Iceland´s independence struggle from Denmark underwent three major phases: home rule in 1904; a fully sovereign state 1918 (but in royal union with Denmark); severing the royal union with Denmark in 1944 by establishing the Republic of Iceland.
Regaining legislative and executive powers from faraway Copenhagen to Reykjavík was a turning point. Independence turned out to be a pre-condition for economic success. Another lesson to be learned?
2. Economic Model
The economic model also had three major dimensions: first, the ease with which technological transfer was accomplished; the acquisition of skills that enabled us to build a major fishing fleet and to start doing for ourselves what foreigners had been doing in Icelandic waters for centuries — and doing it better. Second, access to foreign capital, mainly Danish/Scandinavian and third, free access to foreign markets for our fish products, in the British Isles, but also in Mediterranian Europe (Spain, Portugal, Italy and Greece) for salted fish (baccalau islandiae).
So, political independence, technological know-how, access to foreign capital, investments, and access to markets were the main factors in Iceland’s economic development , relatively easy to establish before the First World War, but extremely difficult during the Great Depression, when protectionism became the order of the day, closing the window of opportunity for developing countries like Iceland. For an export-oriented economy, the closing of markets was a near-fatal blow. Iceland was hard hit by the great depression.
3. World War II
When Iceland became a sovereign state in 1918, it was written into the constitution that Iceland would be eternally neutral. The Second World War taught us better. Denmark and Norway were occupied by Nazi-Germany. Hitler had plans to occupy Iceland as well, but the British managed to preempt them. When the Icelandic prime-minister was woken up during the night of occupation, he only asked one question: “Which ones are they – the British or the Germans?” When the police told him they were apparently British, he simply said: “OK, thank God, then I can go back to sleep.”
The British soon had other preoccupations though, and left it to the Americans to take over. This was done by bilateral agreement. Thus started a long-term Icelandic/American relationship in defence and security.
Iceland´s military significance turned out to be crucial during the battle of the Atlantic, against German submarine warfare. In the words of a later secretary general of NATO, Iceland was the substitude for an unsinkable air-carrier for the allies. Had the battle of the Atlantic not been won, the ‘arsenal of democracy’ – the US – would not have been able to supply the arms for the Red Army on the Eastern front, and the invasion of Normandy would hardly have been accomplished.
Thus our naive dreams about eternal neutrality were brutally shattered. Iceland became a founder member of NATO in 1948. In 1951 – during the Korean War – we signed a bilateral defence agreement with the Americans. Until 2006 American forces were stationed in Iceland as a naval- and an air base on behalf of NATO.
While Europe was tearing itself to pieces and European cities were being bombed into ruins, Icelanders made a lot of money trying to feed the British. Although not a belligerent, we lost more people at sea during the war – in proportion to our population – than many of the belligerents themselves. At the end of it all, while Europe lay in ruins, Iceland had become rich. The Second World War was a turning point in our economic developement.
4. The Cold War
The Cold War meant that Iceland continued to be in a pivotal position. Although we had not been combatants in the war, in a formal sense, the conflict had proven Iceland´s military significance in the North Atlantic. This explains why Iceland, which had benefitted economically from the war, was nontheless a recipient of the Marshall Plan for post-war reconstruction. This was highly significant in building up the infrastructure of the country.
5. The Cod wars
Icelanders live by the sea, just like our cousins in the Faroe Islands and in Norway, before the Norwegians became filthy rich from their oil and gas. In order to protect our marine resources from over-exploitation, we became partners in an informal alliance of coastal states which fought for control over marine resources within expanded and exclusive economic zones (EEZ). Until then, the three mile limit, imposed by British gunboat diplomacy, had been the more or less accepted rule. When we started expanding our EEZ in stages from 1954 until we adopted the 200 mile limit in 1975, we landed in conflict with her Majesty´s Royal Navy. Thus began the Cod Wars (1954-76).
Already in 1954 her Majesty´s government placed an embargo on Iceland, closing the British market for our exports, which was meant to teach us a lesson. But this was during the Cold War. The Soviet Union offered to buy all the fish that Iceland could supply. So, the British forced Iceland into a long lasting trade relationship with the Soviet Union. We fed them our fish and they provided us with oil and Moskvitches – sturdy cars that could be used in the wilderness on Iceland´s primitive roads.
In the autumn of 1958, the year I graduated from high school and started my studies at Edinburgh University, I had spent the summer as usual on a trawler in the North-Atlantic in the waters around Iceland, Greenland and New Foundland. That was when the Icelandic government expanded our exclusive zone from 4 to 12 miles. The British sent in the Royal Navy. They repeated that in 1972 and 1975, when we expanded our EEZ to 50 and ultimately to 200 miles. We countered with guerilla warfare on the high seas. Our small but maneuvrable gunboats cut the gear from behind British trawlers, which had to be herded together under military protection.
The Roayl Navy lost all three ‘Cod Wars’. We won. We won partly because we had a better cause (protecting marine resources); partly because we were NATO-members, and could put pressure on the US superpower to restrain the enfeebled empire; and partly because we played the Cold War adversaries against each others. The Cod Wars also had a biblical undertone: David vs Goliath…
6. Nordic Co-operation
The five Nordics – Finland, Sweden, Norway, Denmark and Iceland (with a combined population of ca. 25 million)– have a long-established, close and structured cooperation network. There is also a West-Nordic union – Greenland, Iceland and the Faroe Islands – involving the North of Norway. Nordic cooperation is pursued at many levels: governments, parliaments, regions and municipalities. There are also people to people contacts at the level of students, teachers, trade unions, professional associations, scientific research and in the arts etc. Visa-free travel has for long been a fixture of Nordic cooperation. This meant, that when three of the Nordics had joined the EU, the rest of us had to join Schengen, to maintain our open borders. So we have maintained free movement of people amongst us, at the cost of giving up external border control.
Our first experience with European integration was within the framework of Nordic cooperation. This was long before EU-membership became an option. But for a small country like ours – with minimal bureaucracy – it has been very valuable. For instance, it saves us a lot of hard work, because we can copy the laws of fellow Nordic countries. We call it – in the name of efficiency – standardisation. Nordic cooperation is now – in the Post-Cold War era – being gradually extended to the newly independent Baltic countries (5+3). They are rapidly catching up – and “we are stronger together”.
7. Iceland and the EU
Taking the next steps in European integration (EFTA and EEA) meant that Iceland had to implement radical, domestic reforms in the 1960s. As I mentioned we lost markets during the great depression because of protectionist policies everywhere. Our response was to build up a centralised, statist, protectionist economic system, which we maintained through the Second World War until the early 1960s.
It was almost a Soviet-type economy. The exchange-rate and currency transactions were state decreed; banks and investment funds were state run. Exports and imports were licenced and price controls widely applied. This was a system based on state sponsored favouritism – in essence, crony-capitalism á la Latin America. In order to fulfill the entrance requirements of a free-trade association like EFTA, we had to open up this semi-closed system. So, in the early 1960s, we initiated a series of reforms. We took significant steps towards an open market economy, at the initiative and under the leadership of my party, the Social Democrats. This often led to conflicts with entrenched special interests.
8. EFTA 1970
As a young economist – an Edinburgh-educated lad of not even 30 years – I found myself a member of the committee that was entrusted with negotiating our EFTA-entry and preparing the Icelandic public for it. It was controversial, since it was instrumental in abolishing the established protectionist system. It caused temporary transitional hardship for domestic industrial production which had been built up behind tariff walls since the great depression.
In 1972 EFTA concluded a free trade agreement with the European economic community. This agreement covered industrial products but only limited tariff reductions for a restricted number of fish products. A step in the right direction, but far from satisfactory.
9. The EEA
The next major step was the EEA-agreement (the European Economic Area). This comprehensive and dynamic (meaning continuously renovated) agreement was negotiated in 1989-93 but took effect 1994. The big question is: Why the EEA? Why dind´t we simply join the European Union at the time?
The main explanation is that the EEA-agreement is a product of the Cold-War era: Before the fall of the Berlin Wall, before the liberation of Eastern Europe and before the unificatio n of Germany, many of the EFTA-countries were neutral. (Finland,Sweden, Switzerland and Austria). For political reasons they could not join a supra-national organisation, like the European Union. The EEA was conceived as an urgent interim solution, dictated by the political situation, but driven by economics.
Take into account that the seven EFTA-countries were at that time more important as trading partners for the European Union than the United States and Japan put together. When small but strong countries gang up, they can make their weight be felt in the international arena. Sometimes the EEA is dubbed Jacques Delors’s baby. Delors was the architect and the driving force behind both the internal market and the monetary union. The European Union under his leadership was totally preoccupied by those two enormous projects. Nonetheless, for reasons of trade and economics, it was in the European Union´s interest to conduct a free-trade agreement with their major trading partners, the EFTA-countries. So, that´s what we did. The EFTA-countries (40+ millions) became partners in the internal market (300 millions). I sometimes designate us as being ¾ EU members.
All the EU-EEA countries operate under homogeneous rules and regulations, defining the four freedoms: free trade in goods, services, financial services and the free movement of people. Thus, the EEA-countries enjoy the privileges and benefits of the largest free-trade area in the world (until Brexit becomes effective some 500 million people), without being saddled by the less successful, common agricultural and fisheries policies or the ill-conceived and dysfunctional European Monitary Union (EMU).
10. A Fishy (Thorny) Issue
The declared policy of the EU – when it came to fish – was: no market access, without access to resources. This was totally unacceptable to a country like Iceland. Reciprocal access to markets, yes – but we had not fought three cod-wars with Britain , only to open up our marine resources to the Spanish armada and the rest. That´s why we said, right from the beginning, to our EFTA –partners: You have to accept the principle of free trade in fish – just as for industrial products – within EFTA and make it a common EFTA-negotiating position. Or else we can´t go along.
After much soul searching and at the last moment, this was accepted. Why? Because fish was such a marginal thing for most of the other countries that they wouldn´t let it thwart our solidarity. This generosity by our EFTA partners saved Iceland from being left alone in a hopeless negotiating position on our vital national interest. And, at the end of the day, it enabled us to turn the tables on the German dominated EU-negotiating machine. We got free market access for our fish (which also benefited the Norwegians and the Faroese), without giving away any access to our resources. We also got an exemption from the right of establishment (investment) in our fishing sector, which holds still today. This is yet another lesson from the Icelandic experience. Would this precedent suffice to enable Scotland to get a similar deal on her own?
11. Political Controversy
Iceland is a (relatively) newly independent country. Icelandic politics are to this day very much moulded by the narrative of our independence struggle against Denmark. Political parties try to outdo each other in jealously guarding our national sovereignty against all-comers. That explains why the EEA agreement was hugely controversial. The fishing lobby was against it (fearing the loss of their monopoly of fishing rights in the Icelandic EEZ). The agricultural lobby was against it. Romantic nationalists, left and right, were against it.
Scare-mongering was stringent: German industrialists would buy our salmon rivers. The Spanish (fishing) armada would start fishing up to our shores. Portugese immigrants would underbid our workers. At the last resort, our precious national language would be in danger of extinction. The conservatives (in opposition) were against it. The farmers´party and the reconstructed communist party – my partners in the government – ultimately turned against it. Even the feminists didn´t see in it any liberating salvation.
The Icelandic parliament (Althingi) – the oldest in the world – spent more time debating the EEA than all the other EFTA-parliaments combined. It took even more time in parliament than the adoption of Christianity a thousand years ago!
So, how could we get it through? It was a lonely fight for me personally and my Social Democratic party. If put to a referendum, polls indicated that it would be rejected. So, after parliamentary elections in 1991 – which were fought mainly on the EEA-issue – I proposed to the conservative opposition leader (Mr. Oddsson) to make him prime-minister, on condition his party changed tack and guaranteed a parliamentary majority for the EEA. He liked being PM, (but continued too long for his own good). So we rejected the proposal for a national referendum. In the end we scraped through in parliament. At long last it took effect Jan.1st, 1994.
When the EEA-agreement was finally signed, it happened in Oporto in Portugal, which had the presidency of the EU at that time. I was then president of the EFTA-ministerial council. The first one to sign was the Portugese prime-minister, (H)anibal Cavaco da Silva. Then I put my name to it: Hannibalsson. Then we stood up and shook hands and with a reference to our signatures I observed: “This proves that Hannibal’s influence has by now reached way beyond the Alps.”
12. The Economic Impact
In the period 1988-94, Iceland was suffering a serious economic recession. GDP-growth was negative year by year. The reasons were severely reduced catches and lower prices in foreign markets; deteriorating terms of trade. But the EEA-agreement changed all that. When it started having an effect, our economy took off into a long-lasting boom. Exports increased at a pace. Foreign direct investment reached record levels. We enjoyed a healthy rate of growth year by year. The economy became increasingly diversified, through growing sectors of clean and renewable energy, information technology, pharmaceuticals etc.
Most economists agree that the EEA-agreement was having a transformational effect, becoming a driving force of economic growth and general prosperity. Having been decried as endangering our national independence and accused of high treason for breaching the constitution – the EEA deal was now acclaimed as a masterpiece of negotiating skills. It was said to take care of our vital national interests, but to deftly avoid dangers of encroachment that came with full membership. Those who had fought against it tooth and nail now used it as proof that we need go no further with European integration. The EEA-agreement was said to be good enough. A good enough reason for EU-membership to be unnecessary.
13. What About National Sovereignty?
When the seven EFTA-countries began negotiating the EEA in 1989, we construed a parallel administrative structure for ‘decision-shaping and decision-making’. This meant that the EEA was a two pillar construction. Together the EFTA-countries would, formally at least, have equal influence in the decision-making progress. Also, there would have been a separate court to settle disputes.
But then the course of history caught up with us. The Berlin Wall came tumbling down; Eastern Europe was set free; the Soviet Union was no more. The Cold War was over. This meant that the neutrals among the EFTA-countries felt free to cross the bridge and join the EU as full members in 1995. Also, the perennially democratic eccentrics in Switzerland rejected the EEA in a national referendum. What was left to shoulder the EFTA-pillar was only Norway, Iceland and Lichtenstein – a little more than 5 million people, compared to 500 million on the other side.
This meant that the EFTA-pillar could no longer be maintained on equal terms. Hence, the three of us on the EFTA-side are in reality obliged to adopt the inner market legislation emanating from the comission, without the institutional capacity to influence the legislation during the preparatory stage. Formally our parliaments can reject EU-proposals. In reality we never do, because as a consequence we would have to opt out from that part or function of the inner market. So, de jure, we maintain our legislative sovereignty; de facto, we adopt the inner market legislation.
In legal terms this means that we have transfered an important chunk of our legislative, executive and judicial sovereignty to the EU, without having any means of influencing the outcome. Is this acceptable? Well, de facto the three EFTA-countries have accepted this situation for almost a quarter century.Earlier I told you the Icelandic administration found it very convenient to adopt or copy Nordic legislation. We call this process standardisation. We do this voluntarily and see nothing wrong with it.
To what extent has Scotland had to accept legislation from Westminster, without Scottish consent? To some, this voluntary transfer of sovereignty may be deemed unacceptable. To others – specially those in the orbit of small nations – this may be accepted as a practical necessity, a consequence of the irresistible force of globalisation which cannot be turned back.
14. The Crash
After almost a decade and a half of EEA-driven economic growth – Icelanders suddenly found themselves in the abyss of national bankruptcy: the Crash of 2008. Although made in the USA, the contagious fever of financial disease spread around the globalised system. Eight years after the plague struck Europe, it is still in the grip of a deep recession.
But why Iceland? There are those who say that since the EEA-agreement was given most of the credit for the boom, it should also accept the blame for the Crash. In other words: that it was all my fault. But our EFTA -partner, Norway, operates under the same rules and regulations of the inner market as Iceland does, yet there was no Crash there. So, we have to seek other explanations.
One of the best things we did in Iceland after the Crash, was to set up an investigative commission – under the leadership of three wise men – to spell out the causes and consequences of the Crash. This they duly did in nine volumes and thousands of pages. Their conclusions are supported by massive evidence. Two right of centre governments, pursued a policy of turning Iceland into an international financial centre. It was all done under the guidance of neo-liberal ideology: markets are infallible, but government intervention is malvolent.
They began by privatising the fishing quotas. Instead of auctioning them off to the highest bidder – letting market forces prevail – they handed them out for free, despite the law stipulating our marine resources to be the common property of the nation. This act of political favouritism created a plutocratic elite a la Rus. Then they privatised the banks, i.e. they handed them out to business groups, favoured by the ruling parties. Again á la Rus. In almost no time at all, domestic commercial banks were turned into leveraged hedgefunds, operating abroad, primarily in the city of London.
The danger signals started blinking already by 2006. In early 2008, Willem Buiter, a world-renowned expert on financial crisis, delivered a confidential report on the Icelandic banking system. In this report he sounded the alarm: The business model of the Icelandic banks was utterly unsustainable. The accumulated foreign denominated debt – more than ten times Iceland’s GDP – was way beyond the capacity of the Icelandic government, the Central Bank or even the tax-payer base to sustain. It was not a question of if – only when – it would burst. Then Mr Buiter proceeded to propose drastic emergency action for damage control. The official response was to lock up the report and do nothing.
After the Crash Iceland set a good example for others by setting up a special procecutor´s office to investigate financial crimes and bring those found guilty to justice. Many of the most prominent business leaders have been found guilty of various financial crimes, such as market manipulation, insider trading and a variety of fraudulent behaviour. This seems to confirm William Black’s dictum: “The best way to rob a bank is to own a bank.” The government, ministries, the Central Bank were all found wanting – not to speak of the media, mostly owned by the oligarchs. Later, when the names of two party leaders, three government ministers and up to six hundred prominent business persons were found in the Panama-papers, enlisting those trying to hide their wealth and financial income from the tax-authorities – Icelanders were not surprised.
15. Inside or Outside the EU/EMU?
I suppose the main question of interest to others, concerning this dismal drama, is the following: Of those countries, hardest hit by the international financial crisis, which ones have done better, those inside the EU/EMU – or those outside? Iceland or Ireland? Iceland or Greece/Cyprus? In answering those questions we would do well by concentrating on the following: In which countries was unsustainable debt written off, which is the normal thing to do in bankruptcy courts? In which countries were tax-payers forced to bail out the banks to pay the debts of the oligarchs? And which countries could resort to the essential adjustment mechanism – when hard hit by external or domestic shocks – to regain competitiveness by growth-stimulating policies?
I am talking about the basic tools of nation-states for shock-absorption: The fiscal tools of adjusting the tax burden and public expenditures, e.g. by stimulus financing in a recession. And the monetary tools of adjusting the exchange rate and the rate of interest, to restore economic growth.
The facts speak for themselves: The countries hardest hit by the financial crisis inside the EU/EMU are still in the grip of a long-lasting recession. Few, if any, have regained lost GDP, counted in billions of euros and millions of lost jobs. Iceland has recovered much faster. There are four main reasons: Devaluation has restored competitiveness and stimulated an export boom; there was no bail-out of the fallen banks; there was massive write-off of unsustainable debt; and external conditions turned out to be favourable. Loss of GDP through negative growth was therefore minimal and normal economic growth has been restored.
Since this book is about Scotland, I cannot resist mentioning the part played in this drama by a man named Gordon Brown, Scotland’s prodigal son, I believe. When he, in his infinite wisdom, decided to include the Icelandic banks (which were mainly operating in the City), and the Central Bank – as well as the government of Iceland – on a list of terrorist organisations, alongside Al-Qaeda, he actually did us a favour – unknowingly, I presume. After that nobody in the whole of the universe would dare lend Iceland a penny. Even the IMF could no longer reasonably propose a bail-out of the banks. The whole of eternity would not have been sufficient for Iceland’s two hundred thousand taxpayers to repay the banksters’ debts.
So thanks in part to Gordon Brown there was no banking bail-out in Iceland. In spite of what I have said about Iceland’s relatively speedy recovery, I do not want to leave you with the impression that all is well and dandy in my country; that the Crash has not left behind a legacy of economic pain and social disruption. It has. Two of our main banks are now owned by American hedgefunds – a lethal cocktail, indeed. The explosion of debt through inflation has dispossessed many households. Many of the best and the brightest have emigrated to Norway or Canada. And the oligarchs, who escaped the Crash scotfree, by hiding their wealth offshore and in wealth-management funds in the City of London or Luxemburg, have been buying up companies and real estate at firesale prices. Iceland is now a polarised society with a super-rich elite, a squeezed middle-class and increased poverty, where trust in our institutions has rapidly evaporated.
16. Are there any Lessons?
If there are any lessons worth noticing by others, perhaps they are the following:
- Independence. National control of legislative, executive and judical powers is essential as a driving force for economic progress.
- In an era of globalisation, nation states – especially small nations – must strike the right balance between national control and the transfer of sovereignty to international associations, in limited and clearly defined sectors.
- The transfer of sovereignty, in the name of homogeneity of the inner market of the EU, has not turned out to be problematic for the EFTA-countries. It is an example of successful adjustment to the forces of globalisation.
- The EMU is a failure. It has deprived the weaker (deficit)member-states of the essential tools for adjusting to external shocks. Instead they are locked in a straight-jacket of austerity, which is the wrong recipe for dealing with recession. This lack of visionary leadership has left behind economic stagnation, social misery and deep political resentment.It is even endangering the cohesion of the European Union itself.
- If Scotland, after Brexit, wants to maintain the benefits of access to the inner market of the EU, without being burdened by the EMU or the ravages of the Common Fisheries Policy – the EEA is tailormade for that purpose.
- The question is: Will Scotland now be able to make a deal with the EU as good as Iceland and Norway did, a quarter century ago? You can only find out the answer at the negotiating table.