Iceland Investment Colloquium

Ladies and Gentlemen:
May I begin by expressing my thanks to Landsbanki for this opportunity to address the fourth Iceland Investment Colloquium. Landsbanki, together with the other Icelandic banks, has steadily increased its co-operation and collaboration with foreign financial enterprises, while at the same time carving a niche for itself abroad. This is a highly gratifying development. A strong and sound financial system is a pre-requisite for the nation's positive economic achievement, making it important that banks and other financial enterprises compare themselves to and compete with companies abroad.

Ladies and Gentlemen:
Last May, we had national elections in Iceland. The election campaign was, as it should be, a tough fight with few holds barred. The outcome was that the government, originally formed after the 1995 elections, retained its majority. In its policy statement, the current coalition states clearly that it will emphasise maintaining economic stability and creating the preconditions for continuing growth. Recent years have been highly favourable for Iceland – economic growth has been strong, averaging around 4 per cent annually from 1995 to 2001, and purchasing power has grown steadily for almost a decade. Economists predict robust economic growth in the coming years, of 3 per cent or more next year and even greater in 2005. This growth derives primarily from the construction of a new aluminium smelter in East Iceland and hydropower development to provide it with energy, and is also fuelled by growing household purchasing power. This major stimulus to the economy demands that the government, employers and employees contribute to responsible and steadfast economic management. By playing our cards right, we can put the considerable economic progress within our reach to permanent advantage.

Sensible administration of public finances is a necessary basis for creating the conditions for a stimulating economic environment. There is no disputing the fact that positive achievements have been made in the administration of public finances during the past decade. The Treasury outcome has been a surplus, thus creating a possibility to pay off a major portion of its debt; the predicted net national government debt in 2006 will be around 15% of GDP. On the other hand, it should be pointed out that the nation's overall indebtedness has been increasing. This is not necessarily a cause for concern in a young nation, with a favourable demographic profile, facing a variety of profitable investment opportunities. But the difference today, from the previous situation, is that this debt is being acquired by individuals and their enterprises, while public debt is rapidly being reduced. This debt is the result of plans by individuals and enterprises which are quite different from those which in the past prompted politicians to borrow again and again – in an attempt to buy their way out of various economic and political difficulties.
At the same time as it has been paying off its debts, the Treasury has also made major contributions to the Civil Servants' Pension Fund and the Central Bank has increased its currency reserves substantially. Taxburden, both on companies and individuals, has been reduced; to mention one specific example, corporate income tax has been cut from 50 per cent to 18 per cent in the space of a few years. This success has been achieved while at the same time increasing greatly financial allocations to education and health care.
The government has submitted its 2004 Budget to the Icelandic parliament. The Budget, together with the Prime Minister's opening address to the parliament, sets out economic policy for the coming year and describes the public finance objectives which will serve as guidelines for the next four years. This emphasis on medium-term public finance policy is very important under current circumstances. Economic stability is based to a large extent on successful balancing of monetary policy and public finance. To achieve this, it is necessary that the main aspects of public finance policy be clear. The Central Bank can then plan its monetary policy better and there is less likelihood of these two control measures pulling in opposite directions.
New legislation on the Central Bank of Iceland was adopted in 2001, according to which the Bank's main objective is to encourage stable price levels. The Bank has managed to fulfil this role very well and inflation has been within the target band since November 2002. The Central Bank's potential control measures are powerful and its growing foreign currency reserves help reduce the threat of abrupt fluctuations in the Icelandic króna exchange rate. It should be borne in mind, in discussing public authorities' economic management measures, that there are limits to the extent to which public finance measures can be applied to even out economic cycles. A very large proportion of public expenditure is used to provide citizens with important services, such as education and health care. To have these services increase or decrease too substantially due to economic cycles would hardly be advisable. From this point of view it is, in fact, easier and less painful to respond to short-term fluctuations with monetary policy measures. This fact does not at all relieve the National Treasury of its responsibility to fully participate in resisting expansion in the economy, but it should give us cause to consider, how difficult all economic management would be should Iceland decide to take up the euro. This would transfer the entire burden of economic management to public finances, and it is difficult to imagine that this arrangement would be a beneficial one for Iceland. Economic research indicates that Icelandic business cycles are not in phase with those of the leading Euro countries. The tasks awaiting the Icelandic government in the next few years would be many times more difficult and complex if the policy rate here was intended primarily to spur economic growth in countries like Germany and France and not to restrain over-expansion, as is the case here.
In order to restrain over-heating in the economy, the government has agreed to keep annual growth of public consumption within 2% in real terms from 2005 to 2007, since at this time the impact of heavy industrial projects can be expected to be at its peak, and to reduce investment by the state in 2005 and 2006. These actions, together with the objective of having a sizeable Treasury surplus in the coming years, will reduce the foreseeable economic pressure while at the same time relieving some of the burden on monetary policy.

At the conclusion of the heavy industrial projects in East Iceland, economic growth can be expected to subside. To respond to this, the government has agreed to reduce taxes during its term in office by twenty billion krónur. In its policy statement, the government declared its intent to reduce personal income taxes by as much as 4 percentage points. A supplementary tax on high-income earners will be eliminated in stages during the electoral term, net worth tax eliminated, and inheritance taxes reduced and made more consistent. These tax reductions, together with an increase in public works in 2007 and 2008, will reduce the danger of too sharp a drop in economic growth upon the conclusion of construction projects in East Iceland.

Economic management is by nature a complicated endeavour, and it is clear that the Icelandic government faces a demanding task in the years to come. By presenting a medium-term public finance programme I am of the opinion that we have laid a solid foundation for co-ordinating monetary policy and public finance. If this co-operation is successful, we can expect that the economic upswing which began in 1995 will continue and that Iceland will continue to rank among the countries showing the strongest economic growth.

Conference guests, ladies and gentlemen:
Economic stability is highly dependent on sensible collective bargaining agreements, aimed at ensuring continuing growth of wage-earners' purchasing power. It is no secret that in years gone by wage agreements between employers and employees in Iceland often tended to be less conditioned by reality and all the more coloured by political conflicts of the time. The interests of wage-earners were often poorly served as a result. Strikes were a national sport, like Icelandic wrestling, and the wage increases eventually agreed upon were soon far outstripped by galloping inflation; for years purchasing power failed to grow, or even shrank. One economist was led to ask, upon hearing that an agreement calling for a 37 per cent wage increase had been concluded, why they hadn't agreed on a 73 per cent increase instead, while they were about it. Quite some time has passed now since this happened and the economist made this incisive remark. For more than a decade now, Icelandic wage-earners' organisations have been fortunate enough to have leaders who realised the importance of wage increases reflecting the real performance of industries, and that the best way of ensuring purchasing power is to prevent inflation from soaring once more.
Ahead of us is a new round of collective bargaining agreements. The employees' and employers' organisations will be faced with the challenge to conclude realistic wage contracts, which will ensure industrial peace while delivering real and lasting improvement for wage earners. Realistic wage agreements are a precondition for Iceland to be able to take advantage of the coming years' economic growth – which places a heavy responsibility on the negotiators. Recent declarations by trade union leaders to the effect that they will emphasise economic stability and low inflation give cause for optimism. I would like to draw attention especially to statements by the President of the Federation of General and Specially-skilled Workers who recently said that, in light of the experience of previous wage agreements, it would be advisable to conclude a long-term agreement, because agreements over longer periods enable wage earners to negotiate greater increases in purchasing power than are possible in short-term
agreements. Such agreements are likely to ensure greater stability. I consider this statement to be a promise that, although we can expect hard bargaining in the upcoming wage agreements, the prevailing objectives will be increased purchasing power, stability and a sound Icelandic economy.

Ladies and Gentlemen:
There are a number of advantages being a small economy. If we follow the right course, such an economy can deliver a high return, as well as being flexible and quick to respond when appropriate. The Icelandic economy has shown in the past decade or so that it can support strong growth and adapt quickly to changing conditions. Its adaptability is not least the result of having our own currency, which can reflect economic conditions in Iceland, while at the same time the Central Bank can apply its policy rate to counteract business cycles. It is no less important, in this context, that in recent year the government has pursued a course of privatising public corporations. A large number of enterprises formerly owned by the state have been sold, probably most importantly the former state banks, including Landsbanki. In so doing the government has completely withdrawn from commercial banking operations. Privatisation delivered fifty-two billion krónur to the National Treasury during the previous electoral term. While this is no small figure, what is more important is that the economy as a whole has been strengthened and made more adaptable by placing former state corporations in private ownership. I hardly need dwell on this point for the present audience.
Currently preparations are underway to sell Iceland Telecom. Market conditions have changed in recent months and therefore the government is of the opinion that this is a favourable time to transfer this major corporation to private hands. Many concerns must be addressed when selling this enterprise and preparations need to be made with care. But all indications are that the sale will take place within a few months' time, thereby taking a large step forward in the privatisation process which has been underway for just over a decade.

Conference guests, ladies and gentlemen:
There is every reason to be optimistic and expect the Icelandic economy to continue to grow and prosper in the next few years. Its infrastructure is strong and the pillars supporting the economy have increased substantially in number in recent years. But self-praise is scarcely a recommendation and it is only to be expected that those who are natural optimists should regard the future as bright. So perhaps we should instead take a look at how foreign rating agencies and economic research institutions assess Iceland's situation at this point in time. Recently the World Economic Forum published a ranking of the nations of the world in terms of their competitiveness. It was gratifying to see that Iceland has moved up four places, from twelfth place to eighth. It is also gratifying to see that international rating agencies, including Moody's, have awarded Iceland a very high credit rating, confirming that the Icelandic economy is sound, stable and can bear comparison with the nations most successful in their economic management. This is good news for us, but at the same time a challenge to do even better and create the preconditions that will keep Iceland an attractive choice for domestic and foreign enterprises.
In closing, I would like to once more thank the leaders of Landsbanki Íslands for this initiative. They have created a laudable tradition in summoning to Iceland banking expertise from around the world, and crowned the achievement by linking this to aa great cultural event.

Ladies and Gentlemen:
I hereby declare the Fourth Iceland Investment Colloquium officially open.