From a business point of view (using the IMF standards) the Icelandic banks and government did everything right up till now and the current situation doesn't make sense. Icelandic banks only have "good" assets, have no exposure to the US market and were better capitalised than their other European rivals.
Which in my view is understandable but completely wrong. During the credit boom the icelandic banks did so well because of these traits, too well in fact, they acquired so much foreign market share they completely dwarfed their domestic market, meaning a government backup wasn't possible on anything beyond its domestic market. And that only at the cost of either a loan from Russia or national bankruptcy.
The problem stems from the fact of the lack of regulations preventing over leveraging of the banks steming, in my view, from the risk assessment models currently in operation by the regulators using mark to market on financial assets and the overvaluing of physical assets. Meaning while the banks were better capitalised than others, they were still massively overleveraged and no national support akin to the UK, Germany or even Ireland. Meaning the interbank lending to Icelandic banks stopped. Which is whats killing all the banks.
This is a major concern. Especially for the UK in my view. Icelandic banks asset portfolio mainly lie in the UK market meaning theres going to be a major selloff shortly, further reducing asset prices, thereby further stressing UK banks. Theres also the likelihood Iceland is going to default on the deposits, meaning the UK Treasury will have to step in and cover the cost.
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