Domino Effect

Why was Iceland the first country to be affected by the recent financial crisis? The main Icelandic bank, Kaupthing, collapsed on October 9^th 2008 just shortly after Lehman’s Brothers went bust. Just a few days prior to this Iceland’s other two major banks, Landsbanki and Glitnir, had been nationalized. So why did the closure of Lehman’s Brothers have such an impact on Iceland’s three central banks? 

Well, similar to Lehman’s, these three banks invested heavily in mortgage backed securities and inter-bank lending. Jir Hr et al (2011) believe that “the explosive growth of the private, non-government-sponsored enterprise (GSE) backed mortgage-backed securities (MBS) market lies at the heart of the 2007-2009 global financial crisis”. The MBS market was stimulated by the housing boom along with an increase in sub-prime capital, and vice versa.Hence when home-owners initiated non-payment on sub-prime mortgage loans it wasn't long before the capital markets, which the three banks depended on for financial support, crashed. For this reason the Krona plummeted in value and was no longer idolised as an international currency.