Economists still question long-term future of Icelandic króna

An Icelandic economist says the Central Bank of Iceland’s intention to use investment as a way to reduce the risk associated with removing currency exchange restrictions is a good one; but that questions should still be asked about whether or not the Icelandic króna is a viable currency.

Ólafur Ísleifsson, economics associate professor from Reykjavík University, believes that the currency issue is the biggest hangover of the economic crisis which has yet to be dealt with.

The Central Bank of Iceland announced on Friday a new stage of capital account liberalisation, which involves an attempt to exploit offshore currency in domestic investment, following a currency auction. Ólafur Ísleifsson told RÚV that it will be difficult to remove capital controls if monetary policy does not change. “This is a sensible attempt, on the other hand, by the bank to attempt to lower the danger associated with the removal of the controls.”

The ‘risks’ talked about are that krónur held offshore, effectively worthless because of the exchange restrictions preventing foreign currency leaving Iceland, would flood back into Iceland at the first opportunity and that foreign currency would flood out in repayment. That would weaken the króna exchange rate, potentially very seriously. The Central Bank’s job is to encourage foreign investors to voluntarily keep their krónur by investing in Iceland; or at least to prevent them all selling the currency at the same time. Ólafur says the risk posed by offshore krónur must be eliminated fully before the Central Bank can investigate how close to a truly free-floating tradeable currency the króna can once again become.

“But such an assessment must be built on the foundation of assessing whether the króna is actually a viable currency which will be possible to throw into the raging sea of the international financial system,” Ólafur said — adding that he has his doubts; pointing to discussion among economists at a conference in Reykjavík last week.

“We don’t have good experience of the króna in that regard and in fact one could say that deciding on future currency and monetary policy is the biggest unresolved project in re-organising and reviving the economy,” Ólafur said to delegates at that same conference.

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