use Althingi and (Icelandic) parliament interchangeably. We point this out for those wanting to look for original sources. We also have had to decide about matters of Icelandic names and orthography. Most Icelanders are known by a given (first) name and a patronymic, although there was a period when Icelanders could adopt a true surname. Thus, Eirík Sigurðsson’s father is Sigurð and Eirík’s children would be, say, Vilhjálmur Eiríksson and Erla Eiríksdóttir. This leads Icelanders to alphabetise by first name. We, however, follow the Anglophone tradition of alphabetising in reference lists and such by the patronymic or surname. We have retained Icelandic letters in all citations and in the titles of Icelandic articles in the reference lists, with the exception of the Icelandic Þ or þ (an unvoiced ‘th’ sound) in authors’ names and in citations. In those instances, we have used ‘th’. Throughout, we keep the ð (a voiced ‘th’). For the curious, the vowels we have kept in Icelandic are: ‘æ’ (approximately pronounced as ‘eye’ in English), á (‘ow’ as in ‘how’); é (roughly an ‘a’ in ‘late’); í (as in ‘eel’); ó (as in ‘go’); ö (as the German umlauted equivalent, roughly as in ‘earth’); and ú (as in ‘rule’ – the u without an accent is the Icelandic equivalent of the German ü). There remains only the pleasant task to thank our authors for their time and energy, not just in providing these chapters but also in contributing towards the return of trust among the Icelandic public. We must also single out for thanks our editor at Emerald Publishing, Eve Hawksworth, for her guidance and patience, and for never losing trust in her occasionally delayed academic colleagues. Throstur Olaf Sigurjonsson, David L. Schwarzkopf and Murray Bryant

Editors’ Introduction    xv

Reference Arnardóttir, A. A., & Sigurjónsson, Th. O. (2017). Gender diversity on boards in Iceland: Pathway to gender quota law following a financial crisis. In C. Seirstad, P. Gabaldon, & H. Mensi-Klarbach (Eds.), Gender diversity in the boardroom. Vol. 1: The use of different quota regulations (pp. 75–102). ­Basingstoke: P­algrave Macmillan.

Part I: The Situation A Summary of the Chapters in Part I The macro-economic setting for the crisis. The foreshadowing. Data on the loss of trust. Reflection: What is trust after all? Taking an economics perspective, Gylfi Zoega looks at the actions that financial and political institutions considered in the immediate aftermath of the crisis – both the steps finally taken and those that never came to fruition. He provides background to the macro-economic conditions prevalent at the time, including the role of international financial arrangements. In contrast to the foundations on which bankers, politicians and citizens put their trust in the large banks, he points out the faults in those foundations that led to the banks being ‘not too big to fail, but too big to save’. The chapter includes a discussion of the effects on Icelandic monetary policy as a result of the crisis. David L. Schwarzkopf and Throstur Olaf Sigurjonsson apply social network analysis to Icelandic newspaper articles appearing in the first week after a 2006 report from Danske Bank that cautioned the Icelandic banks had grown too large too quickly. The analysis shows the fast growth of networks of arguments and actors that made it difficult for the public to appreciate the insights contained in the report. The actors included analysts, bankers and politicians, who made both economic and emotional arguments, effectively forestalling action on financial system reform during this ‘mini-crisis’. In hindsight, the delays proved costly as the country moved on to the full-blown crisis of 2008. In the first of their two chapters, Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir present their analysis of data from Gallup-Iceland’s annual surveys of individuals’ trust in political, financial, law enforcement and social service institutions. They help us see the rapid drop (the lift down) in trust shown across nearly all Icelandic institutions, and the slow rise (the stairs up) that is occurring as trust returns at uneven rates. As many contributors to this volume indicate, recovering trust is a work in progress. These authors show with data how drawn-out that process can be.

2    Part I

Einar Már Guðmundsson examines the crisis and its aftermath from the perspective of an individual trying to make sense of his time. He asks whether we would even have to talk about trust if there were already trust in society. With references to Brecht, Daðason, Norse poetry and the French Revolution, he draws our attention to the role of money and ambition in recent events, while calling on citizens and institutions to address those follies with fairness, transparency and openness.

Chapter 1

Restoring Confidence in the Aftermath of Iceland’s Financial Crisis Gylfi Zoega Abstract Following the collapse of the banking system in October 2008, the Icelandic authorities attempted to restore confidence in the country’s institutions, improve their functioning and gradually improve the country’s credit rating. The authorities took ownership of an International Monetary Fund-sponsored economic programme that managed to turn the macroeconomic development around when, following a trough in the summer of 2010, an economic expansion started that has continued ever since. They applied for membership in the European Union in order to show their commitment to be part of the international economic community and to have a lender of last resort in the European Central Bank in future crises. The causes of the collapse were investigated and many bankers were prosecuted. Finally, financial regulations were made stricter and the structures of the Central Bank and the supervisory authority were changed for the better. The net effect was to lower the credit default swap rate on the government’s debt, gain access to capital markets and make the Iceland story one of resurrection rather than only hubris and collapse. Keywords: Currency crisis; Icesave; institutional investors; international finance; International Monetary Fund; monetary policy

The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 3–28 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181001

4    Gylfi Zoega

Introduction This chapter is about the attempts of the government of Iceland to restore trust and confidence in the country’s economy among international investors and creditors as well as among the local population following the financial crisis of 2008. The crisis involved the collapse of all three major banks in the economy, a currency crisis, inflation and unemployment. In effect, this was a perfect storm that received a lot of attention in the international media. In restoring confidence in the economy, the authorities attempted to be able to liberalise capital flows, borrow at reasonable rates and negotiate affordable settlements with creditors. The collapse of the banks in October 2008 had destroyed what remained of trust and confidence in the local financial system as well as trust in the national government. It therefore became a priority to rebuild this trust. Building confidence involves an interaction between sound policies, an incentive structure that leads one to believe that those policies will be implemented over the long term, and good public relations about those policies. The Icelandic authorities were challenged on all three fronts in the years that followed the collapse. The flow of capital into Iceland during the period from 2003 to 2008 slowed in 2007 and stopped completely in the spring and summer of 2008, resulting in the collapse of the banking system and a currency crisis. Prior to this sudden stop, the inflow had taken the form of international bond issues by domestic commercial banks, borrowing by domestic holding companies from foreign banks and ‘hot money’ in the form of carry trade.1 As it became increasingly difficult to borrow in foreign capital markets in 2007 and 2008, the domestic commercial banks faced liquidity problems and the prospect of default. The carry trade unwound in 2008 when owners of domestic-currency bonds amounting to around 40% of gross domestic product (GDP) tried to exit the currency, resulting in a sharp depreciation. The domestic stock market also fell dramatically because of the credit contraction, having been driven more by credit and speculation than by fundamentals. This made a significant part of the collateral behind the banks’ lending worthless, undermining their solvency. Thus, insolvency and illiquidity were intertwined in the collapse of the banking system.2 1

Carry trade involves an entity borrowing at low interest rates in order to invest in vehicles carrying higher interest rates that pay out farther in the future. For currencies, fluctuations in exchange rates can make the future prospects turn out to be less advantageous or can increase the current costs of borrowing. 2 See Einarsson, Gunnlaugsson, Ólafsson, and Pétursson (2015, 2016) on the history of financial crises in Iceland.

Restoring Confidence    5

The boom and bust of the Icelandic economy had all the characteristics of a sudden stop of capital inflows, similar to those affecting Chile in 1982, Thailand and other East-Asian countries in 1997 and Greece, Ireland and Spain in the 2000s.3 Capital inflows preceded all these events and in Iceland these flows became very large in the first decade of the century due to very low US interest rates and current account imbalances globally. For example, as shown by Katsimi and Zoega (2016), the positive correlation between domestic national savings and domestic investment had vanished in the eurozone, indicating perfect capital mobility.4 The relationship between a borrower and a lender is inevitably based on trust. The trust that Icelandic financial companies enjoyed in international capital markets, which attracted capital inflow, rested on several pillars. Firstly, the three main banks were clearly too big to fail. Hence, the state could be expected to do its best to save them if they got into trouble. The sovereign had a triple-A (AAA) rating and this rating was also given to the banks, not because the banks themselves had any history in international credit markets but because the state had this rating. Secondly, if the state turned out to be unable to save the banks, it might be expected to seek help from the International Monetary Fund (IMF). In that case the lenders would possibly get their money back while the taxpayers would be saddled with debt to the IMF. Thirdly, the Icelandic state had never defaulted on its debt, giving the country the reputation of a culture of paying back debt. Finally, the association in lenders’ minds of Iceland with the other Nordic nations – Denmark, Finland, Norway and Sweden – may have had the same effect. The sudden stop of the capital inflow and the shutting out of domestic banks from foreign capital markets marked the disappearance of this 3

For an account of Iceland’s financial crisis, see Benediktsdóttir, Danielsson, and Zoega (2011), Nielsson and Torfason (2012), Johnsen (2014, 2016) and Zoega (2016). A parliamentary investigative report was published in 2010 in Icelandic, see Hreinsson, Benediktsdóttir, and Gunnarson (2010). See Calvo (1998) on the economics of sudden stops. For a history of financial crises, see Aliber and Kindleberger (2015) and Reinhart and Rogoff (1999). 4 That is, the Feldstein–Horioka puzzle (Feldstein & Horioka, 1980) was no longer present in the eurozone. Briefly, this ‘puzzle’ involves the economic theory that investment should flow to countries that provide higher returns. Therefore, there should be no correlation between domestic savings and domestic investments because of the role foreign investors play in the local economy (the case noted above). In most cases, however, there is a correlation between domestic savings and investment, causing a conflict between theory and observed reality – thus, the puzzle.

6    Gylfi Zoega

trust between domestic borrowers and foreign lenders. It was clear that the banks were not too big to fail, they were too big to save; the Central Bank was not able to come up with enough foreign currency; the government could not borrow in foreign currencies; and the inability to borrow reflected the lack of confidence by foreign governments and central banks towards the domestic authorities. Hence, confidence evaporated as the scale of the debt problem became known – the banks’ balance sheets added up to 10 times the country’s GDP – and domestic authorities appeared to have lost control of the country’s financial system. The banking adventure that had looked like an impressive accomplishment now looked more like a manifestation of hubris and excesses, and the country became a symbol of western financial crisis.5 The government did not seek the assistance of the IMF prior to the collapse of the banks. Instead, the summer of 2008 passed without any significant measures being taken that could have averted the collapse. After the collapse, however, the government did not have any alternatives because other countries, including notably the Nordics, were willing to provide financial assistance only if Iceland had an IMF programme. Before asking for assistance, the government took the important step of passing emergency legislation that prioritised deposits over bonds – that is, depositors would be paid from the banks’ assets first and bondholders only thereafter. This turned out to be a wise decision in retrospect. Other measures were more fumbling and less impressive. There was the unsuccessful and embarrassing attempt to secure a loan from the Russian government, a confused attempt to nationalise one of the banks (which only hastened the collapse of the whole banking system) and an exchange rate peg at a non-credible level, an effort that lasted for only a few hours. In November, Iceland signed an agreement with the IMF that described the economic policies to be followed, while the Nordic countries, as well as Poland and the Faroe Islands, had agreed in advance to provide financial assistance in the context of an IMF programme. The insistence on IMF involvement testified to a lack of confidence in the domestic authorities. As an example of this lack of trust, the US Federal Reserve refused to include Iceland in the currency swap arrangement it made with other Nordic countries in the weeks preceding the fall of Lehman Brothers. 5

Internally, the problem of lack of trust and confidence in government institutions did not start with the collapse of the banks. Trust towards fellow citizens and in government institutions has for a long time been lower in Iceland than in the other Nordic countries while comparable with that in continental European countries. See World Values Survey (

Restoring Confidence    7

The Nordic countries offer another example. In May 2008, they provided a limited currency swap arrangement that was conditional on changes in economic policies. Iceland’s subsequent failure to change its policies then wiped out what remained of the Nordic governments’ trust. Partly for this reason, the Nordic countries refused to come to Iceland’s help after the collapse of the banks without Iceland first adopting an IMF programme. Several measures were taken to restore confidence in the government, its institutions and the economy following the collapse of the financial system in October 2008. These can be classified into three categories: external relations, internal issues and the conduct of monetary and fiscal policies.

Collaboration with International Institutions As discussed above, the government of Iceland sought the assistance of the IMF after the collapse of its banking system in October 2008 when no foreign government or central bank was willing to come to the rescue without Iceland having gone to the IMF. Another, more proactive, step was taken in February 2009 when a new government applied for European Union (EU) membership. The combination of the IMF programme and the EU membership application made the government want to settle its dispute with the United Kingdom and the Netherlands about deposits lost in foreign branches of one of the failed banks. This ‘Icesave dispute’ with the governments of these two countries led to a gruesome internal debate on the merits of negotiating versus taking the case to court. The IMF Programme The IMF-supported programme had four main components. Firstly, measures were taken to stabilise the exchange rate and get inflation back under control by means of capital controls and high interest rates. This was thought to be important because most business debt and also a significant part of household debt were denominated in foreign currencies. The remaining household debt was indexed to inflation, which also could be expected to rise were the exchange rate to fall further. Any additional depreciation of the currency therefore would make the financial crisis deeper. The IMF referred to this policy as using both ‘a belt and suspenders’ to stabilise the exchange rate. High interest rates were meant to reduce the volume of capital leakages through capital controls. Secondly, in order

8    Gylfi Zoega

to stabilise demand, the programme allowed significant government deficits in 2009, which were then wound down over several years. This means that monetary policy was initially contractionary and fiscal policy expansionary. Thirdly, the programme involved a plan to rebuild the country’s financial system. Finally, the IMF as well as the Nordic countries provided a large foreign-currency loan, which looks excessive in retrospect but was deemed to be necessary to increase confidence in the economy.6 In essence, the plan involved gradually restoring trust, which would allow the capital controls to be removed, and using the low exchange rates to generate export-led growth – allowing for the government to gradually eliminate its deficits and reduce the debt that would be accumulated during the recession. The main unknown was which export industry would lead the way and when a recovery would start. How did the IMF help build trust? Firstly, the IMF enjoys a lot of trust itself and this spills over to a country with an IMF programme. Secondly, the IMF provides and the country signs on to a two-to-four year agreement, with measures. The very existence of a plan helps (especially when compared with the failed efforts in October 2008). Thirdly, the policies can be explained and would cohere. Fourthly, there are explicitly confidence-boosting measures, such as a huge reserve buffer. The fact that the buffer was so large, even – debatably – excessive, helped because it was commensurate with the size of the problem. Fifthly, the fact that the government signs on to the programme – an unpopular thing to do – signals that it is ready to do whatever is necessary. And, finally, the programme delivers tangible results early on, such as stopping the depreciation of the currency. The right-of-centre government that was in power in the run-up to the crash fell in early 2009 and was succeeded by the most left-wing government the country had had in decades. To the surprise of many, this government embraced the IMF programme and collaborated with the IMF on its budget and banking restructuring. The finance minister at the time, who belonged to the Left-Green party, took the lead in implementing the economic programme. Thus, the politicians who had been most sceptical of the IMF and its role, and also most opposed to the privatisation of the banking system in the early 2000s, turned out to be the most ardent 6

The total sum was USD 5 billion, which is the largest loan given to any IMF member country in comparison to its quota in the history of the institution. Of this, the IMF paid USD 2.2 billion, with the rest coming from the Nordic countries, Poland (which has many immigrants in Iceland) and the Faroe Islands. In per capita terms, the loan amounted to USD 62,500 per family of four in Iceland.

Restoring Confidence    9

supporters of the IMF policies followed in the years after the collapse of the banking system. In essence, the plan was to restore confidence by making a success of the IMF programme; Iceland was to become the Fund’s star pupil. As it turned out, the IMF’s representative in Reykjavík was also cooperative and respectful of Iceland’s sovereignty, making it easier for the IMF-supported programme to take on a collaborative nature.7 In this way the government, as well as the Central Bank, which had come under new leadership in early 2009, took ownership of the programme and implemented it while sticking to their political priorities on taxes and welfare policy. The left-leaning government decided to protect the welfare state and raised taxes instead of cutting them. (Of course, it is difficult to tell whether the previous government would not have done the same.) As a matter of fact, no other coherent economic plan was created by the domestic authorities, either before or after the collapse of the banks, and criticism of the IMF-sponsored plan was limited to the size of the loan. In retrospect, however, the IMF can be criticised for not having looked at the structural or institutional deficiencies that were revealed during the episode, including a fair amount of corruption before the collapse of the banks and the weakness of domestic institutions. It did, however, help create new laws concerning the Central Bank, strengthen the financial supervisor both technically and in terms of independence, and push for an organic budget law. EU Membership The government of Social Democrats and the Left-Green party applied for EU membership in July 2009, mostly at the insistence of the Social Democrats. This was a long-time objective of the Social Democratic Party but was made more urgent for two reasons. The first was that at least the Social Democrats and some members of the Independence party appeared to have come to the realisation of the difficulties of having a very small currency area with a floating exchange rate and perfect capital mobility. They concluded that the way to secure financial stability was to become a part of the eurozone, which in turn required Iceland to become a full member of the EU and then to satisfy the Maastricht criteria. The second reason was that by applying for membership in the EU,


Mr. Franek Rozwadowski was the IMF’s representative in Iceland from early 2009 until the programme was completed in 2011.

10    Gylfi Zoega

Iceland would gain credibility. It was thought that investors would gain confidence in the government knowing that it intended to abide by EU financial regulations and ultimately have a lender of last resort in the form of euro. The application for EU membership ran into a major obstacle, which was that one of the coalition partners, the Left-Green party, ultimately did not support it. So the negotiations dragged on for four years until a new government, which was opposed to membership, was elected. By that time, the crisis in the eurozone had erupted without any end in sight while the Icelandic domestic economy had started to recover in the summer of 2010. The Icesave Dispute The period from 2009 to 2013 was marked by a fierce debate on whether Iceland should guarantee deposits in the UK and the Netherlands branches of one of the failed banks. The government did guarantee the deposits held in the Icelandic domestic currency (krónur) but not those held in foreign currencies. The claim was that this involved discrimination between domestic and foreign deposit holders, which violated the rules of the European single market. One of the conditions imposed by the Board of the IMF in its November 2008 agreement with the Icelandic government and Central Bank was that Iceland should start discussions with a view to reaching an understanding of how Iceland was going to assume responsibility for paying British and Dutch deposit holders back on their lost deposits. This was done at the insistence of the United Kingdom, the Netherlands and the Nordic countries, who all agreed that Iceland should have some responsibility for the actions of its banks abroad and not discriminate among deposit holders within the same bank. The bank had collected deposits in the United Kingdom and the Netherlands amounting to nearly half of Iceland’s GDP, claiming that EU regulations on deposit insurance applied to these deposits. According to these regulations, each deposit was guaranteed up to 20,000 euro. Not surprisingly, the Icelandic deposit insurance scheme did not have the money to pay for the insurance, so the UK and the Dutch governments stepped in to pay the deposit insurance and then insisted that the IMF require Iceland to pay back the money before continuing to support Iceland’s programme. Honouring this obligation was important for the government because of both the IMF programme, which it wanted to make successful, and the ongoing membership negotiations with the EU. Pressure from the United Kingdom

Restoring Confidence    11

and the Netherlands delayed a couple of programme reviews and disbursements but had no effect on the design or implementation of the programme. Some thought it was right that the Icelandic government honour the commitments it had undertaken, while others thought it was morally wrong to impose costs on taxpayers for the failed private banks. The negotiations with the United Kingdom and the Netherlands resulted in several agreements, none of which was implemented. One was repudiated by the United Kingdom and the Netherlands after Iceland’s parliament modified it retroactively. Two others were turned down in national referenda triggered by the Icelandic president’s refusal to sign them into law. An important element of these agreements was that the liquidation of the bank’s assets could be used to pay off the deposit insurance, leaving only the interest payments and what remained of the principal to be paid by Iceland. The case ended up in EU courts, where Iceland, to most people’s surprise, prevailed. Although the case was won on a technicality, the victory was taken by some as justifying the opposition of the majority of the population to the agreements (Matthiasson, 2015). This saved the country from paying interest on the debt, since the assets of the estate of the failed bank covered the total of the deposit insurance. However, if the court had decided against Iceland, the consequences could have been dire, both financially and in terms of regaining confidence.

Internal Matters Partly in response to public anger, the government took measures meant to calm the population, some of which might have affected confidence outside the country. One measure taken by the outgoing government in 2008 was to create a commission to investigate the causes of the collapse. The second measure was to create the office of a special prosecutor to go after those who had broken the laws during the banking boom and bust. The third measure, somewhat different in character, was the decision by the incoming left-leaning government in the Spring of 2009 to set in motion a process to rewrite the constitution of the republic. This was a promise that all parties in parliament had made in 1944 but not kept. The Special Investigation Commission At the end of 2008, parliament appointed a Special Investigation Commission (SIC) to explore the causes of the banking system’s collapse.

12    Gylfi Zoega

The commission had wide-ranging powers to interview the main players and had access to the bank data. It was made up of a Supreme Court judge, the parliamentary ombudsman of Iceland, and a lecturer and associate chair at Yale University in the United States. The commission delivered its report to parliament on 12 April 2010. The report is voluminous: The executive summary alone runs to 18 pages.8 It emphasised the following: ⦁⦁ ⦁⦁ ⦁⦁ ⦁⦁ ⦁⦁ ⦁⦁ ⦁⦁ ⦁⦁ ⦁⦁ ⦁⦁

The rapid expansion and subsequent large size of the banking system; The failure of supervision to keep up with the expansion of lending; The limited capacity of the supervisory authority; The lack of response by the government to the oversized banking system, which facilitated the growth of banks; Lending to related parties;9 Incentive schemes used to motivate the staff; The easy access to credit that the owners of the banks enjoyed; The creation of capital by lending to purchase own shares; The failure of monetary and fiscal policy to stem the growth of the economy when taxes were reduced, further fuelling the boom; Large current account deficits.

The report clearly stated that laws had been broken and that some government figures were guilty of negligence. The SIC report focused on the financial fragilities within the Icelandic economy. However, as was demonstrated by the crisis in the eurozone that erupted in the same year that the report was published, the problems were not confined to Iceland. The abundance of cheap credit in the years preceding the crisis had created capital inflows into many countries. Spain had the largest current account deficit as a fraction of GDP in continental Europe, but other countries were also booming from the abundance of capital. The public sector in Greece borrowed heavily, while the private sector was more cautious, whereas in Ireland it was the private sector that fuelled a construction boom as the government reduced its debt. Other countries that were affected were the Baltic states and Portugal. Of these, the Baltics, Greece, Ireland and Portugal sought IMF assistance as Iceland had done in 2008.


An English translation of the summary can be found at media/skjol/RNAvefKafli2Enska.pdf. 9 This included the staggering loans to Landsbanki’s Chairman of the Board, which resulted in the world’s greatest personal bankruptcy of that time.

Restoring Confidence    13

Simultaneous financial crises in many countries cannot be a coincidence. Two explanations have been proposed. Firstly, current account surpluses in some countries had the effect of generating deficits in others (Aliber, 2011). In Europe, Germany and the Netherlands had large surpluses that had to be invested somewhere. In other parts of the world, it was Japan and China that had to invest their surpluses. In this situation the United States became the ‘consumer of last resort’, having a current account deficit in excess of USD 700 billion in 2007, according to IMF data. Secondly, the low central bank interest rates maintained by the US Federal Reserve after the attacks of 11 September 2001, had been mentioned as a culprit for the abundance of cheap capital during this period. In effect, interest rates may have been kept low for too long, violating the so-called Taylor rule,10 fuelling a housing price bubble in the United States, and through its effect on interest rates in other countries, a housing bubble in Ireland and Spain and a stock market bubble in Iceland. Looked at in this light, the capital inflow into Iceland was caused by forces far bigger and more powerful than domestic institutions or policy. What the SIC report may then explain, in my view, is the structural weaknesses that got Iceland into trouble and not Sweden, Denmark or Finland – to name a few of the countries that were mostly spared a crisis. In 2010, parliament accepted the results of the SIC report, including admission of the failure of the government and its institutions, and acknowledgement that the political culture was in need of improvement. A New Constitution The government that came into power in February 2009 could not be criticised for lack of ambition. In addition to applying for EU membership, it attempted to rewrite the constitution through a democratic process. In doing so, it was following what it sensed was the will of the public. Many people appeared to be convinced that the country’s governing class was corrupt and had abused its position. As pointed out by Gylfason (2013), most constitutions were revised following economic or political upheaval because the crises exposed flaws in the current regime. He argues that the absence of checks and balances in the 1944 constitution of Iceland made 10

Briefly, the Taylor rule is a proposed guideline for central bankers’ use in setting interest rates, taking into consideration inflation and the economy’s output (GDP). A short, readable explanation can be found at http://www.investopedia. com/articles/economics/10/taylor-rule.asp.

14    Gylfi Zoega

it possible for the executive branch of the government to exercise power at the expense of both parliament and the courts. He cites as an example that the leaders of the two parties in power in the early 2000s decided between themselves to let Iceland join the ‘coalition of the willing’ in support of the invasion of Iraq in 2003 without any parliamentary approval. Another example is the privatisation of the banking system, which was apparently decided on by the same two leaders. In effect the two large state banks were sold to individuals who had close connections to the two parties. This observation suggests that the bankers had political back-up that made any effective supervision by the financial authority or measures by the Central Bank to limit the size and growth of the banking system difficult. In effect, as discussed earlier, the banks were cashing in on the sovereign’s AAA credit rating and their privatisation turned out to be tantamount to privatising the sovereign’s credit rating. The development and growth of the banking system constituted the state’s policy, generating large tax revenues and high-paying jobs. In the autumn of 2005, a government-appointed committee headed by the chairman of the board of the largest bank, Kaupthing, presented plans for Iceland to become an international financial centre. By that time the banks were already very large, around four times the size of the country’s GDP, and had more than doubled in size since 2003. The average growth in assets of the three largest banks was around 50% per year between 2004 and 2008 (Benediktsdóttir, Danielsson, & Zoega, 2011). The banks were not only politically well connected, but they were also very powerful and large compared to the institutions of the state. As an example, Benediktsdóttir et al. (2011) document that at the end of 2007, there were 2,248 employees working for the third largest bank (Glitnir), 2,814 employees working for the second largest bank (Landsbanki) and 3,334 employees at the largest bank (Kaupthing) – a total of 8,396 people which dwarfed the number of employees of the government institutions that were supposed to monitor and supervise the banks. In August 2008, there were 26 people working in the Office of the Prime Minister, 20 in the Ministry of Commerce, 47 in the Financial Services Authority (the FME) and 115 at the Central Bank. This includes all staff, not just those with expertise in finance and economics. Moreover, it was difficult to hold on to staff at the FME because the banks paid much higher salaries. The banks were important for the economy, dominated the government institutions in size, were politically well connected and gave thousands of families well-paid jobs. They also controlled parts of the media, and so the population as a whole accepted the explanation that the apparent success of the bankers was due to their abilities and ingeniousness.

Restoring Confidence    15

As the SIC (2010) report documents, the banks may also have been able to influence the politicians directly. At the time of the crash, 10 out of 63 members of Parliament had borrowed more than one million euro each at the króna’s pre-crash exchange rate so that their personal debts to the failed banks ranged between one million and 40 million euro. Moreover, according to Gylfason (2013), they donated 14 times more per capita to political campaigns than did the US financial industry in 2008. In retrospect, it is easy to see the policy of creating a banking centre with close political ties as a sign of folly and corruption. However, there were few who saw the problems emerging before 2008. In fact, international institutions such as the IMF and the Organization for Economic Cooperation and Development (OECD) praised the successful creation of international banks in Iceland (Aliber & Zoega, 2011). Two notable warnings came from the research arm of Danske Bank (Valgren, Christensen, Andersen, & Kallestrup, 2006) and Aliber (2011), the former in 2006 and the latter in a lecture in May 2008, but both received a hostile reception from the media and the banking sector. The Monetary Bulletin of the Central Bank also described the internal and external imbalances, the dangers of borrowing in foreign currencies and an anticipated recession (see Herbertsson & Zoega, 2005). In light of the problems described above and the developments in the years preceding the crash, parliament decided in 2009 to convene a national assembly selected at random through stratified sampling from the national registry. They also appointed a constitutional committee to gather information and provide analysis, and determined to hold an election to the constitutional assembly. The national election to choose representatives of the constitutional assembly was held in November 2010 when 552 candidates competed for 25 seats. The elected individuals were then given the task to draft a new constitution. However, in 2011, the Supreme Court declared the election null and void on technical grounds that had to do with the design of voting booths and other such issues. Parliament responded by directly appointing the 25 elected representatives. The draft new constitution, presented to parliament in July 2011, incorporated substantial changes from the existing constitution (Stjórnlagaráð, 2011). For example, the principle of ‘one person, one vote’ was introduced, where the existing constitution gave rural voters a heavier weight than urban voters. Secondly, the fishing grounds around the country would be owned by the nation instead of being private property (using the system of transferable quotas). Thirdly, the draft new constitution had a section on environmental protection. Fourthly, the freedom of the media and transparency of ownership should be guaranteed by law. Finally, the signatures of 10%

16    Gylfi Zoega

of the electorate would suffice for a national referendum to be called on issues other than taxes and other financial matters. The new constitution was approved by voters in a referendum in October 2012 with a majority of 67% of votes. However, parliament did not respond and let the matter rest until the Spring of 2013, when the government lost its majority and the same two parties that had been in power when the banks were privatised in 2003 came back into power and showed no interest in the matter. The constitution remains unchanged to this day. The failure to ratify the new constitution may have adversely affected trust towards the government within Iceland, but apparently not among international investors. Bankers Go To Jail Market manipulation, among other crimes, was discovered to have taken place in the banks, especially in the months preceding their downfall. The special prosecutor took dozens of individuals to court and many received sentences. These include the CEO and the Chairman of the Board of Kaupthing and the CEOs of Landsbanki and Glitnir. Most of those who received sentences were, however, mid-level staff in the banks. So far, 35 individuals have been sentenced to a total of 90 years in prison. Some cases have still not been closed and the number of individuals involved may rise further. International media reported these criminal prosecutions, which have probably increased confidence in the authorities abroad.

Monetary and Fiscal Policies In collaboration with the IMF, monetary and fiscal policies were calibrated to deal with the collapse of the banks, the insolvency of large segments of the private sector, the contraction of the economy and the currency crisis. Monetary Policy The lack of confidence in domestic institutions put severe constraints on the conduct of monetary policy in the aftermath of the collapse. In November 2008, the IMF programme mandated that interest rates be raised from 15.5% to 18% in order to stem capital outflows; the programme also required the imposition of capital controls for an indefinite period of time. According to subsequent legislation, investors were allowed to convert interest income, but not principal, into foreign currencies.

Restoring Confidence    17

Early in 2009, a new Central Bank law was passed. This abolished the positions of the three Central Bank governors and replaced them with a single governor, a deputy governor and a Monetary Policy Committee (MPC). The MPC in turn was to be made up of the governor, the deputy governor, one other Central Bank staff member chosen by the governor (to date this has been the chief economist) and two external members appointed by the prime minister. This change was made in order to increase confidence in the Central Bank, which had been granted operational independence in 2001. Moreover, the prime minister chose a well-established foreign academic economist, Anne Sibert, as one of the external members, which may have been a way of increasing confidence in the institution further. The mandate of the MPC (deriving from that of the Central Bank itself) was to achieve a stable price level – defined as an inflation rate of 2.5% – and to implement the government’s economic policy as long as it did not violate the objective of stable prices. The MPC was to raise a warning flag if financial stability was threatened. The three-governor system that was now abolished had been used by different political parties to provide a reward to senior politicians. Thus, one or more of the governors were at times former leaders of political parties without training or experience in economics or finance. At the time of the collapse in 2008, the head of the triumvirate of governors was a leader of the conservative party who had had been the mayor of Reykjavík between 1982 and 1991 and prime minister from 1991 to 2004. It should be noted that the blame for the collapse of the banking system in 2008 cannot be placed solely on mistakes in the conduct of monetary policy; failures in banking supervision and the reckless operation of the banks played a larger role. Moreover, the banks were individually and collectively deemed ‘too big to save’ by domestic authorities. As Buiter and Sibert (2011) point out, this realisation could trigger a modern bankrun in the form of other banks refusing to roll over loans or grant new credit.11 The Central Bank could be criticised, however, at least with the benefit of hindsight, for creating the incentive for foreign-currency debt 11

Buiter and Sibert (2011) suggested that Iceland could seek IMF help, ask other central banks such as the US Federal Reserve for help or nationalise the banking system and use the country’s natural resources as collateral for further loans. While their advice apparently went unnoticed by the government at the time, the Central Bank did approach the US Federal Reserve but was turned down. As noted, an attempt to nationalise one of the banks and going to the IMF had to wait until the banking system had collapsed. See also Sibert (2011).

18    Gylfi Zoega

to accumulate through its interest rate policy without issuing sufficient warnings or asking for more policy tools.12 Businesses that borrowed in foreign currencies had higher profits year after year while the currency appreciated, hence enticing others to also start borrowing in foreign currency. By 2008, the economy resembled a hedge fund that was long in the domestic currency and short in foreign currencies. When foreign investors started to short the króna in the reasonable anticipation of its collapse, in light of the huge current account imbalances and unstable banking system, the game was up and most of the economy became technically insolvent, hence also the banks. This development is not a testimony to a well-conducted monetary policy! The new regime had several advantages over the three-governor structure. Firstly, by including external members in the MPC, it made it more likely that opposing views would be heard. As it turned out, and as can be seen from the minutes of the meetings of the MPC, this was the case; on a number of occasions there have been differences between the views of the members and lack of unanimity behind many decisions.13 Publishing the minutes of meetings was also a step forward, as it served the role of enabling market participants to predict the future actions better and in retrospect to assess when and where mistakes were made. Finally, all members have education and experience in the fields of economics and finance, which is in accordance with the laws passed in 2009.14 The newly appointed MPC faced a daunting task in the Spring of 2009 when inflation peaked at 20%. While the economy needed lower interest rates to recover as well as to convert foreign-currency loans into domesticcurrency loans, the stability of exchange rates and hence also the level of foreign exchange debt denominated in domestic currency depended, at least to some extent, on maintaining high interest rates. The same can be said about CPI-indexed mortgage debt: Lower interest rates might cause a depreciation of the exchange rate that would have the effect of increasing the level of business and household debt, hence deepening the financial crisis.


The bank’s financial stability report in 2005 did describe the dangers of foreign currency mismatches, but this warning received less emphasis in subsequent reports (Central Bank of Iceland, 2005). 13 See Vignisdóttir (2016) on the voting record within the MPC over its first seven years. 14 On Iceland’s experience with inflation targeting since 2001 and the recent improvements in policy outcomes, see Central Bank of Iceland (2017).

20    Gylfi Zoega

payments to foreign investors, which would ceteris paribus depreciate the currency. Given that the remainder of assets from the carry trade was in excess of 30% of GDP, it followed that the payment of a large amount of interest income to foreigners would involve a significant transfer problem in the Keynes–Ohlin sense: The exchange rate would have to depreciate in order to generate a current account surplus (Guðmundsson & Zoega, 2016).16 Following a meeting between the MPC and the representatives of the IMF, the MPC held interest rates constant until November 2009, when increased monitoring of capital controls, which is what the IMF had been calling for, had stabilised the exchange rate, and both the MPC and the IMF agreed that further cautious interest rate reductions would not weaken the exchange rate. The Central Bank interest rates reached a bottom in late 2011 when the deposit rate was reduced to 3.25%. Interest rates in subsequent years were raised in small, infrequent steps as the economy recovered; currently [October 2017] the effective Central Bank interest rate is 4.5% and the deposit rate is 4.25%.17 The MPC has over the years changed its use of instruments. In the Spring of 2013 it began to use intervention in the currency market to reduce volatility of the exchange rate. Also, changes in interest rates have become less frequent. Starting in June 2016, a new reserve requirement on investment in domestic-currency bonds by foreign residents has been used to reduce the volume of carry trade. Currently, foreign investors are required to put 40% of the amount invested into an interest-free account of the Central Bank for a period of one year.18 This in effect amounts to a ‘Tobin tax’ (roughly, a way to discourage short-term speculation) on the carry trade and enables Iceland to have an interest rate that differs from that in other countries. Thus, in spite of there being currently an interest differential in excess of 400 basis points between Central Bank interest rates in Iceland and the eurozone, the volume of the carry trade is very limited. So, the combination of interest rate setting and currency market 16

The transfer problem involves the transfer of resources between countries from the perspective of current account surpluses and deficits. The debtor country would have to export more than it imports in order to be able to pay back debt to the creditor country. This requires the currency of the debtor country to be sufficiently depreciated so that its exports are cheap in foreign markets and its imports expensive at home. 17 The interest rate of 4.5% was the rate on one-week deposits as opposed to the rate of 4.25% on perfectly liquid deposits. 18 The Central Bank can raise this to 70% for a period of five years or lower it to zero.

Restoring Confidence    21 Real GDP (current billion US dollars, PPP)

18 16 14 12 $ 10 8 6 4 90

















Annual growth rates (GDP, volume)



4 % 0














Fig. 2:  The Evolution of GDP since 1990. Source: OECD Statistics ( interventions can be used to affect both domestic demand and reduce excessive volatility of the exchange rate. The rapid recovery of the economy can be seen in Fig. 2. Firstly, note the steep upswing between 2004 and 2008, which was credit-fuelled, the steep slump from 2008 to 2010, which was caused by the financial crisis, and then the recovery that brought GDP in dollar terms back to its pre-crisis peak by 2014. The recent recovery has been in many respects atypical for Iceland. Firstly, it was export-driven, fed mainly by rapid growth in the number

22    Gylfi Zoega

of tourists. It has also gained in speed: The rate of growth of GDP was 7.20% in 2016, up from 4.10% in 2015 and 1.22% in 2012. The growth episode was initially started by capital outflows and larger foreign debt, which reduced the real exchange rate, and hence offset Iceland’s natural resource-related high real exchange rate or ‘Dutch disease’ (Gylfason & Zoega, 2017). This helped restore competitiveness. Secondly, credit did not increase and the recovery coincided with the deleveraging and debt restructuring of households, businesses and the sovereign as well as local authorities. The current account was positive in every year since 2008. In 2016 it was 8% of GDP, in contrast to –23.3% at the peak of the previous boom in 2005. Both internal and external debts have been reduced and Iceland’s net external position recently became positive for the first time since the end of the Second World War. The foreign-currency reserves of the Central Bank are also at a record high, amounting to around 40% of GDP. Thirdly, inflation has remained on target for more than three years in a row, which is another record since the inflation-targeting regime was introduced in 2001. At the same time, Iceland did not face a problem with deflation; the 12-month inflation rate was 1.7% in June 2017. Membership in the European Economic Area – the single market for goods, services and labour – has helped keep a lid on inflation. The excess demand for labour has been met by increased labour supply in the form of immigration of workers from other member states. This has helped in many industries such as construction and tourism. The boom in tourism may have been triggered by the depreciation of the króna, but it accelerated after the real exchange rate had appreciated again. At this point it remains unexplained why the tourism boom continues, now that the country has become a very expensive destination once more. Among the possible causes are the worldwide increase in tourism, the attention caused by a volcanic eruption in 2010 and successful marketing campaigns. Moreover, tourists who came to the country while it was cheap in the wake of the collapse may have had a positive experience that attracted others to the island. Over time the credibility of monetary policy has been enhanced (Central Bank of Iceland, 2017). Among financial institutions and those responsible for financial oversight, the Central Bank of Iceland gained the most trust among the public during the post-crisis period of 2009 to 2017.19 Inflationary expectations have converged to the inflation target of 2.5%. In a recent study, Dincer and Eichengreen (2014) find that the increase in transparency from


Sigurgeirsdóttir and Johnsen discuss these trends in more detail in their chapters 3 and 8, in this volume.

Restoring Confidence    23 15 10 5 %

0 –5 –10 –15















Fig. 3:  The Central Government Surplus as a Percentage of GDP. Source: Statistics Iceland ( 1998 to 2010 of all central banks in the OECD was largest for the Central Bank of Iceland. Finally, the lifting of capital controls in 2016–2017 was accompanied by orderly conditions in the exchange rate market and capital flows.20 Indeed, far from depreciating, the króna appreciated in the first half of 2017 after the lifting of capital controls. Fiscal Policy The sovereign was in the enviable position at the start of the crisis of having reduced its debt during the financial boom. Therefore, the IMF programme could allow fiscal stabilisers to work. The central government had a surplus of 4.9% of GDP in 2006 and 3.5% in 2008, which then turned into a deficit of 12.5% of GDP in 2008 and 8.1% in 2009. The deficits were then gradually reduced as the economy recovered. Hence, the public sector was used to stimulate demand while debt was restructured in the private sector and labour shifted from the sectors fuelled by the credit boom – mainly banking, imports and construction – to the export sectors. Fig. 3 shows the evolution of the central government surplus as a share of GDP. Finally, the level of (gross) public debt peaked at 86% of GDP in 2011, but then fell to 53.4% at the end of 2016. 20

According to the Central Bank, the one-year inflation expectations of large businesses were 1.8% in June 2017, while the one-year inflation expectations of households were 2.5% during the same period.

Restoring Confidence    25

creditors rather than domestic taxpayers can suffer losses from lending to smaller countries. As it turned out, in Iceland’s case, the losses were mainly suffered by foreign creditors and not the sovereign. The recovery of the economy owes a lot to these factors, as well as to the depreciation of the currency that turned a current account deficit into a surplus and restored the competitiveness of the economy in a matter of months. Of course, the depreciation also caused a debt crisis due to the prevalence of foreign-currency loans and the insolvency of most businesses on the island! But these losses were mostly thrust upon foreign creditors, leaving the new domestic banks with the task of restructuring the bankrupt firms. The successfully executed IMF programme was also instrumental in fostering the recovery through the mix of monetary and fiscal policies. Before the programme, the policy mix had been inappropriate and destabilising: Monetary policy was contractionary and fiscal policy expansionary, resulting in very high interest rates (peaking at 15.5% in the summer of 2008). Also, before the programme, capital inflows grew rapidly as firms, households and investors took advantage of the interest rate differential to engage in what in effect was carry trade. Under the programme, the policy mix became coordinated for the first time: In the first phase, monetary policy was used to support the currency and fiscal policy to stimulate the economy; then gradually the picture changed as confidence returned, to have monetary policy promote an export-led recovery and fiscal policy to become contractionary. Iceland also appeared not to be hiding any wrongdoings. Both the SIC report and the prosecution of the bankers gave the impression that what had happened before was not likely to occur again. The application to join the EU, the Icesave dispute and its outcome, and the attempt to rewrite the constitution played less significant roles. This is not to say that confidence could not have been increased faster and further had these issues been addressed and resolved differently. The rewriting of the constitution was mainly intended to reduce the likelihood of other crises in the future as well as to restore internal confidence and trust. However, the failure to adopt the constitution appears not to have affected outsiders’ confidence toward Iceland. At the same time, internal trust towards the authorities has not been fully restored. According to Gallup, Parliament is trusted by 14% of the public and the banks by an even lower proportion. The inclusion of the country’s then-prime minister in the infamous Panama Papers scandal did not help build confidence internally or, for that matter, externally. However, his prompt resignation may have reduced the

26    Gylfi Zoega

damage somewhat. Therefore, we see that in spite of the recovery from the crisis much remains to be done in building trust towards domestic institutions within the country.

Acknowledgements The author is an external member of the Monetary Policy Committee of the Central Bank of Iceland. The views reflected in this chapter are his own and do not reflect the views of other members of the committee. The author is grateful to Guðrún Johnsen, Thorvaldur Gylfason, Thórarinn G. Pétursson and Franek Rozwadowski for comments on the chapter.

References Aliber, R. Z. (2011). Monetary turbulence and the Icelandic economy. In R. Aliber & G. Zoega (Eds.), Preludes to the Icelandic financial crisis (pp. 302–326). Basingstoke: Palgrave Macmillan. Aliber, R. Z., & Kindleberger, C. P. (2015). Manias, panics and crashes (7th ed.). Hoboken, NJ: John Wiley. Aliber, R.Z. and Zoega, G. (2011). Preludes to the Icelandic financial crisis (pp. 329–340). Basingstoke, UK: Palgrave Macmillan. Benediktsdóttir, S., Danielsson, J., & Zoega, G. (2011). Lessons from a collapse of a financial system. Economic Policy, 26(66), 183–235. Buiter, W., & Sibert, A. (2011). The Icelandic banking crisis and what to do about it: The lender of last resort theory of optimal currency areas. In R. Aliber & G. Zoega (Eds.), Preludes to the Icelandic financial crisis (pp. 241–275). Basingstoke: Palgrave Macmillan. Calvo, G. (1998). Capital flows and capital-market crises: The simple economics of sudden stops. Journal of Applied Economics, 1(1), 35–54. Central Bank of Iceland. (2005). Financial stability. Retrieved from https://www. Central Bank of Iceland. (2017). Monetary policy based on inflation targeting: The Icelandic experience since 2001 and changes after the financial crisis (Special Publication No. 11). Reykjavík, Iceland: Central Bank of Iceland. Dincer, N. N., & Eichengreen, B. (2014). Central bank transparency and independence: Updates and new measures. International Journal of Central Banking, 10, 189–253. Einarsson, B. G., Gunnlaugsson, K., Ólafsson, Th. T., & Pétursson, Th. G. (2015). The long history of financial boom-bust cycles in Iceland – Part I: Financial crises. Working Paper No. 68. Central Bank of Iceland, Reykjavík, Iceland.

Restoring Confidence    27 Einarsson, B. G., Gunnlaugsson, K., Ólafsson, Th. T., & Pétursson, Th. G. (2016). The long history of financial boom-bust cycles in Iceland – Part II: Financial cycles. Working Paper No. 72. Central Bank of Iceland, Reykjavík, Iceland. Feldstein, M., & Horioka, C. (1980). Domestic saving and international capital flows. The Economic Journal, 90(358), 314–329. Guðmundsson, G. S., & Zoega, G. (2016). A double-edged sword: High interest rates in capital control regimes. Economics: The Open-Access, Open-Assessment E-Journal, 10, 1–38. Gylfason, Th. (2013). From collapse to constitutions: The case of Iceland. In L. Paganetto (Ed.), Public debt, global governance and economic dynamism (pp. 379–420). Milan, Italy: Springer-Verlag. Gylfason, Th., & Zoega, G. (2017). The Dutch disease in reverse: Iceland´s natural experiment. OxCarre Research Paper No. 138. University of Oxford, Oxford. Retrieved from Herbertsson, T. Th., & Zoega, G. (2005). Fyrirkomulag gengismála á Íslandi – Horft til framtíðar. [On the optimal future currency regime in Iceland.] Reykjavík, Iceland: University of Iceland, Institute of Economic Studies. Retrieved from gengismala.pdf. Hreinsson, P., Benediktsdóttir, S., & Gunnarsson, T. (2010). The causes of the collapse of the Icelandic banks: Responsibility, mistakes and negligence (in English). In Aðdragandi og orsakir falls íslensku bankanna 2008 og tengdir atburðir (Vol. 1, chapter 21, pp. 1–160). [Background and causes of the Icelandic banks’ collapse in 2008 and related events.] Reykjavík, Iceland: Althingi. Retrieved from Johnsen, G. (2014). Bringing down the banking system: Lessons from Iceland. Basingstoke: Palgrave Macmillan. Johnsen, G. (2016). The rise and fall of a financial empire: Looking at the banking collapse from the inside out. In V. Ingimundarson, P. Urfalino, & I. Erlingsdóttir (Eds.), Iceland’s financial crisis: The politics of blame, protest, and reconstruction (pp. 37–56). Abingdon: Routledge. Katsimi, M., & Zoega, G. (2016). European integration and the Feldstein– Horioka puzzle. Oxford Bulletin of Economics and Statistics, 78(6), 834–852. Matthiasson, Th. (2015). Six myths and few facts: Recovery of the Icelandic economy post-October 2008. Nordic Journal of Political Economy, 49(1), 1–15. Nielsson, U. V., & Torfason, B. K. (2012). Iceland’s economic eruption and meltdown. Scandinavian Economic History Review, 60(1), 3–30. Reinhart, C., & Rogoff, K. (2009). This time is different: Eight centuries of financial folly. New Brunswick, NJ: Princeton University Press. Sibert, A. (2011). Overbanked and undersized: Lessons from Iceland. In R. Aliber & G. Zoega (Eds.), Preludes to the Icelandic financial crisis (pp. 329–340). Basingstoke: Palgrave Macmillan. Stjórnlagaráð. (2011, 29 July). The constitutional council hands over the bill for a new constitution. Reykjavík, Iceland: Stjórnlagaráð. Retrieved from http://

28    Gylfi Zoega Valgren, C., Christensen, L., Andersen, P. P., & Kallestrup, R. (2006). Iceland: Geyser crisis. Copenhagen, Denmark: Danske Bank. Retrieved from http:// Vignisdóttir, K. Á. (2016). Peningastefnunefnd í sjö ár. [The first seven years of the monetary policy committee of the Central Bank.] Research in Applied Business and Economics, 13(2), 1–19. Zoega, G. (2016). Iceland’s financial crisis: An economic perspective. In V. Ingimundarson, P. Urfalino, & I. Erlingsdóttir (Eds.), Iceland’s financial crisis: The politics of blame, protest, and reconstruction (pp. 21–36). Abingdon: Routledge.

Chapter 2

Discursive Control Using Emotion and Economics During a Financial Crisis David L. Schwarzkopf and Throstur Olaf Sigurjonsson Abstract Disasters bring about communities of focussed discourse. We show how a segment of one such community controlled the early stages of discourse during a financial crisis as a variety of professionals (bankers, analysts, editorial writers and academics) made multiple types of arguments (emotional and technical) to allay citizens’ concerns about an impending banking collapse. We examine the rapid rise of this segment by mapping and analysing the responses printed in Icelandic newspapers to a Danish bank’s warning of Icelandic banking instability. Using social network analysis, we illustrate the networks of public actors and their immediate public responses, showing how close-knit both networks became after just one week of commentary in the Icelandic press. We demonstrate the power that professionals of various kinds have over an uninformed citizenry through their rapid responses and closely connected networks and underscore the obstacles awaiting those who want to alter discourse during crisis. Keywords: Iceland; media coverage; network stability; social networks; Type 2 Discourse; professional power

The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 29–52 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181002

30    David L. Schwarzkopf and Throstur Olaf Sigurjonsson

Introduction Citizens rely on complex connections between political and economic systems to deliver detailed policy interventions to the community and to provide information to analysts and politicians about citizen needs and the effectiveness of interventions. Citizens thus have a stake in the smooth operation of these systems and can be expected to inquire about the system’s state and operations if the citizenry sees signs of instability. In general, challenges to complex systems have value to the extent that they bring about reviews of legislative or administrative strategy and implementation. Well-founded challenges prevent systems from becoming stale – failing to meet new or changed needs in the community. However, one of the lessons of the recent economic crisis is that assessing the stability of a complex system is difficult. As long as the operations visible to users appear to function in the way users are accustomed to, the system’s long-term stability – that is, its ability to continue to provide assistance to the public – can avoid being questioned. Thus, if the true extent of the system’s long-term stability is hidden, those affected by the system may be forestalled in inquiring about its operations. This presents the risk that politicians and the system’s operators will not respond to problems in time, leading to system failure and public outrage. Further complicating the picture are incentives for system operators to give signs that the complex system is stable. Of course, if the public does not take for granted that the system is stable, doubt could cause system operators to incur high costs to avoid the panic that would cause the instability that the public dreaded in the first place. Problems arise, however, when an inherently unstable system is presented as stable. Rather than addressing the instability, those entrusted with the system’s operations may spend time and effort defending it against claims that it is unstable. Thus, the defenders are defending the fact that they have created, whether the fact can stand scrutiny or not. The resulting loss of transparency that can be engendered by a defence of system stability adversely affects the public. Citizens are unable to get a clear picture of whether a critical system or institution in their community is working smoothly to meet their needs or is near collapse. Policy makers do not receive reliable feedback to design necessary policy interventions or renovations. Administrators cannot determine the extent to which policy measures are reasonably implemented or are effective. Critical discourse analysis (CDA) can be useful in exposing the sources of a loss of transparency. As McKenna (2004, p. 15) points out, CDA can examine ‘how discourse constructs and maintains the relations of power

Emotion and Economics    31

in society’ with ‘a political teleology to reduce inequality’. In this chapter, we construct our CDA using the concept of focussed discourse to analyse the rapid rise of networks that reduced the transparency of a complex system to citizens, effectively forestalling action on a pending financial collapse. Using social network analysis, we illustrate how those responsible for the maintenance of the banking system in Iceland defended themselves against claims that the system had stability problems. We show how the types of arguments used in defence of the system formed connections among different groups within the polity. We also demonstrate how connections formed between different types of arguments – data-based and emotional – to make it difficult for others inside the community to judge the system’s true state. We draw implications of this network structure for citizen awareness. We next discuss the notion of focussed discourse as an aid to CDA and provide details of a model of the development of focussed public Discourse. We then introduce the triggering event for the Discourse together with its context. We present our research method, results and analysis before concluding with a discussion on the implications of our findings and suggestions for further research.

Using the Concept of Focussed Discourse in CDA Focussed discourse (also denoted as ‘Discourse’ with a capital ‘D’, Gee, 1999) features ‘a more specialised use of language that concentrates on a particular area of interest’ – in contrast to standard discourse, ‘the language we depend on in everyday dealings’ (Little & Lipworth, 2007, p. 1). A focussed-discourse community has been defined as: a group of people with sufficiently common interests to use a vocabulary of words and concepts, whose meanings are accepted and whose definitions are assumed [by the community], that are brought to bear on the subjects of the discourse (Little, Jordens, & Sayers, 2003, p. 74) Focussed-discourse communities can arise in response to a triggering event, such as a natural or man-made disaster. Initial community responses to the triggering event are often ‘immediate, strongly felt, personal, dichotomous, alogical and expressive of … intuitive learning’ (Little & Lipworth, 2007, p. 77). One of the tenets of CDA is attention to the context as well as the content of the discourse (McKenna, 2004).

32    David L. Schwarzkopf and Throstur Olaf Sigurjonsson

Using the language-based constructs of focussed discourse, we show how professionals in the community rapidly connected themselves through use of the conceptual lexicon that they developed, thus not only exercising immediate discursive control but also forming part of the context for the further development of the Discourse. Our analysis also addresses a challenge from Little and Lipworth (2007, p. 102) to find ways in which their model of public Discourse development can deepen understanding of ‘public responses to what are perceived as challenges to fundamental values’. We offer two further contributions to research into focussed discourse. First, while previous studies have described how communities of focussed public Discourse arise and evolve, we provide a way of visualising the sudden public appearance of a segment of that Discourse community and show how rapidly the connections among the parts of the Discourse lexicon and its users are formed. Second, we expand on an idea put forth by Little et al. (2003, p. 83) suggesting that conflicts between Discourse communities may be ameliorated through the establishment of an ‘ethical community’ that ‘would continually examine the content, telos and effects of a discourse’. One potential value to such a community would be its role in addressing concerns that sections of the polity are silenced or ‘discursively deflected’ from participation in civic issues (Gunn, 2011). We show the challenges an ‘ethical community’ would face, and thus the difficulties in avoiding silencing and discursive deflection, as we find that the network structures of both the human actors and their immediate responses pose significant difficulties for those trying to advance other views or to balance conflicting perspectives of the given situation.

A Model of the Development of Focussed Public Discourse Little and Lipworth (2007, pp. 75–82) categorise instances of focussed public Discourse that arise because of a noteworthy event as Type 2 Discourses.1 The model of development of a Type 2 Discourse consists of the following five phases:


Type 1 Discourses are those ‘that form and condense around specific concepts, such as particle physics, abortion, cloning, poverty and so on’. Type 2 Discourses can become Type 1 Discourses over time. Type 3 Discourses are the Discourses that have another Discourse as their topic (Little & Lipworth, 2007, p. 4).

Emotion and Economics    33

1. Occurrence of the triggering event. 2. A time of intuitive responses. 3. A form of pseudo-unity when it appears that there is a consensus within the community. 4. Periods of reflection, times of questioning the intuitive responses or of looking for more rational causes and means of reaction, which may reveal dissent or fractures in the apparent unity of the community. 5. Realignment when the community may assume different perspectives on the triggering event. Our emphasis is on the transition between Phase 1, the event, and Phase 2, the first responses, showing the formation of a part of the larger Discourse community. The nature of this segment’s actors (e.g., politicians, business executives, newspaper editors, analysts and economists) and their arguments (rational and emotional) provided material for thought and commentary among the Icelandic public in this early stage of public Discourse. Previous research has analysed the evolution of a Type 2 Discourse community through narrative (Little & Lipworth 2007, pp. 83–102; Lysaght & Capps, 2012). There are also occasional examples where the tools of social network analysis are used – for example, to map the keywords featured in a community’s publications (Stuart & Botella, 2009). We use qualitative and quantitative network methods to describe and analyse this segment of the community. We also map responses into their own network, finding precedent in studies of science, technology and society, particularly in the line of actor-network theory, for this consideration of concepts and inanimate objects as actors (see Callon, 1986; Latour, 1987; Law, 1986, 2009; Pickering, 1995). What do these networks look like? That is, what kinds of people-actors and argument-actors are involved, and what are the relationships among them? Before we describe our approach to these questions, we discuss the situation upon which we focus.

Icelandic Banking and the Danish Challenge of 2006 Our analysis focusses on reactions in the Icelandic press to a report issued in 2006 by Danske Bank (Valgreen, Christensen, Andersen, & Kallestrup, 2006) that cautioned that the Icelandic banking system was not as stable as it appeared. While the Danish bank’s comments were in the form of technical economic arguments, the historic ties between Iceland and Denmark (which ruled Iceland from 1380 until 1918) provided a particular

34    David L. Schwarzkopf and Throstur Olaf Sigurjonsson

emotional element to the debate that Icelandic groups were quick to bring to the fore. The appearance of these elements reinforces the role that historicity plays in understanding critical Discourse (McKenna, 2004, p. 12). During the week following the report’s publication, shares in each of Iceland’s three major banks lost about 10% of their pre-report value and the Icelandic króna lost 4% in value against the US dollar. This immediate economic effect justifies classifying the issuance of the report as a ‘major event’, following Little and Lipworth’s (2007) definition: ‘A major event is a public catastrophe, characterised by public affront’ and by aspects such as ‘absolute surprise, incomprehension [and] the risk of misunderstanding’ (Borradori, 2003, p. 91, quoted in Little & Lipworth, 2007, p. 100). The 2006 discussion effectively delayed development of banking stability in Iceland until the system’s collapse in 2008, thus showing the importance of this segment of the Discourse community. Further, the events of 2006 remain salient in Iceland as the nation tries to strengthen corporate governance and financial systems. As of 2006, Icelandic banks had been operating in a liberalised marketplace for only 12 years. Through a period of growth and consolidation following the opening of the banking market, three large banks emerged to form the core of the Icelandic international banking system: Glitnir, Kaupthing Bank and Landsbanki.2 By 2006, thanks in part to a booming domestic economy, the banks’ combined assets were over eight times Iceland’s GDP (Jännäri, 2009). With a newfound investment banking mentality, the banks collaborated with their clients in equity positions and served as corporate finance consultants as well as lenders (Hreinsson, Benediktsdóttir, & Gunnarson, 2010, chapter 6). Among these collaborations, Icelandic investors began to take controlling interests in established Danish retailers, airlines and real estate firms (Morgunblaðið, 2005a, 2005b, 2006; Markaðurinn, 2005). In late 2005 and at the beginning of 2006, foreign analysts began to express doubts about the banks’ ability to sustain the funding for their growth. In addition, some raised concerns about the banks’ culture, risk management, dependence on wholesale financing and lack of transparency in their ownership and holding structures (Jännäri, 2009). Although it was not the first analysis to raise concerns about Icelandic banking,3 the report issued on 21 March 2006 by Danske 2

See Jónsson (2009) for a history of the Icelandic banking system. Fitch ratings (Seðlabankinn News, 2006) and Merrill Lynch (2006) had issued earlier reports. 3

Emotion and Economics    35

Bank (Valgreen et al., 2006, pp. 1–2) was the sharpest in its criticism. From its title (‘Iceland: Geyser crisis’) to its sweeping statements (e.g., ‘On most measures, the small Icelandic economy is the most overheated in the OECD area’), to the comparisons it made (such as, ‘Iceland looks worse on almost all measures than Thailand did before its crisis in 1997’), the report drew the ire of many Icelanders (Jónsson, 2009). The Danske Bank analysts held that ‘there has been a stunning expansion of debt, leverage and risk-taking that is almost without precedents [sic] anywhere in the world’ and cautioned ‘we see a substantial risk of a financial crisis developing as an integral part of an Icelandic recession in 2006–2007’. At the same time, the analysts admitted that ‘Iceland is not a core part of our research universe’, but decided to issue ‘this special report’ because of increased interest in Iceland and because ‘recent market jitters suggest that a material change of dynamics is in the air’. It is now well known that there were flaws in the Icelandic banking system that contributed to its spectacular collapse in the autumn of 2008 (Hreinsson, Benediktsdóttir, & Gunnarson, 2010, chapter 2). During the ensuing financial crisis, Icelandic commentators looked back on the events of 2006 and saw them now as warning signs, although the bitterness of the debate lingered. Thus, for example, in 2010, the governor of the Central Bank of Iceland held that ‘the 2006 crisis should have been used to stop the growth of the Icelandic banks’ (Morgunblaðið, 2010). At the same time, the chief economist of Kaupthing Bank has written: ‘The Danske Bank analysts achieved their goal of becoming prominent Icelandic commentators on international newswires and modesty was not one of their virtues’ (Jónsson, 2009, p. 77). While these comments were made with the benefit of hindsight, it is noteworthy that the Icelandic community was mindful of the 2006 debate as it tried to devise stronger corporate governance and financial system checks and balances while acknowledging that it is a small country with close business and kinship ties.

Method Expressions of public Discourse can be captured through interviews, features, standard articles or editorials in the print media (Gee, 1999; Gunn, 2011; Paltridge, 2006). Working with a press-research service, we

36    David L. Schwarzkopf and Throstur Olaf Sigurjonsson

identified 31 items published by Icelandic sources during the first week after the Danske Bank report’s release that mentioned the report.4 Coding of people and the categories of their responses (which we have termed ‘arguments’) began with the native Icelandic author translating selected articles into English for the non-Icelandic co-author. Both authors then discussed these articles to agree on a coding scheme. The Icelandic author summarised all articles in detail for the co-author to code. The Icelandic author then reviewed the coding and proposed corrections. Both authors discussed all suggested changes to agree on a final coding. We classified people by nationality – Dane (d) or Icelander (i) – and by occupation. Occupational categories, abbreviations and counts include economist or analyst at a bank (‘bank analyst’, designated ‘n’, six Icelanders, three Danes), bank executive (‘b’, four Icelanders, one Dane), non-bank business executive (‘x’, three Icelanders), government official or politician (‘p’, five Icelanders), academic (‘c’, two Icelanders, one Dane), or newspaper editor or reporter (‘z’, three Icelanders). Thus, we identified 23 Icelanders and 5 Danes in 31 articles.5 Arguments are our categories for this segment of the community’s immediate responses. We use the concepts expressed by the professionals rather than their exact words in order to improve our focus in the mapping. Individual exact quotes tend to add volume (nodes) to the map, complicating the work of discernment and analysis. Thus, we took the expressions that the members of this segment of the Discourse community used for their rationalisations, speculations or suggestions and categorised them as short-hand phrases amenable to mapping. These arguments fell into three broad areas: those referring to data given in the Danske Bank or other formal reports, or to broad economic terms (‘report-based’, seven items); those based on psychological affects or emotions (‘affective’, five items); and issues or suggestions that were raised for parties to consider and act upon (‘issues’, one item). 4

This is the week from 22–28 March 2006. Contact the authors for a list of the articles used. We had hoped to map the segment of the Discourse community that arose in Denmark as well by including Danish articles, but we found too few sources to allow this. 5 While the Danes quoted in Icelandic newspapers tended to agree with the Danske Bank approach, and thus may be taken to be outside the community segment that we are focussing on, the newspapers featured their arguments either as further information or as a counter-example to particular Icelanders’ arguments. They therefore became a (co-opted) part of the elements of the Icelandic Discourse community. Thus, we include them in our study.

Emotion and Economics    37

We counted an argument only once per person per article. We separately identified each argument that a person made in an article. Similarly, we counted each person separately, whether or not that person made the same argument as another person in the same article.6 Table 1 shows the different arguments, together with their abbreviations and the number of times each appeared in the articles. Report-based arguments represent 63% of the total (53 appearances), affective arguments account for 36% (30 appearances) and issues 1% (1 appearance).

Analytical Approach and Results Illustrating and Analysing the Networks With two kinds of actors – people and arguments – one can establish a two-mode network. Such a network shows both people and arguments as nodes, which means the link or connection between the two can be interpreted as ‘appears with’. We use this two-mode network for an overall view of the Discourse within this segment of the community. There are limits, however, to the kinds of analysis one can perform on a twomode network (Hanneman & Riddle, 2005, chapter 17), so for our discussion we break the network into two single-mode portions. A single-mode network of people shows only people as nodes, connected by arguments. Thus, one can read the links as ‘makes the same argument as’. The second single-mode network features arguments as nodes connected by people. Here, one can interpret the links as ‘is made by the same person as’. Arguments do not have to appear in the same article to be connected; an individual’s arguments are considered as being made within the timeperiod being analysed. For example, an Icelandic analyst need not have


A coding scheme for network analysis can also include differentiation of human actors by their overall attitude towards the situation. For example, this could be shown by distinguishing between a person who supports a particular argument and one who disagrees with the argument, or by separately identifying those who believed that the Icelandic economy was on perilous ground and those who thought otherwise. In fact, we found that less than 10% of the Icelandic human actors in the network expressed any reservations about the stability of the financial system, and none of those had concerns about the hard landing predicted by Danske Bank. Since this is too small a proportion upon which to draw any meaningful conclusions, we did not code actors by their overall attitude. We thank our colleagues for the suggestion, however.

38    David L. Schwarzkopf and Throstur Olaf Sigurjonsson

Table 1:  Argument Types, Summarised Expressions, Abbreviations and Counts. Report-based (‘rational’), n = 53 Economic-technical (ectech, n = 19) ‘They are misinterpreting the data’ (misint, n = 15) ‘The wrong data are used’ (wrdata, n = 7) ‘Bad comparisons are made’ (badcmp, n = 4) ‘Compensating data are missing’ (compdm, n = 4) ‘The reports take a questionable approach’ (oddapp, n = 3) ‘Another report disagrees’ (contrp, 1) Affective (‘emotional’), n = 30 ‘Danes do not know Iceland’ (dkisl, n = 12) ‘Danes are envious of Icelanders’ (dnenvy, n = 9) ‘Icelanders are risk-takers’ (isrisk, n = 4) ‘The media’s approach is questionable’ (mediaq, n = 3) ‘Danes are competing with Icelanders’ (dncomp, n = 2) ‘Icelandic banks should be more Issues, n = 1 transparent’ (transp, n = 1) Notes: Arguments are expressed in terms typically found in the newspaper articles. Counts tally with the number of appearances of the argument. Mentions by the same person in different articles and mentions by different people in the same article are counted separately and included in the total.

made two arguments in the same article or on the same day for them to be counted as two arguments connected by the same person. Measures Used for Quantitative Analysis We used typical measures of network composition and actors’ positions in our analysis. Measures of network composition describe how many

Emotion and Economics    41

Fig. 1:  Two-Mode Network of People and Arguments. Source: Adapted from the authors’ Icelandic publication. Used with permission. accusations of misinterpreted data (misint) and use of the wrong data (wrdata). In addition to these report-related items, charges of Danish envy (dnenvy) and that the Danes do not know Iceland (dkisl), both appeals to the emotions, seem to dominate. Note that politicians (ip) particularly use these two arguments and thus help connect these affective arguments to report-based ones. Report-based arguments, on the other hand, appear prominently in the bank analysts’ (dn, in) repertory, which is not surprising. A moderate amount of possible connections are present in the peoplenetwork of week 1 (Fig. 2) – that is, many people are making arguments in common. Bank analysts seem to represent one well-connected group, while politicians may be on the periphery, making arguments that connect others who would otherwise be rather isolated. Non-bank business executives (x) and newspaper editors’ commentaries (z) do not appear much at this stage. Finally, the argument-network for the first week (Fig. 3) shows that affective arguments and report-based arguments are already well connected – that is, there are people making both kinds of arguments early on. Only one issue, the need for better reporting or transactional transparency from the banks (transp), appears at this time. Quantitative Analysis of Network Structure.  Visual depictions of networks are suggestive rather than definitive, in part because the software

42    David L. Schwarzkopf and Throstur Olaf Sigurjonsson

Fig. 2:  People Network. Source: Adapted from authors’ Icelandic publication. Used with permission.

Fig. 3:  Argument Network. Source: Adapted from authors’ Icelandic publication. Used with permission.

Emotion and Economics    43

used can be manipulated to move nodes around in the drawing.7 Quantitative methods provide more details. Analysis of the people-network reveals that it is moderately dense (57% of all possible connections are present) and relatively compact, with an average shortest distance of 1.51 steps between actors, suggesting that it is easy to connect actors through their arguments directly, rather than by tracing a long chain of arguments. In fact, one-quarter of the people in the network can reach three-quarters of the network in one step – that is, one-quarter of the individuals share at least one argument with three-fourths of the rest of the people. The tendency to form groups, clustering, is high (87%). Nearly all of the individuals (92%) can be said to be in a single core group and 64% of the possible connections among these individuals are present. A total of 82% of the people have 80% or more of their shared arguments take place with individuals who are not in the same role (analyst, bank executive, academic, etc.) as they are. See the first column of Table 4 for details. A closer inspection shows that eight people from four groups (ib7, ic4, in1, in4, in5, in11, in13 and ip6) are connected to at least 80% of the core members. The argument-network reveals a similar structure. The network is moderately dense (58%) and relatively compact (average shortest distance = 1.50 steps). Nearly one-quarter of the arguments (23%) are connected to three-quarters of the other arguments in one step, which means that nearly one-quarter of the arguments are made in conjunction with 75% of the other arguments by the people in the network. There is a high tendency towards clustering (81%), with 38% of the arguments in one core group that is completely connected internally. A total of 38% of the arguments were made in conjunction with 80% or more arguments that were not of the same type (report-based, affective or issues). Details appear in the second column of Table 4. Quantitative Analysis of Individual Network Actors.  We chose normalised scores more than one standard deviation above the mean value in determining central actors on various measures. See the top half of Table 5 for a summary of central people. While no person is noteworthy on all centrality measures, there are prominent actors. In particular, four analysts (in1, in5, in11 and in13) and one politician (ip6) score high on 7

Our illustrations use NetDraw’s default drawing condition, which approximates a multi-dimensional scaling (MDS) technique. MDS places nodes so that the distances between them correspond as closely as possible to the proximities shown in the input data (Borgatti et al., 2002). As Borgatti et al. (2002) note, MDS solutions are not unique – thus our caution in interpreting the graphic display.

44    David L. Schwarzkopf and Throstur Olaf Sigurjonsson

Table 4:  Network Characteristics. Density Average shortest distance Proportion of network reaching 75% of others in one step Clustering Proportion of actors in the core Density of the core Proportion of actors with 80% or more of their ties occurring outside their group

People (n = 28)

Arguments (n = 13)

57% 1.51 25%

58% 1.50 23%

87% 92% 64% 82%

81% 38% 100% 38%

three of the five measures. Equally important, 12 of the 28 people in the network can claim to be central based on at least one of these measures. Both affective and report-based arguments offer candidates for central arguments. ‘Danes do not know Iceland’ (dkisl) scores high on all five centrality measures, as does ‘compensating data are missing’ (compdm). ‘Danes are envious of Icelanders’ (dnenvy), ‘they are misinterpreting the data’ (misint) and ‘the wrong data are used’ (wrdata) are also prominent actors in the argument-network based on at least one of the centrality measures. Central arguments appear in the bottom half of Table 5. Another way of assessing centrality is to examine which actors make the network vulnerable to splitting up. Using KeyPlayer1 software (Borgatti, 2003), we found that fragmenting these networks to approximately one-half of their cohesion – equivalent to dividing the networks into two roughly same-sized sub-networks – would require removing seven people from three groups (ib, in and ip) and three arguments, both report-related and affective, from the argument-network. Interpretation.  Both the people-network and the argument-network at the end of the first week following the release of Danske Bank report are dense, compact and show a tendency towards clustering. Moderate numbers of both kinds of actors are directly connected to (one step removed from) an extensive portion of their respective network. The cores of both networks are large and dense. A high proportion of people show a high proportion of their connections outside their particular role.

46    David L. Schwarzkopf and Throstur Olaf Sigurjonsson

This means that many people are connected by similar arguments and many arguments are connected by being made by the same individuals. Further, a moderate proportion of these connections are close – that is, arguments are made in common by a high proportion of other people. People in particular form a large core group, which means there are not many people who make just one or a few arguments. While core membership may be due to one’s role within an occupational group, the frequency of one’s public statements or one’s availability for interviews, it is noteworthy that core members come from different groups and constitute a large enough number to make a challenge to their point of view difficult. Finally, report-based arguments are likely to be made in conjunction with affective arguments, while arguments of either type are likely to be made by people of different roles. The centrality analyses suggest that a high proportion of people can be regarded as important to the network, where importance means these people offer many arguments or offer arguments that are shared by a large number of others. In addition, these central people come from four different groups (bank analysts, bank executives, politicians and academics). Thus, someone challenging the network’s perspective cannot simply blame a particular cadre (akin to claiming, ‘Of course politicians would say that’). At the same time, there are both report-based and affective arguments that are central – made in common with other arguments. The analysis of network vulnerability emphasises the cohesive nature of the networks.

Discussion: Implications for Citizen Understanding During a Crisis While it may not be surprising that the people in our study are the ones who appeared in the press, given their roles in society, or that these particular arguments were used in this instance, our point is to illustrate how quickly different roles and argument types became densely connected. We see that, immediately from the triggering event suggesting financial instability in Iceland, both the network of professionals and the network of their responses were sufficiently closely interwoven – yet not very centralised – that anyone who would want to alter the tone of the Discourse by challenging the professionals’ notion that the Icelandic banks were stable would have had serious obstacles to overcome. In what Jessop (2004) would call their ‘cultural political economy’, these actors constructed a situation in which no crisis existed. A citizen-challenger could not simply decry one group (say, politicians, bank executives or

Emotion and Economics    47

analysts) as a whole, since each group had representative ‘central players’. Further, a challenger could not be easily heard by dismissing these initial responses as emotional or as examples of the misplaced use of technical approaches. Rather, a challenger would have to address both the emotional aspects and the appearance of technical knowledge at the same time. In short, the first week of responses set the stage for what Little and Lipworth’s (2007) model would predict: The formation of a Discourse community that was rapidly moving towards the phase of pseudo-unity, here because challenges to that pseudo-unity would be hard to launch. The effects of a rapidly rising Type 2 Discourse community are especially pernicious in close-knit societies, since attempts to alter the Discourse can be seen as affronts to trust and accepted ways of life. Thus, to provide a clearer understanding of the Discourse, citizens may benefit from efforts to map parts of the Discourse community network quickly, since by doing so one can see who is participating in the Discourse (and thus, who is not) and how the arguments are being framed. For example, in the Icelandic case it may have proven useful for citizens and legislators to show visually the ownership connections between companies, the connections between boards of directors and the connections between media outlets, politicians and companies. This is what the Special Investigation Commission included in its report on the 2008 bank failure, but of course only after the collapse. A similar public display and description, published as the Discourse is ongoing, can bring such taken-for-granted structures to light and open up worthwhile discussion or at least deepen understanding. Little et al. (2003, p. 82) caution that Discourse can evolve to the point where ‘ideology replaces intellectual originality, and critique becomes more inwardly directed against other “schools” within the Discourse community’. They present the idea of an ‘ethical community’ to salvage a balance in Discourse. This community would consist of open-minded individuals from different backgrounds who would examine the Discourse and the ‘underlying values’ within the Discourse and offer critiques that could prevent the deterioration of the Discourse into mere biased rhetoric. The authors admit (p. 83), ‘It is, however, hard to find examples of successful ethical communities’. Our analysis shows why. The variety of actors and arguments, and the multiplicity of those actors and arguments that can be deemed central to the Discourse, prevent any easy approach to untangle and restore some balance to the Discourse. We propose a more modest step to address potential discursive deflection or silencing (Gunn, 2011). Members of the civic group can

48    David L. Schwarzkopf and Throstur Olaf Sigurjonsson

agree to establish a group outside the community that can serve as ‘translators’ of the Discourse. This group would function much as an arbitration board does, with the important difference that the group would not come to any decisions on behalf of any parties, but would serve to identify the actors and to present the arguments in a clear manner, identifying emotional components as such. That is, the translators would serve as providers of critical analysis during the course of the civic discussion. The design of such a ‘board of translators’ forms part of our current research agenda.8 While we are far from any complete picture of what the board would look like, we realise the community would need to choose members before a ‘major event’ takes place; members would have to be trusted by different segments of the community; and the threat of capture by particular groups within the community would need to be addressed.

Conclusion We heed Ainsworth and Hardy’s (2004, p. 246) advice for CDA researchers to exercise reflexivity in their analyses. For example, it is possible that the financial analysts quoted in the newspapers relied on alternative economic models to show that a banking crisis was not imminent. After all, it is important to bear in mind that none of the foregoing discussion necessarily implies wrongdoing on anyone’s part. Analyses of this sort cannot impute motives. Simply because many parties presented the same argument does not mean that they conspired in their presentation. Nor does it mean that any party intentionally distorted any facts.9 We also acknowledge the necessary limitations of this study, particularly the fact that we confined our analysis to print sources, although anecdotally we 8

Iceland’s National Economic Institution (Þjóðhagsstofnun) was formed in 1974 to monitor economic policies, but was dissolved in 2002. A Parliamentary Review Committee has suggested that the Icelandic Parliament establish a similar group. Although our suggested ‘board of translators’ would have a different mandate, we offer these examples as signs that the idea of such a board is not unreasonable. Some may suggest that this ‘translator’ role is best taken on by independent local media. Unfortunately, as the Special Investigation Commission revealed, Icelandic media ownership was entangled with the financial institutions and politicians involved in the crisis. 9 However, see the report of the Special Investigation Commission to the Icelandic Parliament (Hreinsson et al., 2010) for their conclusions on wrongdoing in events leading to the 2008 collapse.

Emotion and Economics    49

know that local television and radio outlets were reporting on the debate along the same lines. At the same time, CDA does disclose how quickly these actors took control of the Discourse, complicating citizens’ paths towards understanding the issues at hand. Our study holds theoretical and practical implications. On the theoretical side, we have shown that phases of the model of a Type 2 Discourse do reflect actual activity and we have illustrated the structure of an important public segment of such a Discourse during one of its ‘phase shifts’. Practically speaking, the immediate up-welling of emotional arguments in the network suggests cases where prejudices simmer below the surface in the community. It is advisable for local policy makers and administrators to know of these – and of the connections between these arguments – when intervening in community activities. We also have shown how one can measure the structure of these networks of Discourse communities while identifying key actors in them. An intriguing question that is worth future study is the extent to which members of the Discourse community identify spokespeople who are to be the most noticeable and outspoken in the group and thus become some of the central actors in the network by design. All involved in social exchange stand to benefit from knowing who these designated representatives are, either in order to interpret their statements as indicators of the Discourse community’s sentiment or to weigh their statements for possible bias. One must remember that challengers to a Discourse are simply those actors who are outside of the initially formed Discourse community – that is, those who have not joined in the ‘pseudo-unity’. It is worthwhile to ask what structural network elements turn by-standers to a Discourse into active members. Obviously, there is much work yet to be done in describing and analysing Discourses that arise from a major triggering event. If the creation of networks of actors and arguments in the phase of initial reaction to the event is a natural occurrence, then the least one can do is to make these networks visible in hopes of improving the quality of the Discourse and the accountability of the community.

Acknowledgements The authors gratefully acknowledge helpful suggestions from colleagues at seminars held at Reykjavík University and Bentley University. Reykjavík University provided financial support for this research.

50    David L. Schwarzkopf and Throstur Olaf Sigurjonsson

This chapter focusses on the crucial first week of data from the authors’ study with A. A. Arnardóttir, written in Icelandic and oriented for Icelandic policy makers, involving the evolution of an Icelandic social network over nine months (Sigurjónsson, Schwarzkopf, & Arnardóttir, 2011). Thus, parts of the introduction, methodology sections and tables repeat in English some of the Icelandic material with the permission of Stjórnmál & Stjórnsýsla.

References Ainsworth, S., & Hardy, C. (2004). Critical discourse analysis and identity: Why bother? Critical Discourse Studies, 1(2), 225–259. Borgatti, S. (2002). NetDraw: Graph visualization software. Harvard, MA: Analytic Technologies. Borgatti, S. (2003). KeyPlayer1. Boston, MA: Analytic Technologies. Borgatti, S. P., Everett, M. G., & Freeman, L. C. (2002). UCINET 6 for Windows: Software for social network analysis. Harvard, MA: Analytic Technologies. Borradori, G. (2003). Philosophy in a time of terror: Dialogues with Jürgen Habermas and Jacques Derrida. Chicago, IL: University of Chicago Press. Callon, M. (1986). Some elements of a sociology of translation: Domestication of the scallops and the fishermen of St. Brieuc Bay. In J. Law (Ed.), Power, action and belief: A new sociology of knowledge? (pp. 196–229). Sociological Review Monographs. Keele: Keele University Press. Gee, J. P. (1999). An introduction to discourse analysis: Theory and method. New York, NY: Routledge. Gunn, A. M. (2011). Discourses that silence and deflect attention away from the interests of low-wage workers experiencing job loss. Critical Discourse Studies, 8(1), 31–44. Hanneman, R. A., & Riddle, M. (2005). Introduction to social network methods. Retrieved from Hreinsson, P., Benediktsdóttir, S., & Gunnarsson, T. (2010). Aðdragandi og orsakir falls íslensku bankanna 2008 og tengdir atburðir (Vol. 1). [Background and causes of the Icelandic banks’ collapse in 2008 and related events.] Reykjavík, Iceland: Althingi. Retrieved from addragandi-og-orsakir-falls-islensku-bankanna-2008/ Jännäri, K. (2009, 30 March). Report on banking regulation and supervision in Iceland: Past, present and future. Retrieved from frettir/KaarloJannari%20_2009_%20Final.pdf Jessop, B. (2004). Critical semiotic analysis and cultural political economy. Critical Discourse Studies, 1(2), 159–174.

Emotion and Economics    51 Jónsson, Á. (2009), Why Iceland? New York, NY: McGraw-Hill. Latour, B. (1987). Science in action. Cambridge, MA: Harvard University Press. Law, J. (1986). On the methods of long-distance control: Vessels, navigation and the Portuguese route to India. In J. Law (Ed.), Power, action and belief: A new sociology of knowledge? (pp. 234–263). Sociological Review Monographs. Keele: University of Keele. Law, J. (2009). Actor network theory and material semiotics. In B. S. Turner (Ed.), The new Blackwell companion to social theory (pp. 141–158). Chichester: Wiley-Blackwell. Little, M., Jordens, C. F. C., & Sayers, E.-J. (2003). Discourse communities and the discourse of experience. Health (London), 7, 73–86. Little, M., & Lipworth, W. (2007). Focused discourse: An exploratory essay. VELim Occasional Monographs Series No. 2. Sydney, Australia: Centre for Values, Ethics and the Law in Medicine. Lysaght, T., & Capps, B. J. (2012). Public discourses of stem cell science in Singapore (1997–2010). New Genetics and Society, 31(4), 342–358. McKenna, B. (2004). Critical discourse studies: Where to from here? Critical Discourse Studies, 1(1), 9–39. Merrill Lynch. (2006, March 7). Icelandic banks: Not what you are thinking. Retrieved from Icelandic%20Banks.pdf Morgunblaðið. (2005a, 4 August). Eigendur Magasin kaupa einnig illum. [Owners of Magasin also buy illum.] Retrieved from grein.html?grein_id=1031150 Morgunblaðið. (2005b, 30 November). Baugur kaupir hlut í dönsku fjárfestingarfélagi. [Baugur buys share of Danish investment firm.] Retrieved from vidskipti/frettir/2005/11/30/baugur_kaupir_hlut_i_donsku_fjarfestingarfelagi/ Morgunblaðið. (2006, 10 March). Halda áfram að fjárfesta í Danmörku. [Continue to invest in Denmark.] Retrieved from frettir/2006/03/10/halda_afram_ad_fjarfesta_i_danmorku/ Morgunblaðið. (2010, 9 January). Interview with Már Guðmundsson. Markaðurinn. (2005, 7 September). Fréttir vikunnar [News of the week.] Retrieved from Paltridge, B. (2006). Discourse analysis: An introduction. New York, NY: Continuum. Pickering, A. (1995). The mangle of practice: Time, agency, and science. Chicago, IL: University of Chicago Press. Seðlabankinn News. (2006, 21 February). Fitch ratings. Fitch revises Iceland’s outlook to negative on widening macro imbalances. Retrieved from http:// Sigurjónsson, Th. O., Schwarzkopf, D., & Arnardóttir, A. A. (2011). Viðbrögð tengslanets við gagnrýri á fjármálastöðugleika Íslands. [Networks’ reaction to criticism of Iceland’s financial stability.] Stjórnmál & Stjórnsýsla. [Icelandic Review of Politics and Administration.], 7(1), 163–186.

52    David L. Schwarzkopf and Throstur Olaf Sigurjonsson Stuart, K., & Botella, A. (2009). Corpus linguistics, network analysis and co-occurrence matrices. International Journal of English Studies, 9(3), 1–28. Valgreen, C., Christensen, L., Andersen, P. P., & Kallestrup, R. (2006, 21 March). Iceland: Geyser crisis. Copenhagen, Denmark: Danske Bank. Retrieved from Wasserman, S., & Faust, K. (1994). Social network analysis: Methods and applications. New York, NY: Cambridge University Press.

Chapter 3

Public Trust in Institutions in Pre- and Post-Crisis Iceland (I): Take the Lift Down, But Use the Stairs Up Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir Abstract Trust is considered instrumental for economic growth, successful operation of public institutions and social cohesion. We explore how public trust in Icelandic institutions has developed during the recent tumultous financial times, including the failure of the Icelandic banking sector. Using data from Gallup-Iceland’s annual survey of individuals’ trust in institutions, we show that trust in general, and particularly towards political and financial institutions, evaporates following the crisis year of 2008. Although trust varies significantly among different demographic groups, the trend shows how the road to recovering trust in Icelandic institutions post-crisis has proven to be challenging and drawn-out. Apart from law-­enforcement agencies, which were relatively unscathed by the financial calamities, no institution has managed to escape the drop in trust, nor have they re-established the pre-crisis level of trust in the minds of the public nearly a decade after the crisis. A notable personal post-crisis exception is the recently elected President of Iceland who has managed to improve trust in his office by the highest margin of all 15 public offices and institutions examined. Keywords: Financial crisis; institutions; political economy; trust; Public Institutions; Public Confidence Measures

The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 53–76 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181004

54  Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir

Introduction Public trust in institutions collapsed together with the big banks in Iceland during the financial crisis in 2008. The conventional wisdom about trust claims that once broken it takes a long time to restore. Restoring trust in public institutions is, however, critical for democracy to work. As financial capital can be considered the oxygen for economic activities, and good quality information as the oxygen for public policy, trust can be considered to be the life-sustaining element in the political processes of democracy. In his comments on capitalism and democracy, Wolf (2017, para 8) put it this way: In reverse, the financial crises that destroyed globalisation in the 1930s and damaged it after 2008, led to poverty, insecurity and anger. Such feelings are not conducive to the trust necessary for a healthy democracy. At the very least, democracy requires confidence that winners will not use their temporary power to destroy the losers. If trust disappears, politics becomes poisonous. As discussed in chapter 8 in this volume, a number of crisis-induced investigations have been launched in the name of public accountability in order to restore trust in the aftermath of the financial crisis in Iceland. Still, public trust is struggling, not yet reaching pre-crisis levels. Although economic recovery after the crisis has been staggering, social recovery measured in public trust in institutions has been suffering. In the aftermath of the financial crisis, Iceland has experienced unprecedented public outrage, demonstrations of discontent and political instability (Bernburg, 2016). Public distrust has almost been palpable. Complaints about a lack of trust are loud. However, to restore public trust in institutions we need to understand more about the evident distrust and disentangle who these distrustful people are and what they are sceptical of. Is the distrust driven by marginalised demographic groups or is it indeed a phenomenon that mirrors current affairs at every point in time? Have all institutions in Iceland suffered from low public trust or are there institutions enjoying more trust than others? Towards whom and by how much has trust returned or remained absent? This chapter examines measures of Icelanders’ trust in Icelandic institutions using Gallup-Iceland’s survey results of trust among individuals from 2001 to 2017. As mentioned above, this is one of the two chapters we are contributing to this volume. Our analysis in this chapter distinguishes between a wide range of institutions in order to show a broad picture of what happened to trust towards established institutions beyond finance

Take the Lift Down   55

and politics. We also are able to show what characterises the ‘distrustful people’ in terms of age, gender, level of education and rural or urban dwelling. Bjarnason (2014) explored the same dataset with a similar aim but focussed on the year 2012. Our contribution lies in the expanded timeframe of the analysis and the use of different estimation techniques. In chapter 8 we move that we have written for this collection moves beyond data analysis to examine some of the theories behind trust in or distrust towards institutions, and to show some of the steps Icelandic institutions took in the name of public accountability. Our analytical approach here starts by looking at public trust in the aggregate by collapsing together annual measures of all institutions. We then proceed towards political institutions: attitudes towards elected representatives in Parliament (Althingi), Reykjavík city council, the President of Iceland, and the Althingi’s ombudsman, who is elected by Parliament. Following this, we cover the financial sector: trust in the Central Bank of Iceland (CBI), the Financial Supervisory Authorities (FME), banking institutions and the debtor’s ombudsman (DO). Finally, we describe measures of trust towards such social service institutions as the national health care system, the University of Iceland and the National Lutheran Church.

Data and Methodology Following the example of Gallup-America (2017), since 2001, GallupIceland (formerly Capacent-Gallup) has conducted an annual survey in Iceland during February or March on trust in Icelandic institutions. While the American version of the survey asks for the respondents’ confidence in institutions, Gallup-Iceland has translated the word into Icelandic as traust, which most commonly means trust (Gallup-Iceland, 2017). Gallup’s response scale changed over time. During the years 2001–2009, Gallup asked respondents to mark institutions on a scale ranging from 1 to 5: 1 – I have very little trust. 2 – I have some trust. 3 – I have no opinion. 4 – I have quite a lot of trust. 5 – I have a great deal of trust. Starting in 2010 and continuing till today, Gallup added: 0 – I have no trust

56  Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir

While we find it interesting that the ‘no trust’ choice entered the survey shortly after the financial collapse, to keep our analysis comparable across the years, we combined responses ‘0’ and ‘1’. We used 172,982 measurements of individuals’ trust in 15 institutions. We excluded measurements from 2007 because of an imbalance in the age distribution of respondents compared with other years. Gallup added institutions to their survey as different institutions gained relevance in the public debate over the course of time, so the timespan varies by institution, as noted in our analyses. Gallup also collected respondents’ demographic data: age, education level, rural or urban dwelling and gender. We used these in our analyses, typically comparing groups to a ‘base-line’ group as noted in each table. This allows us to isolate how the measure of trust varies over time, independent of the possible influences of different demographic groups that may have been significantly marginalised by the financial calamity.

Development of Trust: An Overview Pooling together measurements of trust towards all institutions year by year illustrates the overall sentiment in Iceland. Fig. 1 clearly shows a drastic shift in public trust towards Icelandic institutions starting in 2009, as the results consistently conform more closely to a uniform distribution post-crisis, away from a rather convincing pre-crisis left-scewed distribution around proportion ‘4 – I have quite a lot of trust’. In the pre-crisis years (2001–2008), between 51% and 60% of the population claimed to have either quite a lot of trust (‘4’) or a great deal of trust (‘5’) in Icelandic institutions (Table 1). That level of trust has not been restored post-crisis, as the combined ‘4’ and ‘5’ proportion has varied from 35% to 45%. The shift is most profound between no or little trust (‘1’) and quite a lot of of trust. Post-crisis, from 15% to 22% claim no or little trust, dwarfing the highest pre-crisis rating of 10.6% in 2008. At the same time, the gap between the proportions of ‘1’ and ‘4’, which ranged from 28% to 38% pre-crisis, narrowed dramatically from 1% to 11% post-crisis. One sign of a shift in momentum, however, comes from the increase in the proportion expressing a great deal of trust (‘5’), which has grown from 10% in 2009 to nearly 20% in 2017, exceeding the pre-crisis average share of ‘5’, that is, 18.6%. It is also worth noting that the number of respondents showing indifference (‘3’ or no opinion) seems to be fairly constant over the period before 2009, but in 2010 became the most expressed view, to remain so for most of the time after the crisis.

Take the Lift Down   57

Fig. 1:  Annual Distributions of Trust Scores, Combined for 15 Icelandic Institutions. Source: Authors’ data based on Gallup-Iceland surveys.

Trust in Elected Representatives Overview (see Fig. 2) Parliament. The first surveys conducted after the financial crisis had hit showed that public trust in elected representatives collapsed along with the country’s banking sector. In 2008, about 43% of the population claimed

58  Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir

Table 1:  Responses to Gallup-Iceland Survey of Trust in Institutions, Percentages by Category by Year. All Institutions Combined. Year 2001 2002 2003 2004 2005 2006 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Average






6.5 5.9 5.0 6.5 6.9 5.6 10.6 22.1 20.0 20.2 21.4 17.7 15.6 17.9 19.3 15.6 13.6

11.6 12.6 10.3 13.0 12.9 11.0 13.3 16.3 17.4 14.5 15.1 13.8 12.9 14.7 13.5 12.5 13.5

22.2 20.7 22.1 21.1 22.2 21.7 21.8 24.2 26.7 24.8 24.2 26.4 28.5 24.4 25.7 26.7 24.0

38.3 42.1 43.1 41.5 40.2 42.1 38.8 27.5 25.5 24.2 22.8 25.2 26.2 24.5 24.1 25.6 32.0

21.4 18.6 19.6 17.8 17.9 19.6 15.5 9.9 10.4 16.3 16.5 16.9 16.8 18.6 17.4 19.5 17.1

Notes: Responses. 1 – I have very little or no trust; 2 – I have some trust; 3 – I have no opinion; 4 – I have quite a lot of trust; and 5 – I have a great deal of trust. Year 2007 data are omitted because of inconsistencies with other years’ distributions of respondents. Gallup-Iceland introduced response 0 – I have no trust, in 2010. We have combined those responses with category 1.

to have either quite a lot of trust (‘4’) or a great deal of trust (‘5’) in Parliament (Althingi), while only about 13% could say the same in 2009. Reykjavík city council. Measures for the councillors began with the 2008 survey, which produced their lowest ‘4’ or ‘5’ trust rating at 9%. Their ratings, however, remained above those for the Althingi until recently. The President. Ratings for the president entered the survey only in the past five or so years. Iceland’s former president, Olafur Ragnar Grimsson, enjoyed more trust than parliamentarians, with 59% of the population scoring trust in him as ‘4’ or ‘5’ during 2014. But during his first year in office, that is, 2017, newly elected President Gudni Th. Jóhannesson

Take the Lift Down   59 100 90

Althingi - Icelandic Parliament

Althingi’s Ombudsman

Reykjavik City Council

President of Iceland

80 70 60 % 50 40 30 20 10



















Fig. 2:  Share of Population Showing High Trust (‘4’ or ‘5’ on GallupIceland survey) in Elected Representatives. Source: Gallup-Iceland surveys.

received a vote of trust of 83%, exceeded only by that placed in the coast guard and the police (see above). Althingi’s ombudsman. The Office of Parliament’s Ombudsman is in a league of its own, with significantly greater public trust shown towards the office compared to parliamentarians. The ombudsman is responsible for monitoring the administration of the state and local authorities and for safeguarding the rights of citizens vis-à-vis the authorities. In 2003, the office had the backing of as much as 69% of the population; still, trust dwindled during the immediate post-crisis period down to 41% in 2013. It is worth noting that the office’s ‘4’ or ‘5’ rating has consistently been above that of the Althingi itself. Details Before we discuss the details of the surveys of trust in political institutions, we briefly introduce our analytical procedures. We hope this will help all readers, despite academic background, to understand our approach.

Take the Lift Down   61

r­egression equation while keeping all of the demographic factors constant. That is, we kept the demographic data constant, so yearly changes were not affected by demographic changes. The base year varied from institution to institution, depending on when Gallup-Iceland started asking participants their opinion on the institution. For the Althingi, the base year is 2002; for Reykjavík city council, it is 2008. Thus, the coefficients given in the tables for each year are the change in that year’s measure from the base year’s measure. In Fig. 3, it is the difference from any given year’s point to the institution’s first point on the curve. Again, what matters for each year is (a) the direction of the change, (b) the size of the change and (c) whether the change is significant statistically. This is how we can tell the true rises and falls in public opinion. Fig. 3 depicts average scores year by year for trust in political institutions, holding all demographic factors constant. As one can see, after the crisis, the Althingi scored much lower than all the other political bodies measured. The discussion that follows looks at the regression results for the entire period, 2002–2017. We generally find statistically significant differences in views of the Parliament, with nearly all age groups rating that body lower than done by 18- to 24-year-old respondents, but with female respondents, rural inhabitants and those with higher education rating Parliament higher than done by men, urban dwellers and those with only elementary education. The same holds, where respondent’s age is concerned, with the ­Reykjavík city council, but nearly the opposite is seen with the Parliament’s ombudsman. Higher education generally improves trust towards the city council and ombudsman, but gender and location send mixed signals. The demographic differences noted above are based on results over the years. Taking these variations into account, we now turn to changes by year, first looking at trust in Parliament and its ombudsman, compared with the base year of 2002. When holding demographic factors constant, we see a significant shift occurring in 2009, when trust in Parliament declines by 0.73 scores compared to the base year of 2002. Trust continued to decline in the following years, 2010–2012, by more than a full level (that is, greater than one point) in 2011 compared to a decade earlier. There was an up-tick in the level of trust in Parliament in 2014, but scores dipped again in 2015, and even further in 2016. At the same time, trust in the Office of the Ombudsman also begins its statistically significant decline in 2009, with its low point reached in 2013 with a drop of 0.46 points compared to 2002. Notably, however, the average decline in the ombudsman’s score over the 2002–2017 period was 0.33 points, half of Parliament’s average drop of 0.56. (Note again that 2007’s results are not included because of

(1) Althingi

0.012 0.221*** 0.467*** 0.645*** 0.680***

(2) Althingi’s Omudsman

High-school 0.119*** 0.205*** University 0.283*** 0.529*** Gender (vs Men) and Location (vs Urban) Women 0.113*** −0.232*** *** Rural 0.074 −0.027

Education (vs Elementary)

Age (vs 18–34 years) 25–34 −0.227*** 35–44 −0.222*** 45–54 −0.158*** 55–64 −0.115*** 65+ −0.058



0.171*** 0.082***

−0.063** 0.048


0.033 0.251***

−0.209*** −0.189*** −0.311*** −0.273*** −0.344***

(5) Reykjavik City Council

0.069** 0.259***

−0.302*** −0.306*** −0.238*** −0.151*** −0.077

(4) Althingi Post-Crisis

0.211*** 0.362***

−0.119** −0.072. −0.029 −0.141 −0.116

(3) Althingi Pre-Crisis

Table 2:  Regression Estimations of Trust Towards Political Institutions.

0.116*** 0.260 ***

0.003 −0.304***

−0.056 −0.075 −0.189** −0.051


(6) President of Iceland

62  Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir

−0.846*** −0.546*** −0.736*** −0.820*** −0.558*** 2.92*** 14,016 0.13 0.13

−0.735** −0.794*** –1.02*** –1.09***

−0.050 0.184*** 0.142***

0.216*** 0.162*** 0.086 −0.103 −0.026 −0.124** −0.035 −0.317*** −0.389*** −0.332*** −0.434*** −0.458*** −0.391*** −0.363*** −0.396*** −0.338*** 3.27*** 12,130 0.10 0.10 2.90*** 4,245 0.03 0.02

−0.051 0.182 0.128

0.212*** 0.165***

−0.985*** −0.692*** −0.0881*** −0.969*** −0.704 *** 3.12*** 10,396 0.08 0.08

−0.869*** −0.938*** –1.16*** –1.24***

Year (vs 2008)

Notes: *p < 0.10, **p < 0.05, and ***p < 0.01. Year 2007 data are omitted because of inconsistencies with other years’ distributions of respondents.

2003 2004 2005 2006 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Constant N R2 Adjusted R2

Year (vs 2002)

0.703*** 0.797*** 0.372*** 0.285*** 0.760*** 0.988*** 0.833*** 0.495*** 0.631*** 1.96*** 9,788 0.06 0.06

−0.268*** −0.288*** 0.136*** 0.968*** 3.28*** 4,309 0.11 0.11

Year (vs 2013)

Take the Lift Down   63

64  Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir

measurement inconsistencies and that these figures represent the average of each year’s score versus that of 2002.) Meanwhile, each year has seen an increase in trust in Reykjavík city council members compared with that institution’s base year of 2008 (Table 2, Regression 5), with the largest rise coming in 2014, 0.99 points (nearly an entire level) higher than that of 2008, exceeding the Althingi’s estimated increases from 2009 onwards – even though both institutions have their annual rise and fall. Further, from 2009 onwards, the city council’s ratings are above those of the Althingi’s. Fig. 3 also shows the increase in trust shown in the newly elected President Gudni Th. Johannesson, who received an average score of 4.25 in 2017, just shy of the highest score Gallup respondents granted to any institution (see later Discussion).

Trust in the Financial Sector Here we consider attitudes towards the CBI, the FME, the DO and the banking system. Most important is the overall view of this sector: In the 100 Banking Institutions Financial Supervisory Authorities FME Debtor’s Ombudsman Central Bank of Iceland

90 80 70 60 % 50 40 30 20 10 0











Fig. 4:  Share of Population Showing High Trust (‘4’ or ‘5’ on Gallup-Iceland survey) in Banking Sector Institutions. Source: Gallup-Iceland surveys.

66  Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir

Table 3:  Regression Estimations of Trust Towards Financial Institutions. Category

(7) Central Bank of Iceland

(8) Financial Supervisory Authority

(9) Debtor’s Ombudsman

(10) Banking System

Age (vs 18–34 years) 25–34 35–44 45–54 55–64 65+

−0.128** −0.106** −0.106*** 0.065 0.195***

−0.194*** −0.166*** −0.137*** 0.048 0.113

−0.089 −0.129 −0.055 −0.041    0.093

−0.182*** −0.192*** −0.250*** −0.134***    0.013

   0.079    0.294***

−0.040 −0.008

   0.085**    0.047


Education (vs Elementary) High-school University

0.022 0.294***

0.041** 0.248***

Gender (vs Men) and Location (vs Urban) Women Rural

−0.019 −0.075***

0.064*** −0.025

Year (vs 2009) 2009 2010 2011 2012 2013 2014 2015 2016 2017 Constant N R2 Adjusted R2

0.501*** 0.733*** 0.525*** 0.860*** 0.947*** 0.921*** 0.874*** 1.02*** 1.78*** 9,682 0.08 0.08

0.334*** 0.447*** 0.408*** 0.773*** 0.748*** 0.734*** 0.790*** 0.735*** 1.67*** 9,630 0.09 0.08

Notes: *p < 0.10, **p < 0.05, and ***p < 0.01.

Year (vs 2014)

   0.008    0.111*    0.007    2.65*** 3,663    0.02    0.01

−0.027 Year (vs 2008) −1.35*** −1.30*** −1.29*** −1.18*** −1.07*** –0.923*** −1.19*** −1.23*** −0.982*** 3.25*** 10,441    0.09    0.09

Take the Lift Down   67

‘4’ or ‘5’ proportion of 15% to 33% in 2017. The FME’s proportion has also increased from 5% in 2009 to 22% in 2016, although 2017 saw some back-sliding. Gallup only measured public trust in the financial sector during the crisis and afterwards. Still, they give a vivid picture of how differently the public players in this group have managed to restore trust compared with the drawn-out process of the banking sector. By the time we reach 2017, CBI shows an increase of 1.02 points (an entire level of score) and the FME an increase of 0.73 points over 2009 in the ‘4’ to ‘5’ category. Both CBI and FME have yearly scores higher versus 2009’s results. The banking system shows more volatility year by year in how much above 2009’s level they are. Again, by 2017, the proportion is significantly higher than in 2009 by 0.37 points. See the trends in Fig. 5. In the years leading up to the banking crash, the sector enjoyed quite a lot of confidence and approval among the public. When Gallup polled people’s opinion regarding the operations of Icelandic business tycoons abroad, including bankers, only 7% of the population disapproved and thought such business was harmful for the Icelandic economy, while a resounding 86% thought that it benefitted the economy (Thorisdóttir, 2010). Yet, only 40% of the population claimed that they had quite a lot or a great deal of trust in the banking sector in 2008 when Gallup started polling in this area. The DO is a government agency established during the period of crisis to process the debt relief cases of individuals with an unsustainable debt burden as a consequence of the crash. Trust in the DO has been measured for a few years only. Its proportion of scores of ‘4’ and ‘5’ seems to track closely to that of the CBI, but as the economy enters a new booming period, that proportion is trending towards the proportion shown by other non-CBI members.

Trust in Law-Enforcement Agencies The only sector included in Gallup’s polls of trust that came out of the financial calamity relatively unscathed are the law-enforcement agencies, who also enjoy the highest level of trust among institutions measured in 2017. This group includes the police force (PF), the national coast guard (NCG), the public prosecutor (PP) and the judicial system (JS). The NCG is placed on the very top, with over 90% of the population having either quite a lot or a great deal of trust in it. The PF follows close behind, with 85% of respondents in the ‘4’ or ‘5’ categories. With a heavy load of cases

68  Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir 100 90 80 70 60 % 50 40 30 Police Judicial System National Coast Guard The Public Prosecutor

20 10



















Fig. 6:  Share of Population Showing High Trust (‘4’ or ‘5’ on Gallup-Iceland survey) in Law-Enforcement Institutions. Source: Gallup-Iceland surveys. in the post-crisis era, dealing with highly publicised indictments brought against financiers, the JS has been on a generally upward trend since the crash, but with notable ups and downs (Fig. 6). Looking at average scores, holding demographic factors constant, the law-enforcement agencies have ranked high (score of ‘3’ or above) steadily throughout the period 2003–2017, except for the JS, whose average trust score has hovered around 2.5 (Fig. 7). Despite the high level of trust in the law-enforcement agencies across the board, there are differences by demographic group. Compared with the youngest participants in the survey (18- to 24-year olds), older groups show higher trust in the PF, as do women, respondents with more education than elementary school and rural inhabitants. Trust in the PF has remained relatively strong even during the turbulent post-crisis years (see Table 4, Regression 11). There are fewer noteworthy differences in Icelanders’ views towards the NCG, which has enjoyed high trust in the six years of its inclusion in the survey (see Regression 12). Demographic differences in age and education produce results for the JS similar to those seen for the PF. (But one should notice the sizeable positive difference between university degree holders’ views compared

Take the Lift Down   69 5.00 4.50 4.00 3.50 3.00 % 2.50 2.00 1.50

The Police


National Coast Guard


The Public Prosecutor

Judicial System

















Fig. 7:  Average Overall Survey Trust Scores for Law-Enforcement Agencies. Source: Gallup-Iceland surveys. with those with only an elementary education.) Women tend to have less trust in the JS than men by a small margin of 0.13 points, and people in rural areas are more trusting than those in the urban area by 0.07 points (see Regression 13). Fig. 7 shows the up-and-down status of trust in the JS, with no obvious directional trend, although the regression shows nearly each year’s outcome to be below the 2002 base-year level. Finally, the PP’s yearly scores have each been higher on average during the post-crisis period than in that office’s base-year of 2011 (Regression 14).

Trust in Social Service Organisations: National Church, Higher Education and the Health Care System We complete our overview of trust in Icelandic institutions by looking at those that are perhaps the most removed from the turmoil of the financial industry. Suggesting that the loss of trust in institutions runs deeper than the roots of the crisis is the notable change in trust towards the state-run National

Take the Lift Down   71

Table 4: (Continued) 3.38***

Constant N R2 2

Adjusted R
















Notes: *p < 0.10, **p < 0.05, and ***p < 0.01. Year 2007 data are omitted because of inconsistencies with other years’ distributions of . respondents

Lutheran Church of Iceland (NLCI), which experienced a steep decline in those claiming quite a lot or a great deal of trust (‘4’ or ‘5’) in the institution. From close to 60% in 2002, the proportion plummets to 29% in 2012, before showing a modest recovery to around 38% in the years 2013–2017 (Fig. 8). 100 90 80 70 60 50 40 30 20 Health Care System National Lutheran Church University of Iceland


Fig. 8:  Share of Population Showing High Trust (‘4’ or ‘5’ on Gallup-Iceland survey) in Social Service Institutions. Source: Gallup-Iceland surveys.



















72  Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir 5.0 4.5 4.0 3.5 3.0 2.5 2.0 1.5 Health Care System


National Lutheran Church University of Iceland


















Fig. 9:  Average Overall Survey Trust Scores for Social Service Institutions. Source: Gallup-Iceland surveys. High levels of trust in the health care system also suffered recent losses, declining from a peak of ‘4’ to ‘5’ ratings of 74% in 2011 to 46% in 2016. Yet, the system’s scores managed to bounce back to 62% in 2017. The University of Iceland also lost a significant amount of trust in the post-crisis period, and has not been able to climb back to its former high levels. The University had the strong (‘4’ to ‘5’) confidence of 90% of the population in 2008, ranking highest of all Icelandic institutions measured at the time. In 2010, 76% of the population had that level of trust towards the institution, a proportion that stayed roughly the same in 2017. We note, however, that the three groups that we examined here have enjoyed roughly the same, reasonably high, overall average level of trust from the public since they were first measured (Fig. 9). The exception again is a dip in the NLCI ratings. The health care system has had relatively smooth sailing through the crisis period, with the average public trust score at or around 3.5 on the scale of 1–5, as has the University of Iceland with trust scores between 3.45 and 3.60. The NLCI, on the other hand, has seen the trust towards it decline from 3.57 in 2002 to 2.67 in 2012, stabilising at 2.8 in recent years. As expected, different demographic groups view trust towards these expert institutions differently (see Table 5). Opinions of the NLCI and the University of Iceland vary by age, with older groups showing more trust

74  Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir

Table 5:  (Continued) 2015 2016 2017 Constant N R2 Adjusted R2

−0.203*** −0.557*** −0.228*** 3.62*** 14,682 0.04 0.04

−0.787*** −0.713*** −0.781*** 2.97*** 13,535 0.10 0.10

−0.302*** −0.254*** −0.205*** 4.16*** 13,356 0.03 0.03

Notes: *p < 0.10, **p < 0.05, ***p < 0.01. 2007 data omitted because of inconsistencies with other years’ distributions of respondents.

in the NLCI than younger groups, but showing generally lower trust in the University of Iceland than their younger counterparts. Women show less trust in the health care system than men do, but more trust in the NLCI and the University of Iceland than their male counterparts. Annual changes in trust scores generally bear out the story stated in Fig. 9, particularly noting that the NLCI has not recovered from the status it enjoyed in 2002, while the University of Iceland’s scores have been roughly stable since 2009, although again lower than the 2002 level.

Conclusions Apart from law-enforcement agencies and the President of Iceland, Icelandic institutions still have a long way to go in regaining trust after the turmoil of the great financial crisis (although one must always watch the public’s reaction to a government official after his or her first year in office). Those under the heaviest criticism as the main culprits of the collapse, the banking sector, have a notably bigger task ahead than others, as does the sector’s watchdog, the FME. Although trust varies between institutions, age groups, education groups, gender and rural/urban residency, the financial sector is the one battling the most scepticism. A successful restoration of trust is critical, given the importance of trust in maintaining financial as well as political stability. Technology’s looming disruption of finance is already posing threats to financial institutions that are large and that proved to be dangerous. How these institutions will address rapid

Take the Lift Down   75

technological progress in an atmosphere of increased regulation and public wariness deserves close attention. The stubbornly low public opinion of the financial surveillance authority, FME, as an effective stabilisation and law-enforcement mechanism, poses risks in itself, even as increasing competition in the banking sector may in turn trigger instability (Allen & Gale, 2004). Effective financial oversight and a healthy banking sector are necessary complements to financial as well as price stability and economic growth. If we are to look for signs of hope that the climb up the stairs to renewed trust can be accomplished, perhaps the impressive turnaround in trust towards the President of Iceland suggests that all sectors can benefit from exemplary individual leaders to enable the return of trust in the close-knit society of this small island nation.

Acknowledgements When writing this chapter Guðrún served as Vice-Chair of the Board of Directors of Arion Bank, Iceland. The authors are deeply thankful towards Gallup-Iceland for providing data and support for this chapter, and towards David L. Schwarzkopf, Katrin Olafsdóttir and Gylfi Zoega for helpful comments. Errors are the authors’ alone.

References Allen, F., & Gale, D. (2004). Competition and financial stability. Journal of Money, Credit, and Banking, 36(3), 453–480. Bernburg, J. G. (2016). Economic crisis and mass protest: The pots and pans revolution in Iceland. Abingdon: Routledge. Bjarnason, T. (2014). Traust í kreppu: Traust til Alþingis, lögreglu, stjórnmálamanna og forseta Íslands í kjölfar hrunsins. [Trust in crisis: Trust towards Althingi, the police, politicians and the President of Iceland in the aftermath of the banking crisis.] Íslenska þjóðfélagið [Icelandic Society], 5(2), 19–38. Gallup-America. (2017). Confidence in institutions [survey]. Retrieved from aspx?g_source=position7&g_medium=related&g_campaign=tiles Gallup-Iceland. (2017). Trust in Icelandic institutions [database]. Retrieved from Thorisdóttir, H. (2010). Afsprengi aðstæðna og fjötruð skynsemi: Aðragandi og orsakir efnahagshrunsins á Íslandi frá sjónharhóli kenninga og rannsókna.

76  Guðrún Johnsen and Sigurbjörg Sigurgeirsdóttir [Situational determinants and bounded rationality: Causes and consequences of the Icelandic economic collapse from the viewpoint of social psychology.] In P. Hreinsson, S. Benediktsdóttir, & T. Gunnarsson (Eds.), Aðdragandi og orsakir falls íslensku bankanna 2008 og tengdir atburðir (Vol 8, pp. 275–297). [Background and causes of the Icelandic banks’ collapse in 2008 and related events]. Reykjavík, Iceland: Althingi. Retrieved from addragandi-og-orsakir-falls-islensku-bankanna-2008/ Wolf, M. (2017). Capitalism and democracy: The odd couple. ­Financial Times, 19 September. Retrieved from

Chapter 4

Trust: Some Questions from a Layperson* Einar Már Guðmundsson Abstract It seems a commonplace notion that when we talk about trust, we are really talking about the lack of trust. After all, if there were solid trust throughout society, we would not have to talk about it at all. But if we discuss lack of trust, are we to start with institutions or the individuals in the institutions? It would help us if we knew whether we need to fix wayward institutions or educate individuals for more ethical behaviour. Moving from thoughts of the ideal to the practical, we have seen how Icelanders have felt the effect of institutions and individuals gone astray in a two-fold manner: first, through the actions of those parties; second, as they listened to the painful but necessary story of those days in its repeated telling by the Special Investigative Commission. Hope remains, however, because, as natural disasters show us, when stripped of its trappings, human character can still revive our sense of trust. Keywords: Greed; inequality; neoliberalism; politics; technical legalism; trust

What kind of an age is this, where A discussion about trees is almost a crime Because it includes silence about so many misdeeds! ––Bertolt Brecht (1939) *Translated from the Icelandic by Anna Yates. The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 77–83 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181005

78    Einar Már Guðmundsson

So wrote Brecht (1939) in his poem An die Nachgeborenen (To Those Born Later). Brecht did not mince his words, writing in exile. Today nobody talks about trees unless they are in danger of extinction or have already been felled. No, that’s not quite right. In saying this I fail to take account of the Icelandic Forest Service and other forest organisations around the world. But that is not what Brecht is talking about. He is thinking about a situation which is so horrendous that beauty has been marginalised. There is, on the other hand, a lot of talk about trust; but most of the people talking about it actually mean the absence of trust. Not on the personal level of individuals no longer trusting each other, but the absence of trust within society, so that people no longer trust politicians and officials, banks and other financial institutions – perhaps even the law courts. The same applies to me, when I agree to write a little essay about trust: I’m not sure which to trust – my own judgement, or other people’s sweeping generalisations – and I don’t even know whether there is any difference. Human dignity, they say, Though without realising that words are costly, Nor what they can use to pay. Thus spoke Icelandic poet Sigfús Daðason (Daðason, 1959, stanza 1). What I am trying to say, here at the start, is probably this: If there were an atmosphere of trust in society, we wouldn’t be talking about trust. And when you are asked to write a piece about trust, you know in advance that the subject will be the absence of trust. Interesting, isn’t it? Yes, and as I sit down here to marshal my thoughts, one such case is in the headlines – that is, the matter of documents about the financial dealings of influential people in Icelandic society. Documents that were stolen, but are said to be relevant to the public interest, and for that reason have been publicised in the media. Next, an injunction is taken out, at the request of the financial institution from which the documents were leaked. One media company – the one that holds the leaked documents – is banned from making their content public. A huge brouhaha ensues. The Bishop of Iceland, the Right Rev. Agnes Sigurðardóttir, declares that it is unethical to steal documents in order to uncover the truth, and urges a debate in society on ethical standards. Someone, surely, will ask the Reverend Bishop: But what if the truth shall make you free? – and no doubt the answer to that could be that freedom is not ethical, as we know from experience.

Trust: Some Questions    79

That last idea is just me thinking freely, my belief in the power of the question mark. But a number of people rose up to contradict the bishop – members of the clergy among them – in defence of freedom of speech. And a well-known journalist pointed out that stolen documents had provided evidence that exposed sexual predators within the Church of Iceland, citing an infamous example of one such offender, who had been protected by the church. And wasn’t Christ himself viewed as a criminal by the authorities of his time? It doesn’t matter what view we take of what the bishop said, and of the objections to her words, but this case sums up the problem in a nutshell. Wrong is wrong, but it may be right. Sometimes the ends justify the means, but the means can be toxic. We address a tragedy but it has, of course, its funny side, and is full of paradoxes. Another point worth making is that the debate about trust within society is widespread and framed in much the same terms: There is a general lack of trust within society, and the public do not trust the authorities. That discourse is going on all around the world. But I have heard a lecturer maintaining that there is more trust within the societies of the northern hemisphere than in most others around the world – despite the blows trust has been dealt in recent years. The financial crisis of 2008 is often cited as a turning point. It doesn’t matter how we approach it: Lack of trust is everywhere. And that leads to another question: Where does the lack of trust come from? Is it a function of social reality, or does it arise from humanity and our flaws – or even the Seven Deadly Sins? Are they always with us, taking on varying forms in different societies? If we apply the question to politics, we could ask: Is the system corrupt, or are the politicians who operate the system corrupt? If the latter is true, we may ask: Would it be enough to send the politicians to Sunday School? They would come out and tell everybody to behave nicely. Obviously, it’s not that simple. The usual rejoinder preferred by those who are not trusted is: It was all within the law; I didn’t do anything illegal. But what about the legislature? We have always seen the law as an embodiment of our sense of justice, but then it is used to maintain injustice. Is that because injustice is legal, or is the law unjust? ‘Money makes monkeys of many men’, says the Old Norse poem Hávamál (Words of the High One)1. If we examine the society of neoliberalism – which wanted to abolish all regulations – in the light of 1

See stanza 75 in Hávamál, available in English at Poetic_Edda/Hávamál.

80    Einar Már Guðmundsson

Hávamál, which may be termed the ethical teaching of a cultural heritage, the question arises: Would it have been possible to restrain those whom money had made monkeys? That was the role of the politicians, but the monkeys appear to have co-opted them instead. How did they do it? ‘We were noble to the extent we were useless’, wrote Albert Mathiez (1922; Vol.1, p. 1) in his book on the French Revolution: ‘Birth and idleness conferred privileges [on the nobility] that became more and more burdensome to those who created . . . the wealth’. Interesting perspectives may be gained by comparing the French aristocracy on the eve of the French Revolution of 1789 with today’s elite, more than two centuries on. The class that gained its power in the Revolution is today the idle group that holds sway through wealth and power – that famous 1% who seem to exist in every society. The inference is that lack of trust is a function of inequality. The rich claim that their wealth went to heaven when the banks collapsed. Question: Why didn’t they go with it? Within our history and civilisation lie paradoxes. Civilisation is grounded in evolution over centuries. In it, culture crystallises as progress – the best we have given each other over millennia, thousands of years of human consciousness. Yet, every child must learn from scratch how to behave, and the child becomes part of that story, the history. Reference is sometimes made to Aristotle, who said that three factors must go together: knowledge, skill and ethics. As with trust and lack of trust, these factors have been cleft asunder so that knowledge is primarily identified with schooling – although we know for ourselves that those who have studied are not necessarily educated if by education we mean the cultivation of mind and heart, and how we have learned the values that have evolved over centuries. Sometimes the arts, poetry and literature are seen as battling against meaninglessness and vacuity – and that vacuity leads to the darkness of today. It is the role of literature to safeguard the memory of humanity and the path that we have come along, to recount human victories and defeats, possibly to learn from them. Perhaps, literature is a resistance movement of the human, perhaps an ambassador of hope. For thousands of years, men and women have been putting the large and small events of their lives into words – developing the art of narrative. That is how mankind safeguards its memory, transforms events into tales and facts into history. Thus, the age, the past, is always with us – lying beneath the bunk in the cabin of the world, sneaking past the custom

Trust: Some Questions    81

officers of time. And the same is true of trust. It must be an integral part of culture and memory. Let us turn to more worldly matters. In turbulent times, we Icelanders say that it is skammt stórra högga á milli (one heavy blow after another). And that was what the first week of April 2010 was like – and in fact the next week, and the ones after that. It is always one heavy blow after another, and some people make particularly inviting targets. One might have said then, like T. S. Eliot, ‘April is the cruellest month’. It is, admittedly, a paradoxical remark – April being the harbinger of spring and sunshine. But in The Waste Land, Eliot was talking about the end of civilisation. Before the collapse of the Icelandic banking system in 2008, most Icelanders believed that they lived in a relatively open and free society. Certificates of health were always being issued for Iceland by one international body or another: The Icelanders were the happiest nation in the world, in the least corrupt society on earth. This was the best of all possible worlds, as in Voltaire’s Candide. But the collapse of the banks revealed something completely different: Corruption spewed out of every office and ministry and bank. This was more a waste land of indolence and lethargy. Ideals were the object of ridicule, and history was dismissed as ‘obsolete’. Monday, 12 April 2010, began with the report of the Althingi’s investigation commission on the economic collapse – whose full title is in fact Antecedents and Causes of the Collapse of the Icelandic Banks in 2008 and Related Events. The report was presented at a press conference that was broadcast live. Viewers held their breath. You could have heard a needle drop, all through society, for the publication of the report had been postponed repeatedly. Some had jumped the gun and compiled their own reports. For a time it seemed that the report had no hope of success and everyone would be against it. If there was a lot in the report, there would be an uproar. If there wasn’t much in it, there would also be an uproar. However – strange but true – the report was right on the money. So much so that voices were raised in other countries, calling for such reports to be compiled there too. Corruption was not confined to Iceland. We are not as special as we think, not even when it comes to corruption. The investigation commission’s report encompasses the various aspects of the disaster, hence it should be a good guidebook for a nation that wants to set things right. It’s a sort of Twelve-Step Programme – except that there are nine volumes – of the kind generally proposed to alcoholics, overeaters and gambling addicts.

82    Einar Már Guðmundsson

The commission that prepared the report on the economic collapse did a sterling job. The people involved were of the highest calibre and watching the release was rather like being at a local club’s meeting, except that the reporters were waiting with bated breath and a knot in their bellies to ask the questions they had prepared long, long before. They heard before they listened, and they listened without hearing. And perhaps they were right – as those who had jumped the gun and thought they knew what would be in the report were pretty much right. The report provided confirmation, by and large, of what the public had concluded from what they knew. There was no need for experts; everyone was an expert. No, that’s not quite right. There was plenty in the report that enhanced and deepened our understanding of what happened. In a book form, the report went straight to the top of the bestsellers lists – and the consensus was that it was more gripping than most crime fiction. While the report is concerned with complex financial transactions, it is written in accessible language, lucid and readable. Maybe the future generations will see it as a work of literature – even an achievement in that field. It is possible to read between the lines the sorrow and sadness of the members of the commission. In Iceland, reality is like a new literary form, stranger than any fiction. Extreme surrealists sound like realists, crime stories like lullabies, and fantasies cannot hold a candle to the imagination of the útrásarvíkingar, Expansionist Vikings, from Iceland. The narrative of the Commission’s report is interspersed with transcripts of interrogations. Before long, the nation was chuckling over some of the priceless remarks made by former financial hotshots, officials and politicians. Terms such as skrúðkrimmi (‘bling gangster’) and auðróni (‘wealth-bums’) were coined, reflecting the report’s revelations of how the banks’ owners had robbed the banks from the inside – which we knew anyway. And we also knew how governments and monitoring bodies had been negligent and derelict in their duties. And that corruption permeates the political parties. And that business and politics do not make good bedfellows. It was possible to go to the theatre and hear the report read aloud, and now, seven years on, it is being produced on stage by the same group that adapted the classic Saga of Njáll for the theatre. The report could be listened to, or read for free online, or bought in a bookshop. It sold like hot-cakes, was reprinted again and again. But the ink was hardly dry on the first print-run when the bankers and the politicians started their blame deflection: No laws had been broken; everyone was innocent until proven guilty.

Trust: Some Questions    83

Yes, all that familiar discourse was being recycled, when a volcanic eruption began under the Eyjafjallajökull glacier, just two days after the report was published. While the volcano cannot be said to have stolen the Commission’s thunder, people remarked at the time that it was a stroke of luck for the financial elite, bankers and politicians, and that they had probably enlisted the devil on their side, or begged for his help at the fateful moment – as so many of them were said to have sold him their souls. It took nothing less than a volcanic eruption to divert attention away from the responsibility of those who were responsible. During the eruption, we Icelanders also realised that we have brilliant geologists, a civil defence system of the first order and rescue teams who willingly venture over mountain and wilderness and back again to save the lives of travellers in difficulties. Iceland has, in other words, a lot of people with skills and professional expertise, people we trust – because sometimes when everything collapses, reality comes to light, and then, hidden somewhere behind all the lack of trust, there is trust.

References Brecht, B. (1939). An die Nachgeborenen. Retrieved from https://www.lyrik Dadason, S. (1959). Hendur og orð (Hands and words). Retrieved from http:// Mathiez, A. (1922). La Révolution française. Paris: Librairie Armand Colin. Retrieved from

Part II: Responses A Summary of the Chapters in Part II Efforts to regain trust with national, transnational, and local responses. What theory can tell us. Kristín Loftsdóttir and Már Wolfgang Mixa bring an anthropological and cultural-finance perspective to the crisis and its aftermath. Based on interviews and media analysis, they examine the rise of the notion of the ‘Business Viking’ and that image’s embodiment of Icelandic cultural ideals during the ‘manic millennium’. At the same time, they view the collapse as not simply a financial disaster but a blow to the nation’s view of itself in the global economy and, at home, of its perceived unity of attitude. In fact, as they point out, it may be that the notion of a unified national attitude contributed to institutions’ ability to manipulate individuals’ trust. Two leading economists, Friðrik Mar Baldursson and Richard Portes, add to our understanding of the role that the International Monetary Fund played in securing the fiscal stability of Iceland after the collapse. They demonstrate how capital controls served to steady the economy, albeit with some unintended consequences. They analyse the problem of non-Icelanders holding accounts in Icelandic banks’ branches outside Iceland (the Icesave issue) and its implications for fiscal policy and international relations. Throughout, they review the occasionally conflicting advice that the Icelandic government and Central Bank had to weigh. Guðrún Erla Jónsdóttir provides us with a look at the loss of the public’s trust and efforts to regain it within a mostly non-financial enterprise, Reykjavík Energy, showing the extent to which the seeds of scepticism about institutions had been planted before the crisis. She recounts the firm’s needs for immediate shoring up of trust at the same time as it tried to put in place longer-term solutions. Although most efforts have had some success, executives are now aware of how tenuous any claim to the public’s trust could be. In contrast to their earlier data-driven chapter, Sigurbjörg Sigurgeirsdóttir and Guðrún Johnsen focus on theory for their second contribution to the volume. The authors underscore the importance of public accountability by introducing us to the various arenas where accountability comes into play, including the media, the judiciary, independent investigative bodies and the legislature. They draw our attention to the ways that some parties try to balance accountability to the public with ‘blame management’, perhaps to the detriment of restoring trust.

Chapter 5

‘Not Just Crying About the Money’: Iceland and Globalisation During Boom and Crisis Kristín Loftsdóttir and Már Wolfgang Mixa Abstract The enormous financial losses during the economic crash in Iceland led to widespread anxieties, coupled with a deep sense of shared national disaster and moral collapse (Bernburg, 2015; Ólafsson, 2014). The strong sense of betrayal indicates how economic processes are not only about economic prosperity, but are embedded also in wider societal discourses and a sense of national identity (Schwegler, 2009). We use perspectives from anthropology and cultural economics to ask how the lack of trust by the Icelandic population after the crash signals both a different way of visualising Iceland’s role within an increasingly global world and a changing sense of Icelanders as national subjects standing unified against foreigners. Iceland’s neo-liberalisation inserted the country into global institutions and processes with the faith that these processes would automatically be beneficial to Iceland. Furthermore, the sense of some kind of a unified Icelandic subject was manifested in the image of the ‘Business Viking’, which was seen as embodying the interest of the Icelandic nation as a whole. Following the economic crash, the betrayal of trust involved disrupting the idea of the ‘oneness’ of Iceland and thus, the sharp distinction between ‘us’ Icelanders and ‘those’ foreigners. In our discussion, we trace different ways of conceptualising this sense of Icelanders as a unified entity, asking what this notion means in terms of trust. Our research shows how the sense

The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 87–109 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181006

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of ‘unified Icelanders’ was instrumental in creating the feeling of trust, and how it is possible to manipulate and appropriate that trust. Keywords: Business Viking; cultural economics; international finance; mistrust; national identity; transparency

Introduction The enormous financial losses during the economic crash in Iceland in 2008 led to widespread anxieties, coupled with a deep sense of shared national disaster and moral collapse (Bernburg, 2015; Ólafsson, 2014). This strong sense of betrayal reflects how economic processes never only revolve around financial, monetary or market concerns but stay firmly embedded in a wider societal context (Schwegler, 2009). Based on perspectives from anthropology and cultural finance, we ask how the lack of trust by the Icelandic population after the crash signals a different view of Iceland’s engagement and position within an increasingly global world. Globalisation refers to economic and social processes while also involving certain ways of regarding the wider world, where ideas of ‘the global’ become a part of people’s imagined worlds and, as stressed by Henrietta Moore (2004, p. 74), a realm that they engage with and act on (see also Appadurai, 1996). While Iceland has historically always been connected to the outside world (Agnarsdóttir, 2013), the country’s neo-liberalisation, begun in the mid-1990s, led to a new kind of involvement in globalised economic governance, where Iceland became a part of various transnational networks and agreements. The rapid technological advances that occurred in telecommunications, cumulating with the development of the Internet, were especially significant in connecting Iceland to international markets and the wider economic community (Mixa, 2014). Icelanders had faith that these processes would be automatically beneficial to the country. Here, the mobilisation of the idea of the nation was a crucial component and, as we show, instrumental in creating support and trust for an economic adventure that was conceptualised as taking place by a generic Icelander in the global or ‘outside’ world. As our analysis shows, the crash was a major breakdown of trust and reflected a significant change – moving from the pre-crash notions of the Icelandic people as a collective whole that had, to a large extent, similar stakes in globalisation processes, towards a stronger visualisation of ‘the global’ as an insecure space where trust is not self-evident. We are influenced by the recent scholarly emphasis on globalisation as involving contradictory

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processes (see, e.g., Tsing, 2005; West & Sanders, 2003).1 Our emphasis on globalisation processes being contradictory also critically evaluates the assumption that a linear process of modernisation is enacted on passive subjects (Inda & Rosaldo, 2008). During the current era of global interconnections, the idea of ‘transparency’ has come to be seen as fundamental to the operation of economic and political institutions. Transparency is thus conceptualised as crucial in generating or providing the base for trust between individuals or institutions (see the discussion in West & Sanders, 2003). In today’s neoliberal economy, auditing and accurate, objective information gathering information gathering have become the usual primary methods to create transparency and thus trust (Jiménez, 2011, p. 179). Jiménez claims that the interesting part about ‘trust’ today is perhaps not so much what trust ‘is’, but more ‘what kind of work the notion does’. His question points to the need to analytically address what trust means in a contemporary global economy and how a sense of trust or mistrust mobilises people in particular ways. As we show, during the Manic Millennium years in Iceland – to borrow a term from Mixa (2009) – when the economy seemed booming, trust was deeply intertwined with nationalistic sentiments, condensing down to a sense of the ‘one-ness’ of the Icelandic nation. Thus, we ask how an era of ‘trust’ facilitated the production of a following era of ‘non-trust’. To better understand this and the links between the sense of trust and the ways of ‘imagining the global’, we connect the economic crash in Iceland with recent events related to the Panama Papers, where the sense of trust was also a major issue. We find again that trust became entangled with questions of Iceland’s global involvement and the particular interests of Icelanders within the global system. We base our discussion on media analysis and on interviews with 18 bankers taken from 2011 to 2013, a few years after the crash. While the participants occupied different positions, most had experience as investors or middle managers in banks. The interviews did not revolve particularly around trust, but the participants’ views of trust can be teased out in the sense of betrayal that most of those interviewed had experienced. Our discussion is also informed by the analysis of material appearing in various media, including two Icelandic business journals (Markaðurinn and Viðskiptablaðið) during 2006 and 2007, and speeches by key politicians 1

Scholars have debated the distinction between the global and the local, and many have stressed its superficiality (Inda & Rosaldo, 2008). While we recognise the superficiality of this binary, we also see it as analytically useful to capture certain processes.

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during the same period. The research shows how the sense of unity that Icelanders felt was instrumental in creating the feeling of trust, and additionally that it is possible to manipulate and appropriate trust, creating different outcomes for diverse stakeholders.

Iceland’s Economic Boom as an Economy of Trust and Collectiveness Describing the Icelandic economic boom as the ‘Manic Millennium’ captures the extraordinary growth of the Icelandic economy, especially within the financial industry, from 1999 to 2008. As the then prime minister casually put it in a 2006 speech, ‘Many of you know that Iceland has been the European growth tiger in the past few years’ (Forsætisráðuneytið, 2006). This sense of excessive economic growth was coupled with the notion that a new future was in store for Iceland (Mixa, 2009, p. 292) that would create a sharp break from Iceland’s past as a poor European country under Danish rule until 1944 (Loftsdóttir, 2014). The free flow of capital with the outside world had been heavily restricted between 1930 and 1995, but these restrictions were abolished to adhere to the parameters set when Iceland joined the European Economic Area (Sigurjónsson & Mixa, 2011). Due to rapid advances in telecommunications and a changing banking arena, Icelandic bankers and most of the population went from not being able to invest internationally at all to doing so simply via the Internet. Iceland’s entry into the world of global relations took place with a series of neoliberal changes during the 1990s, in line with an increased worldwide neoliberal emphasis. As suggested by Shiller (2001), the fall of Communism facilitated the success of the neoliberal agenda, and with it, as stressed by Elliot (2014), an ideological vacuum was created where neoliberalistic notions had little counterbalance. With the aid of neoliberal philosophies and policies, leading politicians and leaders of the business community stressed that Iceland was to be transformed into an international financial hub. Iceland’s prime minister declared ambitiously, for example, in early 2005 that he had the dream of seeing Iceland become an international financial centre, servicing international firms. He stated that the Icelandic banking system needed to adjust to international markets in that sense, while still noting that he was not proposing that Iceland would be transformed into a tax haven (Morgunblaðið, 2005a). A committee set up to follow through on that dream released a report in October 2006, suggesting various ways to compete in international markets, including, for example, encouraging businesses by using a sliding scale

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that would lower the percentage of taxes that companies owed as their profits in nominal terms increased (Nefnd forsætisráðherra um alþjóðlega fjármálastarfsemi, 2006).2 The economic expansion was often conceptualised as revolving around the Icelandic investors who were taking over the world, thus often using the vocabulary of conquest and subjugation. For example, a news story in 2007 in Markaðurinn about Landsbankinn opening up saving accounts in Europe bore the headline ‘Invading Europe’ (‘Innrás í Evrópu’) (Helgason, 2007), while an overview of the Icelandic banks’ foreign acquisitions in Viðskiptablaðið during the same year was titled, ‘The whole world [is] at stake’ (Heimurinn allur undir) (Jónsson, 2007, pp. 12–13). Such stories reflected a particular image of the global market as something to be ‘taken’ or ‘grabbed’ by Icelandic investors, which they could do after the neo-liberalisation reforms to make their mark internationally. Nationalist rhetoric propaganda in the media and advertisements worked towards unifying the Icelandic population behind the economic adventure, often speaking as if it was the nation itself that was heading towards this future (Loftsdóttir & Mixa, 2014). The apparent success of Icelandic banks and Icelandic businesspeople formed an essential part of this image, as they were seen as representing the nation as a whole (Loftsdóttir & Mixa, 2014). Operating at the same time as this view of the elite was the sentiment that anyone in Iceland, under the right circumstances, could become a part of the elite. Further, being Icelandic began to imply possession of certain essential characteristics, with various media describing Icelanders as ‘energetic’ and even quirky (Loftsdóttir, 2010).3 The individuals in the economic spotlight were seen as reflections of the exceptional character of all Icelanders, and thus showed that Icelanders were suited for the fast neoliberal world of banking (Loftsdóttir, 2014; Loftsdóttir & Mixa, 2014). The reality was that Icelandic banks and bankers had hardly any experience in banking, beyond the most elemental type (Mixa, 2014). Prime Minister Geir Haarde’s Independence Day speech in 2008 shows quite clearly how association between the Icelandic nation and the Icelandic banking system was simply regarded as self-evident (Forsætisráðuneytið, 2008).


The report emphasised that it did not endorse tax haven practices in the areas of governance, laws and tax regulations. 3 The recently booming tourist industry has used an oddly similar image, branding Icelanders as quirky inhabitants of an exotic nation, where many people believe in elves (which is not at all true).

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When looking at the state of international financial markets, it shows that few things are more valuable than trust and credibility. Such qualities are not only valuable to individuals, but also to nations and companies. The Icelandic nation enjoys trust and it is important that our companies do so also, especially the financial companies. Banking is based on mutual trust.4 Here, the nation and companies are mixed together, with financial companies becoming ‘our’ companies, that is, embodied by the nation. During the Manic Millennium years, new administrative and political elites appeared in Iceland, coming from the business and financial sectors. The elites were, to some extent, comprised of owners of businesses that had strong ties with the main owners of the banks. While class divisions were a part of Icelandic society long before this era, part of the nationalistic self-image in Iceland has been a sense of the nation as a classless society (Oddsson, 2010, p. 7). The touted characteristics of the Icelandic business elites as embodying and representing all Icelanders were accompanied ironically by significantly growing disparities in class and economic power. This sense of a unified body of Icelanders was, nevertheless, further celebrated by business journals, businessmen, politicians and leading cultural figures positioning ‘Icelanders’ strongly against the rest of the world – in particular against the Danish, Iceland’s old colonial rulers (Loftsdóttir, 2012). This sense of Icelanders against ‘foreigners’ – seen as either envying or admiring Iceland’s entry into the global world – was on clear display when international reports started to question the country’s economic ‘miracle’. The Danish Danske Bank issued a report in 2006 pointing out that the Icelandic banks were too indebted and the Icelandic economy was over-heating (see the discussion in Schwarzkopf and Sigurjónsson in this book, Chapter 2). The acting Minister of Foreign Affairs stated in an interview that something was ‘unnatural about the criticism that the Danske Bank issued’.5 She implied that this had more to do with jealously among the Danes after ‘Icelanders started to invest 4

Our translation from the original. In the Spring of 2006, the research arm of Danske Bank issued a short report, Iceland: Geysir Crisis, that received heavy criticism within Iceland following its publication. Practically, all of the warnings in the report turned out to be valid (Valgreen, Christensen, Andersen, & Kallestrup, 2006). One of the authors of the report, Carsten Valgreen, a few years later wrote weekly columns in the business section of Iceland’s most-read newspaper, Fréttablaðið. 5

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greatly in Denmark’ (Kristjánsson, 2006). As Schwarzkopf and Sigurjónsson discuss in Chapter 2 of this volume, it was extremely difficult for criticisms of the Icelandic economic adventure to be evaluated, in part because Icelandic politicians used emotional arguments to discredit these criticising reports, thus entangling emotion with economics. Galbraith’s (1955/1997) now classic observation that trust in leaders is a pre-requisite for creating a sense among people that their leaders provide them benevolence, draws attention to the importance of the media in creating the mood necessary to establish the platform for huge risk-taking. The Icelandic tabloid media were active in reporting positively on the lifestyle of rich investors and other celebrities within the financial community (Mixa, 2009, 2015). The new Icelandic business elite – often dubbed the Business Vikings – engaged in extensive consumption that was previously unknown in the country (Oddsson, 2010, p. 8), but which the media portrayed as particularly desirable.6 Close business and political connections have been prevalent in Iceland (Vaiman, Sigurjónsson, & Davíðsson, 2011, p. 258), but a gossip magazine article gives a clear sense of how far support for and trust in the economic adventure had gone by the Spring of 2008. Photos show politicians mingling with businesspeople at a conference, with one CEO interviewed by the magazine commenting about the good relationship existing between politicians and the business community (Séð og heyrt, 2008). The magazine presents this relationship in a pleasant and positive way, with an emphasis on the desirable lifestyle of the rich and famous, and with no concerns about corruption. Notably, many politicians were criticised following the crash for having received high campaign donations (Vísir, 2009a, 2009b, 2009c). During the Manic Millennium years, media ownership was increasingly in the hands of the banks’ biggest customers or their owners (Áskelsdóttir, 2010; Guðmundsson, Ólafsson, Jóhannsdóttir, & Broddason, 2010, p. 256), with parts of the news coming directly from the financial companies themselves (Guðmundsson et al., 2010, p. 265). Media reports presented apparently ‘hard’ facts from different rating companies, and the numbers demonstrated the success of financial firms. Halldór Ásgrímsson, then the prime minister, in a 2006 speech, emphasised the importance of auditing practices in creating trust towards the economic miracle: This favourable description of the economic situation in Iceland is recognised by distinguished international


This matches the mood described by many historical writers, such as Allen (1931) and Chancellor (2000).

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organisations such as the OECD and the IMF, as well as the major international rating companies, Moody’s and Standard and Poor’s. (Forsætisráðuneytið, 2006) Many foreign analysts visited Iceland to give speeches reinforcing the notion of the Icelandic economic miracle (Wade & Sigurgeirsdóttir, 2011). Trust towards leaders and the business elite was an underlying factor in Icelandic discussions at that time, with leading Icelandic politicians emphasising it directly as being important for the growth of the Icelandic economy in a global world. As Halldór Ásgrímsson said in May 2006 at an economic conference: ‘These three concepts – one of the best, trustworthy and reliable – are in fact keywords in the discussion about the Icelandic economy today’ (Forsætisráðuneytið, 2006). People trusted that the global processes of international investment were beneficial as a whole and that all Icelanders somehow would share these benefits. An example of the public’s blind trust towards financial institutions is that the most widely held stock in Iceland during that period was Exista, an investment firm whose investment style was compared by the media with that of Berkshire Hathaway (BH) (Morgunblaðið, 2005b; Wallop, 2006). While BH may be a solid company built, in large part, through insurance operations that include the use of leverage, the comparison was far-fetched. Whereas BH historically has had a diversified asset portfolio, as of late September 2007, Exista had approximately 80% of its investments in three financial companies: Kaupthing bank and two other international financial institutions (Kaupthing Equity Research, 2007), known to be takeover targets of the bank. It was thus an investment fund placing almost all of its investments in the financial sector. To some at the time, this may have sounded like a safe investment, but what mostly went unnoticed was that Exista was very risky due to leverage. To illustrate: Say a company invests $100 in shares but uses only $30 of its own money to do so and borrows the remaining $70. If the value of the investment’s underlying assets causes the share price to rise by $30 (30%), the investing owner’s equity shows a $30 gain on a $30 investment – a 100% increase. However, leverage works both ways. The shares need only lose $30 of value to wipe out the investing company’s portion of the investment, since the investor must repay $70 to its lender. So a 30% drop is a 100% loss for the investing company. In other words, leverage magnifies both the gains and losses of the underlying portfolio. By examining Exista’s 2007 annual report, it should have been obvious that the company posed a considerable risk, since it had borrowed 70% of all its investments, meaning that its own equity was only 30% of the assets.

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In fact, due to accounting practices, the ratio was closer to 20% (Mixa, 2015). Clearly, if the market value of the financial institutions that Exista invested in would fall enough, as had happened only five years prior to 2007, Exista would have nothing left and its own shares would be nearly worthless. What shows the public’s blind faith in Exista even more vividly was the firm’s market value. During 2006 and 2007, Exista’s shares were usually traded on Iceland’s stock exchange at a price corresponding to 1.5–1.8 times the worth of the company’s underlying net assets.7 Shares of investment companies normally trade around a ratio of 1-to-1 – simply their net asset value, mirroring the net worth of the underlying investments in the company’s portfolio. This overvaluation was, without doubt, partly due to the high profits that Exista enjoyed during the boom period. Most investors attributed this to some ingenuity by the company’s investment team despite the firm’s limited investment diversification, while in reality the major profits were mainly due to the use of leverage (Mixa, Bryant, & Sigurjónsson, 2016). To find a similar description of irrational trust by the public towards financial companies, one needs to go back to Galbraith’s analysis (1955/1997) of the Roaring 1920s in the United States prior to the major stock market crash. The Production of Ignorance The extensive crony capitalism and cross-ownerships that characterised the Icelandic economy during the Manic Millennium years has been extensively reported (e.g., Sigurjónsson et al., 2011), showing a lending spree that may have, in some cases, been more beneficial to the friends of the bankers than the owners of the banks (Sigurjónsson & Mixa, 2011, p. 216). In retrospect, it is ironic that Transparency International ranked Iceland as one of the world’s least corrupt countries from 2001 to 2006, basing their findings on definitions of corruption developed by global institutions such as the World Bank, where the main focus was on ‘individual misdeeds’ (Johnson, Einarsdóttir, & Pétursdóttir, 2013, p. 185). Such approaches to corruption can hide other forms that take place during rapid liberalisation, such as 7

Generally referred to as the price-to-book value of the company. When it comes to investment holding companies like Exista, net asset value (the book value in the ratio) is the estimated value of the holdings minus liabilities. To find the value for each share, the figure is simply divided by the number of the outstanding shares of the holding company.

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‘organised extortion by officials or the looting institutionalised into some privatisation schemes’ (p. 185). With today´s neoliberal economies relying on auditing to create a sense of transparency and thus trust (Jiménez, 2011, p. 179), the positive rating of Iceland as one of the world’s least corrupt countries generated a sense of trust both within and outside the nation. Further, Davies and McGoey (2012) suggest that in some cases bankers simply systematically went ‘with the flow’ to earn short-term profits with less regard to long-term risks so that when the crash occurred in 2008, they could claim some sort of rational ignorance. The phrase seeks to capture the notion that the bankers’ ignorance of a wider historical and social understanding of their investments was rational in the sense that it sheltered them from criticism over their investments, which in the larger context were irresponsible and irrational. Who could question the Icelandic economic adventure, when it was so obvious that politicians and the media said that it was positive and thus deserved trust? In fact, it seemed so self-evident before the crash that people would have faith in the banks that regular opinion polls by Gallup measuring trust in particular public institutions did not include questions on the banks or financial institutions until 2008. In our interviews with people in the financial industry, some said that they never doubted the economic adventure and had full faith in their leaders, while others felt that there was something not quite making sense. One woman, Participant A, experienced within the banking arena, exemplifies such criticism when claiming that it always bothered her that she could not understand how the Icelandic economy could grow so fast. She says, putting emphasis on the word many: There were many things that I did not understand and I always said to myself that I have to attempt to understand this better and that I was probably just missing something. For example, how could these men buy and sell companies and always get more and more money from doing so? It is difficult to know to what extent leading individuals within the Icelandic business community – later seen as bringing Iceland to ruin – were conscious of what they were doing. We can refer to Shore and Wright (2011, p. 16), who point out that ‘New forms of governance create spaces where particular individuals can appropriate and manipulate the resources of government behind the scenes to more personal political ends’. As these authors stress, it can be difficult to know whether the neoliberal changes created spaces for new elites or whether the elites themselves brought the ‘neoliberal reforms into effect’ for their own benefit (pp. 16–17).

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They warn that we should not assume that ‘economic actors pursue purposeful goals’ (p. 6) and that decisions are made by fully informed strategic choices – rather, policies are often unpredictable (p. 3). This is in line with the anthropological emphasis of focusing the diverse and unexpected outcomes of policies, where we should not assume rationality as a given (Ferguson, 1990; Shore & Wright, 2011). As suggested by Davies and McGoey (2012), choices that are irrational for the system as a whole, due to added risk-taking, can be rational for the individual banker as they minimise his or her personal risk. Participant A’s description of the decision-making process in the bank draws attention to this idea that rationality for the system or society as a whole does not necessarily match rationality for individual actors. She says: The banks worked far, far, far too fast, which meant that if someone somewhere in the system got an idea they would just run with it. Anyone deviating from this aggressive trend in banking was just left behind. When the collapse of the banking system appeared in the papers, they had no idea what was going on. So even though the financial institutions looked fine on the surface, I have heard many stories of the large majority of employees of the banks having no idea what was going on. One can speculate on how this blind trust towards the banks, financial institutions and the rating firms stimulated risk-taking. Someone who did not follow the aggressive trend was not seen as doing his or her job and was ‘left behind’. Participant B, who had been responsible for the management of large funds within a large bank, similarly shows how the system discouraged any expression of self-criticism. She points out that if bad investment decisions were consistent with what others were doing, then it was seen as ‘bad luck’, but when inconsistent with what others were doing, the investor took a much more personal risk in terms of his position. Those individuals with banking experience in Iceland’s young and fast-growing banking sector did not necessarily follow the more aggressive trends and were soon sidelined, replaced by those celebrated in their workplace and in the media for taking the highest risks – which, for a while, yielded maximum profits (Mixa, 2015, p. 40).8 8

Michael Lewis describes this phenomenon in the book Liar’s Poker, where the traders who had made the most money recently were generally described as ‘Big Swinging Dicks’, which was the ultimate praise.

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The above is in line with research literature regarding the pressure to conform that investment advisors face in order to appear to be prudent, even during periods when ‘prudent’ investing is anything but rational by most standards. Peter Lynch (2000) observes that fund managers tend to have their biggest holdings in well-known and respected companies, regardless of whether those are indeed the most sensible choices. While no one would question such choices during market meltdowns, much more scrutiny would follow if the large holdings were in lesser-known companies. Shiller (2001, p. 8) shows that fiduciaries, people who take care of other people’s money, are required to remain ‘prudent’ in their investment decision-making, that is they ‘must act on conventional wisdom, not their own judgement’. It follows that fiduciaries do not ‘deviate too far from what others think is right, and inevitably doing that often means following the investment which has outperformed in recent years’ (p. 9). Participant B described this similarly: If losses occur, fund managers have less explanation to do if they are associated with well-known companies, almost regardless of the true risks of alternative companies or the rationality of the market prices of known companies.

The Economic Crash as a Breakdown of Trust The economic crash viewed as a breakdown of trust becomes more understandable when put in the context described above. Even during the Manic Millennium years, warning signs of the impending crash were evident, with only 40% of respondents in 2008 claiming that they had trust in the banking system, compared, for example, to 80% trusting the police. One year later, trust in the banks fell to 4%; as of 2017, it has only risen to 14% (Gallup Iceland, n.d.). Participant C, who worked in one of the large banks, captures the sense of betrayal and breakdown of trust, even for those who held high positions within the banks. She explains: There are many people that I have talked to, like my friends at [name of bank], that were not just crying about the money. Trust in someone was gone. […] The issue was this breakdown of trust. She continues, ‘And then people realised that ethical issues had not been respected. I think that this was the greatest shock’.

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Many politicians were later criticised for their involvement with the bankers, or non-involvement in protecting the public interest. The Special Investigation Commission (SIC), tasked by the Icelandic parliament to investigate the fall of the three largest banks, concluded that the government continued to try to ensure the banks’ growth even when it should have been evident that the banking system was becoming too big relative to the size of Iceland’s economy (Hreinsson, Benediktsdóttir, & Gunnarson, 2010, chapter 21). The commission further stated that the prime minister and two other ministers had shown gross negligence. The Icelandic parliament decided to vote on whether those politicians and one additional minister should be held accountable in front of a special jury (Althingi, 2011; Vísir, 2010). The result was that only the former prime minister, Geir Haarde, faced trial. He was found guilty by the special jury of having neglected to properly hold meetings within his cabinet in order to make the necessary preparations for the impending financial crash (RÚV, 2012). While many considered this controversial, the controversy did not revolve around the question of whether he was guilty or not. The main problem was that the trial had focused on only one person, and did not include other politicians in power at the same time (for discussion of the trial, see Jóhannesson, 2013, pp. 9–10). This process, in other words, did little to bring back the public’s trust towards the government. To many, the economic crash also revealed something that had been hidden: corruption or a rot within society. It was like a re-enactment of Andersen’s tale of the emperor’s new clothes: The people suddenly discovered the emperor uncovered. The loud call for a new constitution and a ‘New Iceland’ in the protests towards the government immediately after the crash (Bernburg, 2016) highlighted the need to make a definite break with the past. Participant C captures this sentiment well, saying that the shock of the crash was because it revealed the society she was living in ‘was not what we thought. It was not what it looked like on the surface’. Her reference to a ‘surface’ echoes the way that the surface of the Manic Millennium years helped create the era of trust, where numbers published by the banks and rating companies, foreign specialists’ praise of Iceland, and the strong Icelandic currency’s immense purchasing power were nothing but the surface of a different underlying reality. All of these surface events stimulated the citizens’ imagination of how internationally important Iceland was becoming, thanks to its excellent businesspeople. The reality beneath this surface was high-risk banking, where a small elite received most of the benefits during good times while the rest of the nation bore most of the losses when the tide of the investing trend turned. An editorial in The Iceland Review in late 2009 expresses the sentiment of

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a society in ruins, clearly demonstrating the mood in Iceland after the first year of the crash: Every single day of the year we have been fed with news of financial scandals, vacuous greed and corruption. Our political system is damaged; trust in financial institutions and the judiciary system is in tatters and the businesspersons many believed in are fleeing the country. During this farcical year, we have not known whether to cry or to laugh from day to day. (Brynjólfsson, 2009, p. 4) Within this environment, characterised by insecurity about the future and a sense of corruption within Icelandic society, the conceptualisation of globalisation also changed radically. Not only had many lost their savings, but the international landscape of banking had made it possible for households, trusting in currency stability, to take loans denominated in foreign currency. Payments on these now skyrocketed with the fall of the Icelandic króna. In the first months after the crash, Iceland suffered from a lack of foreign currency. There was even discussion about the shortage of necessities such as food. In interviews, this sense of vulnerability comes through clearly, especially in relation to the dispute about the Icesave accounts in the Netherlands and the United Kingdom (see a more detailed discussion in Loftsdóttir, 2016). Icesave was an Internet bank, under the umbrella of Landsbankinn, that became instantly bankrupt when three of Iceland’s largest banks fell. There were disputes for years concerning whether Iceland should carry the financial responsibility for the losses, which in Iceland generated intense fear for the future of the state and the possibility of recovering successfully from the crash (Loftsdóttir, 2016). The creation of the ‘Indefence’ group in the aftermath of the crash shows Icesave’s effects on the public’s outlook. While one of Indefence’s goals was to keep people informed by collecting information about the crisis to facilitate the restoration of a more democratic society, the name of the group reflects how its aim was also to come to Iceland’s defence internationally. It thus sought to counter the extremely negative post-crash international discussion of Iceland, particularly with regard to Icesave (BBC News, 2008). Three participants, all in positions of authority at the time of the crash, openly expressed this sense of vulnerability. One woman, with a background in banking, said in relation to Iceland’s international position: ‘We are just so few. We are so small and vulnerable. This is what makes you afraid’. Another woman, also from the banking sector, recalled when

Not Just Crying    101

Iceland was desperate for foreign currency through loans from its neighbouring countries right after the crash. She said that she realised, ‘That we are actually a small island north in nowhere and if the British and the Dutch want it like that – then we can be fenced off’. A male participant, however, spoke more about the anger that he saw directed towards Iceland: ‘You felt that we were extremely weak. Of course, you felt it; Iceland is … you felt the smallness of the country’.

Politics, Globalisation, the Panama Papers and Trust In November 2008, when it became evident that Iceland would not instantly receive a loan from the IMF, Iceland’s prime minister, Geir Haarde, claimed that the country needed to ‘regain the trust and the standing among other nations that we enjoyed before the impact of the global financial crisis struck Iceland’ (Icelandic Prime Minister’s Office, 2008). Haarde’s call to regain trust among other nations surprisingly has come to pass. Rating agencies, which following the crash had downgraded Iceland’s sovereign debt to close to junk-bond status, had raised in recent years the country’s debt ratings to pre-crash levels (Central Bank of Iceland, n.d.). The currency controls that were set up to stop the outflow of currency following the crash were mostly lifted, and major retail chains, such as Costco, Dunkin’ Donuts and H&M, opened their outlets. The success of regaining trust among Icelanders has, however, been underwhelming. The contradictory effects of globalisation became quite visible to the citizenry after the crash, even as trust in public institutions and political leaders changed radically. As stated earlier, opinion polls reflect this vividly. In 2009, only 4% said that they trusted the banking system, which had only risen to 12% in 2015. However, the amount of the public’s trust in Iceland’s Supervisory Financial Authority (the FME) during the same period was 5% in 2009 but climbed to 21% in 2015 (Gallup Iceland, n.d.).9 The Panama Papers scandal seems to have confirmed for many the prevailing corruption in Icelandic society. In April 2016, an interview with the country’s prime minister was aired on Icelandic television. The interview was the outcome of a global collaboration between journalists in different countries to reveal the use of offshore accounts in Panama by


See Chapter 3, by Johnsen and Sigurgeirsdóttir in this book for further discussion [Editors’ note].

102    Kristín Loftsdóttir and Már Wolfgang Mixa

working through leaked files (Kristjánsson, 2016).10 The prime minister, who did not know at first what the interview was about, was caught by surprise when talking about his involvement in an offshore holding company, Wintris, belonging to his wife. The prime minister had not broken any law, and it is not apparent that he or his wife had evaded taxes, but he denied knowledge of the holding company (Gunnlaugsson, 2016). (Shaxson (2012) maintains that such accounts are almost always established to evade taxes.) The public response was immense, largely because the prime minister bluntly denied at the beginning of the programme any knowledge of the holding company, only to be confronted with documents that showed that the holding company had claims in the bankrupt banks. The Icelandic government had recently negotiated terms of the unwinding of the banks with such creditors. One item in the agreement had the creditors pay the Icelandic government rather than have the government impose a special tax on the banks. This gave the government less money, and saved the creditors some money while also posing less legal uncertainty (Central Bank of Iceland, 2015). Protests took place in front of parliament shortly after the airing of the interview, as people demanded the resignation of the prime minister and other politicians who had a history of using offshore accounts. News coverage showed many other business community leaders involved in similar practices. The prime minister was eventually forced to resign because of the matter, but the finance minister at the time, who was also implicated in the use of offshore accounts, took over as prime minister in spite of protests pushing for his resignation too. It was estimated that 17% of the inhabitants of Reykjavík and surrounding areas who were 18 years and older participated in the protests – around 26,000 people. That made the protest most likely the largest ever in Iceland (Bernburg, 2016). Studies of protest mobilisation in general have shown that in spite of people being motivated to participate in protests against corruption, their participation does not necessarily mean that they believe in the movement’s success or that changes will necessarily follow (Goodwin, Jasper, & Polleta, 2001, p. 18). Bernburg (2016) finds that most participants in the Panama Papers protest demonstrated against corruption in Iceland and signified their lack of faith in politicians. This indicates that the Panama Papers 10

Reykjavík Media, the international consortium of investigative journalism and the German newspaper Süddeutsche Zeitung collaborated on publicising the leaked files. The collaboration involved 376 journalists from 76 countries (Kristjánsson, 2016).

Not Just Crying    103

revelations confirmed people’s sense of corruption in the country, further indicating that trust had not been re-established after the crash. The Panama Papers scandal was not alone in creating a continued sense of mistrust within Icelandic society. Various issues have had major consequences in keeping such distrust intact. For example, Landsbankinn, the only bank to become wholly state-owned after the crash,11 began a campaign aimed at regaining the public’s trust by announcing an Ethics Charter in early 2011 (Landsbankinn, 2011). This campaign was in tatters in 2016 when it emerged that the bank had sold a large share in an information service company related to credit card issuance and other services at a price that obviously was far below its fair value (Ríkisendurskoðun, 2016). Individuals closely related to Iceland’s then prime minister were among the buyers. Off-shore accounts also continued to create a sense of mistrust. While the prime minister agreed that the government would buy information regarding individuals involved in off-shore companies, many thought that he took his time approving this move so that the statute of limitations would be reached on many of the potential tax offences these individuals could have faced (Vísir, 2015). .

Discussion and Conclusion Prior to the crash, the Icelandic public celebrated the advantages of globalisation, while the post-crash environment was characterised by a much more critical approach to particular global processes. Such a critical stance should not be surprising. Following the crash, it became evident how risky the banks really were – a revelation that was kept in front of the public as the debates on Icesave focused on whether they, the public, should effectively pay damages incurred by a private bank. Trust towards institutions plummeted, with polls showing that not only the banking sector but also the whole political system faced general distrust. The post-crash atmosphere corresponded to what West and Sanders (2003, pp. 11–12) described in a more general context, that is, that in the neoliberal economy, institutionalised ideas of transparency and trust tend to coexist with a feeling of treachery and conspiracy. As we have shown, the economic adventure was not only made possible by great trust in the financial adventure, but also by the way the 11

Bank employees owned a very small share in the bank.

104    Kristín Loftsdóttir and Már Wolfgang Mixa

public took up and viewed the rising economy. Among the intersecting discourses of the time, of particular importance was how people came to view the ‘national’ within the world outside of the nation. Iceland was seen as if it were some kind of container, filled with an undifferentiated mass of people taking similar risks and having similar interests. The Business Viking image was regarded as embodying the interests of the nation as a whole (Loftsdóttir, 2016). Following the economic crash, the sense of betrayal of trust revolved largely around disruption of this image of the Icelandic nation, particularly as positioned in opposition to foreigners. Boom and bust periods, as Tsing (2005, p. 55) emphasised, have to be viewed as ‘intimately related to each other’ within the environment of globalisation. In the case of Iceland, the era of intense trust built around a nationalist rhetoric created the conditions for a following era of non-trust.

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Not Just Crying    105 [The settlement of failed financial institutions on the basis of stability conditions: Impact on balance of payments and financial stability according to existing draft of a composition settlement of Glitnir hf., Kaupthing hf. and LBI hf.] Retrieved from Greinargerd.pdf Central Bank of Iceland. (n.d). The Republic of Iceland’s sovereign credit rating. Retrieved from Chancellor, E. (2000). Devil take the hindmost: A history of financial speculation. New York, NY: Plume. Davies, W., & McGoey, L. (2012). Rationalities of ignorance: On financial crisis and the ambivalence of neo-liberal epistemology. Economy and Society, 41(1), 64–83. Elliot, L. (2014). As the Berlin Wall fell, checks on capitalism crumbled. Retrieved from post-cold-war-capitalism-moral-roots-ancient-places Ferguson, J. (1990). The anti-politics machine: “Development,” depoliticization, and bureaucratic power in Lesotho. Minneapolis, MN: University of Minnesota Press. Forsætisráðuneytið. (2006). Forsætisráðherra á ráðstefnu The Economist um íslensk efnahagsmál (á ensku). [The prime minister on The Economist’s conference on the Icelandic economy.] Retrieved from efst-a-baugi/frettir/stok-frett/2006/05/15/Forsaetisradherra-a-radstefnu-TheEconomist-um-islensk-efnahagsmal-a-ensku/ Forsætisráðuneytið. (2008). Ávarp Geirs H. Haarde forsætisráðherra á Austurvelli 17. júní 2008. [Prime Minister Geir H. Haarde’s speech from Austurvellir on 17 June 2008.] Retrieved from Galbraith, J. K. (1955/1997). The great crash 1929. New York, NY: Mariner Books (Original work published in 1955.) Gallup Iceland. (n.d.) Traust til stofnanna. [Trust in institutions.] Retrieved from Goodwin, J., Jasper, J. M., & Polletta, F. (2001). Introduction: Why emotions matter. In J. Goodwin, J. M. Jasper, & F. Polletta (Eds.), Passionate politics (pp. 1–26). Chicago, IL: The University of Chicago Press. Guðmundsson, F. Th., Ólafsson, K., Jóhannsdóttir, V., & Broddason, Th. (2010). Umföllun fjölmiðla á Íslandi um banka og fjármálafyrirtæki 2006–2008. [Media discussions in Iceland on banks and financial institutions 2006–2008.] Rannsóknarnefnd Alþingis, 8, 245–272. Retrieved from media/skjol/RNABindi8.pdf Gunnlaugsson, S. D. (2016). Hvað snýr upp og niður? [What is up and down?] Retrieved from Helgason, I. K. (2007, 12 December). Innrás í Evrópu [Invading Europe]. Markaðurinn, 50(3), 1.

106    Kristín Loftsdóttir and Már Wolfgang Mixa Hreinsson, P., Benediktsdóttir, S., & Gunnarsson, T. (2010). The causes of the collapse of the Icelandic banks: Responsibility, mistakes and negligence (in English). In Aðdragandi og orsakir falls íslensku bankanna 2008 og tengdir atburðir (Vol. 1, p. 2). [Background and causes of the Icelandic banks’ collapse in 2008 and related events.]. Reykjavík, Iceland: Althingi. Retrieved from http:// Icelandic Prime Minister’s Office. (2008). International Monetary Fund approves Iceland´s request for a two year stand-by arrangement. Retrieved from http://www. Inda, J. X., & Rosaldo, R. (2008). Tracking global flows. In J. X. Inda and R. Rosaldo (Eds.), The anthropology of globalization: A reader (pp. 3–46). Oxford: Blackwell. Jiménez, A. C. (2011). Trust in anthropology. Anthropological Theory, 11(2), 177–196. Jóhannesson, G. T. (2013). ‘Ég vissi ekkert, ég gat ekkert.’ Bankahrunið á Íslandi og vægi valdhafa í Þungum straumi sögunnar. [‘I know nothing, I could do nothing’. The banking crash in Iceland and the influence of leaders in the heavy stream of history.] Söguþing 2012. Sagnfræðistofnun, Reykjavík. Retrieved from https:// Johnson, J. E., Einarsdóttir, Th., & Pétursdóttir, G. M. (2013). A feminist theory of corruption: Lessons from Iceland. Politics & Gender, 9, 174–206. doi:10.1017/S1743923X13000032 Jónsson, Í. P. (2007). Útrás: Íslensku viðskiptabankarnir eru með tæplega 5.000 manns í vinnu á erlendri grundu. Heimurinn er allur undir. [The Icelandic banks have almost 5000 people working abroad. The world as a whole is under.] Viðskiptablaðið, 14(143), 12–13. Kaupthing Equity Research. (2007). Exista hf. right place, waiting for the right time. Retrieved from Kristjánsson, H. (2006). Sjálfsímynd Dana gagnvart Íslendingum farin að rispast: Eitthvað óeðlilegt við mjög grófa gagnrýni á íslenska banka og efnahagslíf segir iðnaðar-og viðskiptaráðherra [Identity of Danes toward Icelanders starting to shake: Something unnatural about very harsh criticism of the Icelandic banks and economy]. Viðskiptablaðið, 13(24), 12–13. Kristjánsson, J. K. (2016). What! You must be joking? Kveðja frá ritstjóra Reykja­vík Media. [What! You must be joking? A greeting from the editor of Reykja­vík Media.] Reykjavík Media. Retrieved from what-you-must-be-joking/ Landsbankinn. (2011). Nýr siðasáttmáli Landsbankans. [Landsbankinn’s new ethical bond.] Retrieved from Nyr-sidasattmali-Landsbankans/?p=235 Loftsdóttir, K. (2010). The loss of innocence: The Icelandic financial crisis and colonial past. Anthropology Today, 26(6), 9–13.

Not Just Crying    107 Loftsdóttir, K. (2012). Colonialism at the margins: Politics of difference in Europe as seen through two Icelandic crises. Identities: Global Studies in Culture and Power, 19(5), 597–615. Loftsdóttir, K. (2014). Vikings invade present day Iceland. In E. P. Durrenberger & G. Pálsson (Eds.), Gambling debt: Iceland’s rise and fall in the global economy (pp. 3–14). Boulder, CO: University Press of Colorado. Loftsdóttir, K. (2016). Building on Iceland’s ‘good reputation’: Icesave, crisis and affective national identities. Ethnos, 81(2), 338–363. Loftsdóttir, K., & Mixa, M. W. (2014). Bankar í ljóma þjóðernishyggju: Efnahags­ hrunið, hnattvæðing og menning. [Banks glowing in nationalism: The financial crash, globalisation and culture.] Skírnir, Fall, 91–115. Lynch, P. (2000). One up on Wall Street: How to use what you already know to make money in the market. New York, NY: Fireside. Mixa, M. W. (2009). Once in khaki suits: Socioeconomical features of the Icelandic collapse. In I. Hannibalsson (Ed.), Rannsóknir í Félagsvísindum X (pp. 435–447). [Research in social sciences X.] Reykjavík, Iceland: University of Iceland Press. Mixa, M. W. (2014). A day in the life of an Icelandic banker. In E. P. Durrenberger & G. Pálsson (Eds.), Gambling debt: Iceland’s rise and fall in the global economy (pp. 33–46). Boulder, CO: University Press of Colorado. Retrieved from Mixa, M. W. (2015). Nation of sheep and money. In N. Holden, S. Michailova, & S. Tietze (Eds.), The Routledge companion to cross-cultural management (pp. 294–303). London: Routledge. Mixa, M. W., Bryant, M. & Sigurjónsson, Th. O. (2016). The reverse side effects of mark to market accounting: Exista and the saga of leveraged paper profits. International Journal of Critical Accounting, 8(5/6), 463–477. Moore, H. L. (2004). Global anxieties: Concept-metaphors and pre-theoretical commitments in anthropology. Anthropological Theory, 4, 71–88. Morgunblaðið. (2005a). Ísland sem fjármálaleg miðstöð [Iceland as financial centre]. Retrieved from Morgunblaðið (2005b). Nýr kostur í flórunni [A new alternative among choices]. Retrieved from Nefnd Forsætisráðherra um Alþjóðlega Fjármálastarfsemi [Prime Minster’s Committee on International Finance]. (2006, October). Alþjóðleg fjármálastarfsemi á Íslandi. [International finance in Iceland.] Retrieved from Oddsson, G. Æ. (2010). Stéttarvitund Íslendinga í kjölfar efnahagshruns. [Icelandic class consiousness after the economic crash.] Íslenska þjóðfélagið, 1(1), 5–26. Retrieved from Ólafsson, J. (2014). Viðbrögð við áfalli í lýðræðisríki: Mat lagt á reynslu Íslendinga. [Responses to a shock in a democratic state: Evaluation of Icelandic experiences.] In J. Ólafsson (Ed.), Lýðræðistilraunir. Ísland í hruni og endurreisn

108    Kristín Loftsdóttir and Már Wolfgang Mixa (pp. 7–21). [An experiment in democracy: Iceland in collapse and restoration.] Reykjavík, Iceland: Háskólaútgáfan. Ríkisendurskoðun. (2016). Verklag Landsbankans við eignasölu gagnrýnt. [The procedure of Landsbankinn in its sale of assets criticised.] Retrieved from RÚV. (2012). Geir sekur af einum ákærulið [Geir is guilty of one charge]. Retrieved from Schwegler, T. A. (2009). The global crisis of economic meaning. Anthropology News, 50, 9–12. doi:10.1111/j.1556-3502.2009.50709.x Séð og heyrt. (2008, 21–27 February). Elsku evra! [Dear euro!]. Séð og heyrt, 8, 20–21. Shaxson, N. (2012). Treasure islands: Tax havens and the men who stole the world. London: Vintage. Shiller, R. J. (2001). Irrational exuberance. New York, NY: Broadway Books. Shore, C., & S. Wright (2011). Conceptualizing policy: Technologies of governance and the politics of visibility. In C. Shore, S. Wright, & D. Peró (Eds.), Policy worlds: Anthropology and the analysis of contemporary power (pp. 1–25). New York, NY: Berghahn Books. Sigurjónsson, Th. O., & Mixa, M. W. (2011). Learning from the ‘worst behaved’: Iceland’s financial crisis and Nordic comparison. Thunderbird International Business Review, 53(2), 209–224. Tsing, A. L. (2005). Friction: An ethnography of global connection. Princeton, NJ: Princeton University Press. Vaiman, V., Sigurjónsson, Th. O., & Davíðsson, P. Á. (2011). Weak business culture as an antecedent of economic crisis: The case of Iceland. Journal of Business Ethics, 98(2), 259–272. Valgreen, C., Christensen, L., Andersen, P. P., & Kallestrup, R. (2006, 21 March). Iceland: Geyser crisis. Copenhagen, Denmark: Danske Bank. Retrieved from Vísir. (2009a). Bankarnir þrír styrktu Framsóknarflokkinn [Three banks supported the Progressive Party]. Retrieved from bankarnir-thrir-styrktu-framsoknarflokkinn. Vísir. (2009b). Samflykingin þáði 73 milljónir í styrki frá 25 aðilum árið 2006 [Samfylkingin accepted 73 million in grants from 25 parties in 2006]. Retrieved from Vísir. (2009c). VG með allt uppi á borði [VG with everything on the table]. Retrieved from Vísir. (2010). Fjórir ráðherrar verði dregnir fyrir landsdóm [Four ministers will be taken to the High Court]. Retrieved from fjorir-radherrar-verdi-dregnir-fyrir-landsdom Vísir. (2015). Efast um vilja Bjarna Ben til kaupa á skattaskjölum [Doubting Bjarni Ben’s willingness to purchase tax documents]. Retrieved from http://www.visir. is/g/2015702099982 Wade, R. H., & Sigurgeirsdóttir, S. (2011). Iceland´s meltdown: The rise and fall of international banking in the North Atlantic. Brazilian Journal of Political

Not Just Crying    109 Economy, 31(5, Special Edition), 684–697. Retrieved from Wallop, H. (2006). Brothers steer Exista to market. Retrieved from http://www. West, H. G., & Sanders, T. (2003). Power revealed and concealed in the new world order. In H. G. West & T. Sanders (Eds.), Transparency and conspiracy: Ethnographies of suspicion in the new world order (pp. 1–37). Durham, NC: Duke University Press.

Chapter 6

Restoring Trust in Iceland: Iceland’s IMF Programme Friðrik Már Baldursson and Richard Portes Abstract During the banking crisis of October 2008, Iceland became the first developed country in decades to seek the assistance of the International Monetary Fund (IMF). Iceland’s IMF programme provided a measure of stability at a time of intense turbulence. The IMF’s credibility was helpful during this period of collapse not just of the banks but also of the public trust towards almost all Icelandic institutions. Importantly, the IMF implicitly supported Iceland’s policy of letting institutional creditors of the banks rather than Icelandic taxpayers bear the costs of their collapse; this provided credibility for the policy and limited repercussions. In a reversal of previous IMF policy, capital controls were imposed. The controls helped stabilise the exchange rate, and inflation subsided. The controls also helped recovery after the crisis by shielding the economy from international financial shocks. The direct fiscal cost of the Icelandic crisis was very high, but the considerable and painful fiscal tightening that was a part of the programme was needed to avoid a sovereign debt crisis. This helped in regaining trust from international markets. Mistakes were made in the design and implementation of the IMF programme, but overall, we judge that its contribution was positive. The programme provided one of the elements for restoring trust in Iceland when it was most needed, both domestically and internationally, during the depth of the crisis in 2009–2010. Keywords: Asset recovery; banking policy; capital controls; Icesave; International Monetary Fund; priority of claims The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 111–128 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181008

112    Friðrik Már Baldursson and Richard Portes

Introduction When the Icelandic banks were collapsing in the first week of October 2008, it became clear that the country would suffer a balance of payments crisis in the absence of outside support.1 Apart from the certainty of a currency crisis, there was a risk that Iceland would suffer financial retribution for its actions and possibly be shut out of international payments systems. Icelandic authorities were at first reluctant to seek help from the International Monetary Fund (IMF) due to the humiliation and stigma associated with such a step; no developed country had sought the assistance of IMF for a long time.2 Instead, other sources of financing were pursued. On 7th October the Central Bank of Iceland (CBI) announced that Russia was willing to lend €4 billion to Iceland on advantageous terms and that (then) Prime Minister Putin had confirmed the decision (Central Bank of Iceland (CBI), 2008a). An Icelandic delegation was sent to Russia to pursue this option (Financial Times, 2008a). However, on 5th October on IMF’s own initiative, a mission from the IMF arrived in Reykjavík. Informal contact with the IMF mission began soon after the collapse of Landsbanki on 6th October and formal preparation of the so-called Stand-By Arrangement for Iceland, providing external financing, began on 9th October. When it became clear a week later that the Russian loan would not materialise, the Icelandic government decided to seek the IMF’s assistance. It took two weeks to negotiate the IMF programme.3 Against the assurance of following the policies of the programme, the IMF, other Nordic countries and Poland lent Iceland $5 billion – 40% of Iceland’s gross domestic product (GDP) – in tranches to serve its external financing needs over the next three years. The deal had a calming effect. This is evidenced by the risk premium (credit default swap rate) on Iceland, which fell considerably as news of the negotiations came out a few days before the agreement (Financial Times, 2008). The programme provided a measure of stability at a time of intense turbulence. Even if there was a good deal of initial public scepticism, the IMF’s credibility was helpful during this period of a collapse not just of the banks but also of the public trust towards almost all Icelandic institutions.


See Baldursson and Portes (2013) for a comprehensive account of the Icelandic banking crisis. 2 The UK borrowed from the IMF in 1976 (Harmon, 1997). 3 Friðrik M. Baldursson led the negotiations on Iceland’s behalf.

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It was by no means obvious that the IMF deal would come off. There were the usual contentious points of IMF programmes, such as how fast to consolidate public finances and how high to set interest rates initially. But there were also difficult issues more particular to Iceland: the need to impose capital controls and the Icesave issue – whether Iceland should guarantee deposit insurance for Landsbanki’s branches in the United Kingdom and the Netherlands at the level of half Iceland’s GDP. There was also some uncertainty about Icelandic policy, especially at the Central Bank. This included actions such as pegging the exchange rate at an unrealistically strong value on 7th–8th October and an abrupt lowering of the policy rate by 3.5 percentage points on 15th October. The most unexpected development, however, came when the CBI suddenly argued strongly on the basis of recommendations from international banking consultants (JPMorgan Chase) that the bank split executed a few days before should be reversed and the newly created banks should be reunited with the old, collapsed banks. The proposal was considered for a couple of days within the government but was then rejected.4 In the end, such obstacles were overcome and the programme – designed largely by IMF staff – was announced and made public on 24th October. The programme had the following three main components (International Monetary Fund (IMF), 2008): 1. Banking sector restructuring and insolvency framework reform. 2. Consolidation of public finances. 3. Monetary and exchange rate policy, with stabilisation of the exchange rate and inflation as key elements. This chapter examines some important aspects of the IMF programme. The following section presents some of the more unusual – or ‘heterodox’ – policies of the programme, including the imposition of capital controls and the unusual approach to bank restructuring. This is followed by discussions of fiscal consolidation and the reform of the insolvency framework. We conclude with some thoughts on the programme’s success. 4

This proposal was never made public. Regrettably, the report of the Special Investigative Commission (Hreinsson, Benediktsdóttir, & Gunnarson, 2010) stops short of investigating these and other events following directly on the failure of the banks, so we know little of the underlying resons for the CBI’s actions and their consequences. For example, there has been no investigation into currency trading during the brief exchange-rate peg; the CBI, however, stated in a press release that only €6 million were sold in the interbank market (CBI, 2008b).

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Heterodox Policies Some of the policies implemented in Iceland as part of the IMF programme have been called heterodox (e.g., Krugman, 2011). The imposition of capital controls in particular has been so characterised, as well as the ‘repudiation of debt’, that is, the consequences of the so-called Emergency Legislation of October 2008, which entailed letting institutional creditors of the banks bear the costs of their collapse rather than Icelandic taxpayers. The Emergency Legislation gave deposits and deposit insurance priority over other claims on the banks and allowed the Icelandic Financial Supervisory Authority (FSA) to ring-fence the domestic part of distressed banks by transferring domestic assets and liabilities into new banks. This was then done as the banks fell one by one. All deposits in Icelandic branches went into the newly created banks. Deposits in foreign branches got priority status as claims on the old banks. Bondholders of the banks – including foreign parties and also Icelandic pension funds and the CBI – were left with claims to assets remaining in the old banks, second in line after deposits and deposit insurance. The Emergency Legislation was enacted before the agreement with the IMF and independent of the IMF, so it was not formally a part of the IMF programme. But it was extremely important that the programme implicitly supported this legislation. In fact, the IMF strongly opposed the aforementioned proposal of the CBI to reverse the bank split – rightly so in our estimation. This was one of the several conflicts between the IMF and the CBI during the negotiation period where the IMF’s view prevailed. Despite our agreement with the IMF point of view in this instance, it was unfortunate that trust in a key domestic institution such as the CBI, already severely undermined by the collapse of the banks, was even more weakened by the CBI’s ‘losing out’ in such conflicts. More broadly, the authority of the IMF did substitute to some degree for that of domestic institutions such as the CBI, the FSA and the Ministry of Finance during the crisis. Perhaps this was unavoidable given the public disintegration of trust in these and most other Icelandic institutions.5


The government itself collapsed in January 2009. The new government changed the Central Bank Act to force the governors of the Central Bank to resign.

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Capital Controls6 One of the most controversial elements of the monetary and exchange rate policy part of the programme was the imposition of capital controls on the initiative of the IMF. Another disputed issue was the IMFimposed raising of the policy interest rate to 18%.7 Both of these actions were meant to stem capital outflows and stabilise the exchange rate. However, whereas raising interest rates had been part and parcel of the IMF’s toolkit in balance of payment crises for decades, imposing controls on capital transactions had not, and it was only in 2012 – shortly after Iceland’s programme had been concluded – that the IMF formally reversed its position on capital controls in its new institutional view on capital flows (IMF, 2012). The capital controls were implemented in the Foreign Exchange Act. They were mostly lifted by a change in CBI regulations in March 2017, but are still, as of this writing [January 2018], in place in the Foreign Exchange Act and could be imposed again at short notice if deemed necessary by the CBI. The controls involved a general ban on capital movements and foreign transactions but also allowed for a number of exemptions. In general, current account transactions were permitted, and there were no restrictions on imports of goods and services. Non-residents were allowed to transfer interest payments on Icelandic bonds and bank accounts. The controls also authorised payments related to contracts entered into before November 2008, the time of the controls’ formal imposition. In particular, Icelandic entities did not default on such contracts due to the capital controls per se. The IMF’s support for the imposition of capital controls was important for their widespread acceptance. There was opposition at the time and ex post. For example, some academic observers claimed that this policy measure was a major mistake (Danielsson, 2011b). We strongly disagree. It would have been highly risky to permit continued free capital movement. Firms’ debt was largely in foreign currency, and households also had a significant amount of such debt. The remainder of lending was to a large extent indexed to the consumer price index, which is highly sensitive to exchange rate movements. As the carry-trade inflows that had supported the króna until the end of 2007 were first halted and then 6

See Baldursson and Portes (2014) and Baldursson, Portes and Thorlaksson (2017) for a detailed account and analysis of the Icelandic capital controls and the resolution of the failed Icelandic banks. 7 Interest rates were subsequently lowered quite rapidly, reaching a minimum of 4.25% in February 2011, and have been below 6% since then.

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reversed, the exchange rate depreciated by 40% over the first three quarters of 2008. By October, inflation was approaching 20%, and inflation and exchange rate-linked debt shot up. Balance sheets of most firms and many households were already in tatters. It was essential to stabilise the exchange rate to prevent even more damage. By the end of October 2008, official currency reserves were depleted to the extent that they did not suffice to cover known outflows over the next 12 months, let alone the trade deficit and the huge stock of carry-trade money still left in Iceland (approximately 40% of GDP) at the time of the crisis. The 18% policy rate might have sufficed to slow down outflows and stabilise the exchange rate under more benign circumstances, but in the reality of the crisis, it is doubtful that any interest rate could have stopped massive capital flight and a complete collapse of the króna in the absence of capital controls. Cross-country studies often indicate limited effectiveness of capital controls, but they cannot take account of specific circumstances. There are several cases where capital controls have been effective (Edison & Reinhart, 2001; Glick & Hutchison, 2005; Magud, Reinhart, & Rogoff, 2011; Miniane & Rogers, 2007; Straetmans, Versteeg, & Wolff, 2013). Even if the controls in Iceland had to be tightened a few times, as market participants found loopholes, they were effective: After they were rigorously enforced, the exchange rate became fairly stable and inflation subsided. The controls also helped recovery after the crisis by shielding the economy from international financial shocks, reducing market volatility, helping to keep domestic interest rates down and supporting asset prices. Last, but not least, tightening of the controls enacted in 2012 implied that the failed banks’ estates were required to obtain exemptions from the Foreign Exchange Act to conclude winding-up proceedings. The Central Bank therefore had the power to deny payment out of the estates of the failed banks. This later became a key strategic tool in Iceland’s dealings with international creditors of the old banks (Baldursson & Portes, 2014; Baldursson, Portes & Thorlaksson, 2017). Banking Policy From a banking and economic perspective, the ‘repudiation of debt’ – that is, the split between old and new banks that was executed in Iceland by force of the Emergency Legislation, and that later became one of the pillars of the IMF programme – was questionable (see Danielsson, 2011a). It would surely have been better to do a split between bad and good banks, as in the Swedish banking crisis of the early 1990s. In the case of two banks

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that were insolvent, or were expected to become so, the Swedish government took over the banks, placed bad assets into separate asset management companies and created a new bank, now Nordea, with the good assets. The fiscal cost turned out to be negligible in the end.8 Implementing this policy in Iceland would have involved classifying assets into ‘good’ and ‘bad’, placing the good assets in the new banks, leaving the bad assets in the old banks. This would have put the new banks on a sound footing from the start, enabling them to play their proper role as facilitators in the economic recovery after the crisis. With the domestic/international split in Iceland, a lot of bad loans were placed in the new banks (including much of the foreign currency lending to domestic households and businesses), which implied considerable uncertainty about their actual position. Moreover, management had to put much energy into working out loans in default rather than concentrating on possibilities for new lending. The choice that was made was based on legal grounds: The Emergency Legislation changed the priority order of claims retroactively, placing deposits ahead of bonds. It also protected domestic deposits more strongly than all other claims by moving them into new banks. Domestic loans were transferred into the new banks as well. Deposits in branches outside Iceland, bonds and other claims on the banks remained in the old banks along with international assets. The key point of this strategy was to minimise legal risks of both a finding of a violation of the property-rights provisions of Iceland’s constitution and a finding of unlawful discrimination between Icelandic and international creditors. For this purpose, it was decided to carve a new domestic banking system out of the failing banks, leaving the international part in the old banks. It seemed unavoidable to apply the ‘domestic vs international’ classification to both liabilities and assets. The authorities discussed, but rejected, the option of moving bank bonds denominated in Icelandic krónur (mostly owned by Icelandic parties, including the CBI, mutual funds and pension funds). On 28 October 2011 – more than three years after the crisis hit – this approach was vindicated as Iceland’s Supreme Court confirmed the constitutionality of the Emergency Legislation. The European Free Trade Association (EFTA) Surveillance Authority had determined earlier that the split did not violate the European Economic Area (EEA) law. The basis of both these findings is that the split and the remedies used were within the government’s legal room to manoeuvre under these circumstances and


See Jonung (2009a, 2009b) for a description of crisis resolution and the policy lessons from the Swedish crisis.

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proportionate to their aims.9 As noted above, the principle applied was that of ring-fencing domestic interests. It would have been much more difficult to argue that a bad-bank/good-bank split was imperative. Moving all the good loans to new banks along with domestic deposits and leaving bad loans in the old would have been less likely to pass legal muster.10 Splitting between old and new banks may have entailed some costs, although, with no counterfactual, these are impossible to measure. Even if the Icelandic state accessed international bond markets in 2011 and 2012, the markets were almost fully closed to other Icelandic parties, public and private, for several years. For example, it was only in 2015 that Icelandic banks received an investment-grade credit rating by Standard & Poor’s (S&P).11 Certainly, costs were involved. For example, in March 2013 one of these banks (Arionbanki – the bank set up on the ruins of Kaupthing) issued a small amount of bonds in Norway ($90 million) with a huge margin – 5 percentage points over Nibor (the Norwegian counterpart to Libor). Somewhat lower, but still very high, margins were observed until mid-2016 (CBI, 2017). One may ask whether the retroactive changes in creditor priority contained in the Emergency Legislation had costly consequences regarding Iceland’s access to markets.12 It is, however, impossible to disentangle the impact of the Emergency Legislation on investor attitudes towards Iceland from other issues that may have had adverse consequences for international investors locked in Iceland and the economic situation in Iceland in the years following the crisis, for example, the high level of indebtedness of Icelandic parties, public and private, as well as both the current and the potential future actions of the authorities. It seems likely, however, that the support of the IMF gave the Emergency Legislation credibility and helped limit the costs. 9

See Helgadóttir (2012) for a legal perspective on what state reactions are permissible in an economic crisis. 10 After the EFTA court’s decision in the Icesave case (see below) it is natural to speculate whether the cherry-picking of assets involved in a ’bad-bank/goodbank’ split, as well as the inclusion of bank bonds denominated in krónur, would possibly have been found legal. Here it should be noted that the CBI’s losses on bank bonds are the single biggest fiscal cost of the crisis. Pension funds and mutual funds also suffered substantial losses on krónur-denominated bank bonds. 11 Standard & Poor’s (S&P) currently rates all three new banks in Iceland at BBB+. The sovereign is rated at A. At present, S&P is the only international rating agency to rate Icelandic banks, with the exception of Fitch, which rates Íslandsbanki. 12 In 2012, Greece acted similarly, imposing retroactive collective action clauses on bonds issued under Greek law.

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Icesave Dispute Above, we briefly mentioned the Icesave dispute, which, similar to the Emergency Legislation, can be placed in the ‘repudiation of debt’ category. During negotiations, the IMF staff applied pressure on Iceland to guarantee deposits in British and Dutch branches of Landsbanki. This resulted in Iceland stating in its ‘Letter of Intent’ – the formal application for IMF support – that the government was … committed to progressing a sound and transparent process as regards depositors and creditors in the intervened banks. We will be working constructively towards comparable agreements with all international counterparts for the Iceland deposit insurance scheme in line with the EEA legal framework. (IMF, 2008 [attachment]) At the time, this language was generally interpreted to mean that Iceland was to guarantee the Icesave deposits, a sum of €4 billion, almost half of Iceland’s 2009 GDP. This proved to be easier said than done and high emotions were ignited inside and outside Iceland as the United Kingdom and the Netherlands pressured Iceland for a guarantee. Deals between the respective authorities where such guarantees were given were sent twice to a referendum by the President of Iceland and rejected. Financing of the IMF programme by the Nordic countries – and as a result financing the programme as a whole – was even held up for some months because of Iceland’s refusal to guarantee payment (Bergmann, 2017; Frettablaðið, 2013). A case was subsequently brought against Iceland before the EFTA court, which ruled in Iceland’s favour on 28 January 2013. As it turned out, recovery from the Landsbanki estate was much better than originally estimated. The Icesave dispute was settled in September 2015 by an agreement between the institutions involved (Icelandic Guarantee Fund, 2015). In January 2016, the Landbanki estate fully settled all priority claims, including deposits and claims of deposit insurance funds (LBI hf., 2016). It has become clear that the Icesave dispute was not merely handled badly but also turned out to be unnecessary. Politics started it on the United Kingdom and the Dutch side, then Icelandic politics took over. The result was damage to political relations and an unquantifiable component of financial damage. The impact of the IMF in the Icesave dispute is a complex issue. Comments made by the resident representative of the IMF after the EFTA decision indicate that IMF staff were focused on bringing the programme

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forward, even if the Icesave dispute was ongoing (Frettablaðið, 2013). However, IMF staff were powerless to prevent the Fund from being used as a device by certain member countries to force Iceland to guarantee the Icesave deposits. Notwithstanding the good intentions of the IMF staff, the IMF as an institution, therefore, ultimately played a rather negative role in the Icesave saga, and in this instance, trust in the Fund within Iceland was undermined by its actions.

Fiscal Consolidation In October 2008, the IMF estimated the gross fiscal cost of the crisis to be 80% of GDP – over half of that due to foreign deposit insurance (Icesave). There was pessimism about asset recovery, so net costs were projected to be similar to gross costs (IMF, 2008). Still, it was decided to postpone spending cuts for one year. This was wise. In the winter of 2008–2009, as private demand collapsed and unemployment shot up to levels not seen since the Great Depression, the support given to aggregate demand by public spending was very important. The crisis did lead to substantial costs for the Icelandic state, although not as great as the initial pessimistic estimates. Laeven and Valencia (2013), based on the data for 2008–2011, estimated the gross direct fiscal cost of the Icelandic crisis at 44% of GDP – the highest cost suffered by any country during the 2008 crisis (Ireland’s costs were estimated at 41% of GDP) and among the highest for any country since 1970.13 More than half of this cost was due to the CBI’s losses on collateralised lending extended to the failed banks before the crash.14 Note that these losses were due partly to the change in priority of claims on banks (as discussed above) and partly to unwillingness to give domestic currency bonds priority over foreign currency bonds. The progressive fiscal tightening of 2–3% of GDP annually in 2010– 2012, mandated by the IMF programme, was painful. Most of the consolidation fell on the expenditure side: Taxes increased by a total of 1% of 13

Laeven and Valencia (2013) estimated the output loss in Iceland for 2008–2011 at 41.9% of GDP, which was high but lower than in Latvia (106.2%) and Ireland (105.3%). Iceland’s GDP contracted by 12% from peak (2007, fourth quarter) to bottom (2010, first quarter), while total debt of all sectors – homes, firms and the state – as a percentage of GDP peaked at almost 500% in 2010, up from an already excessive 400% at the end of 2007. 14 See Jónsson and Sigurgeirsson (2016) for details.

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GDP over these three years but non-interest expenditures dropped by 5%. Unfortunately, the fiscal consolidation was not supported by structural policies (agricultural subsidies, education, barriers to foreign entry, R&D; see Organization for Economic Cooperation and Development (OECD), 2013). Already, a primary surplus of 1.7% was realised in 2012 and an overall surplus was reached in 2016 (IMF, 2017). That may partly have reflected IMF priorities, as in Greece (see Papaioannou, Portes, & Reichlin, 2015a, 2015b). Public debt shot up as a result of the crisis: Laeven and Valencia (2013) estimated the rise in public debt due to the financial crisis at 72.2% of GDP, similar to that of Ireland. Gross public debt peaked at 122% of GDP in 2011 (OECD, 2018a), which placed Iceland among the most highly indebted countries in Europe at the time. Iceland was fortunate to come into the crisis with a relatively low level of debt – public debt was 50% of GDP in 2007, and much of that was in the form of pension obligations. A substantially higher level would in all likelihood have led to a sovereign debt crisis, but the Republic of Iceland stayed current on its debt throughout the crisis. Markets caught on to this as indicated by the rapid fall over the programme period and beyond in the cost of insuring against default on the sovereign debt of Iceland (Fig. 1).

Fig. 1:  Credit Default Swap Spreads for Iceland and Ireland. Source: Central Bank of Iceland.

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As in the Swedish crisis of the early 1990s the direct fiscal cost of the Icelandic crisis turned out to be negligible or even negative in the end (Jónsson & Sigurgeirsson, 2016). This is in part due to high returns on the state’s recapitalisation of new banks, as was the case in Sweden, but most of the cost was recouped through ‘stability contributions’ of the estates of old banks – de facto by international hedge funds now holding their debt – as well as a special tax levied on the estates. The stability contributions resulted from a voluntary – in much the same sense as the Greek debt restructuring was voluntary (Zettelmeyer, Trebesch, & Gulati, 2013) – restructuring of the old banks’ debt, under which most of the Icelandic króna assets of the banks were relinquished to the state or tied up in Iceland; foreign assets of the old banks were then released to creditors. See Baldursson, Portes & Thorlaksson (2017) for details. Although the direct fiscal cost of the crisis has been low, the overall cost has been high. In 2016, Iceland’s public debt stood at 87% of GDP, somewhat above the OECD median value (Fig. 2), and up almost 40 percentage points from the pre-crisis level. Net debt was zero before the crisis, but was close to 50% of GDP in 2016 (OECD, 2018b).

Fig. 2:  Public Debt in 2016. General Government Debt in OECD Countries as Percentage of GDP. Source: OECD (2018a) and Statistics Iceland. Data are missing for Israel, Japan, Mexico, Switzerland and Turkey.

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Insolvency Framework It was clear from the outset that an efficient insolvency regime would be needed for Iceland in order to manage widespread insolvency among firms as well as households after the crisis and to place the new banks on a sound footing quickly to make them ‘good’ banks. As stated in the Letter of Intent, there was a ‘need to address the insolvency framework to manage deleveraging and recovery in the banking, corporate and household sectors’ (IMF, 2008). Unfortunately, progress on this front was slow. It took more than two years to change the law on personal insolvency so that households deeply in debt could be provided a fresh start as, for example, under the US regime, and the implementation was prolonged. The debt workout of firms was also very slow. At the end of 2010, the non-performing corporate loans were 45% of the total corporate loans, while 20% of household loans were non-performing (CBI, 2014). A year later, substantial progress was made on corporate loans, where the non-performing portion was lowered to 23%, but there was little change in the household sector, where the share of non-performing loans was 18%.

How Successful was the IMF Programme? It is natural to ask whether the IMF programme was successful. The IMF certainly regarded it as such and organised a high-profile international conference in Reykjavík to advertise the results when Iceland exited the programme in October 2011 (IMF, 2011). Many agree that on the whole the programme was a success (Katsimi & Zoega, 2015; Krugman, 2011). However, not everyone concurred with the IMF’s own estimation (e.g., Danielsson, 2011b), and the programme was clearly not perfect. For example, raising the policy interest rate to 18% as the economy was plunging into deep recession in the Fall of 2008 was damaging and probably unnecessary for achieving the aim of stabilising the exchange rate; the capital controls would in all likelihood have sufficed. Implementation and execution could have been more decisive, especially regarding restructuring the banking sector and private sector debt. The capital controls were to be removed during the programme period – this was initially set at two years but later extended to three – but lasted much longer than envisaged: They were lifted six years after the programme ended, nine years after the crisis. And the IMF allowed itself to be used by other Nordic partners in the programme as a tool for pressuring Iceland in the Icesave case by withholding financing for months.

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Fig. 3:  GDP Per Capita in Selected Countries/Areas. Volume Indices Set to 100 in 2007. Source: Federal Reserve Economic Data (FRED) database, Federal Reserve Bank of St. Louis. Data points for 2015–2016 are omitted for Ireland. Because of a change in accounting, Irish data show 26% growth in 2015.

Despite this criticism, Iceland’s situation was gradually normalised over the three years of the IMF programme. Indeed, Iceland re-entered capital markets in June 2011, less than three years after the biggest banking crisis any country has suffered (before Cyprus). Iceland returned to growth in the last year of the programme and has had a healthy rate of growth since then (Fig. 3). Unemployment rose to historically high levels for Iceland in the contraction of 2009–2010 but has come down steadily since then (Fig. 4). Evidently, considerable success has been attained since the crisis. There are many factors behind the good economic performance of Iceland since 2011, and it is impossible to disentangle the impact of the IMF programme from that of other policies. But it seems likely that its contribution was a positive one. In particular, it seems clear that the programme provided one of the elements for restoring trust in Iceland when it was most needed, both domestically and internationally, during the depth of the crisis in 2009–2010.

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Fig. 4:  Unemployment in Iceland. Harmonised Unemployment in Percentage of Labour Force. Source: FRED database, Federal Reserve Bank of St. Louis.

References Baldursson, F. M., & Portes, R. (2013). Gambling for resurrection in Iceland: The rise and fall of the banks. Centre for Economic Policy Research (CEPR) Discussion Paper No. 9664. Baldursson, F. M., & Portes, R. (2014). Capital controls and the resolution of failed cross-border banks: The case of Iceland. Capital Markets Law Journal, 9(1), 40–54. Baldursson, F. M., Portes, R., & Thorlaksson, E. (2017). Iceland’s capital controls and the resolution of its problematic bank legacy, unpublished working paper availabe on Retrieved from http:// Bergmann, E. (2017). The Icesave dispute: A case study into the crisis of diplomacy during the credit crunch. Nordicum-Mediterraneum: Icelandic E-­Journal of Nordic and Mediterranean Studies, 12(1). Retrieved from https://nome. icesave-dispute-case-study-crisis-diplomacy-credit-crunch/. Central Bank of Iceland (2008a, 7 October). The foreign exchange reserves of the Central Bank of Iceland bolstered. Press release. Retrieved from https://

126    Friðrik Már Baldursson and Richard Portes Central Bank of Iceland (2008b, 8 October). Gjaldeyrismarkaður [Foreign exchange market]. Press release. Retrieved from Gjaldeyrismarka%C3%B0ur-/ Central Bank of Iceland (2014). Financial stability 2014/1. Retrieved from Financial-Stability-2014-1/ Central Bank of Iceland (2017). Financial stability 2017/1. Retrieved from Financial-Stability-2017-1/ Danielsson, J. (2011a, 26 October). How not to resolve a banking crisis: Learning from Iceland’s mistakes. Retrieved from Danielsson, J. (2011b, 27 October). Was the IMF programme in Iceland successful? Retrieved from Edison, H. J., & Reinhart, C. M. (2001). Stopping hot money. Journal of Development Economics, 66, 533–553. Financial Times (2008a). Iceland talks to IMF, turns to Russia. Financial Times, 14 October. Retrieved from iceland-talks-to-imf-turns-to-russia/ Financial Times (2008b). Iceland to announce $6 billion IMF-led rescue. Financial Times, 20 October. Retrieved from 7b83b114-9e9f-11dd-98bd-000077b07658 Frettablaðið (2013). Fulltrúi AGS staðfestir að Norðurlandaríkin hafi krafist samninga um Icesave: Jákvæð áhrif á lánshæfismatið [IMF resident representative confirms that Nordic countries demanded an agreement on Icesave: A positive influence on credit ratings]. Glick, R., & Hutchison, M. (2005). Capital controls and exchange rate instability in developing economies. Journal of International Money and Finance, 24(3), 387–412. Harmon, M. (1997). The British labour government and the 1976 IMF crisis. Basingstoke: Palgrave MacMillan. Helgadóttir, R. (2012, 10 March). Economic crises and emergency powers in Europe. Harvard Business Law Review. Retrieved from http://www.hblr. org/2012/03/eu-economic-emergency-powers/ Hreinsson, P., Benediktsdóttir, S., & Gunnarsson, T. (2010). Aðdragandi og orsakir falls íslensku bankanna 2008 og tengdir atburðir [Background and causes of the Icelandic banks’ collapse in 2008 and related events]. Reykjavík, Iceland: Althingi. Retrieved from addragandi-og-orsakir-falls-islensku-bankanna-2008/ Icelandic Guarantee Fund (2015, 18 September). Settlement of Icesave claims. Retrieved from International Monetary Fund (IMF) (2008, 25 November). Iceland: Request for stand-by arrangement. Retrieved from Issues/2016/12/31/Iceland-Request-for-Stand-By-Arrangement-Staff-ReportStaff-Supplement-Press-Release-on-the-22513

Iceland’s IMF Programme    127 International Monetary Fund (IMF) (2011, 3 October). Iceland, IMF announce international conference on lessons, challenges of economic crisis. Press release 11/355. International Monetary Fund (IMF) (2012, 14 November). The liberalization and management of capital flows – An institutional view. IMF Policy Paper. International Monetary Fund (IMF) (2017, 30 May). Iceland: Staff report for the 2017 Article IV consultation. Jónsson, A., & Sigurgeirsson, H. (2016). The Icelandic financial crisis: A study into the world’s smallest currency area and its recovery from total banking collapse. Basingstoke: Palgrave Macmillan. Jonung, L. (2009a, 14 March). The Swedish model for resolving the banking crisis of 1991–93: Is it useful today? Retrieved from Jonung, L. (2009b). Twelve lessons from the Nordic experience of financial liberalization. In L. Jonung, J. Kiander, & P. Vartia (Eds.), The great financial crisis in Finland and Sweden: The Nordic experience of financial liberalization (pp. 301–324). Cheltenham: Edward Elgar. Katsimi, M., & Zoega, G. (2015, 19 November). The Greek and Icelandic IMF programmes compared. Retrieved from Krugman, P. (2011, 1 September). Iceland exits. Retrieved from https://krugman. Laeven, L., & Valencia, F. (2013). Systemic banking crises database. IMF Economic Review, 61(2), 225–270. LBI hf. (2016, 11 January). Exemption from capital controls: Final settlement of priority claims. Press release. Retrieved from exemption-from-capital-controls-final-settlement-of-priority-claims Magud, N., Reinhart, C. M., & Rogoff, K. S. (2011). Capital controls: Myth and reality – A portfolio balance approach. National Bureau of Economic Research (NBER) Working Paper 16805. Miniane, J., & Rogers, J. H. (2007). Capital controls and the international transmission of US money shocks. Journal of Money, Credit, and Banking, 39(5), 1003–1035. Organization for Economic Cooperation and Development (OECD) (2013). Economic policy reforms 2013: Going for growth. OECD Publishing. Retrieved from Organization for Economic Cooperation and Development (OECD) (2018a). General government debt [indicator]. doi:10.1787/a0528cc2-en. Organization for Economic Cooperation and Development (OECD) (2018b). General government financial wealth [indicator]. doi:10.1787/325ddad1-en. Papaioannou, E., Portes, R., & Reichlin, L. (2015a, May). Greece: A new way forward. In Summary and proceedings of LBS conference on Greece. http://www. DOCUrl=App_Data/lucreziareichlin_eu/Work-in-Progress_en-GB/_Documents_2014-15/140886315_93446613_Greece%20Seeking%20a%20Way%20 Forward%20-%20London%20-%20%2019%20June%202015.pdf

128    Friðrik Már Baldursson and Richard Portes Papaioannou, E., Portes, R., & Reichlin, L. (2015b, 19 June). Greece: Seeking a way forward. Retrieved from Straetmans, S. T. M., Versteeg, R. J., & Wolff, C. C. P. (2013). Are capital controls in the foreign exchange market effective? Journal of International Money and Finance, 35(C), 36–53. Zettelmeyer, J., Trebesch, C., & Gulati, M. (2013). The Greek debt restructuring: An autopsy. Economic Policy, 28(75), 513–563.

Chapter 7

A Question of Trust: The Story of ­Reykjavík Energy Guðrún Erla Jónsdóttir Abstract Competence, credibility, image and integrity all came under scrutiny during the economic crisis in Iceland. This period was not just about the financial system, it was about trust, something the Icelandic economy and individual businesses in the country lost in the wake of the crash. Reykjavík Energy, an Icelandic power- and utility-company, was one such company. In the year leading up to the economic crisis, mistrust in Reykjavík Energy had taken root and the firm’s image was already under attack. When its external debt doubled in the crash with the depreciation of the Icelandic króna, it was clear that the company’s position was unsustainable. In the years following the crisis, the rebuilding of the public’s trust in Reykjavík Energy has been a demanding task. The project of restoring trust and strengthening the firm was two-fold. On the one hand, short-term measures that were necessary to keep the company alive were taken. On the other hand, work was done to develop the foundations for long-term results and sustainable management. Reykjavík Energy, to a large extent, has now reclaimed its position in the eyes of its stakeholders. However, trust is not a constant but something that is earned over time and the challenge for the future is therefore to maintain it while learning from the past. Keywords: Business–government relations; corporate governance; corporate social responsibility; credibility; public utility; stakeholder relations The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 129–149 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181010

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A lack of transparency results in distrust and a deep sense of insecurity. —Dalai Lama

Trust and Credibility There is no universally recognised definition of the concept of trust. Trust is a feeling, with no absolute explanation of what it is. Trust entails certain expectations regarding behaviour, both when one is being watched and when one is unobserved. Trust is not a constant but rather something that is acquired and it can take a long time to build up. Integrity is closely linked to trust. Without integrity, it is impossible to develop trust. Lack of integrity, on the other hand, will undermine trust. Many people link transparency with integrity. Transparency is understood as having everything above-board, both the good and the bad. Not to conceal mistakes but to have the willingness to disclose and acknowledge them, learn from them and move on. If trust is broken, it can be difficult to rebuild. However, with goodwill, integrity and transparency. All this applies equally to people and companies, it is possible. For companies, trust is a key element for building up a connection with stakeholders. Moreover, it can be said that trust within the walls of a company is a key element for securing the trust of customers and other external interested parties. This is because trust begets trust. Trust is therefore the basis of success. It is not a guarantee of success, but without trust, success is doubtful. Initially, experts who discussed the concept of trust in business viewed it as unequivocal or uni-dimensional. But in recent years we have recognised that it is complex and multi-faceted (Xie & Peng, 2009). Mayer, Davis, and Shoorman (1995), for example, have maintained that the principal dimensions of trust or the prerequisites for its existence are the ability to honour promises (competence), to uphold the customers’ interests (benevolence) and integrity. Kantsperger and Kunz (2010), on the other hand, maintain that trust has two dimensions that are founded on credibility and benevolence. Eysteinsson and Guðlaugsson (2010) argue that these academics and others are, in fact, talking about the same thing. They base this assertion on the contention that the concepts of ‘competence’ and ‘credibility’ are almost synonymous as defined across these research efforts. Moreover, the concept of ‘benevolence’, to Eysteinsson and Guðlaugsson’s (2010) thinking, entails ‘integrity’ – the third dimension in the three-dimensional view. Even more dimensions appear in the

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work of Covey and Merrill (2006), who see trust as a combination of four foundational elements: integrity, intent, capabilities and results. They caution that each of these elements is equally important and must be in equilibrium; it is not considered a good idea to place more emphasis on one element than another. Results without integrity, for example, are no more desirable than integrity without results in the long term. Image is also closely related to trust and vice versa. Sidney Levin introduced the concept of image in 1955, but since then the ideology of this concept has been applied to a variety of different fields (Barich & Kotler, 1991), including anthropology, geography, semiotics and sociology (Gallarza, Gil, & Calderón, 2002). Although the definition of image differs between research fields, we can simplify and consider image as a kind of picture in people’s minds, something that is developed over time. A person who trusts a company is more likely to have a positive image of it. Similarly, it can be said that if a person has a bad image of a company, he or she is more likely not to trust it. Competence, credibility, image and integrity all came under scrutiny during the economic crisis in Iceland in the autumn of 2008. This period was not just about the financial system. It was about trust, something the Icelandic economy and individual businesses in the country lost in the wake of the crash. The image, not just the finances, of many companies was damaged and stakeholders’ lack of confidence in businesses was obvious. In the wake of the economic crash, rebuilding the public’s trust in Icelandic companies has been a demanding task. The following is the history of how one enterprise lost the public’s trust but is near to regaining it after years of effort.

Reykjavík Energy Reykjavík Energy (Orkuveita Reykjavíkur in Icelandic; OR for short in this narrative) is an Icelandic power and utility company, organised as a partnership and owned by municipalities. The firm’s origins can be traced back to 1909 when the Reykjavík Water Utility was founded. In tandem with the laying of the water supply pipes, the municipality of Reykjavík decided to lay sewers in every street – measures designed to enhance the health of the inhabitants with clean water, a better sewerage system and sufficient water for fire protection. The Reykjavík Electricity Utility started operating in 1921 with the Ellidaár Power Plant. The district heating utility was launched in 1930 with Laugaveita, which still today serves the residents of the capital area. These three utilities were merged at the start of

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the new millennium under the name of Reykjavík Energy. At the same time, the company started to run telecommunication operations, which are managed by its subsidiary, the Reykjavík Fibre Network. In 2006, OR took over the management of sewerage systems (Jónsdóttir, 2017). The service area of the utilities extends to 20 municipalities, where the population is most dense, covering around 70% of the Icelandic population. OR was founded and became operational under Act No. 139/2001 (Althingi, 2001). It is owned by three municipalities: the City of Reykjavík (93.5%), Akraneskaupstaður (5.5%) and Borgarbyggð (1%). According to Act no. 136/2013, its legal form is that of a partnership, and it is operated under the simple and proportional responsibility of its owners. In 2014, OR was divided into a parent company and subsidiaries, as discussed later in this chapter (Reykjavík Energy, 2014b). According to the law, the function of OR and its subsidiaries is to ‘conduct the processing, production and sale of electrical power, hot water and steam and the operation of fundamental systems, such as the distribution of electricity, hot water, water supply, sewage disposal and the fibre network, in addition to other activities of a comparable nature’ (Althingi, 2013). The water supply and sewage disposal utility operations are a public statutory municipal service, entrusted to the OR group, while the hot water supply and electricity distribution are licenced. These activities are managed by the subsidiaries of Veitur Utilities. In addition to this, two subsidiaries of OR operate in the competitive market: ON Power and the Reykjavík Fibre Network. OR is the bridge between natural resources and the community. It uses natural resources for the benefit of the populations that reside in its areas of activity and provides basic services that are considered prerequisites for successful living in modern society and a fundamental right. To be entrusted with the use of natural resources and the quality of life of modern society places a great deal of responsibility on the shoulders of the directors and management of OR. Since its foundation, the enterprise’s owners have appointed politically elected representatives to the company’s board of directors. As a result, discussions about OR have often taken place in the political arena, and conflicts are sometimes coloured by the working environment that reigns there (Pétursdóttir, Ólafsdóttir, Kristmundsson, & Reynisson, 2012). It can be said that for many years OR has been a bone of contention between political parties, with the majorities and minorities in the City Council being reflected in the company’s board of directors. As a result, OR’s policy was not always clear and changed rapidly according to the priorities of whatever majority was in power in Reykjavík. A lack of strategy, unclear responsibilities and the circumvention of sound corporate

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governance led OR into difficulties (Pétursdóttir et al., 2012). Those difficulties resulted in a bad situation in the wake of the economic crash of 2008 and stakeholders’ lack of trust in the company became blatant. OR had already lost some trust before the onset of the economic crisis, however, and faced that difficult period with quite a damaged image. To understand what led up to that, one has to go back to 2007 when Reykjavík Energy Invest was founded.

Loss of Trust Reykjavik Energy Invest (REI), a subsidiary of OR, was founded in June 2007 to develop business and investment in geothermal energy-related operations abroad. The basic idea was to export the expert know-how in the use of geothermal energy that had been developed within OR. Initially, OR fully owned the company, but other investors then joined as a group of shareholders in the latter part of 2007, although OR remained the primary investor. The board of directors of REI was made up of three members and, for a period, the chairman of the board of directors of OR also sat on the board of REI. The then-CEO of OR was granted leave from his post and moved over to REI where he became CEO, while the deputy CEO at OR took over the post of CEO. This arrangement was meant to be temporary, as shown by how the post of CEO was advertised and how the appointment of the provisional CEO was approved at a meeting of the board of directors in September 2008 (Morgunblaðið, 2008b). Several REI employees also came from OR. The staff of REI and specific key employees of OR were to be offered contracts with share purchase options. This was not a common practice for companies owned by municipalities, and created a great furore. The controversy around the company peaked when, in October of the same year, a decision was made to merge REI and Geysir Green Energy (GGE) with the aim of combining their forces in their expansion overseas. The majority stakes in GGE were owned by FL Group (an investment company), Atorka (a private equity firm) and Glitnir (one of the Icelandic banks that failed in the crisis). The disputes after the decision was made to merge REI with GGE arose not least because the staff of OR and REI were to be allowed to buy shares in the merged company at a low rate, as critics felt that the assets of OR had been placed in REI at a low price (Viðskiptablaðið, 2013). Yet another stumbling block in the dispute was whether it was even acceptable to use capital from the operations of OR, a company that municipalities owned, for the foundation of a private company expanding abroad

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in this manner. The REI issue became politically contentious within the Reykjavík City Council, affecting all parties since the city was the firm’s main owner. The conflict regarding the future of the company was so fierce and deep-rooted that it broke up the majority coalition in power at that time and three other majorities after that. A new individual sat as mayor as each new majority was formed (Pétursdóttir et al., 2012). This political conflict badly tarnished OR’s image. The REI case was the most prominent issue in the media in 2007 (Morgunblaðið, 2008a). OR’s image had previously been buffeted between 2001 and 2003 when the cost of building the company’s headquarters far exceeded budget. The initial estimate for the construction had been ISK 2.3 billion (about US$25 million; €26 million – all 2002 values), but this eventually escalated to ISK 8.5 billion (about US$70 million; €52 million – 2010 values) (Pétursdóttir et al., 2012). The REI case was seen as the last straw and, in the public perception, OR’s management was considered to be reckless and not completely above-board. There was talk of financial folly and OR’s trust and image were therefore in jeopardy before the financial crash.

Reykjavík Energy in the Financial Crisis A large part of the Icelandic financial system collapsed in the autumn of 2008, triggering an economic crisis in its wake. This tremendous upheaval in the Icelandic economy was caused by the bankruptcy of three of Iceland’s biggest banks, which in turn weakened the support of other companies. ‘The crash’, as it is generally referred to in daily talk, was multi-faceted and revolved around more than the financial system. It also concerned the credibility and corporate governance of companies. As mentioned, mistrust in OR had taken root before the crisis and the firm’s image was already under attack. When its external debt doubled in the crash with the depreciation of the Icelandic króna, it became clear that OR’s position was unsustainable. Despite the firm’s poor position: in the autumn of 2008, the heads of Reykjavík Energy followed the instructions of the company’s biggest owner, the City of Reykjavík, and refrained from raising its tariffs during this period. (Pétursdóttir et al., 2012, p. 158) Now its owners were insecure and anxious about the enterprise’s future (Pétursdóttir et al., 2012; Reykjavík City Council, 2007). OR’s bad position was obvious to many people, but nevertheless not in the spotlight of

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public debate. The company’s financial results painted a bleak picture, but people’s minds were focused on other things in the direct aftermath of the crash. It was not until well into 2009 that the position of the company came into the spotlight, but no measures to correct its finances were taken before 2010–2011. By then, OR’s position had become completely untenable and the company was ‘like a ship out in the open ocean with limited visibility and no compass’ (B. S. Jónsson, personal ­communication, 26 June, 2017).1 Some milestone changes in OR can be seen on the timeline in Fig. 1. The events that are pinpointed in the timeline show OR’s status, what the problem was considered to be, what actions were taken and what results were achieved.

Challenges Follow The focus now shifts to the period between 2010 and 2016. In the Spring of 2010, there were major changes in Reykjavík municipal politics when a new, inexperienced party stood for election and won. It was not until then that efforts were made to get to the heart of the finances and ­management of OR. There was no sufficiently organised response at OR in the wake of the crash. The same board of directors and management were still in place at the company during this period and politics continued to interfere with the company. The response to the crash came about two years later, when one of the biggest changes in decades occurred in the City Council of Reykja­ vík, the main owner of OR. A new political party, the Best Party (Besti flokkurinn) won the municipal election, but had little or no knowledge of political work, no tightly formed strategy and virtually no experience

Fig. 1:  Significant Events Leading to Changes in Reykjavík Energy. 1

Dr. Bjarni Snæbjörn Jónsson is an independent consultant.

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in management. It was, moreover, a declared ‘joke candidacy’ according to its chairperson, who went on to become mayor (Vísir, 2010a). In May 2010, the Best Party formed a coalition in the City Council with the Social Democratic Alliance. This new majority emphasised gaining an understanding of the problems surrounding OR in an effort to solve them. In the wake of this, a new board of directors was appointed for the firm in June 2010, with the novelty that three of the six appointed board members were professionals without any direct affiliation with political parties – and one of these was named chairperson. This meant that non-political board members made up the majority of the company’s board of directors, having four out of seven votes. At this stage, a decision was also made to conduct a professional analysis of the problems and position of OR. The mayor said that the task of the new board was, among other things, to define the upcoming evaluation of the company’s operations with the aim of clarifying its state of affairs and identifying the challenges and possibilities that existed, with a specific focus on financing. The heads of OR were instructed to conduct an analysis and submit their report within a month. The mayor called for clear leadership from the board of directors, saying that the new chairperson of the board would therefore initially pursue this task as a full-time job (Vísir, 2010b). This decision was vehemently criticised by the minority parties in the City Council. At the same time, the owners of OR formed a special team comprising three members, one from each owner, to review and confirm the reliability of the evaluation to come from management (Pétursdóttir et al., 2012). The team was asked to ascertain whether the report presented realistic solutions to the organisation’s problems. This team’s conclusions were not made public, but one can deduce that the members probably did not consider management’s analysis satisfactory, since it was later deemed necessary to request a more detailed and impartial analysis by external parties. In the wake of this, the CEO of OR left his post. People realised that the problem was enormous, but did not know the full extent of it at this time because management failed to present it clearly. A temporary CEO was appointed for six months while the post was being advertised. The temporary CEO was intended to be an interim project manager to take on the difficult tasks awaiting OR. ‘The idea was that [he or she] would become the company’s change manager and be granted a full mandate to implement radical changes in a short period of time and, in doing so, pave the way for the future CEO’ (Sigurjónsson, 2012). Even though the problems of OR were not totally clear at that stage, people realised that there was no time to be lost. The company’s

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balance sheet was many times bigger than that of the main owner and, if the company went bust, the City of Reykjavík would have been liable for its debts – but the city did not possess the capital to honour those obligations and OR would therefore have dragged Reykjavík down with it if it had gone bankrupt (Sigurjónsson, 2012). Measures were immediately taken to significantly raise tariffs to the levels they would have been at if they had followed price developments, which they had not done since 2005. Operations that did not fall under the core business of OR were significantly reduced or abolished. Redundancies were also envisaged and that autumn about 70 employees were laid off. Since the analytical work of OR management had not shed sufficiently clear light on the situation, external consultants were brought in to identify the real situation and problems. The external consultants’ report came out in January 2011 and demonstrated in black and white that the enterprise’s position was unsustainable. Operating costs were far too high, revenue too low, and four-to-five-year projections revealed that operations required ISK 50 billion (about US$427 million, €314 million – 2011 values) to be able to restore the company (Sigurjónsson, 2012). The company had not sunk, it had not gone bust, but OR had no access to loans from banks and credit institutions, so the company had to think on its feet. Creditors’ trust in OR was virtually nonexistent. In February 2011, a new CEO was appointed and a decision was made to draw up an action plan for several years to bridge the gap in operations. When the new CEO took office in March 2011, work on this plan was underway. Responsibility for the effort was jointly shared by the owners, board of directors and management, with the owners’ special team also playing an important role. The blueprint was later simply referred to as ‘the Plan’. It was approved by all three owners and ultimately became their direct responsibility. Discussion on the Plan follows shortly.

Report of the Evaluation Committee on the Position of Reykjavík Energy Work on reviving OR’s finances was underway with the Plan, but in parallel with this, the City Council decided to appoint a three-member evaluation committee. The committee was instructed to examine the enterprise’s issues and to make an impartial appraisal of the elements that led to its financial state, with a view to improving the administration of the company and communications with its owners (Vísir, 2011). The committee examined OR’s corporate governance and management since

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its foundation. The assessment focused specifically on how important decisions were made, including the involvement of owners, directors and managers in these decisions. The evaluation also focused on the working procedures of the board of directors, CEO and managing directors, and the collaboration between them. Various elements of the company’s internal supervision and risk management were then examined. The committee delivered its extensive report in October 2012. Its principal conclusions were that OR’s financial difficulties in the wake of the crash could be attributed to ‘heavy investment and capital-intensive construction over a short period, higher dividend payments and the owners’ reluctance to raise tariffs in accordance with the development of prices and massive exchange rate losses’ (Pétursdóttir et al., 2012, p. 1). More­ over, the open-purpose provisions of the Reykjavík Energy Act (the Act), regulations and partnership agreements created the scope for directors to invest in a variety of activities that were not connected with the core operations of the company, as exemplified by the REI case. The evaluation committee pointed to the following factors: 1. The Act was too vague about the scope of the company and there was a lack of clear definition of the role and responsibilities of the owners and an ownership policy. Thus, the CEO had a great deal of leeway to determine and decide how the company should develop and how its investments should be managed. 2. The company’s legal form had been an obstacle due to unclear rules regarding powers and responsibilities. There was a pressing need to review OR’s legal form and to determine whether the company should be run as a company owned by the municipalities or based on private company law. 3. Concerning corporate governance and management, the committee found that not only were the rules on the role of the owners vague but also the division of tasks between owners, the board and executives were unclear, which distorted supervision arrangements, the dissemination of information and more. 4. As to investments and finances, ‘Due to the lack of an ownership policy there were ill-founded investments that had no clear connection to the core activities of the company’ (Pétursdóttir et al., 2012, p. 4). Investments did not yield satisfactory returns because insufficient consideration was given to risks in the evaluation of investments – for example, the company did not hedge its exposure to exchange rate risk or aluminium price risks. Moreover, owners took dividends out of the company that bore no relation to the enterprise’s performance. (Pétursdóttir et al., 2012)

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When the evaluation committee’s report came out, owners and the enterprise’s board drafted a task list based on more than 100 recommendations presented. In fact, a number of improvements had already been made, particularly with regard to corporate governance among the owners, as discussed below. But there were still some elements that stood out, which the board instructed an audit committee to monitor. At the 2013 annual general meeting, the executive chairman of OR delivered a report that stated that the board of directors was well advanced in implementation of the recommendations contained in the evaluation report (Reykjavík Energy, 2013).

In Every Challenge an Opportunity Arises The Plan The Plan discussed above was approved by the municipality owners of OR in the Spring of 2011 and subsequently put into effect. It was an ambitious plan for reforming the management and performance of OR and extended to the end of 2016. The main objective was to increase the cash position of the company by over ISK 50 billion (about US$427 million; €314 million – 2011 values) during the period. The Plan targeted, among other things, substantial and long-lasting savings in operations and ensuring that tariffs retained their monetary value for the duration of the Plan period. Further, during the Plan period, the owners of OR agreed not to be paid any dividends from the operations of the company (Reykjavík Energy, 2016). An important part of the Plan was to immediately obtain cash to keep operations afloat. The company received a subordinated loan of ISK 12 billion (about US$102 million; €75 million – 2011 values) from the owners to bridge the gap until operations could stand on their own feet again, as it was perfectly clear that OR would get no loans from banks and credit institutions. The new CEO and recently appointed CFO of OR held meetings with credit institutions during this period, revealing that the latter’s trust and faith in OR was at a low ebb. Speaking of their meetings with all the main credit institutions, the CEO of OR said: It was the same story everywhere we went, very gloomy faces and when we went to the European Investment Bank (EIB), just us country men from Iceland, there were thirteen people there sitting opposite us. The entire legal department

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and the so-called ‘unwind team’, whose job it is to free themselves from loan transactions with companies. We showed them the Plan… And they liked it, the fact that there was a plan. Like others, they said: this is fine but we’ll meet again in six months’ time, see how it’s going. […] And then you’ll need to be able to show us that you can deliver on the things you’ve said. (B. Bjarnason, personal communication, 26 June 2017)2 To gain the trust of credit institutions, there was a need for information and transparency. The heads of OR placed all their cards on the table. They disclosed the situation exactly as it was and in their quarterly status reports provided information on the progress being made to meet the Plan’s objectives. The financial objectives of the Plan were reached by mid-2015, one and a half years ahead of schedule. The action plan remained in force throughout 2016, however. The Plan lay the foundations for reliable finances in the long term. Loans from the owners and changes in tariffs were responsible for 40% of the results of the Plan, but savings in operations and investments, as well as asset sales, accounted for 60% (Reykjavík Energy, 2017). Fig. 2 shows a breakdown of the objectives and the final results of the Plan in Icelandic króna (billions).

Fig. 2:  An Overview of the Financial Goals of the Plan and Their Final Results. Source: Reykjavík Energy.


Bjarni Bjarnason has been CEO of OR since 2011.

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Creditors lost their faith in OR in the crash and after it. All potential credit lines to the company were cut off in the wake of the crisis. Creditors mistrusted OR, but with the advent of the Plan and the steady flow of information and transparency, trust was built up again. Even though the Plan was demanding and the management invested a great deal of time implementing it, strategies were also put in place to secure the enterprise’s foundations and future results. Strategy and Values The project of restoring trust and strengthening the firm, which started in 2010, was in fact two-fold. On the one hand, short-term measures that were necessary to keep the company alive were taken. On the other hand, work was done to develop the foundations for long-term results and sustainable management. At the same time, as work on the Plan was being completed, the ownership committee was working on the formulation of an ownership policy, which was submitted in draft form in 2011 along with a request for opinions. The ownership policy was then unanimously approved at a meeting of OR owners in November 2012 (Hjálmarsson, 2014). Not only was this the first ownership policy for such an energy and utility company in Iceland but it also contained provisions on corporate governance and defined the chain of delegation. In the two years that followed, efforts were made to develop a powerful management team, a joint vision and values for the company while setting priorities for its activities. Strategies were simultaneously developed in three areas: owners with regard to the ownership policy, the board of directors and executive with regard to a corporate strategy, and operating policies regarding areas of competence and key performance factors. The ownership policy endeavoured to define the function and responsibility of the owners and to guarantee their participation in the decision-making process on important issues and policy-making (Reykjavík Energy, 2014a). Thus, the ownership policy was to guarantee the democratic, professional and effective management of the company. Through clear policy-making by its owners, accompanied by well-defined enterprise functions and a clear mandate from those in power – the board of directors and the CEO – and joined with new corporate governance requirements and an effective monitoring system, OR sought once more to create the conditions for conducting its operations in the interest of the public (Jónsdóttir, 2015; Reykjavík Energy, 2014a).

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A review of the values of OR was also important. Values constitute the foundation of the culture that reigns within OR. ‘Values are not values unless we live by them. That is a prerequisite’ (B. Bjarnason, personal communication, 26 June 2017). The values of OR were reduced to three, chosen with the general participation of its staff: foresight, efficiency and integrity. Foresight primarily revolves around the enterprise’s function, since utility management is by its nature a long-term issue and residents’ needs for the services of utility companies never fade. Efficiency is imperative for cost-effective day-to-day management so that customers can obtain services at the lowest possible price. Integrity is about how employees are perceived by customers and by each other, how they work and guarantee transparency in management. After defining these values, the firm set about working to implement them with the aim of ensuring that personnel lived by them. Employees are expected to understand the values, and management and decisions regarding both small and major issues must be founded on these values, which provide the criteria for all of OR’s actions (B. Bjarnason, personal communication, 26 June 2017). Further, all strategies must be developed based on these values. In the wake of the financial crisis, the staff of OR experienced insecurity. As mentioned, in the autumn of 2010, about 70 people were laid off and there was another group redundancy at the beginning of 2012 when over 20 people were dismissed. In the period between 2011 and 2015, offers were made to older staff members to bring forward their retirement; 60 employees accepted the offers. In total, the number of employees shrank from 600 in 2008 to about 400 in 2012 (, 2012). Employee satisfaction, which is measured annually in OR’s internal workplace analysis and to some extent reflects the staff ’s trust in the company, decreased in the years after it became clear that the enterprise’s critical position called for job cuts. After the company started working towards the Plan’s objectives, and once the values were implemented, and a clear strategy was established, employee satisfaction increased steadily. In 2015, employee satisfaction measurements were comparable to what they were in 2011 and the most recent measurements indicate an all-time high satisfaction (Fig. 3). The scale for employee satisfaction measurements ranges from 1 to 5; the results shown for the OR group are averages. Defining the company’s strategy and the future vision was crucial in bringing the group’s staff together, particularly since the company was split in 2014 into the parent company and subsidiaries in order to form the group, as described below. The information flow and transparency

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Act (Althingi, 2003). With amendments to the Electricity Act made in 2008, electricity companies were obliged to unbundle the competitive and monopoly parts of their activities. Initially, these provisions were supposed to come into effect on 1 July 2009. This date was repeatedly postponed. The obligation to unbundle was finally implemented on 1 January 2014. The unbundling presented a major challenge, since it entailed splitting OR into a parent company and subsidiaries. Three subsidiaries are now the face of OR’s activities for customers: Veitur Utilities, ON Power and the Reykjavík Fibre Network. Independent boards of directors as well as managing directors were established for the subsidiaries. The CEO therefore no longer had commanding control after the unbundling. In spite of unbundling, every effort was made to ensure that the group worked as a whole, in accordance with the priorities that had been formulated and on the basis of the OR ownership policy. Substantial changes were made to the company in the period when the most intense work was being done on the unbundling of OR between 2010 and 2014. The enterprise’s function was redefined in an endeavour to return to its origins in traditional utility and energy operations. The unbundling was not conducted in isolation but in consideration of the evaluation committee’s suggested extensive reforms and strategic planning. Subsequently, an emphasis was placed on the cohesion of employees under a comprehensive group strategy founded on the ownership policy. This reinforced the group’s emphasis on disseminating information to all employees in order to support a common vision. Since the group’s performance is determined by the collaboration between subsidiaries and the parent company, it is crucial for the actors to be coordinated and to share a common understanding of strategy (Jónsdóttir, 2017). With the unbundling, the ownership policy of OR (Reykjavík Energy, 2014a) and its partnership agreement (Reykjavík Energy, 2014b) were renewed and its entire corporate governance, such as the board of directors’ rules of procedure, was revised. The group followed corporate governance guidelines suggested by the Icelandic Chamber of Commerce, SA – Business Iceland (the Confederation of Icelandic Employers) and NASDAQ Iceland (the Icelandic Stock Exchange) (2009). Among other things, these are designed to define the functions and responsibilities of the managers of companies and to aid them in performing their jobs while at the same time securing the interests of shareholders, investors and other interested parties.

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Spotlight OR’s achievements in restoring the trust of creditors in the enterprise and its staff have not gone unnoticed. From a political viewpoint, it can be said that there is considerably less controversy around OR (E. Hjálmarsson, personal communication, 26 June 2017),3 largely because of the emphasis placed on reaching a consensus among the owners on the group’s issues, as seen in the fact that the three municipal owners unanimously approved the partnership agreement and ownership policy. The unbundling of OR required the enterprise to form more detailed rules on corporate governance and the delineation of powers. In operations as broad and extensive as those of the company, it is normal that different emphases emerge, but it also is necessary for any disagreements that arise to be settled through a clear channel of delegation. This channel had previously been vague and unwritten. Some results have been achieved in building up the public’s trust in OR. One way of gauging this is by reading how OR is covered in the media. Fig. 4 shows the number of articles published in editorial media, which an independent party categorises according to their effect on the image of the company. The highest number of articles was in 2007, focusing on the REI issue, and then again around 2011 after the redundancies and increases in tariff. From 2011 onwards, the news that is considered to have

Fig. 4:  Results of Reykjavík Energy Group Media Coverage Analysis between 2006 and 2016. Source: Reykjavík Energy. 3

Eiríkur Hjálmarsson is the head of communications at OR.

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a negative effect on the image of OR, and later its subsidiaries, starts to decrease by over 90% from one or two per day to two per month. ‘On some issues the coverage is negative and critical because the group conducts wide-ranging operations and we sometimes have lapses. It is therefore natural that the coverage is to some extent negative’ (E. Hjálmarsson, personal communication, 26 June 2017). OR and its subsidiaries now appear under new brand names and the indications are that the group’s image has improved: The company had previously been extremely controversial and the name of Reykjavík Energy was actually like a term of abuse […] in one stroke, many of the negative sentiments that had been associated with Reykjavík Energy were erased. (Sigurðarson, 2016)

‘Steer into the Future’ OR has come nearly full circle in the process of having, losing and restoring trust. So it is fitting that we return to the point from which we started this chapter to remind ourselves about the nature of trust, and to repeat: Trust is a key element in building up the connection between stakeholders and is fundamental for a company’s success. It is not a guarantee of success, but without trust, success is unlikely. Trust and image are closely interconnected. There is no absolute definition of these concepts, since they are subjective and relative. OR was one of the companies that lost stakeholders’ trust both before and during the economic crisis of 2008. The company’s image was damaged and every avenue has been explored since then to restore trust. On the one hand, this was achieved through the adoption of the Plan with short-term measures necessary to keep the company alive. On the other hand, work was done to develop foundations for long-term results and sustainable management through the formulation and implementation of shared values and strategy, as well as enhanced corporate governance. OR, to a large extent, has now reclaimed its position in the eyes of its stakeholders. The firm’s financial indicators are healthy and signs are that the company has mostly regained the trust of its employees, owners and the public. What is clearest of all is that the enterprise’s position in the view of credit institutions and banks has improved. Credit lines have now opened and OR can easily find financing on good terms. The staff of the OR group have shown their satisfaction and trust, and the enhanced

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image of the group among the public is to some degree reflected in less media coverage and less negative news. However, trust is not a constant but something that is earned over time and the challenge for the future is therefore to maintain it while learning from the past. This is obviously a process that never ends. How we steer into the future – it’s an issue we have to deal with every day. To keep a sharp focus on who we are and why we exist, because it is difficult to live through good times, it is so easy to go astray. I feel this is going well, but staying focused is a constant job. (B. Bjarnason, personal communication, 26 June 2017) In the wake of the crash, it is clear that the need for corporate governance and transparency has never been greater. The situation that OR found itself in after the crash called for a detailed review of its position, leading to a thorough revision of its corporate governance, as well as its strategy-setting, planning and objectives. The enterprise came to realise that corporate governance provides the necessary framework for delineating the powers of executives and thus helping to create trust between them, on the one hand, and the board of directors and owners, on the other. Moreover, trust within the walls of the company itself is a key factor to gaining the trust of customers and interested parties outside it, since trust begets trust. A long-term outlook is important. OR’s ownership policy and comprehensive strategy have formed a vision for the group to work towards the same. The group’s strategy serves as a common guiding light for all those who operate under it, thus providing a basis for sharing responsibility and control – that is, declaring the enterprise’s priorities to help process information while setting the basis for incentives (Grant, 2010). Establishing the renewed ownership policy during the unbundling of OR meant that the changes in the firm have flowed directly from the owners out to individual employees. Together, the owners, board of directors, management and staff of Reykjavík Energy aim to advance in a future-oriented, economical and honest way.

Acknowledgements I would like to express my very great appreciation to Drs. Throstur Olaf Sigurjonsson and David L. Schwarzkopf for their valuable and

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constructive suggestions during the planning and development of this work. Their willingness to give their time so generously has been very much appreciated.

References Althingi. (2001). Act no. 139/2001, on the establishment of the Reykjavík Energy partnership. Retrieved from Althingi. (2003). Act no. 65/2003, on electricity. Retrieved from https://www.­ Althingi. (2013). Act no. 136/2013, on Reykjavík Energy. Retrieved from http:// Barich, H., & Kotler, P. (1991). A framework for marketing image management. Sloan Management Review, 32, 94–104. Covey, S. M. R., & Merrill, R. R. (2006). The speed of trust: The one thing that changes everything. New York, NY: Free Press. (2012, February 28). Redundancies at Reykjavík Energy: Staff cut by 200 employees since 2008. Retrieved from Eysteinsson, F., & Guðlaugsson, Th. (2010, October). Bankahrunið: Traust til bankanna og tryggð við þá [The bank collapse: Customers’ trust and their loyalty towards the banks]. In I. Hannibalsson (Ed.), Research in félagsvísindum XI (pp. 52–61). Reykjavík, Iceland: Research Institute of the University of Iceland. Gallarza, M. G., Gil, I., & Calderón, H. (2002). Destination image: Towards a conceptual framework. Annals of Tourism Research, 29, 56–78. Grant, R. M. (2010). Contemporary strategy analysis (7th ed.). West Sussex: John Wiley. Hjálmarsson, E. (2014). Unbundling of Reykjavík Energy 2010–2014. Reykjavík, Iceland: Reykjavík Energy. Iceland Chamber of Commerce, SA – Business Iceland, & NASDAQ Iceland. (2009). Icelandic guidelines on corporate governance (3rd ed.). Retrieved from Jónsdóttir, G. E. (2015). Report on implementation of ownership policy. Reykjavík, Iceland: Reykjavík Energy. Jónsdóttir, G. E. (Ed.). (2017). OR bókin: Handbók OR samstæðunnar. Reykjavík, Iceland: Reykjavík Energy. Kantsperger, R., & Kunz, W. E. (2010). Consumer trust in service companies: A multiple mediating analysis. Managing Service Quality, 20(1), 4–25. Mayer, R. C., Davis, J. H., & Schoorman, F. D. (1995). An integrative model of organizational trust. Academy of Management Review, 20, 709–734. Morgunblaðið. (2008a, January 30). REI case, biggest news issue of the past year. Retrieved from frettamalid_a_sidasta_ari_2/

A Question of Trust    149 Morgunblaðið. (2008b, 19 September). Hjörleifur Kvaran appointed CEO of ­Reykjavík Energy. Retrieved from hjorleifur_kvaran_radinn_forstjori_or/ Pétursdóttir, M., Ólafsdóttir, Á., Kristmundsson, Ó. H., & Reynisson, G. P. (2012, October). Skýrsla úttektarnefndar um Orkuveitu Reykjavíkur. [Evaluation committee’s report on OR.] Rekjavík, Iceland: City of Reykjavík, Evaluation Committee of Reykjavík Energy. Retrieved from skyrsla_uttektarnefndar_um_orkuveitu_reykjavikur.pdf Reykjavík City Council. (2007, 4 September). Debate on the future of Reykjavík Energy. Retrieved from stjornkerfi/umraedur/2007_sept-des/040907-2_mal__Framtid_OR.pdf Reykjavík Energy. (2013). Minutes of the annual general meeting of Reykjavík Energy. Retrieved from pdf Reykjavík Energy. (2014a). Ownership policy of Reykjavík Energy. Retrieved fromíkur.pdf Reykjavík Energy. (2014b). Partnership agreement. Retrieved from https://www.íkur.pdf Reykjavík Energy. (2016, 22 August). Good results of Reykjavík Energy in first half of the year. Retrieved from god-afkoma-or-fyrri-hluta-arsins Reykjavík Energy. (2017). The plan. Retrieved from utgefid-fjarmalaefni/planid Sigurðarson, B. P. (2016). The nation can’t own anything. Stundin, 4 November, pp. 24–25. Sigurjónsson, D. (2012). Helstirnið. Unpublished Master’s Thesis, University of Reykjavík, Reykjavík, Iceland. Viðskiptablaðið. (2013, 15 July ). Reykjavík Energy Invest relegated to history. Retrieved from Vísir. (2010a, 26 March). Best party gets two candidates in. Retrieved from http:// Vísir. (2010b, 25 June). Haraldur will temporarily be employed full-time at ­Reykjavík Energy. Retrieved from Vísir. (2011, 23 March). Evaluation committee appointed for Reykjavík Energy. Retrieved from Xie, Y., & Peng, S. (2009). How to repair customer trust after negative publicity: The roles of competence, integrity, benevolence, and forgiveness. Psychology and Marketing, 26(7), 572–589.

Chapter 8

Public Trust in Institutions in Pre- and Post-Crisis Iceland (II): Institutionalised Mistrust Sigurbjörg Sigurgeirsdóttir and Guðrún Johnsen Abstract Public trust in institutions in Iceland plunged after the country’s banking sector collapsed. The political system wobbled under outrage and anger when the general public took to the streets. The Parliamentary Special Investigation Commission conducted a ground-breaking crisis-induced investigation, delivering a report that was a milestone in Iceland’s history of politics and public administration. Yet, despite this endeavour and the fact that subsequent investigations have disclosed ample information intended to restore trust in institutions, public trust remains unsteady. This chapter addresses the following questions: How has public trust in institutions progressed after the crash? Why is it taking so long for trust to return? In Chapter 3 in this volume, we examine data on public trust in Icelandic institutions from Gallup surveys over the 15 years from 2002 to 2017 in order to identify and explain patterns of trust in the aftermath of the crisis. Our interpretation of theory in this chapter suggests that elements of mistrust inherent in the principal–agent approach to accountability in public administration, implemented in previous New Public Management reforms, undermined the creation of a climate of trust necessary to ensure effective accountability mechanisms. We argue that in the absence of a climate of trust, accountability mechanisms of culpability that conflict with mechanisms of answerability, combined with a succession of post-crisis scandals, mainly explain the slow return of the public’s trust.

The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 151–170 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181012

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Keywords: Accountability; Blame; Culpability; Institutionalization; Social Recovery; Trust

Introduction Public trust in institutions in Iceland plunged after 97% of the country’s banking sector collapsed in October 2008. The political system wobbled under public outrage and anger as people took to the streets and protested in front of parliament beginning that month. The level of outrage and mass protest that broke out in the first days after the collapse was unprecedented in Iceland (Bernburg, 2016). As a response to the public’s outcry, a series of special investigations was begun by the Icelandic Parliament, the Althingi, to examine the faults and failures of financial and policy-making institutions. Armed with exceptional data privileges, the Special Investigation Commission (SIC) (Hreinsson, Benediktsdóttir, & Gunnarson, 2010) was equipped to restore trust in Icelandic policy makers and institutions by looking into the causes and events leading up the failure of the three largest banks, while a newly appointed special prosecutor’s (SP) task was to bring those responsible to justice. The SIC conducted a ground-breaking investigation, setting a milestone in the history of politics and public administration in Iceland. To date, it is the largest and the most comprehensive public investigation into the conduct of bankers, financiers and public officials ever in Iceland, and possibly elsewhere. The findings were presented and published in a nine-volume report in April 2010. The 2,400-page report included detailed graphs, tables, illustrative figures and pages of direct quotations from politicians, bankers and public officials who gave testimony to the SIC. As such, it had a substantial effect on media reporting and public debate, with the direct quotations providing the general public a view behind the scenes. In particular, it placed the members of the ruling political and business elite in a completely new light. This new picture of the ruling elite was disillusioning to most people, while it produced ‘I told you so’ responses by many who saw the years before the crash as a time when public debate and scientific-economic knowledge were silenced (­Bernburg, 2016; Gylfason, 2015). Meanwhile, the SP issued 560 indictments from 2011 to 2015, delivering by far the most successful prosecutions of white-collar crime ever in Iceland, leading to guilty verdicts at the Supreme Court level in more than 90% of cases (Icelandic State Prosecutor, 2015; Jensdóttir, 2017).

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The performance of the Icelandic SP stands out compared to the work of his colleagues on both sides of the Atlantic, where similar business misconduct and mismanagement of financial institutions had taken place – such as the LIBOR (London Interbank Offered Rate) scandal in 2012, the problems at Royal Bank of Scotland and the prosecution of top bankers at Barclay’s for instigating a capital injection to B ­ arclay’s by Qatar’s Sovereign Wealth Fund using funds from Barclay’s itself (Bray, 2017). Much has been written about the time leading to the financial crash in 2008 and the immediate effect of the crisis (Aliber & Zoega, 2011; Boyes, 2009; Johnsen, 2014; Wade & Sigurgeirsdóttir, 2012). The economic impact and the financial and economic recovery have been well documented (International Monetary Fund, 2012, 2017). As a country that experienced the most extreme financial crisis in recent history, Iceland’s economic recovery has been seen as an outstanding success story. The responses to the financial crisis have been described as effective, thanks inter alia to a flexible labour force, effective stabilisation strategies involving capital controls, the restructuring of the Icelandic banks, official advertising campaigns on Iceland as a desirable tourist destination and favourable developments in the fishing stock around Iceland. Due to these initiatives and favourable terms of international trade, Iceland´s economy is currently prospering, with a GDP growth rate of 7.2% in 2016 and albeit more tempered growth of 3.6% in 2017. Contrary to this story of economic success, social recovery in Iceland as measured in public trust in institutions sounds quite different. Despite the SIC’s honest account of the events and the insightful identification of the culprits of the collapse, the road towards the recovery of trust has been long and rough. Although signs of increasing trust can be detected in 2014, public trust in institutions declined again in 2015 and 2016, while the early months of 2017 showed a modest rebound. Still, almost a decade after the financial crisis, public trust in elected officials, banking sector and social service institutions has not reached pre-crisis levels, as we illustrate in the data analysis of our other chapter. The recovery of public trust seems to be following a different path than the one economic recovery has taken. Besides financial and economic responses, governments confronted with a major crisis on their watch most often wish to, or sometimes they are forced to, respond to public pressure for accountability (Kuipers & ’t Hart, 2014). Since the financial crisis raised the question of public accountability, the SIC’s and others’ investigations constitute crisis-induced a­ccountability processes.

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Given all the efforts made in Iceland to restore trust in institutions through public accountability mechanisms that disclosed ample information and that were followed by policy recommendations to improve the system, public trust keeps wobbling. Now, almost a decade after the collapse, it is fair to ask, what has taken so long? How has public trust in institutions developed after the crash? When public trust measurements are examined, what patterns can be observed, what characterises these patterns and how can these patterns be explained? In this chapter, we intend to reflect on the relationship between the data seen in the Gallup polls and the factors revealed in the academic literature as influencing public trust to see how these elements play out in the Icelandic context. In our analysis, we illuminate the relationship between public trust and public accountability in the wake of a crisis-induced investigation. For that purpose, we begin by reviewing international academic research on public accountability, trust and crisis-induced investigations. We move on to review some of the most recent findings on public trust in Iceland. Finally, we reflect on the broader picture of patterns of trust after the crash, followed by concluding remarks.

Public Accountability and Public Trust in International Academic Research Studies of crisis-induced accountability are emerging. As our survey of the literature shows, the evidence concerning whether crises lead to expected accountability outcomes is mixed. There are indications that the learning about accountability that comes from crises does not generally result in drastic policy changes – rather, changes are incremental and most often appear as smaller technical amendments. In their review of this literature, Kuipers and ’t Hart (2014) followed Bovens’s (2010) conceptualisation of accountability in which accountability is a mechanism involving an interplay between forums, actors and consequences. Kuipers and ’t Hart (2014, p. 592) defined the following four main accountability forums: 1.  The mass media and the internet. 2.  Judicial authorities representing the rule of law. 3.  A public ad hoc independent investigation launched by governments, such as Royal Commissions in the UK. 4.  Inquiries of a more political nature in which legislatures wish to hold the executive branch to account.

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These authors identify two patterns of how actors account for their contribution to the crisis at hand in response to such accountability forums. For political actors to give an account, the primary driver seems to be the need to tackle the issue of blame for real or perceived contributions to the occurrence and escalation of a crisis. Thus, one pattern shows these actors’ strategies involving the allocation or re-allocation of blame. The second pattern balances blame allocation with such exhibitions of empathy and responsiveness as apologising or resigning. In terms of ‘learning’, the consequences of crisisinduced accountability that the authors examined showed a general absence of drastic policy changes after the crisis. Kuipers and ’t Hart (2014, p. 600) concluded that ‘accountability after crisis is a complex, uncertain, ambivalent, and often intensely political affair’. Moreover, they found that a crisis-induced accountability process is characterised by the following conflicting drives: ⦁⦁ ⦁⦁ ⦁⦁

Blame co-exists with the desire of incumbents to survive in office. The wish to learn struggles against the need for societal and political purification. The opportunity to forge a radical break with the now-traumatic past upsets institutional impulses to ‘normalise’ the situation.

The issue of blame is a recurring theme when considering public accountability in terms of an interaction between actors and forums. Hood (2014) points out that, while accountability as a word has mostly positive resonance, blame-avoidance is generally considered negative and disruptive. Moreover, accountability stands for an intended effect that institutional arrangements are designed to or presumed to bring about, while blame-avoidance often means unintended or unwanted ways in which individuals or groups manage to escape the censure or sanctions that accountability systems are designed to generate. Hood (2014, p. 608) finds it useful to analyse these concepts not only in terms of mirror images but also, more importantly, to move beyond a polar opposition between these concepts to see them as ‘spheres of synergy’. In Hood’s view, this means one should focus on those activities and effects generated by accountability in two dimensions: answerability and culpability. The answerability dimension is concerned with explanations and diagnoses. Culpability can lead to sanctions. Addressing the question of blame-avoidance from this two-dimension perspective, Hood argues that if blame-avoidance is seen as an activity, rather than as an outcome, it can be compatible with accountability in both answerability and culpability dimensions. But this depends on the effect that ‘blame games’ have, as well as whether avoiding blame can definitively shift responsibility.

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In this line of reasoning, Hood thinks that accountability and blameavoidance cannot be seen as evil twins – rather, an interaction between these two concepts can encourage sharper and more targeted forms of accountability. That is, accountability and blame-avoidance are not polar-opposites but can be the elements of a system that is designed to promote learning and adaptation based on rich information flows. But Hood maintains that such a system has to stress the ‘answerability’ dimension of accountability at the expense of the ‘culpability’ dimension. In line with Schillemans and Bovens (2011, p. 6), however, Hood (2014, p. 612) admits that blame games are by no means always this constructive or effective, as they often serve to obscure rather than to clarify responsibility. Thus, the analytical challenge is to explore what distinguishes ‘good’ blame games from ‘bad’ ones. Greiling (2007, 2014) and Greiling and Halachmi (2013) examined the relationship between trust and accountability. They point out that mistrust in the public sector has increased and argue that public accountability as framed in principal–agent theory is, with its control focus, mistrust-driven and thus directed at finding shortcomings in the performance of politicians or public managers (Greiling, 2014, p. 617). Greiling (2014) also reviews the work of others in this area. Thus, Van der Meer (2010) notes in a cross-country analysis that citizens’ trust in their parliament mainly followed two determinants. At the individual level, education proved to be significant; better-educated citizens have higher trust. At the contextual level, corruption and survey results from former Communist countries were negatively associated with trust in parliament, while trust was higher in a proportional electoral system. However, Van der Meer found no significant differences between the economic performance of a country and trust. Nor did he find that trust is lower if the parliament is highly fractionised (Greiling, 2014, p. 622). Following this, Van der Meer and Dekker (2011) note the influence of several individual factors that are positively associated with trust in parliament – such as level of education, income, age squared, degree of urbanisation and being Jewish, Protestant or a frequent churchgoer. Even so, all together, these individual factors could explain only about 17% of the variance of the country result (Van der Meer & Dekker, 2011, p. 104). Contextual factors had a higher explanatory value (Greiling, 2014, p. 622). Before we proceed in our discussion, we offer a brief insight into the academic mind-set for our non-academic readers. When a researcher is not certain about the relationship between two complex concepts, such as ‘trust’ and ‘public accountability’, it is not unusual for the researcher to consider these from different perspectives. In particular, one can look at the elements, including public accountability, that affect trust (trust is the dependent

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variable). Or, one can ‘turn the tables’ and consider how trust affects public accountability (trust is the independent variable). Finally, it could be that the two concepts of trust and public accountability are independent of each other. This is exactly the three-pronged approach taken by Greiling (2014). As a dependent variable, trust is influenced by public accountability, that is, public accountability is one approach for creating trust in the public sector – but the relationship can be either positive or negative. The bureaucratic form, with its written rules and multiple bureaucratic accountability requirements as a basis for public trust, reveals a positive relationship, while the principal–agent approach to accountability in public administration shows a negative relationship – that is, its control focus is mistrust-driven. Thus, more public accountability and more performance transparency are associated with a decline in public trust. In relationships where trust is the independent variable, it is seen as a prerequisite for public accountability mechanisms to work. Here, Greiling (2014, pp. 625–626) points out the effect of information asymmetries, the fact that accountability forums have less knowledge of organisational practices than the account-giver, which allows for considerable window dressing on behalf of the account-giver. Therefore, accountability forums have to ensure or exhibit a minimum level of trust in the account-giver. At the same time, Greiling (2014, p. 627) argues that organisational learning can only happen where public accountability goes beyond pointing an accusatory finger, because a learning culture in the public sector requires a general readiness to encourage questioning and constructive criticism, which is only possible if there is a climate of trust. Moreover, organisational learning in the public sector will only happen if a sense of safety exists that minimises the chances that defensive routines take over (Greiling, citing Bovens, Schillemans, & ’t Hart, 2008, p. 233). Considering public accountability and trust as independent concepts, Greiling (2014, p. 628) argues that from a neo-institutionalist perspective, giving an account may have an instrumental effect on the account-giver as well as on the accountability forum because it helps create legitimacy. Another argument for seeing these concepts as unrelated, she argues, is that in ‘the complex world of (post-)NPM’ (new public management), such a linkage cannot exist because its devolution, its decentralisation and its separation of steering from rowing have resulted in coordination problems that make the relationship between these broad concepts impossible to manage. As a result, identifying what are the dependent and independent variables is impossible. In her review, Greiling (2014) concludes that since both public accountability and trust are elusive and multi-faceted concepts, the relationship between them is not straightforward. While there is a growing body of empirical findings

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about trust enablers and disablers, the empirical evidence on public accountability is smaller. Yet, these concepts embody high expectations even while a degree of disillusionment about their instrumental value can be observed. As we have mentioned above, there is only mixed evidence that crisisinduced investigations deliver expected accountability results. It appears that learning from crisis-induced accountability does not generally result in drastic policy changes. Considering accountability as a mechanism involving an interaction between forums, actors and consequences, crisisinduced accountability processes have been characterised by conflicting drives in which blame and blame-avoidance are central issues. Therefore, the distinction between the answerability function of an accountability mechanism and the culpability function has to be clear. Because of the type of interaction between accountability and blame-avoidance, an accountability system designed to promote learning and adaptation on the basis of rich information flows has to stress answerability at the expense of culpability. Finally, the relationship between public accountability and public trust can be conceived of in three ways, in which trust can be considered as the dependent variable or the independent variable – or these concepts can be seen as completely independent of each other.

Icelandic Research on Trust and Accountability The financial crisis left several public investigations and much investigative journalism in its wake (Bjorgvinsson, 2017; Heiðarsson, Flygenring, & Stefánsson, 2014; Hreinsson et al., 2010; Johnsen, 2016; Karlsson, Hafberg, Finnbogadóttir, & Ingvarsdóttir, 2013; RÚV, 2016). Although public trust in institutions in Iceland has made it onto the academic research agenda, the same hardly applies to public accountability, even though that has been a pressing issue in public debate. What happened to public trust in Iceland during and in the aftermath of the crisis has been described and examined in the academic literature. However, there was evidence of distrust and a perception of corruption even prior to the crisis in 2008, despite ratings by international institutions such as Transparency International that suggested otherwise (Bernburg, 2016; Bjarnason, 2014; Erlingsson, Linde, & Öhrvall, 2014; Gylfason, 2015; Kristinsson, 2012). Based on the survey conducted by Capacent–Gallup in October 2012, Bjarnason (2014) argues that trust of parliament and politicians in Iceland was still in crisis. Erlingsson et al. (2014, p. 21) use data from the Icelandic National Election Studies of 2003 and 2009 to analyse how the crisis affected general political support – in particular, the public’s

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perceptions of corruption in the political process. They found that support for regime performance plummeted after the crisis, and public evaluations of the extent of corruption became the most important determinant of support. Gylfason (2015) examined the World Values Survey from 2005, Capacent–Gallup 2013 and other sources, to argue that increased inequality measured in the last decade is a sign of deteriorating social capital. He shows with comparison to Sweden and the United States how increased inequality, corruption and lack of trust undermining the social cohesion in Iceland could be precursors as well as consequences of slow economic growth and poor economic performance, including recurrent financial crises. Kristinsson (forthcoming 2018), looking at the distinctiveness of parliamentary government in Iceland, examined measures on trust in national parliaments from 1981 to 2010, as reflected in the European Values Studies. He notes that voters who disagree with the parliamentary majority are less likely to trust their parliament, while favourable public policy outcomes (e.g. as measured in economic stability) increase trust. Kristinsson also states that, compared to the parliaments in other Nordic countries, where the bulk of legislative proposals are prepared inside the executive branch, the Icelandic Parliament stands out with regard to its leading role in public policy-making. He shows how the Icelandic Parliament’s involvement in this process is reflected in its great agenda-setting power, its primacy and its interference in any policy-making prepared by the executive branch. In her paper on referendums and the Icelandic constitution, Nordal (forthcoming 2018) argues that the rising public calls for referendums after the crisis constitute declining trust in representative democracy. Moreover, she notes that the requests for referendums that Iceland has experienced after 2008 has neither traditional roots in the history of the republic, nor a strong foundation in the constitution, nor an underpinning in established governing ideas or principles. Rather, these calls for referendums seem to be characterised by an opportunism in which consistent governing principles are absent. She maintains, with reference to Árnason (2013), that this lack of governing principles and vague constitutional understanding have left public debate in the media and elsewhere vulnerable to financial forces and manipulation.

Discussion: Institutionalised Mistrust and Adding Insult to Injury Institutionalised Mistrust There are conflicting views of Iceland’s pre-crisis trust in institutions. Surveys and international indicators reported high levels of trust

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(EVS Foundation, 1981–2014; Haraldsson & Magnússon, 2009; Transparency International, 2006), but other studies claim that there were indications of growing distrust in the run up to the crash (Bernburg, 2016; Gylfason, 2015; Kristinsson, 2012). The data we discuss in Chapter 3 of this volume do not confirm that there was declining trust pre-crisis. Rather, they are consistent with reports of high levels of trust. The high concentration of Gallup scores expressing quite a lot of trust or a great deal of trust (‘4’ or ‘5’ on their five-point scale) in institutions in the pre-crisis years can be understood in terms of positive and negative feedback in politics (Baumgartner & Jones, 2002), in which a kind of negative feedback-mechanism may have been missing in the years running up to the collapse. Policy studies show that positive feedback mechanisms, equivalent to pro-cyclicality, can take over and fuel a ‘bubble’ in the absence of the counter-cyclicality of negative feedback, such as strong and independent media coverage and an active critical debate in academic circles. However, the Icelandic public’s trust in the institutional actors in the collapse has yet to reach its pre-crisis level. If public accountability is supposed to restore trust in institutions, why have the accountability mechanisms put in place in post-crisis Iceland not been as effective as hoped? Why has public trust taken so long to return? First, we note that the literature on the relationship between public accountability and public trust suggests that the relationships between accountability, transparency and public trust are far from straightforward (Greiling, 2014). Moreover, the evidence that a crisis-induced investigation produces lessons learned that lead to public trust is mixed (Kuipers & ’t Hart, 2014). Beyond this, Greiling’s (2014) analysis of the relationship between accountability and trust suggests that the disillusionment regarding the effect of post-crisis public accountability may be rooted in the absence of a climate of trust. To understand this, we return to our discussion of the research literature and recall that one can consider public trust as either a dependent or an independent variable in its relationship with accountability. If one views trust as dependent on accountability, there is a negative relationship to bear in mind – that is, more public accountability and more performance transparency are associated with a decline in trust because the accountability and transparency are seen as driven by mistrust, by a focus on controls as in a principal–agent approach to public administration. If we consider that the principal–agent approach to accountability in public administration lies at the heart of the new public management reforms that have dominated administrative reforms and development in Iceland (and elsewhere) since the early 1990s, we can argue that these

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reforms institutionalised mistrust in the political as well as the administrative system – resulting in the absence of a climate of trust. Also, one can consider public trust as an independent variable in its relationship with public accountability – that is, trust is a precondition for accountability mechanisms to work. The critical issue is to build a learning relationship between accountability forums and account-givers in order to move away from accusations and towards a sense of safety. This learning is needed in order to minimise the chances of defensive routines taking over the accountability process (Greiling, 2014). But to build this learning relationship requires a climate of trust. So, the absence of a climate of trust leads to the ineffectiveness of accountability processes. In short, the less-than-desired effectiveness of accountability mechanisms in post-crisis Iceland can be due to the institutionalisation of mistrust inherent in the control mentality implied by accountability (and thus already established in the political and administrative system), which in turn led to the absence of a climate of trust, or by the simple absence of a climate of trust to begin with. In either case, we argue that this absence of a climate of trust was detrimental in two ways. First, it was integral to the administrative thinking dominant in Iceland as a part of the new public management reform agenda. In this context, the financial crisis was, at the very least, an event that transformed the institutionalised mistrust previously confined to practices inside the system into a more general public distrust. Such an event can be understood as a ‘policy punctuation’ (Baumgartner & Jones, 1993) – an occurrence during a period of instability that changed a positive image to a negative one. The financial crash exposed in a striking manner that the new public management approach to accountability in public institutions as well as in private organisations had not been working. Second, the two major accountability mechanisms set in motion simultaneously by parliament in 2008 – the SIC and the SP – were counterproductive to establishing public trust. The purpose of the latter undermined the purpose of the former. The SIC process was designed to search for the true causes of the financial crisis and related events, and to promote learning on the basis of rich information flows, thus emphasising answerability as opposed to culpability (Hood, 2014). The latter was meant to be a mechanism to assess culpability, with the purpose of restoring trust in institutions by bringing those responsible for the occurrence and escalation of the financial crisis to justice. These two mechanisms were far from being independent of each other, since SIC’s remit from parliament included referring cases of suspected misconduct to the SP. These design features of public accountability mechanisms may have amplified

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the effect of the crash’s conditions, including the absence of a climate of trust, thanks in part to ‘blame-games’ – efforts to avoid and re-allocate blame (Hood, 2014; Kuipers & ’t Hart, 2014). The design of these mechanisms made it problematic if not impossible for the SIC to emphasise answerability over culpability, thus paradoxically sowing the seeds of distrust rather than trust. Yet, the 2010 Capacent–Gallup poll indicated that 83.6% of the population had a great deal of trust towards the SIC itself. In fact, trust was challenged right at the beginning of the accountability process, as the former CEO of the FME filed a complaint claiming that one of the members of the SIC had expressed views in public that exposed predisposed distrust towards the subjects of the commission’s investigation (Hreinsson et al., 2010). Greiling (2014) points out that the effect of information asymmetries that characterise the relationship between accountability forums and account-givers requires that accountability forums ensure a minimum level of trust in the account-givers. In this case, even the minimum level seems to have been difficult to reach. Finally, in our discussion of theory, we allow for the consideration that public trust and public accountability may be seen as independent concepts. But if trust and accountability are independent of each other, then one can question whether the justification for the parliamentary investigation was set on a weak conceptual foundation, since it sought to influence public trust by addressing public accountability. Adding Insult to Injury Above we discussed how mistrust could be found already woven into institutions’ establishment and processes. But in the case of Iceland, insult has been added to injury, thanks to the disclosure of information in a series of public investigations, revelations in the mass media and public scandals that have again and again sent shockwaves through Icelandic society and raised citizens’ anger and outrage. Many of these post-crisis events involve parliament, so it is worthwhile to focus on that body’s image. Parliament stands out in the Icelandic public’s mind when considering trust for at least two reasons. First, the centrality of parliament in the public policy-making process and second, increased media attention of parliamentary debate. As discussed earlier, Kristinsson (forthcoming 2018) shows that, compared with the parliaments of other Nordic countries, Iceland’s sets itself apart due to its central role in policy-making. Also, as Sigurgeirsdóttir (forthcoming 2018) discusses, changes were made to the Standing Orders of Parliament in 2007, which increased the number

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of hours spent on unprepared questions to ministers in parliament. This brought parliamentary debate more frequently into the public limelight through media coverage. Consequently, it can be argued that the Icelandic Parliament gets praise as well as blame for policy performances to a greater extent than would be the case if power and influence in policy-making were more distributed. As a result, one can argue that the measurements of public trust reflect the appearance and performance of members of Parliament in the public eye. Erlingsson et al.’s (2014) research raises another cause for the public’s focus on Parliament. These authors, as mentioned earlier, found evidence that public perceptions of the extent of corruption help determine general political support and that the evaluation of the performance of the sitting government was the single most important determinant of political support. This suggests that it only takes an appearance of corruption to lead people to believe that politicians are corrupt. In the aftermath of the collapse, many Icelanders became aware that there indeed had been instances of real abuse of power that affected their lives (Gylfason, 2014; Hreinsson et al., 2010). This may explain why Erlingsson et al. (2014) find perceptions of corruption have been much more important to political support after the crisis than before, as the public became more sensitive to politicians’ performance and behaviour post-crisis. Given the detailed reporting in the SIC report in 2010, citizens may have learned a lesson. Therefore, how politicians, ministers or bankers behave in public may be more easily observed, and corrupt behaviour better recognised, by the public after the crash – at the same time as it would be met with less tolerance than before. Contrary to such lessons learned by the public, it seems that politicians in the post-crisis era have not learned their lesson to the same degree and thus have not become better aware of the effect of their own behaviour on public perceptions and trust. Icelandic citizens may have learned a lesson ‘ex-post’ from the incidences of the abuse of power revealed in the SIC report and the related public investigations that followed. But there was more to come. In early March 2016, rumours on social media had already started about the then-prime minister’s alleged conflict of interest in the government’s dealings with the creditors of the bankrupt remains of the failed banks. A few weeks later, in April 2016, the publication of the so-called Panama Papers revealed that an off-shore company owned by the members of the prime minister’s family was among the creditors the government was negotiating with – effectively putting him on both sides of the bargaining table. His failure to disclose these significant interests left room for speculation of intended tax-avoidance. The Panama Papers’ revelations created an outrage.

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The day after the Icelandic Public Broadcasting Service, in collaboration with the Swedish investigative television show Uppdrag Granskning, broadcast the main contents of the Panama Papers on television, Icelanders gathered in thousands in front of parliament. This was the biggest public protest ever in Iceland’s history. The persistent public outcry resulted in the prime minister’s resignation only three days later. The Panama Papers revealed the names of four out of all 332 western European ministers in power; three of those four were Icelandic ministers and two of those were still in the government even after the prime minister’s resignation in early April 2016 (Jakobsdóttir, 2016; Johnsen, 2016). Post-crisis scandals have also plagued the banking sector. Frequent negative news associated with banking executives emerged after the crisis, as former management of the main banking institutions were found guilty as charged of fraud and malpractice (Supreme Court of Iceland, 2014a, 2014b). Out of hundreds of foreclosed asset sales, a handful of them were associated with insider dealings, lack of transparency and unequal access of investors to bid on them (Halldórsson, 2014; Júlíusson, 2015). Some high-profile investment projects, initially promising a positive effect on growth and employment, have failed during the crisis and the post-crisis periods, reflecting the high level of risk during such distressed times (Júlíusson, 2017). This has reinforced the public’s image of past fraudulent banking practices, as the courts were still dealing with those at the same time as the new events were discovered. Such a level of distrust could be detrimental to the healthy recovery of banking and economic activities, as the public is, rightly or wrongly, unforgiving. More recent events illustrate the level of public officials’ ignorance about the effect of their political behaviour and performance on public perceptions. One elected representative, a minister in the government, had herself photographed inside the parliament house, advertising a design for a friend in the fashion industry (Gísladóttir, 2017). Another, a member of parliament who was a secretary of the biggest party in government and chairman of the parliamentary committee on education – whose remit includes responsibility for copyright issues – asked on Twitter how she could stream an advertised boxing match (illegally) for free (Helgason, 2017). This gap between the public and at least some politicians when it comes to awareness about what constitutes trustworthy and appropriate behaviour could in itself be a source of repeated political scandals and public outrage with harmful consequences for public trust. Political scandals and public outrage have indeed characterised the post-crisis era in Iceland. The tiny population of Iceland has during this period experienced a sense of humiliation, shock and confusion. First,

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Iceland had to hurriedly accept an IMF-supported programme by agreeing to a stand-by arrangement in the early weeks of the crisis (International Monetary Fund, 2008) – the first advanced country to do so since 1986. Second, the population was suddenly plunged into the most frenetic, malicious international argument in Iceland’s history, the so-called Icesave dispute. This event was malicious because it polarised the population and gave scope for manipulating public opinion, as competing financial and political interests manoeuvred in the chaos and shock that characterised the post-crisis era. The fact that during this time, public calls for referendums increased is not a coincidence. As we discussed earlier, Nordal (forthcoming 2018) has argued that these calls for referendums could be understood as signs of declining trust in representative democracy and that referendums have neither traditional roots in the history of the Icelandic republic nor a strong foundation in the country’s constitution. Therefore, established governing ideas and principles regarding referendums are missing. This reality, created by vague constitutional understanding and inconsistent governing principles, has opened opportunities for public debate in the media and elsewhere to be left vulnerable to financial forces and manipulation (Árnason, 2013; Nordal, forthcoming 2018).

Conclusions We set out to answer the question of how public trust developed in the aftermath of the financial crisis of 2008. We also wanted to shed some theoretical light on how and why it took so long to restore trust in public institutions in Iceland. Our empirical findings described in chapter 3 confirm the results of other studies that show that during the crisis, public trust in institutions collapsed. In the years that followed, public trust had been volatile and the process of recovery was slow, rough and drawnout. Our view of theory suggests that the principal–agent approach to accountability in public administration, implemented as a part of previous public administrative reforms, institutionalised mistrust in the system, which undermined the possibility of creating the climate of trust necessary to ensure that accountability mechanisms work effectively. The two major accountability mechanisms set in motion simultaneously by the Icelandic Parliament brought out this element of mistrust, which combined with the collapse of trust in October 2008 to become a more widespread distrust. Moreover, given the importance of a climate of trust for accountability mechanisms to deliver expected results, it can be argued that accountability mechanisms emphasising culpability undermined

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those emphasising answerability. Finally, we conclude that revelations on the corrupt behaviour of bankers as well as elected representatives, and political scandals in the period after the collapse added insult to injury, obstructing the recovery of public trust in institutions. The implications of our analysis of politicians, banking executives and other heirs to power are that those agents need to bear in mind that the level of tolerance towards mishaps or apparent self-dealing is considerably much lower after the crisis than before. In other words, to rebuild trust after such a drastic collapse, agents may have to take practices of transparency and credibility to the extreme. Citizens have little or no tolerance towards untrustworthy behaviour, just as a child, once burnt, dreads any type of fire.

Acknowledegments When writing this chapter, Guðrún served as Vice-Chair of the Board of Directors of Arion Bank, Iceland. The authors are deeply thankful towards Gallup Iceland for providing data and support for this writing, and towards Katrin Olafsdóttir and Gylfi Zoega for helpful comments. Errors are the authors’ alone.

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Institutionalised Mistrust    167 Privatbankiers KGaA in Bunadarbanki’s privatisation process in 2003.] Reykjavík, Iceland: Special Investigation Commission of the Althingi. Retrieved from Bovens, M. (2010). Two concepts of accountability: Accountability as a virtue and as a mechanism. West European Politics, 33(5), 946–967. Bovens, M., Schillemans, T., & ’t Hart, P. (2008). Does public accountability work? An assessment tool. Public Administration, 86, 225–242. Boyes, R. (2009). Meltdown Iceland: How the global financial crisis bankrupted an entire country. London, UK: Bloomsbury. Bray, C. (2017). Barclays and former executives charged in Qatar fundraising. New York Times, 20 June. Retrieved from https://www.nytimes. com/2017/06/20/business/dealbook/barclays-executives-charged-fraud-qatar. html?mcubz=0&_r=0 Erlingsson, G. O., Linde, J., & Öhrvall, R. (2014). Distrust in utopia? Public perceptions of corruption and political support in Iceland before and after the financial crisis of 2008. Government and Opposition, 51(4), 553–579. doi:10.1017/gov.2014.46 EVS Foundation. (1981–2014). European values study. Retrieved from http:// Gísladóttir, S. (2017). Óvenjulegt að ráðherra kynni kjól í sal Alpingis. [Unusual for a minister to advertise a dress in Parliament.] Vísir, 31 July. Retrieved from http:// Greiling, D. (2007). Trust and performance management in nonprofit organisations. The Innovation Journal, 12(3), article 9. Retrieved from https://www.inno Greiling, D. (2014). Accountability and trust. In M. Bovens, R. E. Goodin, & T. Schillemans (Eds.), The Oxford handbook of public accountability (pp. 617–631). Oxford: Oxford University Press. Greiling D., & Halachmi, A. (2013). Accountability and organisational learning in the public sector. Public Performance & Management Review, 36, 380–406. Gylfason Th. (2014). Iceland: How could this happen? Working Paper No. 4605. Ifo Institute, Centre for Economic Studies, Munich, Germany. Gylfason, Th. (2015). Social capital, inequality, and economic crisis. Challenge, 58(4), 326–342. doi:10.1080/05775132.2015.1067485. Halldórsson, M. (2014). Landsbankinn seldi 31,2 prósent hlut í Borgun bak við luktar dyr. [Landsbankinn sold 31.2 percent in Borgun behind closed doors.] K ­ jarninn, 27 November. Retrieved from landsbankinn-seldi-312-prosent-hlut-i-borgun-bak-vid-luktar-dyr/ Haraldsson, G., & Magnússon, M. Á. (Eds.) (2009, October). Ísland 2009: Stöðuskýrsla. [Iceland 2009: Status report.] Reykjavík, Iceland: University of Iceland Institute of Economic Studies. Retrieved from sites/ Heiðarsson, J. Th., Flygenring, K. Th., & Stefánsson, S. H. (Eds.) (2014) Skýrsla Rannsóknarnefndar Alpingis um Íbúðarlánasjóð. [Special investigation

168    Sigurbjörg Sigurgeirsdóttir and Guðrún Johnsen committee report on the causes and events leading up to the failure of the Icelandic housing financing fund.] Reykjavík, Iceland: Althingi. Helgason, S. (2017). Biðst afsökunar á að hafa beðið um boxstreymi. [Apologises for having asked for box-stream.] RÚV, 30 August. Retrieved from http://, Hood, C. (2014). Accountability and blame-avoidance. Blame-avoidance: Accountability’s evil twin? In M. Bovens, R. E. Goodin, & T. Schillemans (Eds.), The Oxford handbook of public accountability (pp. 603–616). Oxford: Oxford University Press. Hreinsson, P., Benediktsdóttir, S., & Gunnarsson, T. (2010). Aðdragandi og orsakir falls íslensku bankanna 2008 og tengdir atburðir. [Background and causes of the Icelandic banks’ collapse in 2008 and related events.] ­Reykjavík, Iceland: Althingi. Retrieved from ddragandi-og-orsakir-falls-islensku-bankanna-2008/ Icelandic State Prosecutor. (2015). Tölfræði ákæruvaldsins. [Prosecution in numbers.] Reykjavík, Iceland: Icelandic State Prosecutor. International Monetary Fund. (2008). Iceland: Request for stand-by arrangement. Washington, DC: International Monetary Fund. Retrieved from http:// International Monetary Fund. (2012, 23 March). Iceland: Staff report for the 2012 Article IV consultation and the first post-program monitoring discussion. Washington, DC: International Monetary Fund. International Monetary Fund. (2017, 30 May). Iceland: Staff report for the 2017 Article IV consultation. Washington, DC: International Monetary Fund. Jakobsdóttir, K. (2016, 8 April). Speech given in parliament by the opposition leader of the Left-Green Movement, Katrin Jakobsdóttir, on the no-confidence vote towards the cabinet of Sigmundur Davíð Gunnlaugsson. Retrieved from Jensdóttir, J. S. (2017). Ákærur og dómar vegna hrunmála. [Post-crisis prosecution and court rulings.] Gagnsæi, 29 December. Retrieved from http://www. Johnsen, G. (2014). Bringing down the banking system: Lessons from Iceland. Basingstoke: Palgrave Macmillan. Johnsen, G. (2016, 6 April). Public pressure forces Iceland’s prime minister to step down over Panama Papers. Transparency International blog. Retrieved from Júlíusson, Th. S. (2015). Af hverju fékk hópur að kaupa í Símanum áður en félagið er skráð á markað? [Why did a group of individuals get a chance to buy in Siminn before the IPO?] Kjarninn, 25 August. Retrieved from https:// Júlíusson, Th. S. (2017). Helguvíkurmartröðin heldur áfram. [The Helguvík nightmare continues.] Kjarninn, 15 August. Retrieved from yring/2017-08-15-helguvikurmartrodin-heldur-afram/

Institutionalised Mistrust    169 Karlsson, B. F., Hafberg, H. M., Finnbogadóttir, T., & Ingvarsdóttir, S. (Eds.). (2013). Skýrsla rannsóknarnefndar Alpingis um rannsókn á aðdraganda og orsökum erfiðleika og falls sparisjóðanna. [Special Investigation Committee report on the causes and events leading up to the failure of the Icelandic co-operative savings & loans funds.] Reykjavík, Iceland: Althingi. Kristinsson, G. H. (2012). Party patronage in Iceland: Rewards and control appointments. In P. Kopecky, P. Mair, & M. Spirova (Eds.), Party patronage and party government in European democracies (pp. 186–205). Oxford: Oxford University Press. Kristinsson, G. H. (in press). Sérstaða íslensks pingræðis. [The distinctiveness of parliamentary government in Iceland.] In V. Árnason & H. Henrysson (Eds.), Hvað einkennir íslenskt lýðræði: Starfsvenjur, gildi og skilningur. [What characterises Icelandic democracy: Practices, values and perception.] Reykjavík, Iceland: University of Iceland Press. Kuipers, S., & ’t Hart, P. (2014). Accounting for crisis. Crisis management: Coping with the intolerable. In M. Bovens, R. E. Goodin, & T. Schillemans (Eds.), The Oxford handbook of public accountability (pp. 589–602). Oxford: Oxford University Press. Nordal, S. (in press). Þjóðaratkvæðagreiðslur og Stjórnarskráin: Greining út frá valdtemprun og pólitískri ábyrgð. [Referendums and the constitution.] In V. Árnason & H. Henrysson (Eds.), Hvað einkennir íslenskt lýðræði: Starfsvenjur, gildi og skilningur. [What characterises Icelandic democracy: Practices, values and perception.] Reykjavík, Iceland: University of Iceland Press. RÚV. (2016, 3 April). Kastljós. [Spotlight – television programme.] Retrieved from Schillemans, T., & Bovens, M. (2011). The challenge of multiple accountability: Does redundancy lead to overload? In M. J. Dubnick & H. G. Fredrickson (Eds.), Accountable governance: Problems and promises (pp. 3–21). New York, NY: M. E. Sharpe. Sigurgeirsdóttir, S. (in press). Eftirlit með eftirlitinu: Rannsóknarnefnd Alpingis og hugmyndin um eflingu pingeftirlits. [Inspecting the inspectorate: The Special Investigation Commission and the idea of strengthening parliamentary oversight.] In V. Árnason & H. Henrysson (Eds.), Hvað einkennir íslenskt lýðræði: Starfsvenjur, gildi og skilningur. [What characterises Icelandic democracy: Practices, values and perception.] Reykjavík, Iceland: University of Iceland Press. Supreme Court of Iceland. (2014a). State Prosecutor vs. Hreiðar M Sigurdsson et al. (ruling no. 145/2014). Retrieved from aspx?pageid=347c3bb1-8926-11e5-80c6-005056bc6a40&id=ae89b325-800845ee-894a-f81a070a84ba Supreme Court of Iceland. (2014b). State Prosecutor vs. Sigurjon Arnason et al. (ruling no. 842/2014). Retrieved from aspx?pageid=347c3bb1-8926-11e5-80c6-005056bc6a40&id=630768ff-eb964f80-ad54-f1002c4df6f6 Transparency International. (2006). Corruption perception index 2006. Retrieved from

170    Sigurbjörg Sigurgeirsdóttir and Guðrún Johnsen Van der Meer, T. (2010). In what we trust? A multi-level study into trust in parliament as an evaluation of state characteristics. International Review of Managerial Sciences, 76, 517–536. Van der Meer, T., & Dekker, P. (2011). Trustworthy states, trusting citizens? A multi-level study into objectives and subjective dimensions of political trust. In S. Zmerli & M. Hooghe (Eds.), Political trust: Why context matters (pp. 95–116). Colchester: ECPR Press. Wade, R. H., & Sigurgeirsdóttir, S. (2012). Iceland´s rise, fall, stabilisation and beyond. Cambridge Journal of Economics, 36(1), 127–144. doi:10.1093/cje/ ber038.

Part III: Moving Forward A Summary of the Chapters in Part III Ethical approaches compared to legal requirements. New challenges from new financial procedures? The Supervisory Authority adjusts. Specific governance efforts to regain trust. Broader governance reforms. Vilhjálmur Árnason calls our attention to the ways that some of those in positions of authority chose a strictly legal perspective to view their responsibilities at the time leading to the crisis. He suggests that the failure to take a wider, structural view of responsibility helped these leaders avoid a sense of accountability. Perhaps adding to this, political actors showed themselves easily distracted from addressing the full implications of the parliamentary investigations and the recommendations of the Working Group on Ethics – thanks to events as different as a dispute over responsibility for accounts in Icelandic banks’ overseas branches and a sizeable volcanic eruption. For these reasons, efforts of political institutions to restore trust are seen as lagging behind other groups’ initiatives. Andreas Oehler and Stefan Wendt remind us that the world of finance has changed significantly over the years since the crisis. Do digital transactions, crowdfunding, robo-advising and such emerging services pose new threats to stability and thus to trust in financial institutions? The authors help us understand that ‘trust’ as a concept may need to be adapted when the immediate ‘party’ we are trusting is not an individual human, but still may be one structured to meet our individual needs better than met by an institution. Jon Thor Sturluson gives us an insider’s view of the changes at one of the nation’s most important finance-related institutions, the Federal Supervisory Authority. He recounts how Iceland not only was quick to implement the Basle III standards on banking but also extended these to corporate governance requirements, restrictions on interconnected loans, limits on banks owning non-banks and stricter methods for bank supervision. His work provides insights into how changes were identified and made within a critical institution. Even for a country with a generally balanced view of gender rights, Iceland had a gap in female representation on boards of directors. Auður Arna Arnardóttir and Throstur Olaf Sigurjonsson interview a small group

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of key actors in the financial community to get their reactions on the laws passed after the crisis that set minimum limits on gender-based representation on boards. Although arguments presented during deliberation on the laws suggested that female representation would balance a ‘typically male’ approach to business, the authors discover from their interview participants that some female directors are likely to be more risk-taking than their male colleagues, in part because of the way they view their role as board members. In the concluding chapter, Murray Bryant, Throstur Olaf Sigurjonsson and Már Wolfgang Mixa review concepts of trust from various fields, including political science, and revisit the conclusions they reached in an earlier paper, published shortly after the crisis. Although they continue in their belief that institutional reform is essential, they suggest that when there is a high degree of trust before an incident, the loss of trust provides a sense of betrayal, meaning that confidence takes much longer to rebuild. Hence, rebuilding trust in Iceland is very much a work in progress.

Chapter 9

Have Icelanders Learned Their Lesson? The Investigation of the Icelandic Collapse and its Aftermath Vilhjálmur Árnason Abstract After the financial collapse, the Icelandic Parliament set up a Special Investigation Commission to explain the causes of the events. A working group on ethics evaluated the explanations of the commission from a moral perspective and placed its analyses in the wider social context. This chapter delineates the approach and the main findings of these investigations. The author argues that the main lessons to be learned are about the need to strengthen democratic structures and professional practices in business, politics and administration. The implications of this structural approach for assessing the responsibility for the collapse are discussed in the light of I.M. Young’s social connection model. While the parliamentary reports were well received, three events hindered Icelanders in learning the reports’ main lessons. In addition to a volcanic eruption immediately after the publication of the report, two major political debates led the reconstruction work astray. The first was about the case of the former prime minister and the second was the fierce Icesave dispute about whether Icelanders should share the financial burden with the citizens of the United Kingdom and the Netherlands who lost their savings in the Icesave accounts. This issue dominated Icelandic public discourse for three years and diverted political attention from the message of the parliamentary reports – namely, that the main explanatory factors for the financial collapse were weak

The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 173–193 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181013

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governance and flawed practices within Iceland. As a consequence, the political sector has lagged behind other social sectors in efforts to learn lessons from the financial collapse. Keywords: Accountability; Icesave; politics; responsibility; technical legalism; working group on ethics

Introduction This chapter is divided into two parts. In the first part, the methodology of the parliamentary investigation into the financial collapse in Iceland and the main conclusions in the report that the Althingi issued are analysed in light of relevant notions of responsibility. I show how the main emphasis of the investigation was on flawed working practices in business, governance and politics, leading to a call for increased professionalism and stronger institutions in these sectors of society. In the second part, I question whether the developments after the collapse indicate that the conclusions of the investigation have been instructive for Icelandic society. The argument is that bitter political debates in the aftermath of the crisis stood in the way of the task of reconstruction, and while there are signs of improved practices in many sectors of society, Icelandic politics has lagged behind these sectors. This is demonstrated through cases that indicate the persistence of a flawed political culture. Nevertheless, the reactions to these events in Icelandic society also show signs that the nation is learning important lessons from the bitter experience of the financial crisis.

Part I After the collapse of the Icelandic banks in early October 2008, the Icelandic parliament (Althingi) set up the Special Investigation Commission (SIC), whose mandate was ‘to seek the truth behind the events leading to, and the causes of, the downfall of the Icelandic banks […] and related events’ (Icelandic Legal Act No. 142/2008, Article 1). The role of the SIC was also to evaluate whether any of the key ministers in the government and the heads of major supervisory agencies were guilty of negligence. It was also to report any suspicion of criminal conduct in relation to the financial collapse to the office of a special prosecutor. At the same time, the parliament installed a working group on ethics (WGE) to work with

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the SIC but to focus on the question of whether the financial collapse could in part be attributed to flaws in morality and working practices. There are several noteworthy things about this parliamentary decision. The first is how decisively, quickly and unanimously the members of parliament responded to the crisis. One reason for this is that work had already been going on to strengthen parliamentary practices, aiming in particular at enhancing the supervisory function of the legislative branch (Althingi, 2009). This work provided a good background for the parliament to deal with the investigation of the financial collapse (Sigurgeirsdóttir 2018). The second noteworthy factor is the unprecedented and unlimited investigative powers given to the commission. (For a summary and analysis of the work of the SIC, see Johnsen, 2014.) This implied that the members of parliament, including the members of the government who had failed to control the financial sector in the years preceding its downfall, were themselves under investigation. Nevertheless, there was little or no resistance to installing the SIC and WGE. Finally, it is noteworthy that the parliament decided not only to investigate the causes of the collapse from the prevailing perspectives of law and economics but also to take into account the dimensions of morality and governance. Moreover, the ethical investigation was not to be limited to the financial sector; working practices in other sectors of society could also be subjected to critical scrutiny as members of the WGE would deem fit. (See also Árnason, 2010.) In April 2010, the SIC published its results in nine volumes, with Volume 8 containing the conclusions of the WGE. The SIC’s report provides a thorough description of the course of events, actions and decisions that led up to the financial collapse, largely based on testimonies of the main actors in the financial sphere as well as those responsible for policy and decisions in politics and administration. The report also provided detailed analyses of the events leading up to the collapse, primarily from economic and legal perspectives. The WGE, on the other hand, provided a more normative critical analysis of these descriptions. Its report is divided into three parts. The first part describes and evaluates work practices in the financial sphere; the second part scrutinises governance practices in administration and politics and the third part places the analysis into the wider context of society and culture. The first two parts were mainly grounded in the detailed descriptions of the SIC, with the important exception of including a critical analysis of the role of the Icelandic president at the time leading to the collapse. In the third part, however, the WGE went beyond the SIC analysis by looking at the enabling background conditions of the events

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in the society at large. The importance of this had already been alluded to in a report by Kaarlo Jännäri (2009, pp. 22, 37), former director general of the Financial Services Authority, whose observations are as follows: The nation, up to its highest echelons, supported and admired the banks, and many are still in a state of denial regarding their own part in this tragedy. […] The supervisors were too timid and lacked legal authority in their efforts to intervene in these developments, but the overall national pride in the success of the banks would probably have made it futile even to try while the going was good and success followed success. By the time the tide turned, it was too late, and there was too little that could be done to avoid catastrophe. In order to deepen its analysis, the WGE commissioned two special reports that helped to explain why there had been so little resistance to the course of events in Icelandic society. The first was a report by media specialists on the performance of the media in the years preceding the collapse (Guðmundsson, Ólafsson, Jóhannsdóttir, & Broddason, 2010). The second was a political psychologist’s discussion of how general group dynamics, as well as the characteristics of a small nation, contributed to the course of events that led to the financial crisis (Thórisdóttir, 2010). These special reports strengthen the general approach and methodology of the WGE, which was to resist the pervasive individualistic explanation that held that a handful of young bankers had brought down the country’s economy (cf. Árnason, 2015). According to the WGE’s reasoning, it is misleading to isolate individual actions and decisions from both the corporate culture that sustains and rationalises them and the political ideology and policies that facilitated them. In line with this interpretation, it is superficial to explain bad governance and work practices in terms of individual vices such as greed, rashness and poor judgement. These moral factors need to be understood in relation to the background of a system of ideas and structure of incentives that channel and rationalise individual choices (Silbey, 2009). In this way, the problem is regarded as structural and systemic rather than rooted in the bad actions of incompetent individuals, although those people and their actions obviously play a role. This is a risky approach for at least three reasons. One is that by placing events and individual actions into this wider context, the account becomes less precise, while acknowledging that the members of the WGE thought that the approach as a whole would be less complete if this was not done.

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Moreover, they found it important to put these social and cultural factors on the agenda for the public dialogue about the crisis. Another risk of this approach is that it seems to require a controversial external perspective that some would say has no place in an official report of this kind. However, the WGE’s critique of actions and decisions was based on moral norms and standards that are internal to the practices under scrutiny. For example, the WGE shows that the predominant business model created a culture that undermined accepted standards of good banking practices. They also demonstrated how practices in politics and administration stood in contrast to professionalism and good democratic practices. The third risk is that by emphasising structural explanatory elements, individual responsibility is underestimated and overly diffused. This last point is of major relevance in this context and requires more extensive discussion than the other two. The statement that an emphasis on structural conditions does away with individual responsibility is based on a misunderstanding. It is useful in this context to distinguish between different senses of responsibility (Young, 2006). The first is personal liability for harm that is (partially) caused by the actions or omissions of individuals. In the Icelandic case these actions fall largely under suspicion of criminal conduct, dealt with by the office of the special prosecutor. But individual responsibility for actions also includes morally reckless and wrongful behaviour that goes far beyond the legal domain. An aspect of this is the neglect of role-­specific obligations that are implicitly connected with accountability for specified activities and practices. This type of responsibility need not require direct involvement in wrongful activity but presupposes the duty and ability to account for mistakes or flawed practices in a certain domain. To take a paradigmatic example, a captain is responsible for his ship and will be held accountable for s­ hipwreck, even though he was not at the wheel when it hit the rocks. There is a reason to emphasise this important understanding of responsibility in the context of the downfall of the Icelandic banks. During the investigation, the SIC and WGE received massive amounts of testimony from several public servants who held key positions in the run-up to the collapse. Not one of these people admitted that he or she was responsible for actions or decisions that contributed to the downfall of the banks. The headlines in a major newspaper the morning after the publication of the report on 12 April 2010 summarise this aptly: ‘No one assumed responsibility’ (Fréttablaðið, 2010). This clearly demonstrates the lack of understanding of the kind of accountability inherent in the role-specific obligations of public officials. This can largely be explained by the fact

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that the understanding of the notion of responsibility in the political domain tends to be reduced to connections between actions and criminal liability. In turn, this implies that one is not to be held responsible unless one’s conduct has violated a specific article of the legal code. This legalistic discourse about responsibility was pervasive in the testimony to the SIC and helped to account for the moral void that largely explained the flawed practices pre-crisis. The WGE discussed this ‘technical legalism’ explicitly and argued that it had played a significant role in the course of events. Kaarlo Jännäri (2009, p. 37) had already pointed out its role in the financial culture: The tycoons of the financial system could circumvent the underlying purpose of the regulations by sticking to the letter of the law with the help of diligent lawyers and complicated corporate structures. But legalism also characterised the practices of supervisory agencies. One striking example of this is the reasoning of the director of the Icelandic Financial Supervisory Authority (FSA) when justifying the inability of the agency to stop one of the major banks, Landsbankinn, from setting up a branch for the so-called Icesave accounts in the Netherlands. While the Dutch authorities were worried about the weak security of the accounts and the possible effects that a weak Icesave might have on the Icelandic economic system, the director of the Icelandic FSA focused on the question of whether the establishment of the accounts would violate any particular article of the law. His understanding of the primary responsibility of the supervisory agency was to ensure that the bank was not breaking the law, not to heed general ‘macro-economic worries’ (Árnason, Nordal, & Ástgeirsdóttir, 2010, pp. 123–124). This attitude prompted a leading economist at the Central Bank of Iceland to say the following in testimony to the SIC: It seems to me that there was a basic misunderstanding about the point of financial regulation here in Iceland. […] That it was the role of these authorities to see to it that existing laws were complied with each time. So you are watching the financial system fall off the cliff, and if it is done according to the law, then that’s just fine. (Árnason et al., 2010, pp. 123–124) This attitude is contrary to the view of the British Financial Services Authority (2009, p. 7) on the nature of regulatory obligations: ‘Regulatory

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and supervisory coverage should follow the principle of economic substance, not legal form’. According to the WGE analysis, the nature of ‘technical legalism’ is to interpret actions in light of individual articles of the law in isolation from statements about its main purposes, or ‘the spirit of the law’. The legal articles are then applied without concern for the important public interests that they were intended to protect in the first place. To the contrary, although inadvertently, this way of proceeding tends to serve special interests by defending the right of companies to act within the confines of the law narrowly understood. The SIC and WGE investigation found this legalistic mentality pervasive, even among professions whose moral obligations should never be limited to the individual client. This understanding of professional obligations is put clearly in the Code of Ethics for Professional Accountants: A distinguishing mark of the accountancy profession is its acceptance of the responsibility to act in the public interest. Therefore, a professional accountant’s responsibility is not exclusively to satisfy the needs of an individual ­client or employer. (International Ethics Standards Board for Accountants, 2016, Introduction and Fundamental ­Principles, 100.1) The SIC and WGE investigation showed a wide lack of understanding of this point among professionals working in the financial sector. The dominating model was to find an efficient strategy to serve the goals of the client without concern for public interest. The following testimony of the internal auditor of a major bank in Iceland demonstrates this clearly: I think that in general people looked at rules as something to challenge, something to work with in such a way that respect for the spirit of the rules and such was absent. People were rather willing to develop the interpretation of rules in such a way that they would […], like in football, try to tackle without being punished by the referee. (Árnason et al., 2010, p. 51) He added that the message from the bank managers had been to play ‘offensive hardball’, especially against regulators on site visits. The approach of the supervisors towards the bankers, on the other hand, was based on trust and a spirit of cooperation, presuming that

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they were honest individuals (Árnason et al., 2010, p. 121). This approach ignored the fact that investment banking had practically no history in Iceland and there had not been time to cultivate a trustworthy banking culture with a strong internal regulatory framework. This trusting attitude was pervasive in the years preceding the banking crisis and is partly rooted in the close interpersonal relations that characterise a small society. It can be difficult to create and maintain professional distance and strategic distrust in a situation of acquaintance and there are many striking examples of this documented in the SIC report. This fed into the strong national solidarity with the banks where ‘politicians, public officials and regulators were all on the same team’, as Lars Christensen, chief analyst at the Danish bank put it (p. 158). The media report, commissioned by the WGE, concluded that the expansion of the banks and the activities of the bankers were primarily portrayed in a positive light in the media outlets, which were mostly owned by major financial groups (Guðmundsson et al., 2010). As a consequence, there was no independent voice and the main actors and institutions of democratic society that are meant to protect the public interest failed to resist the developments that took place in the advent of the financial crisis. There is no single explanation for this lack of resistance. It is rooted in a mixture of factors, of which the close-knit acquaintance community is one. The close connections imply that the relations between the different sectors of society, such as the financial–economic and the administrative– political, which need to be kept apart, are interrelated. There are many good reasons to aim for this separation in order to sustain both good political and financial practices. The privatisation of Icelandic banks around the turn of the last century was in fact aimed at loosening the political grip on the banking system. The main political parties had representatives on the banks’ boards and had secured strong influence over banking practices. In the first phases of privatisation, sound principles were laid down to prevent such political control of the financial sector. But during the process, these principles were betrayed and the privatisation ended up as a political deal between the two parties that historically had the most influential presence in the state-owned banks. The banks were sold to relatively inexperienced bankers and investors who were on speaking terms with these political parties. In that way, the strong ties between politics and finance that were to be severed with the privatisation were strengthened in a new form. However, the roles were gradually reversed. While the old system was characterised by political domination of the financial sector, the new

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system enabled the financial sector to reign over other sectors of society. This had major effects that are vividly described in a key passage in the executive summary of the SIC’s report where the main causes of the financial collapse are discussed: It is […] clear that when the size of the financial system of a country is, for instance, threefold its gross domestic product, the competent authorities of the country have, in general, the potential to set rules for the financial system to comply with and to ensure compliance with such rules. However, when the size of the financial system of a country is nine times its gross domestic product the roles are reversed. This was the case in Iceland. It appears that both the parliament and the government lacked both the power and the courage to set reasonable limits to the financial system. All the energy seems to have been directed at keeping the financial system going. It had grown so large, that it was impossible to risk that even one part of it would collapse. (Hreinsson, Benediktsdóttir, & Gunnarsson, 2010, Vol. 1, Chapter 2, p. 17) This passage shows in a nutshell the situation that prevailed in Iceland during the period before the financial collapse: the financial sector was allowed to grow far beyond the ability of the authorities to regulate it. The rapid growth of the banks happened not least through easy access to loans, and among the main borrowers were the banks’ owners and related parties. (Johnsen, 2014, Pt. III provides a good description of this.) This created an enormous concentrated risk in a small society ‘due to a large amount of credit extended to the same collateral’ (Johnsen, 2014, p. 120). Undeniably, this development was a direct result of political decisions aimed at deregulation and liberalisation of the financial sector. It was a widely shared political aim to create a large financial sector in Iceland that would provide a sorely needed new pillar to the Icelandic economy. At the same time, the laissez-faire political message was that supervision should not be burdensome so that the new financial sector could grow freely according to its creative dynamics. As a consequence, as the quoted passage from the executive summary implies, the financial sector became dominant in society and the authorities were subject to its demands. In its report, the SIC argues that there were several ways to restrain the enormous growth of the financial sector but that the authorities failed to provide the external incentives to counteract the strong internal incentives

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for growth within the banks (Hreinsson et al., 2010, Vol. 7, Chapter 21, pp. 5–6). This is not the place to discuss SIC’s suggestions about what could have been done for this purpose. The point here is to show the interconnections between explanatory factors internal to the financial sector and external factors that were, partly at least, under the control of politicians. While this is generally the case when explaining complex social events, these relations were exacerbated in this instance due to close connections between political and financial spheres. It has been argued: that it was the […] weak business culture and a symbiosis of business and politics that [were] responsible for the bulk of self-serving, unethical, and corrupt decisions made by the Icelandic business and political elite. (Vaiman, Sigurjónsson, & Davídsson, 2011, p. 260) Vaiman et al. argue that this is an example of corruption that is not measured by traditional indicators that look primarily at individual agents and their actions. From their perspective, the above quote from the SIC’s executive summary is a clear example of systemic corruption: It is corruption when one or more sector dominates other sectors of the society and abuses that position in the organisation of resources [and] public goods, or to exercise undue influence. (Vaiman et al., 2011, p. 271) Obviously, no individual is responsible for such systemic corruption. Thus, this argument further substantiates the point about how misleading it is to isolate individuals’ actions from the background conditions that motivate and legitimate them. If we relate this analysis of responsibility with the previous discussion on the notion of structural conditions, we can see how it may affect our understanding of both retrospective and prospective responsibility in relation to the Icelandic financial crisis. In her analysis of a ‘social connection model of responsibility’, Iris Marion Young (2006, p. 112) writes: ‘Social structures serve as background conditions for individual actions by presenting actors with options; they provide “channels” that both enable action and constrain it’. This does not imply that individual responsibility is neglected; it is mitigated, with individual actions prevented from being isolated from these structural conditions. Moreover, while authorities and policy makers cannot control individuals, their decisions can have an effect on the social structures that channel and motivate their actions. To relate this to the run up to

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the Icelandic collapse, individual bankers were, of course, responsible for financial transactions and decisions within their companies, but politicians and regulators were responsible for the environment that both enabled their actions and failed to constrain them. The approach that reduces the notion of responsibility to criminal liability implies a primarily retrospective attitude, relating responsibility to a response to things that have already gone wrong. Role-specific duties, however, are also prospective in the sense that they imply obligations to prevent future harm and to ensure that desirable conditions will be realised. This is, for example, what we often have in mind when we talk about parental responsibility, which Hans Jonas (1984, p. 130) calls ‘the archetype of responsibility’. Such responsibility implies preserving the value or task we have been entrusted with. Professionals are entrusted with important social tasks related to the commonweal, and citizens can legitimately expect that professionals resist the forces that threaten the common good. This holds even more obviously true for politicians who are entrusted with the res publicum, which provides the fundamental condition for all activities of the citizenry. But this requires a moral understanding of the political role, an understanding that fosters an ethos that provides resistance to forces that threaten the public interest. This was the major task that Icelandic society was faced with in the wake of the financial collapse. In the concluding chapter of its report, the WGE conveyed this message in the following way: Our analysis has shown that the problem is pervasive, deepseated and systemic. […] Although several individuals certainly are guilty of reprehensible conduct which must be appropriately dealt with, it is misleading to focus on them. From a moral viewpoint it is most important in the long run to strengthen democratic structures of society and the political system; practices and professionalism in business, governance and politics need to be improved. […] This is a long-term effort which requires participation from people in all sectors of society. (Árnason et al., 2010, p. 243)

Part II The publication of the SIC and WGE report in April 2010 was a major media event that had been awaited with enthusiasm for a few months. The climate in Icelandic society was characterised by anger, resentment and suspicion – feelings that coloured the expectations for the report. When the

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authors of the report walked from the parliament building to the former City Theatre where the press conference was held, there were shouts from the crowd standing by the entrance: ‘Now the whitewashing is underway!’ But the tide soon turned. The publication of the report became a moment of trust at this time of deep-seated mistrust and suspicion. The general feeling was that the work of the commission had been thorough, professional and trustworthy. The report was widely regarded as an invaluable resource for further investigation into the collapse, as well as a foundation for the task of rebuilding an Icelandic society that was still in shock. Now, more than eight years after release of the report, there are anecdotal claims that Icelanders have not learned anything from the crisis. Yet, it seems too early to say. No systematic investigation has been done on the developments in Icelandic society after the report, so there is not much substantial evidence to ground such evaluations. I will not, therefore, embark on such an assessment but rather will reflect on a few events that played a major role in diverting Icelanders’ attention from the message of the report, thus hindering them from learning the lessons it conveyed. The first event was an act of God. No sooner had the report been published than there was a dramatic volcanic eruption in the mountain glacier Eyjafjallajökull on 14 April 2010. Overnight the focus of the media turned away from the massive report to this event, which seriously interrupted flights around Europe. But more serious things were to come, rooted in the unpredictable power struggle of politics, that proved to be more difficult and had longer lasting effects than the forces of nature. As mentioned above, the SIC was charged with the task of assessing ‘whether mistakes or negligence occurred in the course of the implementation of the laws and other rules regulating and providing for control of the Icelandic financial sector [and] what persons may be responsible’ (Icelandic Legal Act No. 142/2008, Art. 1, quoted in Johnsen, 2014, p. 48). The SIC concluded that the three ministers of the government who were responsible for economic affairs, the Prime Minister, the Minister of Finance and the Minister of Business Affairs, ‘showed negligence […] by omitting to respond in an appropriate fashion to the impending danger for the Icelandic economy that was caused by the deteriorating situation of the banks’ (Hreinsson et al., 2010, Vol. 1, chapter 2, p. 10). Unlike the cases of suspicion of criminal conduct that were sent to the special prosecutor’s office, these charges regarding the ministers were to be handled by the members of parliament in line with the law regarding the operations of the Landsdómur, the National Court. That court is to deal exclusively with charges regarding ministers’ handling of political affairs. No case had been brought before the court since it was established in 1905.

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As expected, these charges caused major conflicts within the parliament, where the political affiliation of the ministers weighed more heavily than an objective evaluation of whether they were fairly charged with failing to protect the commonweal. It was a most unfortunate consequence of the parliamentary process that, of all the individuals involved, only the former prime minister eventually stood before the National Court. The parliament, which had been united in responding to the financial collapse by installing the SIC and WGE, and which had also unanimously agreed to initiate a process of reconstruction based on the report, was now divided and wounded on fierce political debates concerning charges against the ministers. This seriously damaged the constructive spirit of joining hands in the task of reconstruction that had characterised parliament in the first phases after the collapse. In this way, the National Court affair undermined the prospective political responsibility to focus on the restoration of Icelandic society and the improvement of political practices, which were the main lessons of the SIC and WGE reports. This also fuelled the atmosphere of distrust and suspicion that was pervasive among the public, whose opinion was that politicians were unable to handle the reports’ conclusions. In light of the previous discussion about the social connection model of responsibility and the errors of relying on explanations focused on individuals’ actions behind complex events, it is inevitable that we deal with the question of whether it is compatible with the social connection model to hold individual ministers accountable as in charging them with negligence. While the social connection model implies that no one can be held accountable for social structures, individual responsibility within those structures does need to be evaluated in light of the agent’s position: By virtue of this structural positioning, different agents have different opportunities and capacities, can draw on different kinds and amounts of resources, or face different levels of constraint with respect to processes that can contribute to structural change. (Young, 2006, p. 126) This certainly applies to ministers generally and, in the Icelandic case, it was the assessment of the SIC that the Minister of Finance and the Minister of Business Affairs, along with the Prime Minister, were in a position to affect the course of events but had neglected to do so. It is important to note that not only did these ministers fail to take ‘active and credible measures’ to constrain the growth and actions of the banks, they also fully participated in events to promote and support the

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banks at crucial moments when the banks were faced with criticism from abroad. They, along with the Minister of Foreign Affairs, joined with Icelandic bankers to commission people from academia to convey the message that the banks were in good standing (cf. Árnason, 2015). These events demonstrated exceptionally clearly the ‘symbiosis’ and the collusion that existed between the political and the financial spheres in Iceland at the time. Further complicating the matter, no politician assumed responsibility for the events that led to the massive collapse and the government was eventually forced to resign after persistent public riots (Bernburg, 2016). Nevertheless, one can question whether it is prudent to deal with political responsibility by taking cases of this kind to a special court after political deliberations about who is to be charged. It may prove a better exercise of democracy to hold these parties responsible through the electoral process. The third and most important issue that diverted the attention of Icelandic citizens and politicians from heeding the lessons of the SIC and WGE reports is the Icesave dispute. As mentioned, Icesave consisted of online saving accounts in the United Kingdom and the Netherlands owned and operated by Landsbankinn.1 When the bank collapsed in October 2008, it was taken over by the Icelandic state, which guaranteed all savings in the bank except the Icesave accounts. The state refused to take over the liability of the guarantee fund that was unable to repay the owners of the Icesave accounts. The Dutch and the British guarantee schemes covered the repayment to the maximum amount and the rest was paid by those two countries. Negotiations took place about how Iceland would reimburse the Netherlands and the United Kingdom, and the terms of the agreement were accepted by the Icelandic Parliament. The then-President of Iceland, however, refused to sign the bill, referring it to a public referendum where the voters rejected it. This happened twice, in January 2010 and April 2011. The Icesave dispute dominated Icelandic politics for about three years, 2009–2011, a crucial time when politicians should have assumed the prospective responsibility of reconstructing society and rebuilding trust. The nation was bitterly divided on the Icesave issue, even though an agreement about the repayment had been reached across party lines. Icelandic citizens who favoured the agreement argued that it was a civil way to solve the dispute and was a fair demand that Icelanders share the burden with the citizens of the other two states. In that way the Icelandic citizenry


The Wikipedia entry on ‘Icesave dispute’ provides an adequate introduction to this matter (Editors’ note).

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would assume responsibility for their politicians and public officials, who at crucial times had defended the banks against criticism and claimed that the Icelandic state stood behind them. Supporters of heeding the agreement also argued that it was very risky to take the case to court, which in any case would only deal with the legal questions and not the moral issues of responsibility and integrity. The argument against the agreement, on the other hand, was mainly built on the ‘technical legalistic’ point that Iceland had been under no legal obligation other than to establish a guarantee scheme in accordance with law (specifically, the European Parliament’s directive 94/19/EC). Furthermore, detractors misleadingly claimed that it was wrong to send Iceland’s future generations into ‘economic slavery’ because of the reckless conduct of financial companies. The spokesmen for rejecting the agreement focused also on the unfair and hostile treatment that Icelanders were subjected to by the much larger Dutch and British nations. In this way, a line was drawn between ‘us’ as a small nation against ‘other’ ruthless foreign powers (Hálfdanarson, 2009). This nationalistic discourse depicted Icelanders as victimised underdogs who needed to defend their national interests at all costs. Those who argued for the need to admit our own part in what went wrong and assume responsibility for it on fair terms were viewed as traitors. Two leading politicians in the country, the then-President of Iceland and the leader of the Progressive Party, used this damaging and populist discourse to advance their aims. The President played an active role by deciding twice not to sign a bill about the negotiated loan agreement. The Icelandic constitution states that if the President rejects a bill, it shall be submitted to a referendum (Republic of Iceland, 2013, p. 8, Article 26). Predictably, a frustrated and angry nation that felt betrayed by both their bankers and politicians said ‘No’ to the possibility of taking on this heavy financial burden. This was understandable in the first referendum when most politicians also recommended that the bill be rejected. The second referendum was much more controversial, because in the meantime the members of parliament had worked very hard across party lines to improve the terms and conditions of the agreement. At that point, it had also become clear that the recovery assets of Landsbankinn would cover almost all the debt, so it would not be a heavy burden for ordinary citizens. It was also generally regarded to be very risky for Iceland to have the case taken to court. While the decision of the Icelandic president to send the bill for the second time to referendum could in retrospect be seen as a salvaging act, since the EFTA court subsequently cleared Iceland of all charges, it had damaging political repercussions for the country. One of the arguments in

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support of the power of the Icelandic president to refer bills to national referenda is that it puts pressure on the executive and the legislative branch to uphold good working practices. This is what happened after the first referendum on Icesave. The government and the leading opposition party cooperated well and professionally on this difficult issue. The only exception was the other party in the opposition, the Progressive Party, which refused to be part of the agreement. After the EFTA court’s decision, they reaped richly from that decision and their young leader became prime minister. Three years later, however, he had to resign after the publication of the Panama Papers, where his wife was found to have secret accounts. (See further discussion of this below.) During his time as prime minister, he kept alive the aforementioned divisive discourse of those who steadfastly resisted Icesave. The Icesave dispute left deep scars in Icelandic politics and fuelled partisan bickering and strategic rhetoric that tends to still dominate political discussions. This type of political discourse, which undermines good governance, had been criticised in the WGE report and was one of the attitudes that members of parliament seemed to be willing to improve when they handled the conclusions of the SIC and WGE investigation. I misleadingly singled out these two political events in the aftermath of the financial collapse – the disputes over the National Court and Icesave – because I believe that they have stood in the way of more constructive politics and improvement of democratic practices that were called for after the publication of the SIC and WGE reports. Nevertheless, I am certain that both the financial collapse and the reports have instigated important improvements in various sectors of the society, for example in professional organisations, various companies and supervising institutions. This assessment is partly based on my experience as chair of the Centre for Ethics at the University of Iceland. I observed an increased awareness of the importance of genuine programmes of corporate responsibility, stricter policies of regulation and implementation of ethical codes. There is also more vigilance in the media, even though two of the major newspapers are still in the hands of actors that were heavily implicated in the events that led to the financial crisis and have vested interests in defending explanations of the events that differ from the SIC and WGE findings.2 2

The editor-in-chief of Morgunblaðið was prime minister of Iceland during privatisation of the banks and liberalisation of the financial sector. He was a director of the Central Bank of Iceland when the banks collapsed. The main owner of Fréttablaðið is married to one of the main owners of Glitnir, one of the three Icelandic banks that collapsed in 2008.

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It is as if the political sector has lagged behind in Icelandic society’s recovery, with the two events discussed above playing a big role in that lagging. To illustrate this, I present a couple of cases that demonstrate how the understanding of political accountability and the role-specific obligations of politicians have remained unchanged. The first regards the socalled ‘leak case’, where confidential information about an asylum seeker was leaked to the media. The information was clearly intended to show the person concerned in a bad light on the same day when a demonstration in support of his application was to be held. After an investigation by the Ministry of the Interior, it was declared that there were no signs that the information had been leaked from the ministry. The incident was to be turned over to the police for their investigation. However, the Minister of the Interior resisted this; at that time she was formally the head of the police. The minister failed to see anything wrong with the conflict of interest involved in her position, and tried to influence the investigation by talking to the chief of police. When her handling of the case was questioned, she insisted that she had not broken any law. Her conduct demonstrated the same kind of ‘technical legalism’ that the WGE criticised and revealed a complete lack of understanding of political accountability. Nevertheless, throughout the incident, her party chairman and parliamentary party showed ‘complete confidence’ in the minister, who eventually was forced to resign. The second case that demonstrates the lack of moral understanding in Icelandic politics is the case of the prime minister who was forced to resign after the Panama Papers were published. What is most revealing about this case is what the prime minister said in his defence. He insisted that he and his wife had not violated any law and that his ‘morality is based on laws and regulations’ and in doing useful work for his country (Vísir, 2016). He showed no understanding of the importance of being in a trustworthy position as prime minister and that he might have conflicting interests. In a manner similar to that of Minister of the Interior, his reaction to the news about his situation and his interaction with the media, which showed a complete lack of moral understanding of the political role, eventually led to his resignation. Even the leadership of his party, which initially supported him, gradually saw that he had to step down. There are mixed lessons to be learned from these cases. I have emphasised the role of the two ministers, but more seriously the cases manifest a political culture that is still void of understanding the moral dimensions of public service. It would be misleading, therefore, to assess them primarily as instances of the moral vices and bad judgement of these

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two individuals. The fact that these ministers received wide support and votes of confidence from their fellow-politicians until their situation had become absolutely indefensible is indicative of a pervasive lack of moral understanding in Icelandic politics. I have singled out the two most dramatic cases in the last few years but there are several others that could be used to substantiate this. This is what lies behind my claim that the political sector has lagged behind other social groups in improving its working practices in the wake of the financial crisis. Further evidence of this comes from the way in which the members of the Icelandic Parliament handled the task of setting a code of ethics for themselves. In 2012, the office of the parliament contacted the Centre for Ethics at the University of Iceland and asked for assistance. The Centre emphasised that a genuine code of ethics requires the participation of those who are to abide by it. They would themselves have to tease out the main obligations implied in their role as the members of parliament. That would require a collective deliberation, in the course of which they could sharpen their moral understanding and make it clear to themselves about their primary duties. This work was never completed. Only a minority of the members of parliament showed interest in doing this and some were strictly opposed to it. But in order to formally fulfil the promise of setting a code of ethics for parliament, the solution in the end was to adopt the code of ethics of the European Parliament. In that way, the members of parliament relieved themselves of the burdensome and (to many of them) the insignificant task of deepening their moral sensibility by reflecting on their moral duties. As a consequence, the legalistic mentality among politicians prevails. However, there are also positive lessons to be learned from the cases discussed above. In both cases, the media played a major role and served successfully as guardians of public interests. This is well known in the case of the Panama Papers, which required unprecedented international media co-operation – but persistent critical investigation, especially by one independent newspaper, was also crucial in the leak case. The leak case was also characterised by the quality work done by the state institutions – the police and the Parliamentary Ombudsman (headed by one of the key members of the SIC) – that handled the case. The Panama Papers case demonstrated vividly the vigilance of the Icelandic public, which gathered in front of the Icelandic Parliament to call for the prime minister’s resignation. The government responded by announcing that elections would be held six months earlier than intended. Thus, a government that had in many ways been successful in the task of reconstructing the Icelandic economy after the collapse was forced to resign because of moral failures

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among its key politicians. This happened again in September 2017, when one of the coalition parties resigned from government due to what its members perceived as untrustworthy political practices. In the end, these are the most important indications that Icelanders have indeed learned some lessons from the financial crisis. The yardstick of improvement is not the number of bad incidents that come up in the various sectors of society but rather the ability of the democratic institutions to handle them. The main message of the SIC and WGE reports was about strengthening institutions, improving governance and professional practices. That would be a way to make a better functioning democratic society. This message implied an understanding of democracy that has been neglected in Icelandic political discussion in the aftermath of the financial collapse. The focus has been on finding ways to implement direct democracy, mainly by increasing ‘vote-centric participation of citizens in political decisions’ (Árnason, 2016). This is understandable in a society where trust in government, parliament and institutions has plummeted. There are strong reasons to believe, however, that in a country where the background conditions of political culture are poor, focusing on forms of decision-making where citizens decide policy initiatives directly, will not be successful (Beramendi et al., 2008). If Icelanders are to learn their lesson from the investigations of the financial collapse, the primary objective must be to improve the political practices and institutions of representative democracy. In order to deal with the most urgent tasks and rebuild trust in Icelandic society, there is still a lot to learn from the SIC and WGE reports.

References Althingi. (2009). Eftirlit Alþingis með framkvæmdarvaldinu [A report on how the Parliament can more efficiently supervise the executive branch of government]. Reykjavík, Iceland: Althingi. Retrieved from Árnason, V. (2010). Moral analysis of an economic collapse: An exercise in practical ethics. Etikk i praksis: Nordic Journal of Applied Ethics, 4(1), 101–123. Árnason, V. (2015). Something rotten in the state of Iceland: ‘The production of truth’ about the Icelandic banks. In G. Pálsson & P. Durrenberger (Eds.), Gambling debt: Iceland’s rise in the global economy (pp. 47–59). Boulder, CO: University Press of Colorado. Árnason, V. (2016). Democratic practices, governance, and the financial crash. In V. Ingimundarson, P. Urfalino, & I. Erlingsdóttir (Eds.), Iceland’s financial

192    Vilhjálmur Árnason crisis: The politics of blame, protest, and reconstruction (pp. 121–139). London: Routledge. Árnason, V., Nordal, S., & Ástgeirsdóttir, K. (2010). Siðferði og starfshættir í tengslum við fall íslensku bankanna 2008 [Ethics and governance in relation to the collapse of the Icelandic banks 2008]. In P. Hreinsson, S. Benediktsdóttir, & T. Gunnarsson (Eds.), Special Investigation Commission’s report delivered to the Icelandic parliament (Vol. 8). Reykjavík, Iceland: Icelandic Parliament. Beramendi, V., Ellis, A., Kaufmann, B., Kornblith, M., LeDuc, L., McGuire, P., & Svensson, P. (2008). Direct democracy: The international IDEA handbook. Stockholm, Sweden: Institute for Democracy and Electoral Assistance (IDEA). Retrieved from direct-democracy-the-international-idea-handbook_0.pdf Bernburg, G. (2016). Economic crisis and mass protest: The pots and pans revolution in Iceland. London: Routledge. Financial Services Authority. (2009). The Turner review: Regulatory response to the global banking crisis. Retrieved from turner_review.pdf Fréttablaðið. (2010). Enginn gekkst við ábyrgð [No one assumed responsibility]. Fréttablaðið, 13 April, front page. Guðmundsson, F. Th., Ólafsson, K., Jóhannsdóttir, V., & Broddason, Th. (2010). Umfjöllun fjölmiðla á Íslandi um banka og fjármálafyrirtæki 2006–2008. [Media coverage in Iceland about banks and financial companies 2006–2008], prepared for the working group on ethics. In P. Hreinsson, S. Benediktsdóttir, & T. Gunnarsson (Eds.), Report of the Special Investigation Commission (Vol. 8, Annex. 1, pp. 245–272). Reykjavík, Iceland: Icelandic Parliament. Retrieved from Hálfdanarson, G. (2009). Hver erum við? Um “okkur”, “hin”, Icesave og ábyrgð þjóðar [Who are we? About ‘us’, ‘others’, Icesave and the responsibility of a nation]. Saga, XLVII(2), 158–174. Hreinsson, P., Benediktsdóttir, S., & Gunnarsson, T. (2010). Aðdragandi og orsakir falls íslensku bankanna 2008 og tengdir atburðir [Background and causes of the Icelandic banks’ collapse in 2008 and related events]. Reykjavík, Iceland: Althingi. Retrieved from addragandi-og-orsakir-falls-islensku-bankanna-2008/ International Ethics Standards Board for Accountants. (2016). Code of ethics for professional accountants. Retrieved from iesba-code Jännäri, K. (2009, 30 March). Report on banking regulation and supervision in Iceland: Past, present and future. Reykjavík, Iceland: Icelandic Government. Retrieved from media/island/frettir/25.pdf Johnsen, G. (2014). Bringing down the banking system: Lessons from Iceland. ­Basingstoke: Palgrave Macmillan. Jonas, H. (1984). The imperative of responsibility: In search of an ethics for the technological age. Chicago, IL: The University of Chicago Press.

Have Icelanders Learned?    193 Republic of Iceland. (2013). Iceland’s constitution of 1944 with amendments through 2013. Retrieved from Iceland_2013.pdf ?lang=en Sigurgeirsdóttir, S. (2018). Eftirlit með eftirlitinu: Rannsóknarnefnd Alþingis og hugmyndin um eflingu þingeftirlits. In V. Árnason & H. A. Henrysson (Eds.), Hvað einkennir íslenskt lýðræði. Reykjavík: University Press (forthcoming). Silbey, S. S. (2009). Rotten apples or a rotting barrel: How not to understand the current financial crisis. The MIT Faculty Newsletter, XXI(5), 12, 17. Thórisdóttir, H. (2010). Afsprengi aðstæðna og fjötruð skynsemi: Aðdragandi og orsakir efnahagshrunsins á Íslandi frá sjónarhóli kenninga og rannsókna í félagslegri sálfræði [Situational determinants and bounded rationality: Causes and consequences of the Icelandic economic collapse from the viewpoint of social psychology], prepared for the working group on ethics. In P. Hreinsson, S. Benediktsdóttir, & T. Gunnarsson (Eds.), Report of the Special Investigation Commission (vol. 8, Annex. 2, pp. 273–301). Reykjavík, Iceland: Icelandic Parliament. Retrieved from Vaiman, V., Sigurjónsson, Th. O., & Davídsson, Á. (2011). Weak business culture as an antecedent of economic crisis: The case of Iceland. Journal of Business Ethics, 98, 259–272. Vísir. (2016, 24 March). Sigmundur Davíð: Bar ekki siðferðisleg skylda til að segja frá [Sigmundur Davíð (Icelandic prime minister): Was under no moral obligation to reveal]. Retrieved from Young, I. M. (2006). Responsibility and global justice: A social connection model. Social Philosophy and Policy, 23(1), 102–130.

Chapter 10

Trust and Financial Services: The Impact of Increasing Digitalisation and the Financial Crisis Andreas Oehler and Stefan Wendt Abstract Current trends in financial services are characterised by two intertwined developments. First, increasing digitalisation provides opportunities to invest or raise money through channels that have not been available with more traditional financial services. Crowdinvesting and social-trading platforms act as new intermediaries. Similarly, automated advice (robo-advice) is attracting increased attention. Second, the financial crisis of 2007–2010 is associated with a considerable decline in trust in financial institutions, even more so in Iceland, which had experienced a complete collapse of its banking system. Despite the evaporation of trust in their banking system, Icelandic consumers were largely bound to use Icelandic financial institutions because capital controls were in place since the financial crisis until 2017, which limited investors’ opportunities to, for example, diversify their portfolios internationally. As financial decisions are inherently risky and since financial services have the characteristics of credence goods, those who wish to use financial services need to trust financial intermediaries or the immediate contractual partner. The purpose of this chapter is to examine the role of trust in the context of increased digitalisation, and to discuss steps to establish trust in digitalised financial services. Among other items, we discuss the information requirements accompanying financial products and financial institutions, data protection and

The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 195–211 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181014

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liability in the context of emerging digitalisation. Our work holds implications for individuals, financial service providers, policy makers and supervisory authorities. Keywords: Crowd investing; data protection; FinTech; information asymmetry; robo-advice; social trading

Introduction Consumers desiring to use financial services need a certain level of trust in the financial service provider as a contractual partner.1 The importance of trust in the contractual partner results from the credence-good characteristics of financial products and services.2 This means that consumers cannot fully assess the quality and utility impact of financial services; instead, consumers need to trust financial service providers to act in the consumers’ interest (Oehler, Herberger, Wendt, & Höfer, 2015; Oehler & Wendt, 2017). Consumers are typically at an informational disadvantage vis-à-vis financial service providers. The informational disadvantage results from, for example, the costs of gathering, storing and processing information and the division of labour, which is itself based on the idea that it is economically neither effective nor efficient that everyone specialises in everything. In this sense, it would not be reasonable if every consumer is specialised in financial services. The credence-good characteristics of financial services aggravate the potential effect of informational asymmetries on consumers because even in situations in which costs of information-gathering, processing and storing as well as monitoring are negligible, contracts will not be complete and monitoring will not reveal all the relevant characteristics of financial services and the behaviour of financial service providers.3 This also means that with stronger credence-good characteristics, legal 1

We focus on consumers as individuals or households who use financial services for such purposes as savings and investment, to raise money to finance individual projects, or to receive financial advice. The ideas that are discussed in this chapter, however, can be easily applied to other financial services such as insurance contracts or to other groups of users of financial services, in particular if they do not possess expert knowledge and competences in finance. 2 We use the terms financial products and financial services interchangably, and will differentiate where necessary. 3 Information costs should not be considered negligible, even though online availability of a vast amount of information as well as considerably improved opportunities to combine and analyse data through artificial intelligence and other techniques are associated with a reduction in information costs.

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enforcement becomes increasingly difficult. In such a situation, trust in financial service providers is essential when entering into financial contracts, and by doing so delegating decisions to others (Meagher & Wait, 2017). In addition to the deterioration of trust in financial services as a result of the financial crisis that had unfolded since 2007, financial services have been subjected to ongoing digitalisation. Digitalisation has led to changes in traditional financial services while allowing financial service providers to develop new business models and non-financial firms to enter the market for financial services by integrating financial services in their product portfolio, and while offering consumers new opportunities, for example to invest or raise money (see for example, Oehler, Horn, & Wendt, 2018). This shift in the financial services sector requires one to rethink the role of trust. Hence, in this chapter, we discuss how to establish trust in financial service providers in a rapidly evolving market and environment due to digitalisation. We focus on personal trust and on system or institutional trust as suggested by Fleck and von Lüde (2015). In this context, we discuss the role of information and disclosure requirements, data protection and privacy, and liability. The chapter therefore holds implications for individuals, financial service providers, policy makers and supervisory authorities. When discussing trust in financial service providers in Iceland, a number of characteristics of the Icelandic economy and financial market require specific attention. First, the financial system in Iceland experienced basically a complete collapse in 2008. The three main banks and most savings banks went into receivership, real estate prices adjusted for inflation fell by approximately one-third and the stock market index level at the beginning of 2009 was less than 10% of the level it had reached in July 2007 (Mixa, 2016; Sigurjónsson & Mixa, 2011). Second, due to the relatively small economy, speaking relatively, there are few financial institutions, which means that there is an oligopolistic situation in most areas of financial services and competition is low.4 Third, the international flow of funds was considerably restricted by capital controls that were imposed during the crisis in 2008 and lifted in March 2017. As a consequence of


The Financial Supervisory Authority in Iceland (Fjármálaeftirlitið, FME) supervises four commercial banks, four savings banks with regional focus, 10 securities companies, 10 management companies of UCITS (Undertakings for Collective Investments in Transferable Securities), 11 insurance companies (thereof one re-insurance and four life insurance), nine insurance brokerages and 26 pension funds. (Retrieved from

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capital controls, opportunities for international diversification were limited. This means that investment opportunities were largely restricted to Iceland and consumers were bound to use the financial services of Icelandic financial institutions with limited competition and in a situation in which trust had evaporated. In many areas of economic and financial market theory, however, trust is not pertinent, either because everyone is assumed to have all relevant information (no informational asymmetries, complete contracts) or risks vis-à-vis single contractual partners can easily be diversified. Consumers can therefore fully assess and diversify these risks, leaving them with inevitable market-wide or systematic risk (Oehler et al., 2015). In real life, however, information-gathering, processing and storing are not free of charge (and even if they were, they would not solve the credence-good characteristics), financial transactions are costly and markets are characterised by a lack of competition (Oehler & Wendt, 2017). Although diversification will in many situations still prove beneficial, these benefits are limited in the context of financial services due to transaction costs and a number of impracticalities: How many bank accounts or similar insurance contracts at different insurance companies should an individual have? As the most recent financial crisis has shown, benefits of diversification are also limited when there is significant systemic risk resulting from interdependencies within the network of financial intermediaries and corresponding spill-over effects. Moreover, individuals’ decision making is characterised by bounded rationality: people intend to act rationally but are not fully able to do so (Simon, 1955, 1956). Instead, they face information and choice overload when making decisions, which means that they are not able to fully deal with the huge amount of information and decision alternatives that are available (Baron, 2000; Malhotra, 1984; Miller, 1956; Oehler & Wendt, 2017; Plous, 1993). To cope with this situation, individuals will use heuristics; they will follow other individuals’ decisions instead of gathering and processing their own information (herd behaviour); they will invest in local or domestic companies instead of diversifying internationally (local or home bias) and they will, in general, show behaviour that does not appear to be in line with neo-classic or institutional economic theory (Kahneman & Tversky, 1973; Oehler, Horn, & Wendt, 2016a; Oehler, Rummer, & Wendt, 2008; Tversky & Kahneman, 1974, 1981). In contrast, decisions will be characterised by such traits as overconfidence (individuals assume to be able to deal with risk better than they actually are, which leads to underestimation of risk; Kirchler & Maciejovsky, 2002) and the disposition effect (individuals tend to sell investments after a positive

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performance period, while keeping investments after a negative performance period; Oehler, Heilmann, Läger, & Oberländer, 2003; Weber & Camerer, 1998). In addition, an individual’s personality has been shown to affect financial decision making (Oehler, Wendt, Wedlich, & Horn, 2018). Taking into consideration the findings on actual decision making, we examine trust in the context of digitalised financial services. In the next section, we explain the concept of trust and its role in the context of financial decision making. Then we describe current trends in financial services with a particular focus on increasing digitalisation and its impact on the role of trust. Afterwards, we discuss how to develop trust in digitalised financial services. In the final section, we provide conclusions.

Trust and its Impact in the Context of Financial Decision Making Trust is considered to be an essential element of decision making in the presence of risk. Based on the marketing literature that examines the role of trust in the context of services, Tyler and Stanley (2007) identify two components that are integrated in definitions of trust: a belief component and a behavioural component. The belief component relates to perceived trustworthiness: One party believes that the other party will not exploit the first party’s vulnerability, that is, it will decide in the first party’s interest. The behavioural component describes one party’s tendency to increase its vulnerability to another party and thereby to increase risk as a result of trust. This means that as a result of trust, individuals might enter into a contract with a party that they would not have contracted with in a situation without trust. Tyler and Stanley further identify six elements of trust: reliability, predictability, honesty, mutuality, benevolence and forbearance from opportunism. They distinguish between calculative trust on the one hand and affective trust on the other. Calculative trust follows the idea that risks, rewards, controls and (external) information are evaluated rationally, which means that those who act opportunistically would therefore understand that this behaviour is detrimental for the other party. Affective trust, however, is based on experience and relies on emotional inputs and information from within the contractual relationship. Gennaioli, Shleifer, and Vishny (2015, p. 92) discuss trust in the context of financial decision making and emphasise that trust refers to ‘security from expropriation or theft’ (see also Georgarakos & Inderst, 2011; Guiso, Sapienza, & Zingales, 2004, 2008), and to a reduction in ‘investor anxiety about taking risk’. These aspects appear directly related to

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the belief and the behavioural component identified by Tyler and Stanley (2007). Moreover, trust appears to lead investors to reduce their influence on corporate decision making and thereby replaces to some degree other mechanisms that investors could use to affect the outcome of their investments. In this context, Gao and Dimitrov (2017) find that corporate social responsibility performance as a proxy for trust is negatively related to the likelihood of shareholder governance proposals being raised at corporate annual meetings. In addition, Gennaioli et al. (2015, p. 92) relate investors’ decisions to hire advisors and money managers when making risky investments to the investors’ lack of knowledge about finance, and to the idea that investors are too nervous or anxious when making the decision on their own: ‘Managers may have knowledge of how to diversify or even [an] ability to earn [alpha], but in addition they provide investors peace of mind’ (italics in original). In the context of individual investors who delegate portfolio management to money managers, Gennaioli and colleagues argue that investors perceive a given investment as being less risky if they trust the money managers. This leads to increased risktaking or to considerable underperformance compared to indexation because of the fees that managers are able to charge due to the trust of the customers. Kostovetsky (2015) finds support for the idea of an impact of trust on the relationship between investors and fund management and identifies a relationship disruption in the case of changes in the ownership of fund management companies, which induces investors to withdraw their assets. Fleck and von Lüde (2015) distinguish between personal trust and system or institutional trust. They relate personal trust to individual attributes that are based on reputation and learnt in recurrent interactions. This concept of personal trust therefore appears to be closely related to Tyler and Stanley’s (2007) concept of affective trust and to the assumption of Gennaioli et al. (2015, p. 92) that trust is not a result of past performance but ‘is based on personal relationships, familiarity, persuasive advertising, connections to friends and colleagues, communication and schmoozing’. Institutional constellations, on the other hand, can foster system or institutional trust that is based on the establishment of rules and their surveillance (Fleck & von Lüde, 2015). This idea is also used by Guiso et al. (2004, 2008) who emphasise that trust in institutions encourages individuals to participate in financial markets. Tyler and Stanley (2007, p. 336), however, point out that supervision and monitoring ‘obviate the need for trust: Trust that must be constantly tested and guaranteed by sanctions […] is not trust at all’.

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Although the need for trust might partially result from consumers’ level of expertise regarding financial services, increasing financial literacy does not appear to adequately substitute for trust. This results from the credence-good characteristics of financial services, the speed of innovation in the context of financial services and changing situations in life that would require a constant and detailed update of financial knowledge and competences, and the fact that financial decisions – albeit important ones – only represent one area of life. Calling for more financial literacy thus would also imply requiring more literacy in many other areas of life. Although being desirable from an educational point of view, it does not appear achievable, mainly due to limited cognitive capacity (Oehler & Wendt, 2017).

Current Trends in Financial Services The ongoing digitalisation of financial services has led financial service providers to new or revised business models and processes (Oehler, Horn et al., 2018). FinTech (financial technology) companies have risen as competitors to traditional financial service providers, but traditional providers also are increasingly integrating the idea of FinTech in their business models – either by acquiring start-ups or by internally developing FinTech solutions. We briefly explain three examples of new or revised business models that use online platforms or integrate social media to: (1) connect individual or institutional investors to those looking to raise capital in order to finance, say, business activities (crowd investing), (2) ­facilitate the exchange of information among investors and thereby establish a new form of investment or portfolio management (social trading) and (3) establish automatised forms of financial advice (robo-advice).5 In essence, these new business models are based on transformations similar to those in traditional financial services in the context of investment or financing decisions; however, they are nearly fully Internet-based and use social media platforms. We also briefly discuss the extent to which these business models have been implemented in Iceland.


One further group of financial services that has seen fundamental revisions as a result of increasing digitalisation includes payment services (Oehler, 2016a; Oehler, Horn, & Wendt, 2016b). While we do not focus on digitalised payment services, many aspects that we discuss in this chapter can also be applied to them.

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Crowd Investing (Oehler, 2016b; Wendt, 2016a, 2016b)6 Crowd investing provides investors with access to new types of investment opportunities and those in need of capital for new business projects with access to new groups of capital providers. Within a large group of investors (‘the crowd’), each participant invests a relatively small amount of money in entrepreneurial activities or private businesses that would otherwise not be available to him or her as an investment opportunity. Entrepreneurs and businesses present their project on a crowd-investing platform to attract investors other than the traditional capital providers such as banks, angel investors or venture capital funds. Crowd investments are alternatives to traditional ways to invest in or finance via equity or debt instruments. In this sense, crowd-investment platforms act as financial intermediaries. Using a crowd-investment platform is associated with potentially lower transaction costs than traditional investment and financing activities. However, the crowd investment process typically does not include financial advice. This means that actual and potential investors and capital seekers need to assess their financial situation and their level of risk tolerance on their own. Although some crowd-investment platforms offer the opportunity to build up a portfolio of investments to be able to use the benefits of diversification, crowd investments are typically made in a single or few projects. The platforms require information about the projects beforehand and only a small proportion of the projects are admitted to the actual fundraising process; however, investors on their own need to assess the quality of the projects and of those individuals or firms that run the projects. They also need to assess whether or not a new project is a useful addition to their investment portfolio and fits their overall financial situation. Similarly, those seeking finance to start new projects need to assess on their own whether their financial situation is sufficiently healthy to tolerate an increase in leverage when they raise debt via a crowd-investment platform. Crowd investing does not yet play a significant role in financing and investment activities in Iceland. So far, the focus has been on rewardbased crowdfunding where – in contrast to crowd investing – individuals or institutions do not provide funds for which they require a financial return, but typically make an advance payment in order to purchase a 6

Often the term ‘crowdfunding’ is used in this context. However, crowdfunding is a broader term that does not only include crowd investing via equity or debt but also reward-based crowdfunding and donation-based crowdfunding (Oehler, 2016b; Wendt, 2016a, 2016b).

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good or service or to get some form of acknowledgement. Although these advance payments also contribute to the financing of the project, it is not external financing as equity or debt but supports the internal financing process. According to Zhang et al. (2016), the total online alternative finance volume in Iceland amounts to €0.8 million but exclusively results from reward-based crowdfunding.7 This amount may seem low, but given the small size of the Icelandic economy, it represents €2.56 per capita. Within Europe, this puts Iceland between Germany with €3.06 per capita and Switzerland with €1.97, but still far behind the leading countries, the United Kingdom and Estonia, with €65.88 and €24.02 per capita, respectively. Given the volume of reward-based crowdfunding market in Iceland, there appears to be some potential for developing a crowd-investing market. Social Trading (Oehler et al., 2016a) In social trading, individual investors follow other investors’ investment decisions. Some investors act as signal providers and make their investment decisions public via social-trading platforms. The followers manually or automatically replicate the signal providers’ transactions.8 Social-trading platforms offer automatic order execution via a brokerage house (Döring, Neumann, & Paul, 2015) or derivative products, such as certificates or contracts for difference (CFDs), are used to allow followers to replicate the signal provider’s performance. In this sense, social trading is a new form of portfolio management, a signal provider being the portfolio manager and followers delegating the investment decisions to the signal provider. Compared to managers of mutual funds, however, signal providers in social trading do not actually invest the money of their followers, rather they provide information about the trades in their own portfolio and let the followers replicate these trades. Instead of analysing the broad range of investment alternatives available, investors need to identify a signal provider they wish to follow. This can reduce their information and choice overload, but at the same time, social trading implies herd behaviour. Both signal providers and the 7

Zhang et al. (2016) subsume peer-to-peer consumer and business lending (largely equivalent to debt-based crowdfunding), equity-based crowdfunding, rewardbased crowdfunding, invoice trading and donation-based crowdfunding under the term ‘on-line alternative finance’. 8 Automatic replication is typically referred to as copy trading.

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platform provider receive a fee that might offset or even exceed the benefits for the followers. On average, social trading strategies do not seem to outperform investments in broadly diversified indices. In addition, longterm performance can barely be analysed so far due to the short history of social trading. To the best of our knowledge, no social-trading platform has been established in Iceland so far. However, Icelandic investors have the opportunity to engage in social trading via platforms in other countries or to invest in certificates or CFDs that are initiated by these platforms and traded abroad. Robo-Advice (Oehler, 2016a; Oehler, Horn, & Wendt, 2016c) Robo-advice provides automated financial advice that so far mainly focuses on investment decisions. Users of robo-advice platforms need to enter basic information about such items as financial situation, investment amount, investment goal and horizon, and risk tolerance. Robo-advice platforms use algorithms to analyse this information and to develop investment suggestions or a sample portfolio composition that considers different asset classes that the investor can use as a guideline for his or her own investment decisions. Robo-advice focuses on one-time investment suggestions; however, more advanced solutions extend the idea of roboadvice and offer automated portfolio or wealth management solutions that focus on regular portfolio rebalancing according to a determined benchmark. The robo-advice process is typically highly standardised and does not include interaction with a human financial advisor. Depending on the degree of sophistication of the algorithms used in robo-advice and the information that consumers need to provide, robo-advice might be more or less able to consider individual financial situations. As other digitalised financial services, however, robo-advice is usually available 24/7, which can be more convenient than traditional financial advice, and is typically associated with lower costs because no financial advisor needs to be paid. Roboadvice for investment decisions is not yet significantly used in Iceland.

How to Establish Trust in Digitalised Financial Services? Consumers who wish to use digitalised financial services such as crowd investing, social trading and robo-advice often need to deal with other

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financial service providers, contractual partners and financial services than they are used to in traditional financial services. Consumers use an online platform or in some cases use social media that the platforms are connected with, with no human financial advisor involved. This means that personal trust, which, according to Fleck and von Lüde (2015), is based on reputation and recurrent interactions, will not be established in many situations, in particular in the case of first-time or infrequent use of a specific financial service. For example, crowd investments are often made in entrepreneurial projects, which may mean that historical information about these projects is limited or nonexistent. Information that the entrepreneur as capital seeker makes available via the crowd-­investment platform about the project and the entrepreneur himself or herself is typically less standardised than information available about other investment opportunities, such as shares of publicly listed companies or mutual funds. Although only a small percentage of projects is admitted to the crowd-investment platform after a selection process, investors still need to assess the quality of the project and the entrepreneur. While personal trust in those who present their projects can hardly be developed because capital seekers do not necessarily use crowd-investment platforms regularly, trust in the platform and in the crowd would be essential. The discussion among investors via social media might help assess the quality and investors might benefit from other investors’ experience, but the suitability of others’ experience to develop trust still remains to be analysed. Similarly, investors in social trading need to develop trust in the signal providers who they intend to follow and in the social-trading platforms and their services. Obviously, some signal providers already have been active for some time and might have established a reputation among followers. Reputation and trust, however, do not necessarily build on past performance but on ‘personal relationships, familiarity, persuasive advertising, connections with friends and colleagues, communication and schmoozing’ as we noted earlier from Gennaioli et al. (2015, p. 92). Past performance cannot be considered a useful basis of trust anyway, because there is hardly any evidence for the performance persistence of investment managers in general, and in the specific context of social trading, there does not appear to be out-performance when compared to investments in broadly diversified indices (Oehler et al., 2016a). Most crowd-investment, social-trading and robo-advice platforms have been established only recently, which means that there has not yet been a long reputation-building process. In addition, recurrent interactions between investors and platforms will not be the case for all investors as they do not necessarily use these platforms frequently. Further,

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there have been cases of platform failure and closure (Wendt, 2016a; Zhang et al., 2016), which means that investors might not be able to enforce their claims if a platform no longer exists and if documentation of deals is lost. Information about Financial Products and Services (Oehler & Wendt, 2017) Institutional trust depends on institutional arrangements for establishing rules along with their surveillance and enforcement. In the financial realm, these arrangements include the characteristics of information about financial products and services, as well as data protection and privacy, and liability. To start with, information about financial products and services needs to be transparent, comprehensible and comparable. Transparency means that the information is available and accessible to consumers, financial advisors, regulators and supervisors. If the information is available and accessible, consumers will be able to inform themselves about relevant characteristics of financial services, financial advisors will be able to use this information when providing advice to consumers, and regulators and supervisors will be enabled to monitor and enforce regulation. To be comprehensible, the information needs to be in plain language without technical terms to reflect that consumers typically do not possess expert knowledge. This will help avoid situations where consumers are not able to understand or interpret information, where the same information is understood in different ways or where consumers understand the same information differently at different points in time. Comprehensibility is important in the context of all types of financial products and services, and even more so for digitalised financial services with a high degree of novelty that consumers have not yet encountered. Due to the huge variety of financial products and services, both traditional and digitalised, information also needs to allow comparison among similar or closely related products. The same information categories with regard to, say, the risks involved, should be used across all financial products and services. Transparency, comprehensibleness and comparability can be understood as necessary conditions that need to be fulfilled to allow consumers to use the information. Beyond these necessary conditions, the information needs to fulfil sufficient conditions in the sense that it needs to be clear and verifiable, and it needs to address how the financial service suits the consumers’ needs to allow them to make adequate financial decisions. Clarity builds

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on the idea of comprehensibleness and means that information about main product characteristics, such as substantial risks, liquidity, flexibility, net return, including all costs and charges, and impact on other financial products (portfolio effects), allows unambiguous inference about the consequences of financial decisions. For example, it appears useful to present potential losses as amounts of money (krónur, euros or dollars) instead of percentages, because percentages would require further calculation and interpretation. In addition, both consumers and third parties, including regulators and supervisors, need to be able to verify the information before, during and after the contract period if they so desire. In this sense, verifiability is important from the initial decision-making process to subsequent liability claims. Last but not least, it needs to become obvious whether or not the financial service suits the consumer’s needs. This means that the information should indicate whether the financial service satisfies basic financial needs (safety first, low risk) or additional financial needs (income protection, retirement provisions), or whether the financial service serves purposes beyond these. If the necessary and sufficient conditions are fulfilled for digitalised as well as traditional financial products and services, consumers can rely on the information when making financial decisions. If active surveillance and enforcement mechanisms are in place, consumers will not need to double-check every piece of information on their own. The information can therefore be considered as being trustworthy. Data Protection and Privacy (Oehler, 2016a) With increasing digitalisation in basically all areas of life, including financial services, increasing amounts of data about consumers are collected, stored, transferred and analysed. Consumers enter data when signing up on the platforms, data are generated when consumers use the platforms, and these data can be connected to other data that are collected via social media or otherwise. These data have significant value for financial service providers and others, such as the social media platforms that are used in the context of crowd investments and social trading. Beyond this, the data are valuable for third parties that are not necessarily involved in the actual digital financial services, such as governmental or non-­ governmental organisations and firms in other business sectors. Consumers, however, cannot fully assess the value of their data, and they might not be aware of the purposes that their data are used for.

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To establish trust in digitalised financial services, it is essential to provide consumers with information not only about the financial services and the platforms but also about the collection and use of their data. While transaction costs are typically assumed to be lower for digitalised than for traditional financial services, consumers pay not just with money but also with their data. Consumers need to receive information about the value and the use of their data and, given this information, they need to be able to decide whether or not to provide their data as means of payment. Moreover, consumers need to trust that the providers of digitalised financial services and all parties involved in this process establish necessary measures to protect the data against cyber-criminal activities. Liability (Oehler & Wendt, 2017) As surveillance and enforcement of rules are core determinants of institutional trust, it appears essential that the consumers’ contractual partners in crowd-investing, social-trading and robo-advice activities assume liability during the entire contract period for damage that results from inaccurate or incomplete information and disclosure documents and from breach of data. Supervisory authorities should therefore be enabled to monitor compliance with information and data protection.

Conclusions Ongoing digitalisation will shape financial products and services. Although online platforms for all types of digital financial services have not been established yet in Iceland, further broadening of the range of available digital financial services can be expected both domestically and internationally. Given the credence-good characteristics of financial services, trust in financial services and financial service providers is an essential element in consumers’ financial decision making. After the evaporation of trust in financial services as a result of recent financial crisis, (re-)establishing and maintaining trust in financial services increasingly means establishing trust in digital financial services. In this chapter, we discussed the role of trust in the context of three examples of digital financial services: crowd investing, social trading and robo-advice. While establishing personal trust appears to be difficult and in some cases potentially unachievable due the short history of some digital financial services and lack of regular interactions, in particular in the

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case of first-time or infrequent use of specific financial services, establishing institutional trust based on arrangements for setting, monitoring and enforcing rules appears achievable. To this end, we discussed three elements that could be used to build such trust: information requirements, data protection and privacy, and liability. Calling for rules, monitoring and supervision for these emerging services, however, does not mean that building trust necessarily requires additional specific regulation and bureaucracy. Instead, a regulatory and supervisory framework that applies the same rules and mechanisms to all financial services, both traditional and digitalised, is less complex and easier to understand and follow than separate rules and exemptions for different types of financial services. It also provides a level playing field for all financial service providers, and hence fosters competition.

References Baron, J. (2000). Thinking and deciding (3rd ed.). New York, NY: Cambridge University Press. Döring, P., Neumann, S., & Paul, S. (2015). A primer on social trading networks – Institutional aspects and empirical evidence. Working Paper. Bochum, Germany. Fleck, J., & von Lüde, R. (2015). Restoring trust and confidence at the institutional level by higher order control: The case of the formation of the European Banking Union. Behemoth – A Journal on Civilisation, 8(1), 91–108. Gao, F., & Dimitrov, V. (2017). Shareholder activism and trust: Evidence from shareholder governance proposals. Working Paper. Rutgers Business School, New Brunswick, NJ. Gennaioli, N., Shleifer, A., & Vishny, R. (2015). Money doctors. Journal of Finance, 70(1), 91–114. Georgarakos, D., & Inderst, R. (2011). Financial advice and stock market participation. Working Paper 1296. European Central Bank, Frankfurt, Germany. Guiso, L., Sapienza, P., & Zingales, L. (2004). The role of social capital in financial development. American Economic Review, 94, 526–556. Guiso, L., Sapienza, P., & Zingales, L. (2008). Trusting the stock market. Journal of Finance, 63, 2557–2600. Kahneman, D., & Tversky, A. (1973). On the psychology of prediction. Psychological Review, 80, 237–251. Kirchler, E., & Maciejovsky, B. (2002). Simultaneous over- and under-confidence: Evidence from experimental asset markets. The Journal of Risk and Uncertainty, 25, 65–85.

210    Andreas Oehler and Stefan Wendt Kostovetsky, L. (2015). Whom do you trust? Investor–advisor relationships and mutual fund flows. Review of Financial Studies, 29(4), 898–936. Malhotra, N. K. (1984). Reflections on the information overload paradigm in consumer decision-making. Journal of Consumer Research, 10, 436–440. Meagher, K. J., & Wait, A. (2017). Trust and the delegation of real authority. Working Paper. Australian National University & University of Sydney, Canberra & Sydney, Australia. Miller, G. A. (1956). The magical number seven, plus or minus two: Some limits to our capacity for processing information. Psychological Review, 63, 81–97. Mixa, M. W. (2016). The Icelandic bubble and beyond: Investment lessons from history and cultural effects. Unpublished doctoral dissertation, Reykjavík University, Reykjavík, Iceland. doi:10.13140/RG.2.1.4804.7608 Oehler, A. (2016a). Digitale Welt und Finanzen: Zahlungsdienste und Finanzberatung unter einer digitalen Agenda [The digital world and finance: Payment services under a digital agenda]. Berlin, Germany: Publications of the Advisory Council for Consumer Affairs, Federal Ministry of Justice and Consumer Protection (BMJV). Oehler, A. (2016b). Digitale Welt und Finanzen: Formen des Crowdfunding: ­Handlungsbedarf für die Verbraucherpolitik [The digital world and finance: Forms of crowdfunding: Requirements for consumer policy]. Berlin, Germany: Publications of the Advisory Council for Consumer Affairs, Federal Ministry of Justice and Consumer Protection (BMJV). Oehler, A., Heilmann, K. R., Läger, V., & Oberländer, M. (2003). Coexistence of disposition investors and momentum traders in stock markets: Experimental evidence. Journal of International Financial Markets, Institutions and Money, 13, 503–524. Oehler, A., Herberger, T., Wendt, S., & Höfer, A. (2015). Risk assessment and risk management in economics. In H.-W. Micklitz & T. Tridimas (Eds.), Risk and EU law (pp. 33–48). Cheltenham: Edward Elgar. Oehler, A., Horn, M., & Wendt, S. (2016a). Benefits from social trading? Empirical evidence for certificates on Wikifolios. International Review of Financial Analysis, 46, 202–210. Oehler, A., Horn, M., & Wendt, S. (2016b). Digitale Zahlungsdienste: Chinese walls 2.0 oder Trennung? [Digital payment services: Chinese walls 2.0 or separation?]. DIVSI Magazin, October, 23–25. Oehler, A., Horn, M., & Wendt, S. (2016c). Was taugt die Finanzberatung durch Robo-Advisors wirklich? [How do robo-advisors really benefit financial advising?] Der Neue Finanzberater, 2, 28–29. Oehler, A., Horn, M., & Wendt, S. (2018). Neue Geschäftsmodelle durch Digitalisierung? Eine Analyse aktueller Entwicklungen bei Finanzdienstleistungen [New business models through digitalisation? An analysis of current developments in the finance sector]. In F. Keuper, M. Schomann, L. I. Sikora, & R. Wassef (Eds.), Disruption und Transformation Management (pp. 325–341). Berlin, Germany: Springer.

Trust and Financial Services    211 Oehler, A., Rummer, M., & Wendt, S. (2008). Portfolio selection of German investors: On the causes of home-biased investment decisions. Journal of Behavioral Finance, 9(3), 149–162. Oehler, A., & Wendt, S. (2017). Good consumer information: The information paradigm at its (dead) end? Journal of Consumer Policy, 40, 179–191. Oehler, A., Wendt, S., Wedlich, F., & Horn, M. (2018). Investors’ personality influences investment decisions: Experimental evidence on extraversion and neuroticism. Journal of Behavioral Finance, 19(1), 30–48. doi:10.1080/154275 60.2017.1366495. Plous, S. (1993). The psychology of judgement and decision making. New York, NY: McGraw-Hill. Sigurjónsson, Th. O., & Mixa, M. W. (2011). Learning from the ‘worst behaved’: Iceland’s financial crisis and the Nordic comparison. Thunderbird International Business Review, 53(2), 209–223. Simon, H. A. (1955). A behavioral model of rational choice. Quarterly Journal of Economics, 69, 99–118. Simon, H. A. (1956). Rational choice and the structure of environments. Psychological Review, 63, 129–138. Tversky, A., & Kahneman, D. (1974). Judgment under uncertainty: Heuristics and biases. Science, 185, 1124–1131. Tversky, A., & Kahneman, D. (1981). The framing of decisions and the psychology of choice. Science, 211, 453–458. Tyler, K., & Stanley, E. (2007). The role of trust in financial services business relationships. Journal of Services Marketing, 21(5), 334–344. Weber, M., & Camerer, C. F. (1998). The disposition effect in securities trading: An experimental analysis. Journal of Economic Behavior & Organization, 33, 167–184. Wendt, S. (2016a). Geld anlegen mit und im Schwarm – Chancen und Risiken für Verbraucherinnen und Verbraucher [Investing money with and in the crowd – Opportunities and risks for consumers]. Berlin, Germany: Study for the Advisory Council for Consumer Affairs, Federal Ministry of Justice and Consumer Protection (BMJV). Wendt, S. (2016b). Peer-to-peer lending – Chancen und Risiken für Verbraucherinnen und Verbraucher [Peer-to-peer lending – Opportunites and risks for consumers]. Berlin, Germany: Study for the Advisory Council for Consumer Affairs, Federal Ministry of Justice and Consumer Protection (BMJV). Zhang, B. Z., Wardrop, R., Ziegler, T., Lui, A., Burton, J., James, A., & Garvey, K. (2016). Sustaining momentum: The 2nd European alternative finance industry report. Cambridge: Cambridge Centre for Alternative Finance, University of Cambridge.

Chapter 11

Post-Crisis Regulation and Supervision of Icelandic Banks Jon Thor Sturluson* Abstract Since the financial crisis of 2008, legislation and rules affecting the financial market in Iceland have been strengthened considerably. Tougher capital requirements, detailed and frequent reporting, more thorough fit-and-proper tests, barriers to connected lending and strict limits on bonus payments are but a few examples. Similarly, the supervision of banks has been upgraded markedly. It is now much more intrusive and forward-looking than before, that is, it is more focused on governance and the business model. Many of these reforms are based on international initiatives, such as the Basel III standard, while others are particular to Iceland. The main objective of these reforms is to strengthen the resilience of the banking sector and limit the negative effects on consumers of harmful enterprise incentives. Trust in the financial system collapsed as a consequence of the crisis but is recovering only slowly. This apparent lack of confidence is reflected only to a limited extent in firms’ and households’ willingness to seek banking services. This raises the questions of how to appropriately measure


The views expressed in this chapter are the author’s and do not necessarily represent the official stance of the Financial Supervisory Authority of Iceland. The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 213–225 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181016

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trust, and what factors influence it. Iceland may turn out to be an ­interesting natural experiment in this respect. It has a unique record of prosecuting and sentencing bankers for offences that are hardly worthy of administrative fines in some other countries – but whether strict accountability is the recipe for rebuilding trust remains to be seen. Keywords: Regulation; supervision; financial crisis; trust

Introduction Banking is inherently risky. For a bank to offer beneficial services to businesses or households, it inevitably needs to accept some level of the underlying risk of the business activity or households’ assets and income stream. It should therefore be expected that banks make losses now and then. The focus of regulation and supervision is to limit the scope and frequency of such events. Recent regulatory reforms, both internationally and domestically, contribute to this objective by enhancing prudential requirements, a collective term for different minimum requirements of capital and high-quality liquid assets, as well as various limits to risktaking. The reforms take note of the key lessons from the 2008 crisis, and therefore focus more on the global nature of financial markets, the importance of interconnectedness and complexity in financial services. In Iceland particularly, special emphasis has been put on limiting harmful incentives for risk-taking by board members, management and staff. While the explicit objective of these reforms has not been to promote trust in the banking sector – the topic of this volume – but to enhance the safety and soundness of banking per se, it is probable that they will contribute to a recovery in trust as well. Even though the concept of trust is complicated and has many interpretations (Zaheer, McEvily, & Perrone, 1998), some form of institutional trust, in the sense of Williamson (1993), can have real economic benefits (Dirks & Ferrin, 2001). This chapter describes the key regulatory reforms in the Icelandic banking sector since 2008, and how bankers have been held accountable for contributing to the severity of the crisis. It discusses different measures of trust and how they suggest that trust is slowly but surely on the rebound. Finally, it touches upon the possible causal relationship between the two trends of regulation and accountability. Whether the reforms and accountability measures prove effective remains a worthy topic for future research.

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Changes in Regulation and Supervision since the Crisis Global Reform of Prudential Requirements Iceland has repeatedly been described as the canary in the coal mine when it comes to the 2008 financial crisis (Boyes, 2009; Johnsen, 2014). As the metaphor suggests, Iceland was not the epicentre of the crisis but turned out to be particularly vulnerable to its consequences. As an example of the global nature of financial disruption, at least 30 national stock markets declined by more than 50% in 2008 (Rose & Spiegel, 2010). Reinhart and Rogoff (2008, 2009) demonstrate that the crisis also had a global impact on housing prices, output and employment. As a consequence, extensive international regulatory reforms was initiated, most importantly by the Basel Committee on Bank Supervision (BCBS). The key reform package, generally referred to as Basel III, was initially published in December 2010 and finalised in December 2017 (BCBS, 2010, 2011a, 2017). Following the Basel III reforms and their implementation in European legislation with the CRD IV1 directive and the CRR2 regulation, and finally in domestic legislation,3 prudential requirements for Icelandic banks have been strengthened considerably. Capital Requirements.  Capital requirements have been improved since 2008 in terms of both quantity and quality. While this is not the forum to engage in a lengthy discussion of the particulars of the Basel III reforms, the reader should note that the reforms are based on the so-called three ‘pillars’. Pillar 1 concerns capital, risk coverage and leverage; Pillar 2, risk management and supervision and Pillar 3 refers to market discipline (BCBS, 2011b). First, while the minimum capital requirement under Pillar I remains at 8% of risk-weighted assets (RWA), the definition of what qualifies as regulatory capital has been narrowed, the range of exposures that require equity or other regulatory capital has been broadened and the scope for setting relatively low-risk weights has been reduced.


Directive 2013/36/EU of the European Parliament and of the Council, on access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms. 2 Regulation (EU) No. 575/2013 of the European Parliament and the Council on prudential requirements for credit institutions and investment firms. http://data. 3 Lög um fjármálafyrirtæki [Act on financial undertakings], 161/2002. https://

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Second, the process for setting additional requirements under Pillar 2 has been upgraded and has, at least in the case of Iceland, led to higher capital requirements. The Pillar 2 requirement is institution-specific and reflects the individual bank’s risk profile and risk management. The Financial Supervisory Authority (I will use the Icelandic abbreviation, FME in this chapter) determines the Pillar 2 requirement annually after a detailed dialogue with banks. For smaller institutions, this so-called supervisory review and evaluation process is less frequent – every second or third year. In 2017, the Pillar 2 requirements for Icelandic banks were in the range of 3.0% to 6.5% of RWA. Third, the Basel III standard introduced four capital buffers, which are additional capital requirements for macro-prudential purposes: a capital conservation buffer, systemic risk buffer, buffer for systemically important institutions, and countercyclical buffer. The capital conservation buffer is fixed at 2.5%, but the others are to be determined by the relevant macro-prudential authority. FME has, based on recommendations from the Financial Stability Council, set the systemic risk buffer to 3% of domestic RWA, the buffer for systemically important institutions at 2% of total RWA and the countercyclical buffer to 1.25% of domestic RWA. At the end of 2017, the total capital buffer requirement for systemically important banks was therefore 8.75%. On aggregate, these three levels of capital requirements under Pillars 1 and 2 result in an overall capital requirement of roughly 20% on average, in contrast to the 8% formal requirement in 2008.4 The current rules also require capital of a higher quality than before, since at least 56.25% of Pillars 1 and 2 requirements, and all buffer requirements, must be met with core equity tier 1 capital, which primarily comprises equity capital and disclosed reserves. Further, some capital instruments no longer qualify as additional tier 1 or tier 2 capital.5 Liquidity Requirements.  Basel III also introduced tougher requirements for high-quality liquid funds and stable funding. Iceland 4

Actual capital levels were usually in excess of 12% in the years leading to the crisis, but steadily declined in 2007 and 2008. The Althingi’s Special Investigative Commission on the causes of the collapse of the Icelandic banks concluded that in all three banks equity was exaggerated through internally funded purchases and cross-lending (Hreinsson, Benediktsdóttir, & Gunnarson, 2010). 5 Tier 2 capital is usually some form of hybrid between equity and fixed-income capital, undisclosed reserves, general provisions and some forms of subordinated debt with minimum duration. Tier 2 capital is generally regarded as inferior to tier 1 and is not necessarily available for the purpose of preserving the goingconcern status of a bank.

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implemented the liquidity coverage ratio requirement ahead of most other European jurisdictions. In short, the requirement is for a bank to maintain a liquidity buffer to be able to survive a 30-day period of stressed outflows, taking into account the quality of liquidity available and expected outflows of different liability classes. The net stable funding requirement sets a minimum standard for stable funding with a one-year perspective. The requirements replace much simpler and weaker ones. Capital Backstops.  The Basel III standard also introduced two new capital backstops. When the Basel III standard was first introduced, it included the new leverage ratio, which is a non-risk-based measure of capital. The universal minimum level is 3%, but some countries have introduced a higher requirement for systemically important banks. The most recent update of the Basel III standard, announced in December 2017, also includes a second significant backstop to risk-based capital requirements, namely the so-called output floor on risk-weights (BCBS, 2017). The output floor defines a minimum of aggregate risk-weights for banks using the internal ratings-based approach, equal to 72.5% of the total risk-weights according to the standardised approach.6 Again, while banking experts are the ones familiar with the details of the new standards and the processes necessary to meet them, the reader should appreciate that, no matter what the mechanics are, Basel III has attempted to place more stringent controls on banks’ prudential requirements in an effort to improve bank resilience during economic downturns. Further Domestic Reforms Other significant changes have been made in legislation affecting the financial market. In the case of credit institutions and investment firms, the act on financial undertakings (No. 161/2002) is the most important one. The extensive and frequent changes to financial market legislation have resulted in more stringent rules and requirements in a number of areas.7 The following is a non-exhaustive account of the most significant ones.


Neither of these requirements is likely to be binding in the case of Icelandic banks, since all of them use the standardised approach, and the effective risk weights are relatively high, use of tier 2 instruments is minimal and the leverage ratio is very high (or around 16% on average). 7 At the time of this writing, the act on financial undertakings has been amended 22 times since 2008.

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Corporate Governance.  Overall, the responsibilities and role of the board of directors have increased, particularly in the areas of strategy, risk management and internal control. Fit-and-proper requirements for members of supervisory boards and top management have been strengthened considerably. For example, CEOs and board members now must demonstrate in more detail their relevant knowledge and experience and prove that they are financially independent. Every CEO and board member of large institutions is required to pass an extensive oral exam, in addition to the standard written process. For smaller institutions, a similar oral exam is also required if the facts of the case cannot be determined merely on the basis of submitted documentation. It is not sufficient for all board members to be fit individually; the board as a whole must also possess sufficient knowledge, qualifications and experience to grasp fully the operations of the institution, including all major risk factors. All board members are subjected to restrictions meant to reduce potential conflicts of interest. For instance, board members cannot sit on the board of or be employed at a different regulated institution, or any of its subsidiaries or related businesses. The role and independence of internal control functions also have been increased by securing the chief risk officer a direct reporting line to the board and by making any changes in his or her appointment subject to board approval. Connected Lending.  Significant restrictions have been introduced against lending to members of the board, management, other key personnel and large shareholders (those holding more than 10% of shares or the equivalent). In 2017, the nominal cap on exposures to any such group of connected parties, including family members, was lifted somewhat to ISK 200 million (about €1.6 million). Preferencial treatment of parties, e.g., in the form of lower interest rates or lower collateral requirements, are strictly prohibited. The FME issued rules (247/2017) restricting connected lending, the main purpose of which is to prevent businesspeople from using their position as significant owners of a bank to facilitate preferential credit arrangements for themselves or their businesses. Large Exposures.  Rules limiting the risk resulting from large exposures have also been strengthened. The current general principle is that total exposure to a customer or a group of connected customers may not exceed 25% of eligible own-funds. If the total exposure is less than ISK 10 billion (about €80 million), however, the total exposure must not exceed 100% of eligible own-funds. The FME issued rules (233/2017) on the definition of and reporting on large exposures. These rules function as a backstop to keep risks arising from large exposures to individual customers or a group of connected customers within ­reasonable levels.

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Limits on Bonuses and Incentive Schemes.  According to FME’s rules (388/2016), which are based on legislation originally passed in 2010, bonuses to employees of banks may not exceed 25% of regular remuneration. Any bonus payments to board members and staff responsible for risk management, internal audit or compliance functions are prohibited. The rules further define the framework for different types of variable remuneration, their purpose, the associated risk assessment and internal controls, and deferral of bonus payments. The purpose of these rules is to limit incentives for excessive risk-taking and promote long-term business strategies. Restrictions on Ownership of Non-Banks.  Banks and other credit institutions are prohibited from owning a qualifying share of a non-bank except temporarily for the purpose of completing a particular transaction or for restructuring purposes. Any such holdings should be reported to the FME. Amended legislation in 2010 stipulates that the maximum period for such ownership is 12 months; FME can grant an extension in order to conclude a particular transaction. The purpose of this rule is to promote the timely restructuring of non-banks in distress and limit potential conflicts of interest. Other Changes.  Many other rules have been introduced or changed since the financial crisis of 2008 – for instance, a strict ban on lending against collateral in the form of own equity and strict requirements for monitoring conduct within banks. Administrative fines and other corrective measures have been raised, most importantly by allowing FME to impose fines of up to 10% of annual revenue of financial institutions. Forward-Looking and Risk-Based Supervision Based on these regulatory reforms and new best practice standards (BCBS, 2012), the supervision of banks has been reorganised and strengthened considerably. The FME, which is responsible for supervising insurance firms, pensions funds and securities markets, in addition to banks, more than doubled its staff from 45 at the end of 2007 to 117 at the end of 2012. A formal risk-based methodology has been implemented where supervisory activities are prioritised according to regularly updated impact and risk assessments. In the case of banks, the frequency and type of inspections therefore depend on their impact on the economy and the outcome of regular monitoring and risk assessment. An official policy of transparency was introduced in the wake of the crisis. It entails that the authority publicly reveals all of its findings during

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inspections, in full or as abstracts, as well as any penalties it imposes on supervised entities. In 2016 and 2017, there were 39 such public disclosures each year. Recently, the authority has also published its methodology and benchmarks for assessing banks’ prudential requirements.

The Current State of the Icelandic Banks As the number of FME disclosures suggests, compliance with current rules and regulations is often less than perfect. Still, the number of serious infringements – those resulting in fines or other sanctions – has been relatively small. The banks have, without exception, fulfilled all prudential requirements. Public controversies around banks’ business practices have subsided considerably in the last few years, as all major debt-restructuring following the financial crisis is complete. A remaining issue, however, is bank ownership. Currently, the state is the sole owner of two of the three largest banks, Íslandsbanki and Landsbanki. The parliament has granted its consent for the sale of all public shares in Íslandsbanki and a 30% share in Landsbanki.

Criminal Charges and Sentences Immediately following the crisis, the FME initiated extensive investigations into possible misconduct and breach of law in the period leading to the collapse of the three major banks and several other financial institutions. All in all, 167 cases were investigated in the period 2009 to 2012. Of these, 49 were referred to the National Commissioner of the Icelandic Police and the Office of the Special Prosecutor (which now has merged with the Office of the District Prosecutor). In addition, 34 cases involving possible breaches of legislation not under the remit of FME were sent to the relevant authorities. A further three cases were concluded with administrative fines and 81 cases were closed without any further action (Financial Supervisory Authority, 2013). The Special Prosecutor/District Prosecutor has filed at least 17 charges based on these investigations that have been tried before a district court or the Supreme Court.8 The majority of these cases have led to convictions


The number of cases referred is not compatible with the number of filed charges as some charges have been merged and others are still open.

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for fraud, market manipulation and other charges, with prison sentences of up to six years. Several more cases are ongoing. The extent of these investigations, charges and sentences is unprecedented and in stark contrast to the fairly mild treatment of similar infringements in other countries (Simanowitz, 2016). It is unlikely that this is merely due to some extreme nature of misconduct by Icelandic bankers prior to 2008, but perhaps because of the severe outcome of the infringements. The interesting question that follows is the extent to which these investigations and judicial events have in any way contributed to the reconciliation and the rebuilding of trust in the banking system as a whole.

Trust is Returning, Albeit Slowly For several years, Gallup-Iceland has conducted regular polls asking a random sample of people the extent to which they trust various societal institutions. The share of respondents indicating considerable or some trust in the banking system (two highest scores) was seriously affected by the crisis, with a severe decline between February 2008 and February 2009. It has since then slowly risen in the latest poll, published in February 2017, but has yet to achieve pre-crisis levels (Gallup, 2017). Trust is difficult to measure, as the concept has many interpretations and manifestations. In the context of banking, some minimum level of institutional trust is undoubtedly essential, as customers literally trust their banks with their valuables. But full and unconditional trust is probably not required for the proper functioning of banks. Neither is it particularly desirable. More than just trust, awareness and continuous scrutiny, not only by the supervisory authority but also by the customers themselves, is important for the proper functioning of financial markets. Total and unconditional trust from customers is likely to reduce the amount of effort they spend monitoring their bank transactions, including deposit account and credit card statements, which in turn increases the banks’ temptation for fraud. A healthy amount of customer scepticism is therefore desirable to control harmful incentives. While banking services are not homogenous and can require different levels of trust, the impact of the level of trust on the volume and quality of services is nevertheless generally positive. It is therefore tempting to look at the volume of services as a first approximation to trust. However, the two main bank functions, receiving deposits and lending to customers, are not determined only by customers’ trust. The outcome also depends

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on a multitude of economic factors, alternative sources of business and private financing and store of value, etc. Data on lending and deposits are also affected by the crisis for other reasons. Take household deposits, for instance, as shown in Fig. 1. A steady growth in household deposits, prior to the crisis, was further intensified during the crisis, most probably due to the relative safety of guaranteed savings, up until late 2009 when they started to decline. Household deposits started to increase again slowly but steadily from 2013. The increase from 2012 is however slower than economic growth. As a result, it is difficult to draw any conclusions about the level of trust based on such data (Fig. 1). An alternative measure of the level of trust in banking is the number of disputes consumers have with banks. While this measure should also be strongly affected by actual misconduct, it may at least be a decent measure of earned trust at the most basic level. As a low-cost first instance, a consumer can take a dispute with a bank before the financial undertakings arbitration panel, which is a non-binding panel jointly appointed by the Icelandic Financial Services Association, the Consumers’ Association of Iceland and the Ministry of Finance and Economic Affairs and administered by the FME. The number of cases brought before the panel is shown in Fig. 2. From 2000 throughout 2008, the number of cases brought before the panel was fairly low, 18.9 cases per year on average. The number of cases dramatically increased in 2009 (108.7 per year

900 Houshold deposits

SME and corporate deposits

700 600 500 400 300 200 100 0 2007-01 2007-05 2007-09 2008-01 2008-05 2008-09 2009-01 2009-05 2009-09 2010-01 2010-05 2010-09 2011-01 2011-05 2011-09 2012-01 2012-05 2012-09 2013-01 2013-05 2013-09 2014-01 2014-05 2014-09 2015-01 2015-05 2015-09 2016-01 2016-05 2016-09 2017-01 2017-05 2017-09

billion ISK, current prices


Fig. 1:  Household and SME/Corporate Deposits at Credit Institutions, Current Prices. Source: Central Bank of Iceland.

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150 115



100 67 71













19 15 21 2007





33 28







17 20



Fig. 2:  Number of Cases Submitted to the Financial Undertakings Arbitration Panel from 2000 to 2017. Source: FME. on average from that year until 2014), but in the last three years (2015 to 2017) the number of cases has decreased to an average of 63.7 per year (Fig. 2). While this measure is as imperfect as the other two mentioned previously, they all suggest the same pattern. Trust in the banking system is slowly but steadily increasing and has not reached the level of pre-crisis era.

Conclusion It is tempting to propose that the slow improvement in trust towards I­celandic banks in these past few years is caused by the regulatory reforms and heightened accountability of bankers discussed above. Still we are unable to say for sure which of these effects is more important or if other causes remain to be identified. At best we can hypothesise about the effectiveness of these efforts. The topic is worthy of further research, as the relative merits of these measures can have important implications in a much wider context. It is particularly interesting to examine whether the harsh legal consequences of bankers’ misconduct have had a positive effect on the public’s

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perception of trust and the functioning of the financial market. Iceland may turn out to be an interesting natural experiment in this respect. It has a unique record of prosecuting and sentencing bankers for offences that are hardly worthy of administrative fines in some other countries. Whether strict accountability is the recipe for rebuilding trust remains to be seen. The fact that the recent regulatory reforms are extremely complex may also explain why trust is improving only slowly. While the FME has been following a strict transparency policy in recent years, with the long-term objective of promoting confidence, there is without a doubt room for improvement when it comes to conveying the essence of the new rulebook for the benefit of consumers and businesses alike.

References Basel Committee on Banking Supervision (BCBS). (2010). Basel III: A global regulatory framework for more resilient banks and banking systems. Retrieved from Basel Committee on Banking Supervision (BCBS). (2011a). Basel III: A global regulatory framework for more resilient banks and banking systems: Revised version June 2011. Bank for International Settlements. Retrieved from https:// Basel Committee on Banking Supervision (BCBS). (2011b). Summary table. Retrieved from Basel Committee on Banking Supervision (BCBS). (2012). Core principles for effective banking supervision. Bank for International Settlements. Retrieved from Basel Committee on Banking Supervision (BCBS). (2017). Basel III: Finalising post-crisis reforms. Bank for International Settlements. Retrieved from https:// Boyes, R. (2009). Meltdown Iceland: Lessons on the world financial crisis from a small bankrupt island. London: Bloomsbury. Dirks, K. T., & Ferrin, D. L. (2001). The role of trust in organizational settings. Organization Science, 12(4), 450–467. 10640 Financial Supervisory Authority. (2013). Annual report 2012 – Financial supervisory authority. Reykjavík, Iceland: Financial Supervisory Authority. Retrieved from Gallup. (2017, 27 February). Traust til stofnana eykst milli ára [Trust towards institutions increases from last year]. Retrieved from traust-til-stofnana-haekkar-milli-ara/

Post-Crisis Regulation    225 Hreinsson, P., Benediktsdóttir, S., & Gunnarsson, T. (2010). Aðdragandi og orsakir falls íslensku bankanna 2008 og tengdir atburðir [Background and causes of the Icelandic banks’ collapse in 2008 and related events]. Reykjavík, Iceland: Althingi. Retrieved from addragandi-og-orsakir-falls-islensku-bankanna-2008/ Johnsen, G. (2014). Bringing down the banking system. Basingstoke: Palgrave Macmillan. Reinhart, C. M., & Rogoff, K. S. (2008). Is the 2007 US sub-prime financial c­ risis so different? An international historical comparison. American Economic Review, 98(2), 339–344. Reinhart, C. M., & Rogoff, K. S. (2009). The aftermath of financial crises. ­American Economic Review, 99(2), 466–472. Rose, A. K., & Spiegel, M. M. (2010). Cross-country causes and consequences of the 2008 crisis: International linkages and American exposure. Pacific Economic Review, 15(3), 340–363. Simanowitz, S. (2016, 5 January). Iceland has jailed 29 bankers. Why can’t the UK and US do the same? Huffington Post. Retrieved from html. Williamson, O. E. (1993). Calculativeness, trust, and economic organization. The Journal of Law and Economics, 36(1, part 2), 453–486. https://doi. org/10.1086/467284 Zaheer, A., McEvily, B., & Perrone, V. (1998). Does trust matter? Exploring the effects of interorganizational and interpersonal trust on performance. ­Organization Science, 9(2), 141–159.

Chapter 12

Restoring Trust Through Improved ­Corporate Governance and Adherence to Gender Quotas Audur Arna Arnardottir and Throstur Olaf Sigurjonsson Abstract According to some key actors in Iceland’s financial sector, in the wake of the financial crisis, Icelandic financial institutions consciously tried to build trust and a positive new image through, among other things, the visible presence of women on their corporate boards and management teams. By strict adherence to gender quota legislation and through improved corporate governance practices and much stricter control and monitoring, the financial sector sent signals of change to various stakeholders. Now 10 years on, the re-establishment of trust is still a work in progress. Keywords: Board of directors; corporate governance; diversity; gender legislation; gender stereotypes; risk appetite

Introduction In the wake of the severe financial crisis in 2008, speculation arose in different countries whether various issues concerning board-level governance were partially to blame. The discussion was especially strong in Iceland, where the financial system collapsed. Various stakeholders wondered whether the limited independence of board members, weaknesses of control and monitoring mechanisms and a shallow talent pool following

The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 227–244 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181017

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the internationalisation of Icelandic firms were large contributing factors to the crisis. An additional issue of concern was the lack of diversity on boards, as the over-representation of male directors on Icelandic corporate boards prior to 2008 potentially had led to homogeneous decision making and reckless risk-taking. In the era that immediately followed the financial crisis, there was strong political and societal support for changes in legislation and governance. One representation of this shift in attitude was visible in the support of the parliament for a hard approach in the form of a gender quota law for corporate boards. Previous softer approaches, such as the government publicly urging companies to increase diversity and gender balance in the boardroom or private institutions regularly publishing official diversity statistics (Ministry of Industry and Commerce, 2005), were deemed ineffective or too slow to show effects. Iceland passed legislation number 13/2010 in 2010, taking full effect in September 2013. The Icelandic law stated that at least 40% of the board must be female and at least 40% must be male. This held for boards of directors in all state-owned enterprises (SOEs), publicly traded firms (PTFs) and private limited companies (PLCs) with 50 or more employees. No other country has legalised such extensive gender quota requirements for firms. The Icelandic financial institutions, which were in clear need of trustbuilding and image-strengthening in the wake of the financial crash (Guðlaugsson & Eysteinsson, 2011, 2012), were especially responsive to the implementation of gender quota. This is evident by the quick restructuring of most boards and management teams in 2010, often with a 50/50 split across genders (Landsbankinn, 2011). In addition to welcoming nonIcelandic board members to the board of financial institutions, which the state or creditors had taken over, these institutions filled the talent skill gap with a special emphasis on re-establishing damaged operations and installing control mechanisms. According to the prominent actors interviewed for this chapter, the financial firms consciously saw these actions as means to rebuild trust. That is, the firms hoped that the visible diversity achieved through female representation, the strengthening of their corporate governance and their strict adherence to new laws would send a clear signal to various stakeholders, especially the public, that change was taking place. The arrangement of this chapter is as follows. First, we provide background on the semi-structured interviews we conducted as one way of gathering data. Then we give a general background of diversity in Iceland, emphasising the lack of diversity on boards prior to the financial crisis. We describe some of the consequences of the financial crisis in 2008

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for boards in general. We follow this with an account of the shift in the practices and procedures in the financial sector, supported by an analysis of the changes in the published corporate governance code over the 10 years since the crisis, before we focus on the changes in gender quota legislation in Iceland. The reflections of five key actors in the Icelandic financial sector support our analysis. We close with a critical reflection on the re-building of trust and the construction of a more positive image of the Icelandic financial sector.

Interviews We interviewed five individuals who can be considered key actors in the Icelandic financial sector. Our participants were two women and three men, ranging in age from 45 to 79 years, with work experience of 25 to 50 years. Their backgrounds include service in the three largest banks in Iceland, a pension fund, and investment funds. Participant 1 is a member of a bank board of trustees; Participants 2, 3 and 5 are chairs of banks’ boards; Participant 4 is the CEO of a pension fund. Through semi-structured interviews, we asked our participants to reflect on three of the major themes from 2006 to 2016, as listed below. We looked at this 10-year period to try to capture both pre- and post-crisis emphasis in the boardroom. 1. Corporate governance. We asked participants, ‘Considering your enterprise, did you change anything in corporate governance over this 10-year time period? If so, what kind of changes have you noticed and what would be the time frame for them?’ The follow-up question asked regarding corporate governance: ‘The Icelandic Chamber of Commerce in cooperation with several others have published corporate governance guidelines over the years. How closely does your enterprise’s board follow the existing guidelines? Have new versions improved board practices and procedures, and if so in what way?’ 2. Changes in law and legislation. We inquired, ‘Which changes in Icelandic law and legislation do you primarily see as having affected practices and procedures around the boardroom table? In what way?’ 3. Corporate board gender quotas. Here we asked, ‘How would you describe the general attitude of your enterprise’s board when Law 13/2010, which enforced gender quotas for corporate boards, was first passed in the parliament? If positive, then primarily because of what reasons? If negative, then primarily because of what reasons? Did your

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firm connect the gender quota to the image of the firm in any way? Did your firm see gender quota as part of signalling, either internally or externally? If so, what was being signalled and to whom?’ Finally, we asked, ‘Do you notice any positive or negative consequences from the increased female participation on the board for your firm or its board today?’ Following is our analysis of active trust-building within the financial sector as formulated by documented data and as supported by the responses provided by the five participants.

Gender Diversity in Iceland and Within the Corporate Board By international standards, Iceland ranks high in terms of development, gender equality, equal opportunity and quality of life, as is evident by various international indexes. For eight consecutive years, Iceland has had the highest global index ranking, out of 144 nations, in the Global Gender Gap Index released by the World Economic Forum (2017), putting the country at the top of the Nordic forerunners on gender equality in the world. According to that index, Iceland consistently scores highly across most of the four thematic dimensions: political empowerment (ranked 1st), economic participation and opportunity (14th), education attainment (57th) and health and survival (114th). Iceland is further rated at the top of the United Nations Human Development Index (United Nations Development Programme, 2015) that takes into account variables such as health and life expectancy, security, economic status, education and gender equality. Finally, according to the Economist Intelligence Unit’s (2011) democracy index, Iceland has the second highest quality of life in the world, and the country has one of the lowest rates of income inequality in the world. The imbalance between gender equality in Iceland and the lack of female representation at the board and managerial levels drew increased attention in early 2000. In 2003, numbers such as 5% female participation on corporate boards of listed companies stood in stark contrast to female representation in other spaces of Icelandic life (Morgunblaðið, 2003, 2004, 2005). The Ministry of Industry and Commerce and members of the parliament began discussing the gender issue while the media followed closely and reported on the gender diversity numbers. The issue gained further momentum, mostly led by women’s activist movements such as the Icelandic Association of Women Entrepreneurs, who raised awareness through, among other things, lectures, seminars and

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media discussion (Jónsdóttir, 2008). The Ministry of Industry and Commerce established a committee in 2005 to promote the likely benefits of increased diversity by increasing the gender balance at Icelandic businesses. The committee concluded that Iceland was actually ranked the lowest compared to other Nordic countries when it came to female representation in corporate boards. Despite this, the committee declined to promote a gender quota. Instead, it suggested various soft measures – such as encouraging open discussion on the issue, regularly publishing statistics on the status of women on boards and in senior management positions, and encouraging males in high-level positions to engage in supporting female board participation. The committee suggested this support could come from extending the enterprise’s network for selecting board members and by training women to become effective board members (Ministry of Industry and Commerce, 2005). In the years to follow many of these measures were implemented and reported on, but results were disappointing (Arnardóttir & Sigurjónsson, 2017; Centre for Labour Law and Equal Rights (Rannsóknarsetur vinnuréttar og jafnréttismála), 2006, 2007). In 2008, it was becoming evident that these soft measures were too slow in achieving increased balanced gender representation around the boardroom table (Fig. 1).

The Consequences of the Financial Crisis in 2008 for Boards The challenges faced by Icelandic businesses following the financial crisis in 2008 were considerable, including a total collapse of the Icelandic currency followed by hyperinflation (Statistics Iceland, 2016).

Number of famales on boards

Development of female board representation 45 40

# of employees

50 to 99

100 to 249


35 30 25 20 15 10 5 0

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

Fig. 1:  Number of Women on Boards of Directors at Icelandic ­Enterprises, 2000–2016, By Size of Firm. Source: Statistics Iceland, (2016).

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Given these factors, the equity of most large corporations was obliterated. The financial sector was taken over either by the state or creditors. The required restructuring was not limited to balance sheets, as in many instances corporate boards had to be re-established. At the societal level, many considered trust in business to be broken (Bryant, Sigurjónsson, & Mixa, 2014). Despite initial resistance from some politicians, many policy makers and the business elite in general saw the need to initiate a process to re-establish trust. A strong demand for leaving behind closed-door, male-dominated boards emerged in this climate, leading to thoughts of a new era of ‘open governance’, requiring individuals to operate with transparency, public discussion, trust and improved decision making (Arnardóttir & Sigurjónsson, 2017; Bryant et al., 2014; Hreinsson, Benediktsdóttir, & Gunnarson, 2010). Various stakeholders demanded change, particularly from the financial sector. The need to re-establish trust and build a new and positive image was clear (Guðlaugsson & Eysteinsson, 2011, 2012).

The Shift in View: Practices and Procedures in Financial Sector Boards Although the financial crisis was a turning point, discussion about the scarcity of women on corporate boards had started earlier, as noted above (Jónsdóttir, 2008). It accelerated after 2008, reaching the point where the homogeneity not only at the board level but also at the managerial levels of both public and private firms was blamed for its share in how severe the crisis became (Hreinsson et al., 2010; Morgunblaðið, 2009a, 2009b). The Special Investigation Committee concluded that homogeneity not only at the board level but also at the managerial level of both public and private firms was partly to blame for severity of the crisis. The argument was that the homogeneity led to less discussion and debate prior to decisionmaking, fostering a stronger risk-taking culture, more so than if women had participated at the board level (Hreinsson et al., 2010). Our participants stated that a negative trend was established as early as in 2004. The tipping point was when a handful of Icelandic firms began to seek growth internationally, and Icelandic banks followed with the aim of financing their growth (Participants 1, 2 and 3). The banks, although taking part in an EEA agreement with Iceland allowing them to operate in Europe, did not have the support of a collective lender of last resort. When foreign creditors began questioning the sustainability of both firm and bank growth in 2005, a ‘mini-financial crisis’ hit (Bryant et al., 2014). This vast

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enterprise growth and its potential vulnerability were restricted to Iceland and, where international wholesale banks continued their support, foreign agents gained their trust. In 2008, the problem was not local anymore, but international, and a collapse was unavoidable. Fig. 2 shows this process, from the start of a period characterised by strong self-confidence but little sound corporate governance, to the present, which many of our interviewees described as ‘crisis-driven monitoring’, meaning a 180º swing to a potentially too restrictive governance mechanism that can prevent the healthy growth of Iceland’s financial institutions (Participants 1, 2, 3, 4 and 5).

Corporate Governance Codes Content analysis conducted between the various published versions of the Icelandic corporate governance codes supports the key assumptions voiced by our financial sector participants. From 2004, the Icelandic Chamber of Commerce, Business Iceland and the Icelandic Stock Exchange (NASDAQ Iceland) have cooperated in publishing the Icelandic Guidelines on Corporate Governance, often with wide support from various individuals, companies, organisations and the Financial Supervisory Authority (FSA). The code has been reviewed regularly since the publication of the first guidelines, with the most recent version coming out in June 2015. The Icelandic corporate governance code is a compilation of general guidelines for responsible governance. It looks at ‘setting forth recommendations over and above those laid down in the relevant legislation’ (Icelandic Chamber of Commerce, SA – Business Iceland, & NASDAQ Iceland, 2015, p. 8), with the aim of influencing and regulating firms in such areas as the process of annual general meetings; the role and responsibilities of the board chair, directors and CEO; and the function of various sub-committees. The guidelines specifically address public interest entities, that is, pension funds, financial institutions, insurance companies and companies with securities listed on a regulated market in accordance with Act No. 79/2008 on auditors and Act No. 80/2008 on annual accounts. These entities must follow recognised corporate governance guidelines according to article 19(2) of Act No. 161/2002 on financial undertakings and Article 6(3) of the Insurance Act No. 56/2010. However, the guidelines stress that the code can be of benefit for all companies regardless of their size and activities, and further stress that it would be desirable for SOEs to adhere to the guidelines in their operations.

Fig. 2:  Key Events and Attitudes Affecting Icelandic Corporations, 2006–2016. Source: Authors’ ­summary of participants’ comments.

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The Icelandic Guidelines on Corporate Governance are based on a ‘comply or explain’ principle, allowing company boards to define to what extent the enterprise will follow various guidelines. The guide further insists on boards’ responsibility to give detailed explanations for all deviations from the guidelines in the company’s yearly corporate governance statement. These explanations should focus on the deviations made, the arguments made for deviation, how decisions about deviation were made, the measures taken to offset deviations and the steps to be taken to meet the guidelines. Firms should publish their corporate governance statement and make it available on the firm’s website. The guidelines have been widely applied as a tool to re-establish trust. As Participant 3 stated, ‘At [my institution] we annually update our written procedures, both for the board and the management team, based on the published governance guidelines. It’s a part of following best governance practices and thereby regaining public trust’. Participant 3 continued by describing the role of the FSA in this: ‘The FSA meets both with the Chair of the Board and the CEO prior to the annual meeting and asks about the [institution’s] governance procedures. In the years following the crisis the FSA focused on risk management, but in the last two years much more focus has been on corporate governance.’ Participant 2 adds that the governance codes did not have a large effect prior to the crisis, but the need for guidance and healthier business practices was present post-crisis: ‘The business culture prior to the crisis was ‘I own this; I do this’. Formal governance guidance wasn’t attractive. But the drive for change became so strong after the crisis that public and non-public institutions didn’t need much effort pushing through legal changes or best practices. Today, the financial industry enjoys a more distinct and stricter legal environment, tighter control, more transparency – and its representatives, meaning board directors and managers, take firmer responsibility.’ Participant 1 stated that during the years prior to the crisis board directors distrusted themselves, because ‘...they had been picked by owners who could control them and who thereby leveraged their [the owners’] power

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through decision-making in the boardroom. Hence, often it wasn’t just a matter of a shallow talent pool in the selection process of recruiting board members, but simply owners picking those they could control.’

Development of Independence and Gender Diversity Corporate Governance Codes The development of the corporate governance guidelines between 2006 and 2016 clearly reflects increased awareness of the importance of good corporate governance and the impact governance has on firm performance and trust towards the firm. Comparing the content and depth of the guidelines across the five editions reveals the legal emphasis and the dominant discussions of the time of their publication. The importance of director independence, gender diversity and director selection practices involving a nomination committee first appeared in the third edition in 2009, which also included the need for critical board self-assessment and a code of ethics and corporate social responsibility. In the opening statement of the third edition, the need for improved corporate governance in the wake of the financial crisis became quite apparent: The setbacks suffered over recent months have raised many questions concerning the infrastructure of Iceland’s business sector, its focus and responsibilities. There have been calls for a revised approach involving a new set of values. This demand is both reasonable and necessary. Distrust towards companies and the business sector bears witness to many things that might have been done differently, and it is evident that action must be taken to reclaim lost goodwill and to build credibility in the business sector. (Icelandic Chamber of Commerce, SA – Business Iceland, & NASDAQ Iceland, 2009, p. 7) Therefore, in the third edition, firms and organisations are for the first time, for example, urged to use nomination committees that among other things ‘address the gender ratios on the company’s board’ (p. 37). The code makes no further arguments for gender diversity per se, but stresses that ‘directors must be diverse and have a wide range of capabilities, experience and knowledge’ (p. 14). Later editions of the code, particularly the

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fourth and fifth editions, further remarked on the improved response and adherence to corporate governance codes by the Icelandic business world after 2008, for example through actively ‘seeking to diversify their boards, e.g. by advertising for new members’ (Icelandic Chamber of Commerce, SA – Business Iceland, & NASDAQ Iceland, 2012, p. 6) and a more detailed account of required knowledge, skills and abilities for potential directors (Icelandic Chamber of Commerce, SA – Business Iceland, & NASDAQ Iceland, 2015). To broaden the talent pool, most of the banks began to seek board members from abroad. Initially, they were instrumental in bringing in candidates with experience in damage control (Participant 1), re-establishing damaged operations and, as early as in 2009, improved governance (Participants 2 and 3). As Participant 2 put it: ‘There is a transformation taking place where the competence and independence of a board member become the crucial selection criteria. The only risk I saw as the chairperson is that diversity wasn’t actually there. The selection process was especially risk-averse, meaning we didn’t go for any outliers in sense of different experience or education. That’s actually something we should take a good look into and potentially change. We need diversity within the boardroom.’

Changes in Legislation There also were extensive changes in legislation between 2006 and 2016 that have shaped the landscape of the Icelandic financial sector. While we will not analyse these in depth, our participants’ comments revealed the connections between these changes and efforts to rebuild trust in the sector. Our correspondents talked about a strong shift towards adherence to international law, and much stronger internal and external monitoring. In the words of Participant 1: ‘Legislation changes were both European and Icelandic in origin. Icelandic changes in 2010 aimed for making peace with the Icelandic society. All stakeholders should be taken into account in decision making within the [enterprise]. Social responsibility had become apparent, but at the same time made the decision-making process of the board more complicated. We have already one serious case where social factors most likely weighed too much against business ones.’

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Participant 2 described how Iceland has acted on legislation changes, compared with many European countries: ‘Icelanders have gone further in legislation changes than most, partly because there has been a strong will to follow new or altered laws coming from Brussels. But then there is a lack of Icelandic specialists with sufficient resources to monitor and understand the ideas behind legislation changes in Europe, resulting in no local adaptation of any sort. Many other European countries employ dozens of specialists not only monitoring legal changes but influencing them as well, at least when it comes to local implementation. This would be rare in Iceland.’ While our participants seemed certain that the various legislation changes were instrumental in improving governance, most of them questioned whether the pendulum has actually swung from one extreme to the other. Participant 3 summed up this attitude: ‘We have experienced crisis-driven control since 2009, which I fear has been taken to the extreme. The role of the board is to decide on strategy and monitor. Today 99% of the board’s work goes into monitoring. Strategy isn’t discussed, at most only minimally. New board members are consumed by not making mistakes. They don’t consider the business aspect of running the [enterprise].’ Participant 5 adds: ‘There is an incredible trend towards an increase of requirements in regulation and law from the supervisory authority. In most cases, this is indeed demanding on the bank, but of course it is often necessary and [may have a] positive impact on the financial industry.’ The FSA is, of course, a variable in the equation in discussions of legislation changes with the bank directors and managers. They all claim that the institution was of vital importance in both introducing new rules by which the financial firms played and in changing practice or the business culture for the better. Perhaps, paradoxically, this role taken by the FSA may contribute to the feeling that attitudes have swung too far to the

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other extreme. ‘The monetary role is so strong that I wonder whether the FSA is equipped with employees who can actually look at the strategic or business risks that may lay ahead? How does fin-tech risk come into play here?’ (Participant 2). But just as with the balance between monitoring and strategy, interviewees wonder whether the FSA test has become an obstruction to attracting a diverse pool of candidates for board seats. ‘The test is exceptionally demanding and it threatens the broad diversity we would like to see in our board’ (Participant 1).

Gender Quotas – Law 13/2010 and Its Perceived Effects During the interviews, special attention was given to the possible effects of the gender quota legislation on board practices and as tool for building trust. After the right-wing government that was in power at the time of the financial crisis was defeated by the first true left-wing government since Iceland’s full independence in 1944, the gender quota law was passed in 2010 and implemented on 1 September 2013 (Ministry of Welfare, 2013). Iceland then became the third country in the world to introduce a law regarding gender quotas on corporate boards. Corporations were given the three-year transition period to prepare for the law and decide on how to react if needed (Terjesen & Sealy, 2016). The legislation had stronger implications than, for example, the Norwegian role-model by stating that at least 40% of each gender must be represented on corporate boards of directors in all SOEs, PTFs and PLCs with 50 or more employees. No other country has put in place such extensive requirements for firms. The stated aim of the law was to ‘work towards a more equal ratio of women and men in influential positions in public, limited and PLCs by increasing transparency and facilitating access to information’ (Althingi, 2010). Additional arguments were made in favour of the legislated change, for example, its effect on reducing the inherent risk of board homogeneity in decision making (Ministry of Industry and Innovation, 2013). The content of the proposed law did not go through the parliament without considerable discussion (Arnardóttir & Sigurjónsson, 2017). Members of the parliament did not agree on how firm the law needed to be in order to close the gender gap and have the intended effect on board practices. The experience in Norway was considered, where a minimum 40/60 gender balance had been agreed upon (that is, the board’s composition had to show at least 40% of each gender). In addition, in Norway, only SOEs and PTFs had to apply the legislation, not PLCs. Many thought that this created an escape route for those not wanting to apply

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the law. The post-crisis atmosphere in Iceland, as well as within the parliament in general, led to the decision that all PLCs were to apply the law, as well as corporations with 50 or more employees. There is no evidence that Icelandic corporations tried to avoid the legislation, for example, by breaking up their corporate structure or by establishing subsidiaries. Hence, the mandatory gender quota was viewed as a strong governance mechanism that could increase diversity within corporate boards, improve decision making and especially restore trust in the corporate world. ‘We at the board in cooperation with the CEO decided on complying with the gender quota law at its introduction in 2010 and increased females’ representation both at the board and managerial levels. We wanted to send out a strong signal that the [enterprise’s] decisions go hand in hand with public opinion.’ (Participant 2) Nonetheless, more Icelandic board representatives were in favour of the gender quota than international representatives were: ‘The foreign board members were not as positive [about] or believed in the gender quota [as much] as the Icelandic ones. And they were especially doubtful that this act was an honest one towards private enterprises, where shareowners and no one else should influence the selection process. But experience showed that this was a positive change. We wanted to send a positive message and we noticed an improvement of the [enterprise’s] image. But gender is only one diversity ­variable and that is something we should ­consider.’ ­(Participant 3) Participant 3 explained further, ‘The international part of the board was not that into the idea behind the gender quota. The Icelandic part on the other hand believed in the idea, and we recognised the importance of the image part of it all’. The ‘image part’ referred to was the other side of regaining trust in the financial sector: ‘We needed to comply with the law in order to regain trust, of course. In that sense, there was no question [about] following the new gender quota law’ (Participant 3). A positive spill-over effect towards improved corporate culture is to be found among the participants, although the role of the CEO comes across as very important:

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‘Just a few years back we had male-dominated boards with a male type of a culture, meaning for example much more entertainment of the board members together. But I must express my opinion on how much impact the CEO actually has. Our experience is that it is truly the CEO who sets the standard for the [enterprise’s] culture, for better or worse.’ (Participant 2) There are differences of opinion over just how much effect the gender quota law has had on culture and decision-making around the boardroom table. One participant remarked: ‘Broader views are put on the boardroom table following the quota, but apart from that, I notice no change’ (Participant 4). Another interviewee doubts that an effect is coming from gender per se: ‘The [enterprise’s] board enjoyed an influx of women and we gained greater diversity. I am not saying that the change I noticed is because of gender; it could just as well be for a different reason, such as age, education or something else’ (Participant 3). Yet another raises the concern that young males are already being undermined: ‘We are selecting females because of gender, or the gender quota. It is all fine and needed. But I do worry about the future, those males that the social system does not seem to acknowledge. I think we are very rapidly ­undermining males from an early age, as things have developed the last decade. We already have reached an imbalance in that sense.’ ­(Participant 2) This fits with worries about the difficulty of recruiting for the board: ‘It can be tough having to fulfill a gender quota but at the same time getting the right fit in order to recruit the best candidate’ (Participant 5). Given the thought that women would introduce more balance to risky decision making, it may surprise some observers that the experience of some of our interviewees is that women are more willing to take or support risky decisions than men are: ‘I experience female board members at the [enterprise] as being more risk takers than males when it comes to pushing for tough issues. The men act as stabilisers. This might come as a surprise, but my experience is that females are more ready to risk their board seats than males are.’ ­(Participant 1)

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This may mean that the selection process of new board members has to be reconsidered. The selection process has been somewhat under consideration, but, in general, the view is that some improvements can be made in it in many Icelandic companies (Arnardóttir & Sigurjónsson, 2017; Arnardóttir, Sigurjónsson, & Terjesen, 2015).

Final Words and Reflection It required a commitment to regain the public’s trust level for a hard measure on gender equality to pass into law. The shock effect from the 2008 financial crisis led finally to something more than what a decade of discussion and soft initiatives towards greater gender diversity at the board level had produced. Hence, despite being a country with a history of strong gender equality at the societal level, it took a crisis for equality to materialise at the corporate level. The urgency of finding new business practices that could prevent the future crises was what differentiated Iceland’s production of a gender quota law from many other countries’ debates over the same issues with no hard measures implemented. As stated in the parliamentary document, the gender quota law aimed to reach an equal balance between the genders in what was called ‘influential positions’ (Althingi, 2010). Now that a number of Icelandic institutions have complied with the law, it seems that the 40% gender goal has more or less been achieved. Those firms who are still struggling with compliance are mainly the smallest private organisations or those close to the 50 employee standard. This may support the argument made by some that the legislation is stretched to the limit (Statistics Iceland, 2016). The long-term consequences of gender quotas in Iceland remain to be seen. Although more research is needed, in the short term an influx of women onto boards is a fact, diversity among them seems to exist and there does not seem to be a strong tendency towards a few women sitting on many boards (Statistics Iceland, 2016). Another short-term result is that discussions within the business and political arenas on diversity other than gender have taken off. The role of the board and board effectiveness is openly discussed, with the selection process of new board members now a central issue. An increase in attention to these issues should lead to better firm performance (Arnardóttir et al., 2015).

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References Althingi. (2010). Frumvarp til laga um breytingu á lögum um hlutafélög og lögum um einkahlutafélög (eignarhald kynjahlutföll og starfandi stjórnarformenn) [Bill for a change of the law on public and private firms (ownership, gender ratio and employed directors)]. Parliamentary document No. 71/ 2009–2010. Arnardóttir, A. A., & Sigurjónsson, Th. O. (2017). Gender diversity on boards in Iceland: Pathway to gender quota law following a financial crisis. In C. Seierstad, P. Gabaldon, & H. Mensi-Klarbach (Eds.), The use of different quota regulations (Vol. 1, pp. 75–102), Gender diversity in the boardroom. Basingstoke, UK: Palgrave Macmillan. Arnardóttir, A. A., Sigurjónsson, Th. O., & Terjesen, S. (2015, August). Women on corporate boards in Iceland: Opening up governance through gender quota. In Women on boards: Reopening governance. Symposium conducted at the Academy of Management (AOM) annual meeting, Vancouver, Canada. Bryant, M., Sigurjónsson, O., & Mixa, M. W. (2014, April). Restoring trust in public institutions and the financial system: The case of Iceland, 2008 to 2012. Paper presented at the International Conference of Critical Accounting (ICCA), New York, NY. Centre for Labour Law and Equal Rights (Rannsóknarsetur vinnuréttar og jafnréttismála). (2006). Jafnréttiskennitalan [Equal rights index]. Bifröst, Iceland: Bifröst University. Retrieved from asp?sid_id=25261&tre_rod=010|&tId=1 Centre for Labour Law and Equal Rights (Rannsóknarsetur vinnuréttar og jafnréttismála). (2007). Jafnréttiskennitalan [Equal rights index]. Bifröst, Iceland: Bifröst University. Retrieved from asp?sid_id=25261&tre_rod=010|&tId=1 Economist Intelligence Unit. (2011). The democracy index 2011. Retrieved from dex2011 Guðlaugsson, T., & Eysteinsson, F. (2011). How the banking crisis in Iceland affected the image of its banking sector and individual banks. Journal of International Finance Studies, 11, 34–39. Guðlaugsson, T., & Eystesinsson, F., (2012). Bank’s image restoration following a banking crisis: Empirical evidence from Iceland. International Journal of Business Research, 12(5), 52–58. Hreinsson, P., Benediktsdóttir, S., & Gunnarsson, T. (2010). Aðdragandi og orsakir falls íslensku bankanna 2008 og tengdir atburðir [Background and causes of the Icelandic banks’ collapse in 2008 and related events]. Reykjavík, Iceland: Althingi. Retrieved from addragandi-og-orsakir-falls-islensku-bankanna-2008/ Iceland Chamber of Commerce, SA – Business Iceland, & NASDAQ Iceland. (2009). Icelandic guidelines on corporate governance (3rd ed.). Retrieved from

244    Audur Arna Arnardottir and Throstur Olaf Sigurjonsson Iceland Chamber of Commerce, SA – Business Iceland, & NASDAQ Iceland. (2012). Icelandic guidelines on corporate governance (4th ed.). Retrieved from Iceland Chamber of Commerce, SA – Business Iceland, & NASDAQ Iceland. (2015). Icelandic guidelines on corporate governance (5th ed.). Retrieved from Jónsdóttir, Th. (2008). Women on corporate boards of directors: The Icelandic perspective. In S. Vinnicombe, V. Singh, R. Burke, D. Bilimoria, & M. Huse (Eds.), Women on corporate boards of directors: International research and practice (pp. 222–232). Cheltenham, UK: Edward Elgar. Landsbankinn. (2011). Corporate social responsibility: Landsbankinn 2011. Retrieved from CSR/CSR-Landsbankinn-2011-EN.pdf Ministry of Industry and Commerce. (2005). Aukin tækifæri í forystu atvinnulífsins [Increased opportunities in leadership roles in industries]. Retrieved from Ministry of Welfare. (2013). Skýrsla félags-og húsnæðismálaráðherra um stöðu og Þróun jafnréttismála árið 2013 [Report from the minister of welfare and housing regarding the situation of and trend in equality issues]. Retrieved from http:// Morgunblaðið. (2003, 20 November). Ein kona fyrir hverja 17 karla [One woman for every 17 men]. Morgunblaðið. (2004, 29 April). Hlutfall kvenna í stjórnum lækkar um 2.3 prósent [Ratio of women on corporate boards decreases 2.3%]. Morgunblaðið. (2005, 9 February). Konur funda um fákvenni [Women meet about low numbers]. Morgunblaðið. (2009a, 20 March). Klárt að vitlausar ákvarðanir voru teknar [Clearly, wrong decisions were taken]. Retrieved from vidskipti/frettir/2009/03/20/klart_ad_vitlausar_akvardanir_voru_teknar/ Morgunblaðið. (2009b, 15 October). Vilja fleiri konur í framvarðasveit atvinnulífsins [More women wanted in the leading sector of the economy]. Retrieved from atvinnulifsins/ Statistics Iceland. (2016). Retrieved from Terjesen, S., & Sealy, R. (2016). Board gender quotas: Exploring ethical tensions from a multi-theoretical perspective. Business Ethics Quarterly, 26, 23–65. United Nations Development Programme. (2015). Human development report. Retrieved from World Economic Forum. (2017). The global gender gap report, 2017. Retrieved from

Chapter 13

Governance Mechanisms Post-Crisis Murray Bryant, Throstur Olaf Sigurjonsson and Már Wolfgang Mixa Abstract This chapter examines the formal governance mechanisms put in place by various authorities within Iceland after the crash. In contrast to one of our earlier papers (Bryant, Sigurjónsson, & Mixa, 2014), we find that, no matter how well the mechanisms work, formal mechanisms are insufficient to restore trust. To that end, we examine the trust literature from political science that suggests that trust is a lubricant of the social system that consequently causes individuals to open themselves up to vulnerability. When trust is broken in a society with a high-existing degree of trust, such as Iceland, the loss of trust is significant and leads even apparently minor incidents to be perceived as betrayals. We examine the various processes put in place by both the government and other institutions and show how they mostly worked in concert. Nonetheless, we find that the processes by themselves have been insufficient to restore society’s trust in the affected institutions. Keywords: Bank restructuring; banking; corporate governance; currency speculation; institutionalisation; vulnerability

Introduction This chapter builds on the work of Bryant et al. (2014) on restoring trust but connects more directly the situation in Iceland after the financial

The Return of Trust? Institutions and the Public after the Icelandic Financial Crisis, 245–262 Copyright © 2018 by Emerald Publishing Limited All rights of reproduction in any form reserved doi:10.1108/978-1-78743-347-220181018

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collapse to theoretical approaches. In our 2014 paper, we tended to take trust as a given. Here, we call on different research streams to highlight varying meanings of trust in institutions and government. In light of what has happened since the publication of our earlier study, we show that rebuilding trust is a work in progress; it may take many years for Icelanders and other, particularly external, stakeholders to fully put the breach of trust the nation had experienced following the 2008 crash behind them and move forward. Levi and Stoker (2000, p. 476), in discussing political trust, characterise the concept as follows: ‘Trust is relational: It involves an individual making herself vulnerable to another individual, group or institution that has the capacity to do her harm or betray her. Trust is seldom unconditional: It is given to specific individuals or institutions over specific domains’. They go on to propose that the key role of government in enabling trust is ‘to protect citizens from each other by providing justice and property rights’. In partial contrast, Arrow (1974, p. 23) asserts that ‘Trust is an essential lubricant of a social system. It is extremely efficient; it saves a lot of trouble to have a reliance on other people’s word. Unfortunately, this is not a commodity that can be bought very easily’. Williamson (1993) argues that trust per se is an overworked term and should be avoided as much as possible. At the same time, he recognises that individuals act with self-interest, coupled with guile. As a consequence, organisations such as corporations, although charged with acting in the best interests of shareholders, may not always act in that manner. In a similar fashion, a government formed with the intention of acting in the best interests of the public and thereby balancing competing needs in a society, may not always appropriately balance all interests. This theme is repeated in Robinson, Dirks, and Ozcelik (2004, p. 332), who provide the following insight: ‘The experience of betrayal is that those with high prior trust will actually feel more betrayed than those with low prior trust when a promise is broken; thus, high prior trust does not mitigate but rather exacerbates the negative effects of betrayal’ (italics in the original). The relational and conditional nature of trust that can be intentionally or unintentionally betrayed suggests that we should focus on a handful of elements as we view the situation in Iceland. First, that stakeholders perceived ‘a genuine vulnerability and real sense of betrayal’ (Möllering, 2008, p. 8). The betrayal was evidenced in 2008 by major riots and a dramatic change in government. The prime minister of the day finished his address to the nation on the immediate announcement of the crisis

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with ‘God bless Iceland’1 – perhaps the sign of a leader who knows that he has failed to provide hope and remove fear when faced with a challenging situation. Second, that Icelanders had made themselves vulnerable by assuming that the rapid growth in the banking system of the country was good for each individual and the society as a whole.2 Political leaders actively worked with the senior managers of the banks, lauding the success of a few Icelandic entrepreneurs who had supported that growth, the new ‘business Vikings’, as proclaimed by the media. As the economy progressed, spending increased, bonuses were common and a real estate boom quickly took place. Third, that average Icelanders wrongly assumed that the government had put in place a robust system of controls to ensure the security of the financial system and deposits through the agencies of the Central Bank of Iceland (CBI) and the Financial Supervisory Authority (FSA). Such controls in fact were absent, leading to a universal sense of betrayal. Even the warning signs of the funding mini-crisis of 2006 were ignored or the actions taken in response to that upset had unforeseen consequences. For example, banks tried to secure deposits from abroad via Internet-based savings accounts, which led to a rapid flow of funds into Iceland largely from the Netherlands and the United Kingdom.3 This made the Icelandic króna (ISK) appreciate in value, that is, it strengthened. As a result, the average Icelander felt better off, which in turn added fuel to the consumer-spending spree. When the 2008 crisis hit Iceland, the rapid and devastating decline in the value of the króna meant that consumer spending habits, such as trips abroad and purchases of durable goods, were significantly curtailed – particularly since, apart from food


The speech was in Icelandic; the English translation is what the BBC provided at the time of the announcement. 2 The balance sheets of Iceland’s three major banks increased 20-fold from the end of the year 1999 until the end of the year 2007 (Benediktsdóttir, Eggertsson, & Thorarinsson, 2017). The Special Investigation Commission (see below) determined Iceland’s savings banks saw a five-fold increase. Statistics Iceland’s analysis of macro-economic data showed that the increase in gross domestic production during the same period was just over 2% (Central Bank of Iceland, 2007). 3 Among the actions taken during the mini-crisis, many of the ‘Viking’ entrepreneurs were forced to reduce their exposure, largely to European banks. At the same time, the Icelandic banks ‘doubled down’ by further extending credit, dramatically increasing their risk as well as their need for additional funding to support this significant growth in credit (Hreinsson et al., 2010).

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and energy, a large amount of family expenditures in Iceland were based on imported goods that were denominated in a foreign currency. Fourth, that the laws regarding bank ownership were enforced such that each bank had owners who had put their own money at risk as equity capital and the individuals who had been judged as unworthy due to past behaviour would be prevented from owning shares in the banks.4 In fact, it was later established that the owners had not put their own money at risk, but had borrowed from one another by using one of the other Icelandic banks – a sort of cabal of interbank borrowing. The concept behind requiring true equity capital – the owners’ own capital being at risk – is that owners would take appropriate risks and thus would protect other lenders in the event of bad loans materialising. Thus, owners having equity at risk implies that they will be prudent with their decisions, but if that capital is borrowed (as was the case), the risk profile will dramatically shift towards higher-risk decision-making. In addition, in many instances the owners were the largest borrowers from their own bank and in some cases placed their shares as collateral for their extensive loans. The result was that managers within the banks had a huge incentive to maintain bank share prices at high levels, even to the extent of market manipulation, in order to protect the collateral provided by the owners. Fifth, the banks operated in such a manner so as to avoid related party loans. However, related party loans were made through a complex web of holding companies, often with zero equity to support the loan. Thus, what should have been transparent to depositors and borrowers was made opaque, as shown by later evidence that the banks made transfers between themselves to hide that reality (Mixa, Bryant, & Sigurjónsson, 2016). Sixth, the regulatory authorities charged with preservation of the system would be adequately resourced such that they could perform their role appropriately. In any regulatory regime there exists a strong possibility of regulatory capture (Levine & Forrence, 1990). In the instance of Iceland, the regulatory capture was even stronger than that suggested by Levine and Forrence (1990) as there was a steady flow of individuals leaving the regulator and joining the banks. The FSA experienced a 40% turnover of staff prior to the crisis (Sigurjónsson & Mixa, 2011), implying that the average tenure within the FSA was less than 18 months.


In the case of one bank, a person found bankrupt earlier in his career was permitted to take a controlling equity stake. This was contrary to legislation.

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Seventh, the average Icelander experienced vulnerability through a significant loss of personal wealth due to decline in the value of state pensions heavily invested in the failed banks, and in the worth of money market funds.5 Also, as with many financial crises, the immediate effect was seen in a loss of real estate value. Since many Icelanders were heavily leveraged prior to 2008, this effect was significant. These are some of the elements that connect the theories of how trust is broken or betrayed to the practical situation in Iceland. The Special Investigation Commission (SIC), established as a result of the Emergency Act of 2008, amply demonstrated that the seven conditions described above involved not just malfeasance but in many instances wilful negligence. We recall the comment from Robinson et al. (2004) that the problem of breaking trust may be considerably greater in contexts where the vulnerable individuals had high expectations of trust in the first place. We argue that this prior expectation of trust was high in the case of Iceland. Iceland is a small country located in the North Atlantic that has had a stable democracy, low unemployment, a high standard of living, an infrastructure that prides itself on clean energy and a high concern for the environment, a system of government coalitions that is based upon a Nordic model of high social and economic consensus, a strong rule of law and low government debt. In addition, as the country was largely isolated for many centuries and immigration was relatively low until the country joined the European Economic Association, individuals, although high in self-independence, were strongly committed to the society, exhibiting a high degree of social consensus and homogeneity not just based on family background but on strongly held values. Before 2008, the only major public demonstration and display of social disharmony had occurred when the country decided to join NATO in 1949! Thus, Icelanders showed a high degree of support for institutions, notably the democratic system, in a stable manner. As a result, the systemic financial failure of 2008 was a classic example of Robinson et al.’s (2004) concerns about betrayal being viewed as much more substantive, given initial high expectations. The question then becomes, what mechanisms, both formal and informal, could be put in place to rebuild that trust?


In hindsight, it appears that the pension funds were over-investing in Iceland, suggesting that they too were not well diversified and were subject to momentum euphoria instead of more prudent risk-taking.

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Structural Remedies Advanced by the Government after October 2008 The Emergency Act of 2008 On 6 October 2008, the government passed emergency legislation to take over the three banks: Glitnir (on 29 September 2008, the government had taken 75% of ownership of this bank), Kaupthing and Landsbankinn. In many instances of bank failure, a government essentially underwrites the ‘bad’ bank, and a new ‘good’ bank is set up so that the government guarantees any losses of the ‘bad’ bank. This was not the case with respect to Iceland for two reasons. The government in its empowering emergency legislation specifically established that Icelandic depositors would have priority over unsecured creditors in any wind-up operations. Thus, Icelandic depositors were placed above other creditors, including bondholders, but more significantly also above foreign depositors who had lent extensively to Glitnir, Kaupthing and Landsbankinn (Supreme Court of Iceland, 2011). This action was later referred to the European Free Trade Court by the European Free Trade Association Surveillance Association. More importantly, though, the government appreciated that they did not have the funds or the ability to bail out even one troubled bank, let alone three. Benediktsdóttir, Eggertsson, and Thorarinnson (2017) assess that the combined liabilities of the three banks in June 2008 were €108 billion; in contrast, the national GDP was €13 billion.6 Foreign holders of debt were required to accept a debt moratorium and operate under resolution committees that were appointed to preserve the value of their assets under the express direction of the FSA. Thus, the government, through the FSA, acted to avoid ‘fire-sale’ prices and in so doing moved somewhat towards preserving the reputation of the country as a sound, if severely economically weakened, democratic state. This action can be interpreted as an act of building trust, not just among creditors but also among the family of nations. Benediktsdóttir et al. (2017) illustrate the financial authority’s action to separate the old banks and the new banks as shown in Fig. 1.


For comparison, the Troubled Asset Recovery Program in the United States cost $700 billion in an economy of $14.48 trillion, showing the scale of the problem in Iceland (Geithner, 2014; US Department of the Treasury, 2016).

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Fig. 1:  Separation of Assets and Liabilities from Old Banks to New Banks. Source: Benediktsdóttir et al. (2017). (Used with permission). As we discuss in more detail below, the old banks (Kaupthing, Glitnir and Landsbankinn) transferred to the new banks (Arion, Íslandsbanki and Landsbankinn, respectively) significantly discounted domestic assets – the loans granted by the three former banks. This discounting was also accompanied by Supreme Court decisions in 2009 and 2010 making foreign currency-based mortgages and automobile loans illegal. The banks now had to re-establish these loans as domestic loans. These actions granted individuals, corporations and even municipalities some breathing space in their debt obligations and enabled them to assess the debt as manageable. In addition, the government permitted individuals to access pension savings accounts to pay down the loans. Since domestic loans were not all discounted at the same time, there were cases where individuals did not pay interest on their loans for roughly two years. This unintended consequence helped maintain consumer spending

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power and, coupled with the capital controls put in place, to some extent mitigated the negative effects of the inflation that accompanied the aftermath of the crisis.7 While this had an effect on household cash flow, and may have given consumers some confidence about meeting their debt obligations, one should not lose sight of the fact that there was a significant overall loss of wealth, both tangible and intangible, as the public considered for good reason that they were worse off, with accompanying implications of a loss of trust. Domestic deposits were transferred to the new banks at a rate of 100%, so those households who kept their funds in savings accounts and deposits were protected. However, prior to the collapse, the banks encouraged customers to move their money from deposits to money market funds that became essentially worthless after October 2008. Thus, bankers, individually and collectively, were considered by many Icelanders to have betrayed their trust in terms of steering them towards bad investments.8 The banks were able to secure some bond ‘capital’ and equity that was effectively a state injection. Noteworthy though is that the banks and the financial authority had to assess de facto which corporate customers (borrowers) would survive and which would be allowed to fail even after discounting the loans. The criteria appeared to be that the bank would allow a firm to continue, even with significant discounting of the debt, if the firm had positive cash flows, notwithstanding that it could have zero equity. Thus, enterprise owners were working to repay loans over time and eventually build equity. There were, however, ripe rumours of such decisions being to some degree determined by who knew whom, but not confirmed officially. Fig. 1 also shows that foreign assets as well as domestic bad assets were transferred to the old banks along with foreign liabilities. This approach ensured several positive outcomes. First, households had their debt significantly restructured over a period of about 20 months, roughly from November 2008 to the Spring of 2010. Second, the banks were reconstituted as domestic banks that, largely due to the spread between borrowing rates and lending rates, quickly became reasonably profitable. Third, 7

Unlike US households, Icelanders did not lose their mortgaged properties and thus there was no move away from real estate. 8 In interviews conducted as part of a related case study, one of the authors heard consistently that after 2008 many bank employees were afraid to talk about their jobs even with family members, as the latter would blame them for losses incurred. See ‘Iceland’s Landsbanki Islands hf: Where to from here?’ (Ivey case 9B14C015).

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the writing down of bank assets meant that the new banks were not struggling with so-called ‘zombie loans’ and thus were able to focus on rebuilding solidity and hopefully restoring customer confidence. Fourth, an important corollary to the restructuring was the decision on 28 November 2008 to institute capital controls. This meant that monies from the sale of the old banks’ assets could not leave Iceland and exacerbate the decline in the Icelandic króna. In 2016, the capital controls were lifted, with non-residents who owned króna assets given a chance to ‘unwind’ their accounts by accepting a discount on the foreign exchange rate (Fitch Ratings & Reuters, 2016). The FSA was also restructured with new directors and senior management responsible to the Ministry of Finance.9 Thus, it seems clear that although the government, the FSA and the CBI were largely unprepared for the shock of October 2008, on balance their decisions after the crisis were a good example of ‘muddling through’ that seemed to avoid many of the problems seen in other bank failures such as those in Argentina, Greece and Thailand, where the effects were persistent. The Special Investigation Commission The SIC was established by the parliament in December 2008 by Act 142/2008. It was staffed by a Supreme Court judge, an economist and the parliamentary ombudsman with the mandate to Seek the truth behind the events leading to, and the causes of, the downfall of the Icelandic banks in October 2008, and related events, granting the commission exceptional investigative powers in order to appease the demonstrators and to meet the public’s demand for answers as to why their three largest banks, Glitnir, Landsbanki and Kaupthing, had collapsed. (Hreinsson, Benediktsdóttir, & Gunnarson, 2010, Vol. 1)


It is worth noting that Baldursson and Portes (2013) describe how, in the immediate aftermath of the October crisis, Baldursson was called to two separate meetings – one at the Ministry of Commercial Affairs and another at the Ministry of Finance – as both had shared responsibilities for bank oversight in parliament. The SIC also identified this lack of clear ministerial responsibility as problematic.

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The commission’s ‘exceptional powers’ were such that all laws on bank secrecy (who got loans and under what circumstances) were lifted in the public interest.10 In addition, the commission could demand access to all records and memoranda, and had the ability to subpoena witnesses who were not granted immunity when they testified. Prior to setting up the SIC, the parliament and the city of Reykjavík had experienced riots and social disturbance on a scale hitherto unknown in Iceland. It is perhaps unclear whether the parliament was acting to address loss of public trust or was trying to find a means to restore a civil society.11 Nevertheless, in the context of this chapter it is reasonable to propose that the effect of such transparency was driven by a need to rebuild trust. Noteworthy in this regard is that the commission reported to the parliament rather than to the government. In other words, the parliament wanted to ensure transparency of the process and outcome, a necessary administrative remedy towards a semblance of restoration of trust. The SIC also built a staff comprising economists, financial experts (both local and from abroad) and an ethicist. The latter choice indicated that the investigation was not just an economic analysis of what happened but also an inquiry into the characteristics of individual and group behaviour that perhaps led to the failures. The SIC described their assessment as mainly aimed at the activities of public bodies and those who might be responsible for mistakes or negligence within the meaning of those terms, as defined in the Act. Although the SIC was entrusted with investigating whether weaknesses in the operations of the banks and their policies had played a part in their collapse, the Commission was not expected to address possible criminal conduct of the directors of the banks in their operations. (Hreinsson et al., 2010, Vol. 1, p. 18)


The SIC also examined loans made to related parties as well as the significant transfers between the banks, including the so-called ‘love notes’. 11 In a developed society, dependent upon well-functioning markets, a well-organized and well-regulated financial system is essential for not just transaction efficiency, but also for a civil society–the ability of citizens to have confidence that the financial system will properly consummate financial transaction.

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This did leave open, however, the opportunity for other government agencies to pursue prosecution for criminal activities based on facts uncovered by the SIC. The SIC was speedy in accomplishing its task (November 2008–April 2010). The report, issued in Icelandic with some parts in English also, was transparent and the malfeasance that took place was open to public scrutiny. In the words of former US Supreme Court Justice Louis Brandeis, ‘Publicity is justly recommended as a remedy for social and industrial diseases. Sunlight is said to be the best of disinfectants; electric light the most efficient policeman’.12 The SIC was a key part in bringing into the public eye exactly what happened, the context within which it happened and – just as importantly – the means by which Iceland could avoid repeating the problems of the past.13 Referral to the European Court of Justice, Case E16/11 (European Free Trade Association Court, 2013) Under a European directive, each country of the European Union and European Economic Area was required to have a deposit guarantee scheme. This meant that depositors were to be treated equally up to a specified amount. Citizens and institutions of both the Netherlands and the United Kingdom were significant deposit holders in two of the Icelandic banks. The governments of both countries on behalf of their citizens and institutions pressed Iceland to reimburse the depositors. As the Icelandic economy was essentially bankrupt, the Icelandic government, partly due to their stated preference for Icelandic depositors to have precedence over other debt holders, took the case to the European Court of Justice. The case was decided in favour of Iceland due in large measure to the way in which domestic deposits were transferred to the new banks, the court saying that the non-discriminatory requirement under the directive did not hold because of the systemic failure of the Icelandic financial system. In coming to this conclusion, the court drew on the work of Stiglitz (1983) and others on moral hazard. By allowing 12

Judge Brandeis wrote this for Harper’s Weekly, 20 December 1913. Retrieved from p. 619, note 241 of 1431&context=articles 13 Other chapters in this volume cover the prosecutions to come out of the investigation. (Editors’ note)

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Icelandic depositors primacy, the court helped preserve some consumer wealth, which aided a quick recovery of the economy. In our view, this also would go some way in providing a means for rebuilding trust. As indicated earlier, the court system in Iceland also protected Icelanders (almost from themselves), thanks to a Supreme Court decision that made foreign currency-based mortgages and automobile loans illegal. In doing this, the court recognised that households in Iceland were essentially unhedged since they did not have foreign currency income. Thus, households were taking on potentially large risks in fluctuations in the value of the króna. The decision helped fight the lure of the considerably lower interest rates that foreign currency-based loans had. This set of decisions required the new banks to recast these loans as if they were domestic loans. Again, this preserved some wealth for Icelandic households – another means of restoring a measure of faith, even if it did not necessarily involve preservation of long-term household wealth. Cascading Effects of the Supreme Court Decisions These court decisions and subsequent banking actions had some interesting consequences. Those Icelanders who had taken on foreign currency risks were spared the concern that their loans would rise in value due to the depreciation of the króna. At the same time, most of these loans bore lower interest rates than those denominated in krónur – and continued to do so in many cases even after their recasting as domestic loans (Supreme Court of Iceland, 2012), although the effects varied considerably (Arion Banki, 2012; Vísbending, 2012). In the end, most borrowers of foreign currency-based loans wound up better off than those Icelanders who had taken less risky loans denominated in krónur – despite the (mostly unintentional) foreign currency ‘speculators’ having bet terribly wrong on the króna’s stability. In addition, many Icelanders who had taken on the most leverage and owed more money than the value of their houses could in many cases have substantial amounts of their loans written off, thanks to a government scheme established with financial institutions (Ministry of Welfare, 2011).14 One could thus argue that those that took on the most risks were in many cases rewarded or saved by government and court actions. These actions gave rise to a feeling that justice had not been evenly distributed among Icelanders (, 2012). While many currency risk-takers and 14

Warnings had been voiced against such unhedged loans, but they went largely unnoticed (see Mixa, 2007).

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those who had taken on significant amounts of leverage were in one way or another assisted, a large number of individuals were still indirectly reeling from the depreciation of the króna. Most Icelanders’ mortgages were tied to the consumer price index, which rose following the crash, as imported goods became more expensive because of the weakening of the króna. Thus, the principal owed on those loans rose commensurately. The Progressive Party took note of this sense of injustice expressed by many in the population. In its 2013 national campaign, it promised to rectify a portion of individuals’ indexed mortgages, stating it was an adjustment (leiðréttingin) of the loans due to their rise in value because of depreciation of the króna. The party won almost a quarter of the vote (Statistics Iceland, 2015), which was largely attributed to this promise. That was enough for the party’s leader to become prime minister – a post he held until he was forced to resign due to his association with the disclosures in the Panama Papers. Restructuring the Banks in Society From October 2008 to February 2010, the banks had to operate without a complete picture of their assets. All debt had to be examined individually and its market value assessed by the ability of the debt-holder to pay. The challenge for the individuals making these assessments was that the debtholders often were individuals and corporations having a personal as well as professional relationship with the assessors – a consequence of living in a small, close-knit society. Prudence and careful marshalling of all available evidence while rebuilding these personal relationships were thus vital. In essence, individual bankers, although following explicit guidance from bank policies, found that their decisions had real effects on individuals and corporations that they knew personally. Such decisions were not always going to come out right. Not only did bank procedures vary but minor differences in loan agreements also could lead to different legal outcomes, and of course, even within any given bank, assessments had a subjective element. This was at its heart an emotional as well as a practical problem. In the absence of defined concepts of fairness, transparency, equity and consistency across similar fact patterns, the process could be subject not just to court review but more importantly to reopening wounds that were still quite fresh. It should be no surprise then that most of this asset revaluation took considerable time. Some commentators state that it is still somewhat a work in progress, whereas others presume that it was completed by 2011.

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In 2010, all the banks were restructured with new management and boards of directors put in place. In 2012, the government mandated gender equity in both boards and management.15 The selection of new executives as well as some new bank names was a message to the people of Iceland that things were indeed new now. The task of the new management was to work with customers and communities to consciously build trust. For example, one bank held regular meetings with communities around Iceland, all management being present to listen to the concerns of individuals – many of whom wished merely to vent. But this brought the bank to state publicly its commitments towards its employees, its customers and its stakeholders – with timelines. Although in some instances customers met these moves with heavy scepticism, the bank’s leaders felt that meeting their public commitments would go a long way towards restoring trust. Restructuring the FSA With a new board of directors and new management in place, the FSA has operated very much in the public eye, establishing new policies and processes to ensure that the problems of the past are not repeated. Public scrutiny, of course, has its consequences. For example, the appointment of the chairman of the board became the focus of media attention, in large measure due to political differences between the board chair and the executive director of the FSA, rather than due to differences in policy. The public does not know the details of the agency’s operations. Therefore, there needs to be a degree of trust that the agency is seeing to the public’s protection. Institutions such as the FSA must find a way to show to the public that they have not been ‘captured’ by those they regulate. Thus, public scrutiny requires that the agency openly discuss and resolve internally divisive issues. When such internal issues become public through channels other than the agency’s own openness, citizens may be cautious about trusting the agency, as they may be concerned that the public’s interests are not the top priority of the agency.


See the chapter by Arnardottir and Sigurjonsson (2018) in Chapter 12 in this volume for further discussion of the gender quota law.

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Rebuilding Trust: Where to From Here?16 Economically, Iceland has been fortunate, as it has become a tourist destination of choice. The latest available data from the Government Tourist Authority (Ferðamálastofa) (Óladóttir, 2015) show that the number of foreign tourists has more than tripled to around one million since 2000. The average yearly growth rate is 9.3%. Figures for 2015 and 2016 also show a strong positive trend. In 2014, tourism was the largest provider of foreign exchange at 28%, significantly greater than the traditional exports of fish and aluminium. Spending by tourists is also rising, with 2014 tourism receipts at ISK 158.56 billion (about US$1.4 billion; €1.02 billion). The tourism boom is reflected in the expansion of flights to the island – with some 29 carriers serving Iceland, up from one carrier in 2000 – as well as increase in cruise-ship passengers. The tourism-driven renewed economy may seem to have overtaken the need for the government to rebuild trust through formal mechanisms. However, the economic rebound does not tell the complete story. Since 2007, Iceland has seen six governments. This comes to an average of a national election about every 18 months, something that has not been the norm in a country where general elections are usually held every four years. In addition, government coalitions appear to us to be somewhat unstable, as the need for these elections has been driven by a sense of crisis that a coalition partner uses to force a change in government. At least two of the crises have been based on behaviours attributed to the government’s leader: off-shore investments (widely perceived as a move to avoid local taxes) disclosed in the Panama Papers (2016) and an uproar over the request made by prime minister’s father to pardon a convicted sex offender (2017). There also have been two allegations of crony capitalism. One involved the sale of a bank’s credit card business to a political leader’s relative. The other concerned the arrival of hedge funds at one of the banks, restoration of a major lender’s debt and a quietly conducted sale of shares held by the bank’s senior managers. Each of these instances calls into question whether trust in institutions has truly been restored. It may be reflected in the inability of government leaders to keep a coalition together or in the public’s sense that, to quote 16

Political commentators are beginning to call attention to a lack of trust in public officials as a possible source for the rise in populist parties in North America and Europe. The examples we present here are meant to call attention to some of the Icelandic electorate’s upset, if not anger, at political leaders.

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the American baseball player Yogi Berra, it’s déjà vu all over again. In any case, we see the restoration of trust as a work in progress. These lastnamed occurrences remind us that restoring trust takes not only a combination of formal and informal processes but most importantly requires a conscious effort on the part of political and business leaders to act in a transparent, capable and ethical manner.

References Arion Banki. (2012, 20 July). Dómar Hæstaréttar er varða lögmæti erlendra lána [Judgements of the Icelandic supreme court regarding the legality of foreign loans]. Retrieved from frett/?newsid=ae366bf2-643f-4670-a664-7cd90070bfdb Arnadottir, A. A. and Sigurjonsson, T.O. (2018). Restoring Trust Through Improved Corporate Governance and Adherence to Gender Quotas. In Sigurjonsson, Schwarzkopf, and Bryant (eds.), The Return of Public Trust: Institutions and the Financial Crisis. Arrow, K. J. (1974). The limits of organization. New York, NY: W. W. Norton. Baldursson, F. M., & Portes, R. (2013, September). Gambling for resurrection in Iceland: The rise and fall of the banks. Unpublished manuscript. Benediktsdóttir, S., Eggertsson, G. B., & Thorarinnson, E. (2017, September). The rise, the fall and the resurrection of Iceland. BPEA Paper. Brookings Institution, Washington, DC. Bryant, M. J., Sigurjónsson, Th. O., & Mixa, M. (2014). Restoring trust in public institutions and the financial system. International Journal of Economics and Accounting, 5(1), 306–319. Central Bank of Iceland. (2007, September). The economy of Iceland, 2007. Reykjavík, Iceland: Central Bank of Iceland. Retrieved from https://www. (2012, 15 February). Hávær krafa um leiðréttingu verðtryggðra lána [A loud demand for adjusting indexed loans]. Retrieved from thordur-bjorn/2012/2/15/havaer-krafa-um-leidrettingu-verdtryggdra-lana/ European Free Trade Association Court. (2013, 9 May). Judgement of the Court of 28 January 2013 in Case E-16/11 – EFTA surveillance authority v. Iceland (Directive 94/19/EC on deposit-guarantee schemes – obligation of result – emanation of the state – discrimination). Retrieved from http://eur-lex.europa. eu/legal-content/EN/TXT/PDF/?uri=CELEX:E2011J0016&qid=151777705 0962&from=EN Fitch Ratings & Reuters. (2016, 30 August). Fitch: Iceland eases capital controls; FX reserves reduce risks. Retrieved from idUKFit971821

Governance Mechanisms    261 Geithner, T. F. (2014). Stress test: Reflections on financial crisis. New York, NY: Crown. Hreinsson, P., Benediktsdóttir, S., & Gunnarsson, T. (2010). Aðdragandi og orsakir falls íslensku bankanna 2008 og tengdir atburðir [Background and causes of the Icelandic banks’ collapse in 2008 and related events] (Vol.1). Reykjavík, Iceland: Althingi. Retrieved from addragandi-og-orsakir-falls-islensku-bankanna-2008/ Levi, M., & Stoker, L. (2000). Political trust and trustworthiness. Annual Review of Political Science, 3, 475–507. Levine, M. E., & Forrence, J. L. (1990). Regulatory capture, public interest and the public agenda: Toward a synthesis. Journal of Law, Economics and Organization, 6, 167–198. Ministry of Welfare. (2011, 28 June). 110% leiðin – úrræði fyrir yfirveðsett heimili [110% path – solutions for overleveraged households]. Retrieved from 110-leidin-urraedi-fyrir-yfirvedsett-heimili/ Mixa, M. (2007, 4 May). Varað við erlend lan forsiða. Retrieved from https://www. Mixa, M., Bryant, M., & Sigurjónsson, Th. (2016). The reverse effects of mark to market accounting and the saga of leveraged paper profits. International Journal of Critical Accounting, 5(5/6), 463–477. Möllering, G. (2008). Trusting in art: Calling for empirical trust research in highly creative contexts. Journal of Trust Research, 2(2), 203–210. Óladóttir, O. Th. (2015, April). Tourism in Iceland in figures. Reykjavík, Iceland: Ferðamálastofa. Retrieved from ferdamalastofa/Frettamyndir/2015/mai/tourism-in-iceland-in-figures_15.pdf Robinson, S. L., Dirks, K. T., & Ozcelik, H. (2004). Untangling the knot of trust and betrayal. In R. M. Kramer & K. S. Cook (Eds.), Trust and distrust in organizations: Dilemmas and approaches (pp. 327–349). New York, NY: Russell Sage Foundation. Sigurjónsson, T., & Mixa, M. (2011). Learning from the ‘worst behaved’: Iceland’s financial crisis and the Nordic comparison. Thunderbird International Business Review, 53(2), 209–224. Statistics Iceland. (2015, 24 February). Alþingiskosningar 27 Apríl 2013 [General elections to the Althingi, 27 April 2013]. Retrieved from media/43824/hag_150224.pdf Stiglitz, J. (1983). Risk, incentives and insurance: The pure theory of moral hazard. The Geneva Papers of Risk and Insurance, 8(26), 4–33. Supreme Court of Iceland. (2011, 15 December). Translation of request for an advisory opinion from the Supreme Court of Iceland, Aresbank S.A. v. Landsbankinn hf. & The Financial Supervisory Authority and Iceland (No. 169/2011). Retrieved from hof_van_justitie/nieuwe_hofzaken_inclusief_verwijzingsuitspraak/2011/ e-zaken-eva/e-17-11-aresbank.pdf%5B2%5D

262    Murray Bryant et al. Supreme Court of Iceland. (2012, 15 February). Sigurður Hreinn Sigurðsson & Maria Elvira Mendez Pinedo v. Frjálsa fjárfestingarbankanum hf (No. 600/2011). Retrieved from 347c3bb1-8926-11e5-80c6-005056bc6a40&id=619f360b-5846-40e9-98c476166e231f6a US Department of the Treasury. (2016). TARP programs. Retrieved from https:// aspx Vísbending. (2012, 13 February). Dómsdagur runninn upp [Judgement day has arrived]. Vísbending, 30(7), 1. Retrieved from jsp?pageId=6212876 Williamson, O. E. (1993). Opportunism and its critics. Managerial and Decision Economics, 14(2), 97–107.

About the Authors

Audur Arna Arnardottir, PhD, is a Clinical Psychologist and an Assistant Professor in the Business School of Reykjavík University. Her research centres around board member selection practices and dynamics, work– family balance and leadership development. She has published papers in the Journal of Business Ethics, Academy of Management Learning and Education and Economic Letters. She also directs the MBA programme of Reykjavík University. Vilhjálmur Árnason, PhD holds a BA in Philosophy and Comparative Literature from the University of Iceland, and an MA and a PhD in Philosophy from Purdue University, Indiana, USA. He is Professor of Philosophy and Chair of the Centre for Ethics at the University of Iceland. His work has been involved mainly in the areas of social philosophy and applied ethics. He chaired the Working Group on Ethics and Work Practices in the parliamentary investigation of the causes of the Icelandic financial collapse, and has since then led an interdisciplinary research project on Icelandic democratic practices. His current research focusses on the use of genetic information in research and health care. Friðrik Már Baldursson, PhD, is Professor of Economics at Reykjavík University. Friðrik has written extensively on Icelandic economic affairs and has published both locally and in international journals. He has contributed to Icelandic public policy making since the late 1990s, including his recruitment in 2008 by the Prime Minister’s Office to lead negotiations with the International Monetary Fund on behalf of Iceland. His most recent work includes examination of the Icelandic banking crisis of 2008, focussing on the capital controls imposed in Iceland during the crisis and their interaction with the resolution of the failed Icelandic banks. Murray Bryant, PhD, is a Professor Emeritus at the Ivey School of Business at  Western University, Ontario, Canada. He teaches at Reykjavík ­University, Rotterdam School of Management, and IPADE, Mexico, and has served on several not-for-profit and for-profit boards. His research has been in the field of board governance; the Canadian Securities Administrators relied on his work when changing listing requirements regarding

264    About the Authors

executive compensation in Canada. Murray has written over 80  cases published by Ivey Business School, four of which have focussed on the Icelandic financial system before and after the crash. Einar Már Guðmundsson is described by Forlagið Publishing as ‘a gifted novelist, short story writer and poet as well as a dedicated activist with a social vision. A storyteller with a lyrical, perceptive and humorous style, his work charts the growth of urban culture in the capital and the largerthan-life characters that it spawns’. Einar Már has received numerous awards and recognition for his work, amongst them the Nordic Council Literary Prize in 1995, the Norwegian Bjørnson Prize, the Scharnberg Memorial Award in Denmark, the Karen Blixen Medal of the Danish Academy and the Guiseppe Acerbi Literary Prize in Italy. In 2012, he was named winner of the Swedish Academy’s Nordic Prize, awarded to individuals in one of the Nordic countries who have made remarkable contributions to literature. Guðni Th. Jóhannesson, PhD, has been President of the Republic of Iceland since 2016. He studied at the University of London (PhD in History), the University of Iceland (MA in History), Oxford University (MSt in History) and Warwick University (BA). He has taught at the University of Iceland, Reykjavík University, Bifröst University and the University of London. He has also served as a reporter and is the author of a number of books and articles on history and politics. Guðrún Johnsen is an Assistant Professor of Finance at the University of Iceland. She is a PhD candidate at the Paris School of Economics and holds a dual Master’s degree in Applied Economics and Statistics from the University of Michigan, Ann Arbor, USA. From 2009 to 2010, Guðrún worked as a Senior Investigator on the Parliamentary Special Investigation Commission looking into the causes and events leading to the fall of the Icelandic banking sector in 2008. Guðrún Erla Jónsdóttir is a PhD candidate at the Reykjavík University and holds a MSc degree in Marketing and International Business Administration. Since her university days, she has worked in Iceland’s energy and utility business sector, currently holding the position of Strategy Officer at Reykjavík Energy Group and Chairman of the Board for Veitur Utilities. Prior to her position at Reykjavík Energy, she was the Managing Director for Húsavík Energy. She has served as a Director for Samorka, the Federation of Energy and Utility Companies in Iceland, since 2012, and has been Vice Chairman of that board since 2016.

About the Authors    265

Kristín Loftsdóttir, PhD, is a Professor of Anthropology at the University of Iceland. Her research focusses on nationalism, gender, racialisation and mobility, leading her to Belgium and Niger as well as within Iceland. Currently, she co-administers the Rannís Project of Excellence, Transnationalism and Mobility in Iceland, and is finalising ‘Icelandic Identity in Crisis’, a project funded by Rannís and the University of Iceland research fund. Kristín’s publications appear in international journals such as Ethnicities, Identities and Social Identities. In addition to her forthcoming co-edited volume, Messy Europe: Crisis, Race and Nation-State in a Postcolonial World (Berghahn, 2018), she has co-edited five books and published two monographs. Már Wolfgang Mixa, PhD, is an Assistant Professor at Reykjavík University’s School of Business. In addition to holding his doctorate from Reykjavík University, he has an MA in Corporate Finance from the University of Iceland, a BSBA in Finance and a BA in Philosophy from the University of Arizona. He has had extensive experience in the financial banking industry, including being a CEO of a Financial Services Firm. He worked for full time in 2013 and 2014 as a Senior Researcher for the Parliamentary Special Investigation Commission regarding the fall of the Icelandic savings banks. His main research interests are investments, behavioural economics and financial history. Andreas Oehler, PhD, is a Professor and Chair of Finance at Bamberg University, a position he has held since 1994. He received his doctorate at the University of Mannheim and his Habilitation degree at the University of Hagen. He has published widely, particularly in the areas of credit risk management, banking, behavioural and empirical finance and investor protection. His interests also include financial markets, pension systems, household finance and consumer protection. Since 2012, he has been Director of the Research Centre ‘Household Finance and Financial Literacy’. Among other positions, he is a Member of the German Council of Consumer Policy Experts. Richard Portes, CBE, PhD, is a Professor of Economics at London Business School and the Founder and Honorary President of the Centre for Economic Policy Research. He was Inaugural Holder of the Tommaso Padoa-Schioppa, Chair at the European University Institute and Cochair of the Board of Economic Policy, of which he was a co-founder. He is an Elected Fellow of the Econometric Society and the British Academy, a member of the general board of the European Systemic Risk Board,

266    About the Authors

Chair of the ESRB’s Advisory Scientific Committee and Co-chair of the ESRB’s Joint Expert Group on Shadow Banking. David L. Schwarzkopf, PhD, is an Associate Professor at Bentley University and a guest professor at Reykjavík University. His educational background includes degrees from Harvard University (AB and MPA) and the University of Connecticut (PhD). His research interests include the role of professionals in society, business ethics, economic development and public policy. His work has been published in Journal of Business Ethics, Business and Society Review, Journal of Behavioral Finance and Technology in Society. He has been the recipient of a National Science Foundation grant, among other funding awards. Sigurbjörg Sigurgeirsdóttir, PhD, is an Associate Professor of Public ­Policy and Governance at the Department of Political Science, University of Iceland. She has a PhD in Social Policy from the London School of Economics and Political Science (LSE), an MSc degree in Social Policy and Planning from LSE, a Diploma in Health Economics from the University of Iceland and a BA in Social Work from Oslo. She has served as Director of Services for the Elderly in Reykjavík and as a Policy Advisor to the Ministers for Foreign Affairs and Health in Iceland. She has worked for the World Bank in Hungary and Montenegro, EU Directorate-­General of Justice, OECD and the Icelandic Prime Minister’s Working Party on Central Government Reforms. Her research appears in a number of international journals, book chapters and research reports. Throstur Olaf Sigurjonsson, PhD, is an Associate Professor of Strategic Management at Reykjavík University and the Copenhagen Business School (CBS), Denmark. He holds a PhD from CBS, and his research interests include strategic management, strategic execution, corporate governance and corporate restructuring. He is also the Director of the Reykjavík University Centre of Corporate Governance as well as the university’s PhD programme. Jon Thor Sturluson, PhD, received his doctorate in Economics from Stockholm School of Economics. He has extensive experience in industrial economics, finance, regulation and financial stability through teaching, research and consulting. He was a researcher at the Institute of Economic Studies, University of Iceland, and an Associate Professor at Bifröst University and Reykjavík University. Jón Thór was a Member of the Supervisory Board of the Central Bank of Iceland and a Political Advisor to the Minister of Business Affairs. He was appointed as Deputy

About the Authors    267

Director of the Financial Supervisory Authority of Iceland in 2013. He also serves in the National Systemic Risk Committee and on the board of supervisors of the European Banking Authority. Stefan Wendt, PhD, is Assistant Professor of Finance at the School of Business of Reykjavík University. He received his doctoral degree and his Habilitation degree at Bamberg University. Before joining Reykjavík University, he served in the Department of Finance at Bamberg University. His fields of interest include financial markets and asset pricing, risk management, corporate finance and governance, small- and mediumsized enterprises, behavioural finance and financial intermediation. Gylfi Zoega, PhD, a Graduate of Columbia University, is Professor of Economics at the University of Iceland and Birkbeck College, University of London. He has served as an external member of the Monetary Policy Committee of the University of Iceland since 2009. Gylfi has published papers in the fields of labour economics and macroeconomics. In recent years he has written on monetary policy and financial crises, and has been active in the response to Iceland’s banking collapse and the ensuing economic crisis as a member of the Central Bank’s Monetary Policy Committee.

Index accountability, 49, 160–162, 165, 171, 174, 177, 214 and blame-avoidance, 156, 158 and trust, 160 forums, 155, 157, 161–162 mechanisms, 158, 160–161, 165 political, 189 processes, 161 crisis-induced, 153, 155, 158 account-givers, 157, 161–162 actors, 33, 37–40, 43–44, 46–49, 144, 154–155, 158, 182, 188, 228 central, 40, 43, 49 agreement, 6, 10–11, 88, 102, 112, 114, 119, 186–188 partnership, 138, 144–145 Althingi, 55, 58–62, 64, 132, 144, 174–175, 239 See also Iceland—Parliament, parliament analysts, 29–30, 33, 35–36, 39, 43, 47 anthropology, 87–88, 131 argument-network, 41, 43–44 arguments, 29, 31, 33, 36–41, 43–49, 157, 172, 174, 182, 187, 232, 235–236, 239, 242 affective, 40–41, 46 central, 40, 44 assessments, 138, 184–185, 188, 254, 257

bankers, 14, 16, 25, 29, 82–83, 89–91, 95–96, 99, 152, 163, 179–180, 186, 221, 223 banking crisis, 48, 112, 120, 122, 180 banking institutions, 55, 64–65 banking policy, 116 banking sector, 15, 65, 67, 74–75, 100, 103, 113, 123, 153, 164, 214 See also financial sector banking supervision, 17 banking system, 3–4, 6–9, 11–12, 14, 17, 31, 33–35, 64–67, 81, 90–91, 97–99, 101, 221, 223 banks, 4–7, 9–10, 14–19, 34–36, 38, 80–82, 91–100, 102–103, 116–118, 152, 174, 180–182, 184–188, 215–223, 229, 247–248, 250–253, 257 domestic, 5, 252 failed, 7, 10–11, 15, 115, 116, 120, 163, 249 major, 4, 34, 97–98, 178–179, 216–217, 220, 247 new, 114, 116–118, 122–123, 250–253, 255–256 Basel III, 215–217 basis points, 19–20, 24

270    Index

BCBS (Basel Committee on Bank Supervision), 215, 217, 219 Berkshire Hathaway, 94 betrayal, 87, 249 blame-avoidance, 155–156, 158 board (of directors), 10, 12, 14, 47, 48, 132, 133, 136, 138–139, 141, 144, 147, 171, 172, 214, 218–219, 228–231, 235, 236–237, 239–240, 241, 258 brokerage houses, 203 Business Iceland, 144, 233, 236–237 Business Viking, 87–88, 93, 247 capital, 4, 12, 31, 90, 137, 201–202, 214–217, 248, 252 capital controls, 7–8, 19–20, 24, 113, 115–116, 123, 153, 197–198, 252–253 imposition of, 16, 113–115 lifting of, 23 capital inflows, 5, 12–13, 25 capital requirements, 215–216 CBI (Central Bank of Iceland), 3, 6–7, 9–10, 14–15, 17, 18–19, 20, 22–24, 55, 64–67, 101–102, 112–115, 117–118, 121, 123, 247, 253 CDA (critical discourse analysis), 30–31, 48 CDS, 24 Central Bank of Iceland. See CBI centrality measures, 40, 43–44 citizens and institutions, 2, 255 claims, 10, 30–31, 44, 56, 80, 96, 102, 114, 117, 119–120, 184, 190, 206, 238

commercial banks, domestic, 4 community, ethical, 32, 47 companies, parent, 132, 142, 144 consumers, 196–198, 201, 204, 206–208, 222 corporate boards. See board (of directors) corporate governance, 34–35, 134, 137–139, 141, 144–145, 218, 229, 233, 235–237 corporate social responsibility, 200 corruption, 9, 15, 81–82, 93, 95, 99–103, 156, 159, 163, 182 credibility, 10, 22, 92, 134, 236 credit institutions, 137, 139–140, 146, 215, 217, 219, 222 creditors, 4, 25, 102, 119, 122, 141, 145, 163, 228, 232, 250 crisis-induced accountability, 154–155, 158 crisis-induced investigations, 54, 154, 158, 160 critical discourse analysis. See CDA crowd investing, 202 crowd investment process, 202, 205 crowdfunding, 171, 202 debt-based, 203 donation-based, 202–203 equity-based, 203 reward-based, 202–203 culpability, 155, 158, 161–162, 165 culpability dimensions, 155–156 cultural economics, 87–88 currency crisis, 3–4, 16, 112 See also economic crisis, financial crisis customers, 130, 142, 144, 200, 218, 221, 258 Danske Bank, 15, 33, 35–37, 92 data protection, 206, 208

Index    271

data protection and privacy, 197, 206–207 debt, 5, 8, 11–12, 20, 22–23, 35, 115, 121–123, 137, 187, 202–203, 250–252, 257 five-year government, 24 household, 7, 18 public, 23, 121–122 demographic groups, 56, 60, 68, 72 deposit insurance, 10–11, 114 digitalisation, 197, 199, 201, 207, 208 digitalised financial services, 199, 204, 206, 208 directors. See board (of directors) discourse, 29, 31–34, 36, 37, 47, 79 divisive, 188 legalistic, 178 nationalistic, 187 political, 188 populist, 187 distrust, xii, 54–55, 103, 130, 158, 162, 164–165, 185, 236 diversity, 39, 228, 231, 237, 239–242 and corporate governance codes, 236 domestic authorities, 6, 9, 17, 24

See also Iceland—economy education, 18, 55, 62, 66, 68, 70, 73, 80, 121, 156, 164, 230, 237, 241 elementary, 60–61, 65, 69 EEA. See European Economic Area elites, 80, 91–92, 96, 99 Emergency Legislation, 114, 116–119, 250 employee satisfaction, 142–143 enterprise, 131, 134, 142, 145, 147, 229, 235, 237–238, 240–241 entrepreneurs, 202, 205 equity, 94, 202–203, 215–216, 219, 232, 248, 252, 257 ethics, 80, 179, 188 Working Group on, 171 euro, 10, 15, 207 European Economic Area (EEA), 22, 90, 117, 119, 255 European Parliament, 187, 190, 215 eurozone, 5, 9–10, 12, 20, 24 exchange rate, 4, 7, 18–21, 113, 115–116, 123 Exista, 94–95

economic adventure, 88, 91, 93, 96, 103 economic crash, 87–89, 98–99, 131, 133 economic crisis, 30, 118, 131, 133–134, 146 See also currency crisis, financial crisis economic processes, 87–88 economics, 17–18, 31, 33, 35, 37, 39, 41, 43, 47, 49 economy, 4, 7–8, 12, 14, 16, 18, 20–21, 23, 25, 67, 247

financial advice, 196, 201–202 financial companies, 5, 92–95, 187 financial crisis, 4–5, 153, 161, 165– 167, 197–198, 231–232 See also currency crisis, economic crisis financial decision making, context of, 199 financial institutions, xiii, 22, 48, 66, 74, 78, 94–97, 100, 197–198, 219–220, 233 financial markets, 197, 200, 217, 221

272    Index

financial products, 206–208 financial sector, 55, 64, 67, 74, 92, 94, 175, 179–182, 184, 188, 229–230, 232, 237, 240 See also banking sector financial service providers, 196– 197, 201, 205 financial services, 201, 203, 214 digital, 207–208 establish trust in digitalised, 204, 208 traditional, 197, 201, 205, 208 Financial Supervisory Authority. See FSA financial system, 6–8, 34–35, 37, 131, 134, 178, 181, 197, 247, 254–255 Financial Times, 112 financing, external, 112, 203 FinTech, 196, 201 firms, 25, 116, 120, 123, 202, 207, 228, 235–236, 239, 242 bankrupt, 25 financial, 93, 228, 238 international, 90 non-financial, 197 private, 232 real estate, 34 regulating, 233 supervising insurance, 219 fiscal policies, 7, 12, 16, 23, 25 FME, 14, 55, 64–65, 67, 74, 101, 162, 197, 216, 218–220 See also FSA focussed public discourse, 31–32 foreign currencies, 6–7, 10, 15–16, 18, 100–101, 115, 248, 256 Foreign Exchange Act, 115–116 foreign governments, 6–7

foreign investors, 5, 18, 20 FSA (Financial Supervisory Authority), 55, 114, 178, 216, 220, 233, 235, 238–239, 247–248, 250, 253, 258 Gallup, 25, 55–56, 59–60, 67, 96, 158–159, 221 Gallup-Iceland, 55, 58, 61, 98, 101, 221 Gallup-Iceland surveys, 57–60, 64–65, 68–69, 71–72 GDP (gross domestic product), 4, 12–13, 20–23, 112, 116, 119–122, 181 gender, 55–56, 61–62, 66, 70, 73–74, 228, 239–242 balance, 228, 231, 239 diversity, 230, 236 equality, xiv, 230, 242 gap, 239 goal, 242 issue, 230 quota law, 228, 229, 230–231, 239, 240, 258 ratios, 236 rights, 171 Germany, 13, 203 Geysir Green Energy (GGE), 133 GGE (Geysir Green Energy), 133 Glitnir Bank. See banks globalisation, 88, 100–101, 103 gross domestic product. See GDP health care system, 69, 72–74 heterodox policies, 114 holding companies, 95, 102, 248 homogeneity, 232, 249 household cash flow, 252

Index    273

households, 22–23, 25, 100, 115–116, 123, 196, 252, 256 Iceland as an international financial hub, 90 authorities, 3–4, 112 businesses, 131, 182, 231, 242 Chamber of Commerce, 144, 233, 236–237 citizens, 163, 186 culture, xiii–xiv depositors, 250, 255 economy, xii, 5, 12, 35, 37, 90, 92, 94–96, 131, 134, 181, 184, 190 history, 164–165 nation, 87, 89, 91–92 See also national identity Parliament, 48, 99, 152, 159, 163, 165, 174, 186, 190 See also Althingi, parliament parties, 117–118 president, 175, 187–188 society, 78, 92, 100–101, 103, 162, 174, 176, 183–185, 237 state, 5, 118, 120, 186–187 state prosecutor, 152 See also special prosecutor taxpayers, 114 Icesave, 3, 7, 10, 25, 100, 103, 118, 119–120, 123, 174, 186, 188 IMF (International Monetary Fund), 3, 5–10, 15–17, 19–20, 94, 101, 118–121, 123, 153, IMF programme, 6–10, 16, 23, 116, 119–120, 123–124

IMF staff, 113, 119–120 inequality, 31, 80, 167 income, 230 increased, 159 information asymmetries, 157, 162, 196 institutionalised mistrust, 153, 155, 157, 159, 161, 163, 165 institutional investors, 3, 201 institutionalisation, 152 institutions, xiv, 72, 74, 114, 242 domestic, 9, 13, 16, 114 national, xii political, xiii, 55, 59, 61–62, 65, 89, 171 public, xii, 101, 161, 165 public trust in, 153–154, 158, 165, 197, 200, 206, 208, 214, 221 integrity, 142, 187 interest rates, 13, 16, 18–20, 25, 116, 218, 256 See also Central Bank interest rates international financial markets, 92 shocks, 116 International Monetary Fund. See IMF investigations, 113, 153, 177, 184, 189, 220–221, 254–255 See also Special Investigation Commission investment decisions, 203–204 investment opportunities, 198, 202, 205 investments, 5, 20, 94–96, 98, 133, 138, 140, 196, 198–202, 205 crowd, 202, 205, 207

274    Index

investors, 10, 16, 25, 34, 89, 91, 94–95, 97, 133, 144, 164, 180, 200–206 ISK (Icelandic króna), 134, 139, 218, 222, 247, 259 See also currency crisis judicial authorities, 154 judicial system, 67–70 Kaupthing Bank. See banks knowledge, 80, 102, 135, 157, 200, 204, 218, 236 expert, 196, 206 financial, 201 scientific-economic, 152 sufficient, 218 technical, 47 króna. See currency crisis, ISK Landsbankinn (Bank). See banks law-enforcement agencies, 67–70, 74 legalism, 178 technical, 174, 178–179, 189 loans, 6, 8–9, 17, 100–101, 117, 137, 139–140, 181, 248, 251–252, 254, 256–257 domestic, 117, 251, 256 management teams, 141, 143, 235 Manic Millennium, 89–90, 92–93, 95, 98–99 markets, 88, 90, 118, 121, 197–198, 254 media coverage, 29, 147, 160, 163 social, 163, 201, 205, 207 mistrust, 88–89, 103, 134, 156, 160–162, 165 monetary policy, 3, 8, 16–18, 22

Monetary Policy Committee, 17–20 municipalities, 131–133, 138, 251 NASDAQ Iceland, 144, 233, 236–237 national coast guard. See NCG national identity, 87–88 NCG (national coast guard), 67–70 neoliberalism, 79 network analysis, 29, 31, 33 network composition measures, 38–39 network stability, 29 network vulnerability, 46 networks, 29, 31, 33, 37, 39–41, 43–46, 49, 198 two-mode, 37, 40 NLCI (National Lutheran Church of Iceland), 71–72, 74 Nordic countries, 6–8, 10, 119, 159, 162, 231 OECD (Organisation for Economic Cooperation and Development), 15, 23, 94, 121–122 operations energy-related, 133 insurance, 94 sewage disposal utility, 132 telecommunication, 132 wind-up, 250 Organisation for Economic Cooperation and Development. See OECD organisational learning, 157, 167 organisations, 94, 182, 188, 233, 236, 246 non-governmental, 207

Index    275

ownership policy, 138, 141, 144–145, 147 parliament, 11–16, 55, 57–58, 61, 156, 158–159, 161–163, 174–175, 185, 228–230, 239–240, 253–254 members of, 15, 163–164, 175, 184, 187–188, 190 See also Althingi, Iceland—Parliament people-network, 41, 43–44 personal trust, 197, 200, 205 platforms crowd-investment, 202, 205 social-trading, 203–205 police force, 67–68, 70 political parties, 17, 82, 132, 136, 180 political support, 163 politics, 54–55, 79, 82, 101, 119, 135, 160, 174, 177, 180, 182–184, 188–190 municipal, 135 population, 11, 14, 56–57, 59, 67, 72, 87–88, 90–91, 132, 162, 165, 257 post-crisis period, 22, 59, 65, 68, 69, 72, 160–161, 164 power economic, 92 foreign, 187 investigative, 175, 253, 254 professional, 29 private limited companies, 228, 239–240 processes, selection, 205, 236–237, 240, 242 prudential requirements, 215, 217, 220

public accountability, 153–158, 160–162 public administration, 157, 160, 165 publicly traded firms, 228, 239 public trust, xiii, 59, 65, 99, 101, 103, 131, 145 153–154, 157–158, 235, 254 measurements, 154, 163 Qatar’s Sovereign Wealth Fund, 153, 167 quality, 49, 92, 132, 190, 196, 202, 205, 215, 216, 217, 221, 230 quota, 8, 241 See also gender—quota law recovery, xii, 8, 21–22, 71, 116, 119, 123, 153, 164, 214, 256 asset, 120 economic, 54, 117, 153 export-led, 25 social, 54, 152–153 regulatory reforms, 214, 219, 223 REI (Reykjavík Energy Invest), 133–134, 138 relations, 4, 7, 30, 90, 100, 119, 138, 174, 176, 180, 182 relationship, xiii, 5, 33, 93, 154, 156–158, 160–162, 199–200 representation, female, 171–172, 228, 230–231 Reykjavík City Council, 55, 58, 61, 132, 134–137 Reykjavík Energy, 131–132, 134–135, 137, 139–141, 143

276    Index

Reykjavík Energy Invest. See REI Reykjavík Fibre Network, 132, 143–144 robo-advice, 201, 204, 208 savings banks, 197 social connection model, 182, 185 social media platforms, 201, 207 See also media social trading, 196, 201, 203–205, 207–208 SOEs. See state-owned enterprises Special Investigation Commission, 11, 47–48, 99, 152, 247, 249, 253 special prosecutor, 152, 161, 184 stakeholders, 90, 133, 146, 232, 237, 246, 258 state-owned enterprises (SOEs), 228, 233, 239 Statistics Iceland, 23, 122, 231, 242, 257 Supreme Court of Iceland, 164, 250, 256 transparency, 30, 34, 41, 130, 142, 164, 239 trust absence of, 6, 54, 78–80, 87–88, 133, 159, 259

affective, 199–200 breakdown of, 98 calculative, 199 climate of, 157, 160–162, 165 declining, 159–160, 165 level of, 56, 72, 157, 162, 196, 221–222 measures of, 55, 56, 57, 65, 68, 72, 74, 214 patterns of, 154 political, 246 rebuilding, 172, 186, 214, 246, 256, 259 restoration of, 4, 54, 67, 141, 146, 154, 160, 165, 171, 240 return of, xiv, 3, 29, 87 role of, 197, 199, 208 sense of, 89, 96 unemployment, 4, 249 vulnerability, 100, 199, 233, 249 Working Group on Ethics (WGE), 174–178, 180, 183, 185–186, 188, 189 women, 60, 65–66, 68–70, 73–74, 80, 229, 231–232, 239, 241 See also gender