Iceland has a BBB- credit rating from Moody's, S&P, and Fitch. While it has a highly skilled workforce and strong institutions, it also has high debt levels, capital controls, and economic dependence on a few commodity exports. Recent macroeconomic performance has improved with GDP growth resuming and inflation declining, although public and external debt remain elevated. While the outlook is positive if Europe avoids deeper crisis, delays in investment or uncertainty could slow Iceland's recovery. The document recommends that Alcoa proceed with its planned project, given Iceland's favorable economic outlook.

1. Iceland: Country Risk
Profile
Dr. Helios Padilla Mayer
NYU Stern Business School
May 23, 2012

2. Outline
1. External Credit Ratings
i. Credit Strengths
ii. Credit Weaknesses
2. Comparative Analysis
i. Structural Indicators
ii. Macroeconomic Performance
iii. Public Sector
iv. External Sector
3. Outlook
4. Recommendations

3. 1. External Credit Ratings
Long Term Issuer
Ratings
Moody’s: S&P: Fitch:
Date 11.11.2009 23.11.2011 29.02.2012
Rating Baa3 BBB- BBB-
Outlook Negative Stable Stable
Source: Moody’s, S&P, Fitch Credit Ratings Reports.

4. 1.External Credit Ratings: Credit
Strengths
• Advanced economic environment, superior income per
capita.
• Strengthened institutional capacity in the aftermath of
financial crisis, flexible, skilled labor force.
• Vast and unexplored natural resource base, which offers
long-term growth potential.
• Low risk of slipping back into recession amid successful
financial sector reforms, fiscal austerity programs,
correction of macroeconomic imbalances.

5. 1.External Credit Ratings: Credit
Weaknesses
• Extensive capital controls, difficulties to repatriate non-
resident ISK-denominated assets and limited ability for
residents to invest abroad.
• Discrepancies betwen monetary and foreign exchange rate
policy, pending dismantling of exchange controls.
• High external, public- and private-sector debt to GDP ratios,
high budget deficit.

6. 2.Comparative Analysis: Structural
Indicators
• Very favorable business
environment: Iceland above peers
in ease of doing business.
• Income per capita is high above
peers, old-age dependency ratio of
18% in 2010 below EU25 average
of 25%.
• Lower level of savings compared to
peers, lack of investment puts
Iceland at 66% of its peers.
• High levels of private credit,
mainly foreign exchange linked,
but not reflected in investment.
• Amid financial sector meltdown
between Oct. 2008 and March
2009, majority of banks is now
publicly owned. However, they
seem to be well capitalized.
*Fitch Ratings’ BBB peer group: Aruba, Bahrain, Brazil, Kazakhstan, Lithuania,
Mexico, Panama, Peru, Russia, Thailand, Iceland, Azerbaijan, Bulgaria, Colombia,
Croatia, Cyprus, India, Indonesia, Latvia, Morrocco, Namibia, Romania, Tunisia,
Costa Rica, Guatemala, Hungary, Macedonia, Philippines, Portugal, Turkey,
Uruguay
Source: International Financial Statistics IMF, World Bank, S&P, Fitch Ratings.
2011$Selected$Structural$Indicators Iceland BBB$median*
GNI$per$capita$PPP$($) 28,630 13,075
GDP$per$capita$($) 42,087 8,608
Ease$of$Doing$Business$(percentile) 95.7 73.7
Trade$Openess$(Imports$+$Exports$as$%$GDP) 59.6 49.9
Gross$Domestic$Savings$(%$GDP) 22.5 22.7
Gross$National$Savings$(%$GNP) 10.6 22.5
Gross$Domestic$Investment$(%$GDP) 13.6 23.9
Credit$to$private$sector$(%$GDP) 94.0 62.8
Foregin$banks$(%$total$banking$assets) 34.0 30.0
Public$bank$ownership$(%$total$banking$assets) 66.0 17.5
Bank's$Capital$Adequacy$Ratio 24.0 15.0

7. 2.Comparative Analysis: Macroeconmic
Indicators
• Iceland successfully completed a 3-
year IMF supported rescue program
in August 2011, which allowed the
country to return to international
capital markets and restore
confidence.
• Real GDP growth is returning in
positive area, however, it is still
below its BBB peers. However, as a
small open economy, country has
always managed to adjust well to
external shocks, due to its flexible
labor and product markets.
• Several macroeconomic imbalances
accumulated from 2005 on
(increasing corporate and household
debt, private consumption, real
estate prices) and increased inflation
expectations. This lead to an
increasing hike in interest rates.
• Exchange rate volatility remains an
issue – therefore delay in removing
capital controls.
*Volatility indicators calculated by Fitch Ratings Agency.
Source: International Financial Statistics IMF, World Bank, S&P, Fitch Ratings.
2011$Selected$macroeconomic$indicators Iceland BBB$median
Real%GDP%growth!(%!average!2008,10) /3.0 1.5
Real%GDP%growth!(%!average!2011,13f) 1.8 3.9
CPI%Inflation%(%) 7.6 5.1
CPI%Volatilty%(10%year%rolling%standard%dev.)* 4.0 2.6
Unemployment%rate%%) 6.8 9.7
Real%exch.%rate%volatility%(10%year%rolling%standard%dev.)* 11.9 5.5

8. 2.Comparative Analysis: Public Sector
• Iceland showed strong commitment to
fiscal consolidation, including several
revenue and expenditure measures
(higher taxation in environmental,
resources and financial sector,
expenditure cuts in local government),
which brought primary budget deficit
to 0.5% of GDP in 2011 from 6.5% in
2009.
• The debt profile was adversely
impacted during the crisis and
damaged sovereign creditworthiness;
debt/GDP ratio is significantly above
peers amid government’s efforts to
recapitalize financial sector and
strengthen foreign currency reserves.
IMF and bilateral loans contributed to
a higher foreign currency/GDP ratio.
• Due to a high share of foreign-currency
debt, interest payments are impacted
by exchange rate fluctuations.
Nevertheless, debt servicing is
maintained by help of capital controls.
• However, Iceland is better off than
severely indebted eurozone countries
as it has been able to devalue its
currency.
Source: International Financial Statistics IMF, World Bank, S&P, Fitch Ratings.
2011$Selected$Public$Sector$Indicators Iceland BBB$median
General'government'gudget'balance'(%'GDP) 64.0 62.6
Primary'budget'balance'(%)'GDP 60.5 60.2
Revenues'(%'GDP) 41.0 32.9
Interest'payments'(%'GDP) 12.2 7.2
General'government'gross'debt'(%'GDP) 98.4 35.6
Foreign'currency'denominated'debt'(%'GDP) 58.4 39.9

9. 2.Comparative Analysis: External Sector
• Current account deficit is still above
peers, but is decreased from 26.5% of
GDP in 2008 to 4.1% in 2011.
• Commodity dependence is much
higher than in peers: 80% of Iceland’s
exports are generated by three
aluminum smelters and the marine
product sector.
• External debt is well above peers,
distorted by unresolved “failed banks”
external assets recuperations and
repayments to external creditors. It has
been reflected in higher external debt
service and interest payment.
• International reserves are at record
$8.5 billion (12 months of imports,
twice as high as peers) amid IMF
support and regained access to
international capital markets.
• Capital controls put in place and
limited financial links with the euro-
zone prevented contagion crisis effects
– 10 year sovereign CDS spreads
remain below Greece, Spain, Portugal
and Italy.
Source: International Financial Statistics IMF, World Bank, S&P, Fitch
Ratings.
Source: Bloomberg.
2011$Selected$External$Sector$Indicators Iceland BBB$median
Current'account'balance'(%'GDP) 34.1 32.3
Commodity'exports'(%'total'exports) 58.4 22.5
Gross'external'debt'(%'GDP) 846.9 44.6
Net'external'debt'(%'GDP) 683.4 6.1
External'debt'service'(%exports) 75.2 14.2
External'interest'payments'(%'exports) 9.9 3.9
International'Reserves'(months'of'imports) 12.0 6.0

10. 3.Outlook
• In 2012, growth will be supported by
domestic demand due to weaker
exports amid world growth slump.
Over the medium term, external
demand will be leading growth.
Investment will provide support
through projects in energy intensive
sector.
• Inflation should gradually decline after
2012 amid monetary tightening
policies, and fading impact of
increased commodity prices and wages
in 2011.
• Balance of payments will be under
pressures, there will be capital
outflows due to banks repayments of
external liabilities and IMF
repurchases. There will be a gradual
lifting of capital controls, supported by
recent changes in legislation. The
speed of liberalization needs to be
adjusted to the need to support
financial sector stability.
• Capital account liberalization will and
repayment of banks to non-residents
will reduce external and government
debt. Furthermore, in 2012, old banks
will become holding companies with
creditors as shareholders, which will
turn the external debt into equity and
further release the Icelandic debt
burden.
Source: World Economic Indicators April 2012 IMF, S&P, Fitch Ratings.
2012$2016&Macroeconomic&Outlook 2012 2013 2014 2015 2016
Real%GDP%Growth%(%) 2.4 2.6 2.2 2.6 2.7
GDP%per%capital%(US$) 41,410 43,038 44,323 46,025 47,913
Investment%(%%GDP) 15.7 16.7 17.2 16.5 16.6
CPI%Inflation,%aveage%(%) 4.8 3.5 2.5 2.5 2.5
Unemployment%rate%(%) 6.3 6.0 5.0 4.4 4.0
General%government%balance%(%%GDP) M2.4 M1.9 M0.7 0.5 0.8
Total%government%gross%debt%(%%GDP) 97.3 92.4 90.9 87.8 82.9
Current%account%balance%(%%GDP) M2.8 M1.5 M3.1 M3.1 M3.6
Real%effective%exchange%rate%(2000=100) 80.1 82.2
Net%external%debt%(%%GDP) 613.5 592.7

11. 4.Recommendations
• Alcoa should feel confident to proceed with the project in
Iceland.
• Economic outlook of Icleand is favourable, with economy
growing, public finance stabilizing, an on-going financial
sector restructuring.
• However, the speed of recovery depends on possibility of
further deterioration of conditions in Europe, which impacts
Iceland through trade and financing channels.
• On domestic front, further delays in investment and
uncertainty about the legal and business environment could
weigh on growth.

12. References
! Bloomberg terminal.
! Fitch Ratings (2012), “Iceland Full Rating Report”, February 2012, 17 pp.
! International Monetary Fund (2012), “ 2012 Article IV Consultation and
First Postprogram Monitoring Discssion”, IMF Country Report 12/98, April
2012, 69 pp.
! International Financial Statistics and World Economic Outlook April 2012
IMF databases.
! Moody’s Investors Service (2012), “ Credit Opinion: Iceland, Government
Of”, February 21, 2012, 4 pp.
! S&P, (2011),”Global Credit Portal: Iceland”, May 31, 2011, 19 pp.
! World Bank database.