Iceland’s central bank said Prime Minister Sigmundur David Gunnlaugsson’s proposal for general household debt relief will be costly and could jeopardize financial stability and push up inflation.
Actions which provide debt relief without taking into account economic position and payment capabilities “are ineffective,” Sedlabanki said in a letter to the Reykjavik-based parliament. General debt relief is a “costly alternative to assist troubled households,” the bank said.
The government’s 10 point program is aimed at providing households general debt relief and reducing the principal of mortgages linked to inflation, Gunnlaugsson told parliament on June 10. The premier’s Progressive Party and the Independence Party ousted the Social Democrat-led coalition in April by promising tax cuts and mortgage relief.
To finance their pledges and ease pressure on the island’s currency, the government has signaled it will ask for writedowns on about $3.68 billion in krona-denominated claims held by creditors in failed lenders Kaupthing Bank hf, Glitnir Bank hf and Landsbanki Islands hf.
It’s possible the Treasury will profit from the winding-up proceedings of the three failed banks, Sedlabanki said in the letter. Any gain could be used to “reduce the debts of the Treasury” and actions that may jeopardize economic stability should be avoided, the bank said.
Support for indebted households may risk financial stability if the government doesn’t continue on a path that leads to a budget surplus, according to Sedlabanki.
The government must also be mindful that its debt reduction doesn’t increase “demand for products and services” as that may be incompatible with the central bank’s 2.5 percent inflation target, Sedlabanki said.
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