You may remember the 2010 documentary, Inside Job. It was about the 2008 financial crisis. It was a lot of fun. On the other hand, it gave the wrong idea about the crisis. It made it all about bad bankers. While that was true, if it hadn’t been for the bursting of the housing bubble, it wouldn’t have been that big a deal. But one thing highlighted in the film was very true: Iceland was pounded by the financial crisis — worse than almost any other country. So why is it that we don’t hear much about Iceland anymore? Well, because they weathered the storm far better than pretty much any other country.
Matt Yglesias wrote about how all this came to be, Iceland Put Bankers in Jail Rather Than Bailing Them Out — and It Worked. Iceland managed to make its crisis relatively mild regarding its workers and then improved very quickly. He provided the classic comparison between Iceland and Ireland. The latter country is held up throughout Europe as an exemplar — as though it were the well behaved child in the kindergarten. Iceland is now almost back to its normal pre-crisis unemployment. Ireland — which did everything the plutocrats said was “right” — still have an unemployment rate that is almost six percent points above its pre-crisis level.
So how did Iceland manage this? Well, to be honest, it didn’t really have much to do with jailing bankers. But let’s not cast that off. Jailing bankers really will help prevent another crisis. In Iceland. In the rest of the advanced world, bankers were coddled and so have every reason to do the same thing again. But that whole thing about not bailing out the banks? That was big. Dean Baker has dealt with this issue, The Myth that Sold the Financial Bailout. But the main this is that the power elite who run our government cared about saving the bankers — not the banking system.
One of the ways that Iceland dealt with the fallout from the banking collapse was to use good old Keynesian style demand side policy. The government racked up loads of debt to get through the crisis. While all over America and Europe, people were shouting about the clearly wrong Reinhart and Rogoff 90% debt cliff, Iceland was calmly pushing its debt to GDP ratio over 100%. And then, as its economy got better, its debt started coming down. This year, it is in the mid-80%.
Iceland also did something that I’ve been screaming about for years: it allowed its inflation rate to go up. This was especially important for them, and inflation went up to a very troubling almost 20% annualized rate one month, and in the mid-teens for about a year. But it is back to about what ours is: 2%. The difference is that we’ve been laser focused on inflation. It has never been even as high as 4% annualized rate for a month since the crisis. And most of the time, it’s been less than 2%. This, of course, has been great for the rich. It’s been a catastrophe for workers.
Iceland also imposed capital controls: restricting the movement of money from the country. In fact, that’s the big news: Iceland is in the process of lifting its capital controls, which ought to give the economy another boost. I don’t think that capital controls were much of an option in the United States. But the takeaway from all this is that there were lots of options for how we dealt with the bursting of the housing bubble. We chose to do those things that kept the rich rich and did as little as possible for working Americans. Democracy in America!