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Iceland seeks aid from ECB, Fed; hikes interest rate to 18 pct
2008-10-28
REYKJAVIK (AFP) - Iceland jacked up its key interest rate to 18 percent and said it was seeking help from the European Central Bank and the US Federal Reserve in twin moves Tuesday to stave off national bankruptcy. "Iceland's central bank sent a request to the ECB, the Fed and the Nordic banks on Friday," Icelandic Prime Minister Geir Haarde told reporters in Helsinki where Nordic leaders were meeting. Haarde said Iceland had not yet received replies to its requests. Iceland's once booming financial sector has collapsed under the weight of the worldwide credit crunch, forcing the government to take control of the major banks as its currency has nosedived. Reykjavik agreed with the International Monetary Fund last week on a loan of 2.1 billion dollars (1.6 billion euros) but Haarde had said the country would need about four billion dollars more. Iceland is hoping for "a round figure in terms of four billion dollars of loans over four to five years," he said on Tuesday. The country has so far approached its four Nordic neighbours Denmark, Finland, Norway and Sweden, the ECB and the Federal Reserve, and is negotiating a loan from Russia in addition to the IMF aid. When Russia was first approached by Reykjavik in early October it considered lending the island nation 4.0 billion euros (5.0 billion dollars), Russian Deputy Finance Minister Dmitry Pankin told the Prime-Tass news agency Tuesday. Now however, "given the collapse of the (Icelandic) banking sector, if (Russia) took over all or part of the banking system's obligations, it would be rather difficult to approve a loan," he said. "At present it's a high-risk investment and even if the decision were taken to approve the credit we would have to carefully weigh up all the risks," Pankin said, adding that Moscow was awaiting the outcome of Iceland's negotiations with the IMF and other potential creditors before making a final decision. One condition set by the IMF was that Iceland would raise its key interest rate to 18 percent before the IMF board approved the deal this week. As a result, the central bank on Tuesday hiked lending costs by 6.0 percentage points to 18 percent, the highest level in Europe and just shortly after it had cut them from 15.5 percent. "One of the points in the (IMF) agreement was that ... the central bank was to have raised the policy rate to 18 percent. This has now been done," the bank said in a statement. Central bank governor David Oddsson told reporters: "Since it is the decision of the government to ask for the IMF's help, the central bank will support that decision." The central bank said the collapse of the country's three biggest banks and "the harsh external measures that followed" had "paralysed" Iceland's foreign exchange market. "Although the situation has eased somewhat, some restrictions continue to be inevitable," it added. The rate increase came as official statistics showed Iceland's 12-month inflation rate soared to a record high point of 15.9 percent in October from 14 percent in September Another IMF condition was to stabilise the Icelandic currency, the krona, which has lost about 40 percent of its value since the beginning of the year, making imports to the North Atlantic island more costly. The combination of high inflation and a plunging currency means Iceland's 320,000 inhabitants risk not having access to consumer goods, which are largely imported. The rate cut came less than two weeks after Iceland's central bank slashed its key interest rate by 3.5 points to 12 percent to try to stimulate the economy. "It was not a mistake to lower the interest rate on October 15," Oddsson insisted. Meanwhile, the central bank said it was of "over-arching importance to restore stability in the foreign exchange market and support the exchange rate of the krona. "Although the real exchange rate is currently much lower than is justifiable for the long term, it is considered unavoidable to provide the krona with a firmer footing on the foreign exchange market through a restrictive policy rate as current restrictions are gradually removed," it said. It said that if predictions of falling inflation materialise, interest rates would be reduced.
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