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The Greek and Icelandic IMF programmes compared

Iceland and Greece were both seriously affected by the Global Crisis, yet their experiences with the implemented IMF programmes have been quite different. In Iceland the programme has been a success, whereas the one in Greece has been a failure. This column explains why this happened. First, Iceland’s external debt was de jure private, while Greece’s external debt was sovereign debt. Second, Iceland has its own currency, making it easy to create a current account surplus through a lower exchange rate. Finally, the government of Iceland took full ownership of the IMF programme, which was not the case in Greece.

Two IMF programmes: A failure and a success

Two of the countries that were worst affected by the Global Crisis that hit the West in 2008 have become symbols for the success and the failure of IMF programmes.

  • Iceland suffered a meltdown of its financial system in October 2008 and agreed to an IMF programme in November of that year.

The programme was apparently so successful that the IMF organised a conference in Reykjavik in October 2011 to celebrate its success. The country now has unemployment of about 4% and growth close to 5%.

  • Greece developed large public sector deficits before the Crisis and lost market access during the Crisis, forcing the country to ask the IMF and the EU for help in 2009.

Five years down the line, GDP has shrunk by 25%, unemployment has been above 25 % for several years, and public debt has risen to 170% of GDP.  

Table 1 below shows the contrasting fortunes of the two countries in terms of growth, unemployment, their current accounts, government debt, their public deficits, investment, and consumption.

Table 1. Economic performance of Greece and Iceland

Source: World Bank – Source for italic Statistics Iceland. Growth: Relative difference in GDP, constant US$ 2005

In attempting to understand why one programme was such a success and the other (at least so far) a failure, people are tempted to find patterns, often on the basis of incomplete information. Thus, some commentators would point to Greece being part of the Eurozone and Iceland having its own currency as a reason for the different performance of the programmes. Others would point to the higher level of corruption and inefficiencies in Greece. In this column, we attempt to give a more comprehensive explanation.

Prelude to the crises

Before joining the euro, Greece had persistent budget deficits, high levels of public debt, and usually also current account deficits (Baldwin and Giavazzi 2015). For 90 years since its independence, the country was in default on its external debt and shut out from international capital markets. After 1993, economic policy was geared towards satisfying the Maastricht criteria and Greece went through a reduction of 9 percentage points (of GDP) in its budget deficit between 1993 and 1999. These efforts were to a large extent abandoned in the subsequent years while high growth boosted high current account deficits.

In contrast, Iceland ran surpluses since the middle of the 1990s and reduced the level of public debt, which was very low when the Crisis hit in 2008. The cause of the Crisis in Iceland may be traced to a decision by the authorities to foster the creation of an international banking centre with domestic banks having operations abroad without the benefits of having a lender of last resort or a sovereign large enough to be able to recapitalise the banking system.1

Both countries had governments that actively supported or, in the case of Greece, were responsible for the accumulation of external debt. The capital inflows that made these two economies boom in the years 2001-2008 were not like a tsunami of foreign capital, rather the capital inflows were welcome and even encouraged by democratically elected governments. In both cases the inflows were helped by the high credit ratings of the sovereign, in Iceland caused by the low level of public debt, and in Greece by the belief that a Eurozone country would never be allowed to fail.

In Greece the combined effect of the income and substitution effects of lower interest rates on current public consumption was much stronger than the stipulations of the Stability and Growth Pact setting limits on public deficits.2 Politicians in power benefited personally from the deficits by letting the public finance their election largess or through the employment of or the rewarding of contracts to friends and family. In Iceland, the bankers borrowed on the back of the sovereign’s credit rating and lent money to friends and family.

Success and failure of the IMF-sponsored programmes

The reasons for the success of Iceland’s programme and the hitherto failure of the Greek programme can be traced to a set of interrelated factors.

  • First, Iceland’s external debt was de jure private, Greece’s external debt was sovereign debt.
  • Second, Iceland has its own currency and hence the reversal of capital flows creates a current-account surplus through a lower exchange rate almost overnight.

These two factors contribute to the third, which is that the government of Iceland took full ownership of the IMF programme, which was not the case in Greece.

  • Finally, weak ownership of the Geek programme contributed to the fear of Grexit fuelling expectations that another major economic disturbance may be around the corner for Greece, a factor that was absent for Iceland.

Because of the first two factors, the IMF programme in Iceland started from a very different initial condition than the one in Greece.

In Iceland, most of the country’s external debt had been wiped off its balance sheet through the bankruptcy of private banks, and the collapsed exchange rate generated current account surpluses that were required to service the foreign debt that remained.

In contrast, the government of Greece had to create both a public sector surplus as well as a current account surplus through its own unpopular decisions without being able to reduce the stock of external debt until external creditors did so in 2012. Within the Eurozone, unilateral default is not allowed and the reduction of real exchange rates needed to generate a reversal on the current account tends to be more painful, requiring high and persistent unemployment.

As a result, it was much easier for the government of Iceland to take ownership of the country’s IMF programme, starting with a clean slate, low levels of public debt, massively reduced external debt, and a low real exchange rate. The government could run budget deficits in the first years after the Crisis and let the lower real exchange rate reduce imports and gradually increase exports. The transition out of the Crisis through lower imports and export led growth was clear.

In Greece, in contrast, all these factors were reversed; the initial level of public debt was too high, debt was not restructured until 2012 and then only partially, and lowering the real exchange rate involved years of austerity and high unemployment. Taking ownership of the IMF programme in Greece was therefore much more difficult. Elections have been held four times since 2009, the second programme was never completed, and capital controls were introduced in June 2015.

Empirical evidence suggests that in the absence of ownership, conditionality will not work (see Haque and Khan 1998). As emphasised by Drazen (2002): "[I]f a government objects reforms it will try to find ways around it so that the programme will fail. Imperfect observation combined with multiple potential causes of failure means that the cause of failure is difficult to identify."

Greek politicians had an ambiguous attitude towards the programme’s ownership depending on whether their audience was their political constituency or foreign creditors. It seems that Greek politicians perceive a trade-off between ownership and the political cost of adjustment. Ownership implies accepting the consequences and so should be avoided. On the other hand, in order to bargain a successful deal that will improve the probability of programme’s success (e.g. debt restructuring), it is necessary to convince voters in other Eurozone countries that the programme has a real chance to work. This can only be the case if the Greek government does take ownership. Thus, weak ownership decreased the credibility of policymakers, leading to the imposition of stricter measures, which in turn make ownership more difficult. This vicious cycle led to a recessionary programme, created issues of democratic accountability, and became a source of citizens’ resentment towards Europe.  

The ownership deficit of the Greek governments is reflected in the successful implementation of the ‘observable’ fiscal consolidation part of the programme and the unsuccessful implementation of the 'less observable' structural reforms part while the opposite strategy would be less harmful for growth. Similarly, the interrelated credibility deficit is reflected in the fact that the first programme was focused more on fiscal consolidation than on structural reforms and the negative effect on demand was immediate while the positive supply effect was significantly delayed (see Terzi 2015). Greece undertook a very big decrease in its deficit and a much bigger decrease in its cyclically adjusted deficit (by 16% of GDP). However, the persistent large positive gap between fiscal effort and fiscal outcome indicates that the Troika consistently underestimated the effect of austerity on the real economy (see Blanchard and Leigh 2013). The fact that Greece has a low savings rate and a small size of external sector increases further the recessionary impact of fiscal consolidation. In the end, all these factors contributed to the failure of economic adjustment since 2010, so that in the medium term the lack of ownership probably led to higher economic, as well as political, costs.

Concluding remarks

(Paradoxically) Greece is more vulnerable to speculative attacks than Iceland since the weak ownership of the programme inevitably created the issue of Grexit.  The 'threat' of Grexit, first used by political opposition in Greece in order to gain political power and then by the Greek government in order to bargain a smoother adjustment programme, had important self-fulfilling properties by prolonging the recession while making the 'rescue' more expensive and risky for all agents involved. In that respect, the recent German strategy of using Grexit as a 'threat' for the Greek government to implement the programme is dangerous. Eurozone reforms that will diminish this expectation (such as a Eurozone deposit guarantee) will reduce the recessionary cost of the adjustment programme, thereby facilitating its ownership and prospects for success.


Baldwin (2015), “VoxEU told you so: Greek Crisis columns since 2009," VoxEU.org, 21 June.

Benediktsdottir, S, J Danielsson and G Zoega (2011), “Lessons from a collapse of a financial system,” Economic Policy 26(66), 183-235.

Blanchard, O, and D Leigh (2013), “Growth Forecast Errors and Fiscal Multipliers”, Working Papers, 13/01, 1-43, International Monetary Fund.

Drazen A (2002), "Conditionality and Ownership in IMF Lending: A Political Economy Approach", IMF Staff Papers 49.

Haque, N UI and M S Khan (1998), "Do IMF-Supported Programs Work?: A Survey of the Cross-Country Empirical Evidence", IMF Working Paper 98/169.

Johnsen, G (2014), Bringing Down the Banking System: Lessons from Iceland, Palgrave Macmillan.

Katsimi and Moutos (2010), “EZ and the Greek crisis: The political-economy perspective” European Journal of Political Economy 26, 44.

Retzi A (2015), "Reform Momentum and its Impact on Greek Growth", Bruegel Policy Contribution.


[1] For an account of Iceland‘s financial crisis, see Benediktsdottir et al. (2011) and Johnsen (2014).

[2] Katsimi and Moutos (2010) provide a political-economy perspective of the Greek crisis.

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