Historical background

Settled by Norwegian and Celtic (Scottish and Irish) immigrants during the late 9th and 10th centuries A.D., Iceland boasts the world's oldest functioning legislative assembly, the Althing, established in 930. Independent for over 300 years, Iceland was subsequently ruled by Norway and Denmark. Fallout from the Askja volcano of 1875 devastated the Icelandic economy and caused widespread famine. Over the next quarter century, 20% of the island's population emigrated, mostly to Canada and the US. Limited home rule from Denmark was granted in 1874 and complete independence attained in 1944. Literacy, longevity, and social cohesion are first-rate by world standards.

Economic overview

Iceland's Scandinavian-type social-market economy combines a capitalist structure and free-market principles with an extensive welfare system, including generous housing subsidies. Prior to the 2008 crisis, Iceland had achieved high growth, low unemployment, and a remarkably even distribution of income. Government economic priorities have included stabilizing the krona, reducing the current account deficit, containing inflation, restructuring the financial sector, and diversifying the economy. The economy depends heavily on the fishing industry, which provides 40% of export earnings, more than 12% of GDP, and employs 7% of the work force. It remains sensitive to declining fish stocks as well as to fluctuations in world prices for its main exports: fish and fish products, aluminum, and ferrosilicon. Iceland's economy has been diversifying into manufacturing and service industries in the last decade, with new developments in software production, biotechnology, and tourism. Abundant geothermal sources have attracted substantial foreign investment in the aluminum and hydropower sectors and boosted economic growth, although the financial crisis has put several investment projects on hold. Much of Iceland's economic growth in recent years came as the result of a boom in domestic demand following the rapid expansion of the country's financial sector. Domestic banks expanded aggressively in foreign markets, and consumers and businesses borrowed heavily in foreign-currency loans, following the privatization of the sector in the early 2000s. Worsening global financial conditions throughout 2008 resulted in a sharp depreciation of the krona vis-a-vis other major currencies. The foreign exposure of Icelandic banks, whose loans and other assets totaled more than 10 times the country's GDP, became unsustainable. Iceland's three largest banks collapsed in late 2008. The country negotiated over $10 billion in loans from the IMF and other countries to stabilize its currency and financial sector, and to guarantee foreign deposits in Icelandic banks. A protracted recession is expected in 2009 and 2010 with GDP likely to contract and unemployment likely to surpass 10%. The collapse of the financial system has led to a major shift in opinion in favor of joining the EU and adopting the euro. Previous opposition to this move stemmed from Icelanders' concern about losing control of their fishing resources. Iceland's coalition government collapsed in January 2009 following protests over growing joblessness and losses to personal savings.