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A Tale of Three Countries: Recovery after Banking Crises

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  • Zsolt Darvas

    () (Institute of Economics Research Centre for Economic and Regional Studies Hungarian Academy of Sciences)

Abstract

Iceland, Ireland and Latvia experienced similar developments before the crisis, such as sharp increases in banks' balance sheets and the expansion of the construction sector. However the impact of the crisis was different: Latvia was hit harder than any other country in the world. Ireland also suffered heavily, while Iceland came out from the crisis with the smallest fall in employment, despite the greatest shock to the financial system. There were marked differences in policy mix: currency collapse in Iceland but not in Latvia, letting banks fail in Iceland but not in Ireland, and the introduction of strict capital controls only in Iceland. The speed of fiscal consolidation was fastest in Latvia and slowest in Ireland. Economic recovery has started in all three countries and there are several encouraging signals. The programme targets in terms of fiscal adjustment, structural reforms and financial reform are on track in all three countries. Iceland seems to have the right policy mix. Internal devaluation in Ireland and Latvia through wage cuts did not work, because privatesector wages hardly changed. The productivity increase was significant in Ireland and moderate in Latvia, yet was the result of a greater fall in employment than the fall in output, with harmful social consequences. The experience with the collapse of the gigantic Icelandic banking system suggests that letting banks fail when they had a faulty business model is the right choice. There is a strong case for a European banking federation.

Suggested Citation

  • Zsolt Darvas, 2012. "A Tale of Three Countries: Recovery after Banking Crises," IEHAS Discussion Papers 1202, Institute of Economics, Centre for Economic and Regional Studies, Hungarian Academy of Sciences.
  • Handle: RePEc:has:discpr:1202
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    References listed on IDEAS

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    1. Sigridur Benediktsdottir & Jon Danielsson & Gylfi Zoega, 2011. "Lessons from a collapse of a financial system," Economic Policy, CEPR;CES;MSH, vol. 26(66), pages 183-231, April.
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    Cited by:

    1. Andras Simonovits, 2012. "Optimal Cap on Pension Contributions," IEHAS Discussion Papers 1208, Institute of Economics, Centre for Economic and Regional Studies, Hungarian Academy of Sciences.
    2. Helga Habis & P. Herings, 2013. "Stochastic bankruptcy games," International Journal of Game Theory, Springer;Game Theory Society, vol. 42(4), pages 973-988, November.
    3. Stefan Kawalec & Ernest Pytlarczyk, 2012. "Controlled Dismantlement of the Euro Area in Order to Preserve the European Union and Single European Market," CASE Network Studies and Analyses 441, CASE-Center for Social and Economic Research.
    4. Ulrich Volz, 2013. "Lessons of the European crisis for regional monetary and financial integration in East Asia," Asia Europe Journal, Springer, vol. 11(4), pages 355-376, December.
    5. Susan Lund & Charles Roxburgh, 2010. "Debt and Deleveraging," World Economics, World Economics, 1 Ivory Square, Plantation Wharf, London, United Kingdom, SW11 3UE, vol. 11(2), pages 1-30, April.
    6. Tanja Markovic-Hribernik & Matej Tomec, 2015. "Bad Bank And Other Possible Banks’ Rescuing Models – The Case Of Slovenia," Annals - Economy Series, Constantin Brancusi University, Faculty of Economics, vol. 1, pages 128-141, January.
    7. repec:eee:spacre:v:19:y:2016:i:2:p:227-238 is not listed on IDEAS
    8. Aleksandra Iwulska & Naotaka Sugawara & Juan Zalduendo, 2012. "Financial Integration in Emerging Europe: an Enviable Development Opportunity with Tail Risks," CASE Network Studies and Analyses 438, CASE-Center for Social and Economic Research.
    9. Richard Pomfret, 2012. "The Post-2007 Crises and Europe's Place in the Global Economy," CASE Network Studies and Analyses 439, CASE-Center for Social and Economic Research.

    More about this item

    Keywords

    banking crisis; banking sector restructuring; economic recovery; currency devaluation; internal devaluation; capital controls; fiscal adjustment;

    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements
    • J30 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - General
    • O40 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity - - - General

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