09 December 2008

New Foreign Exchange Rules: Questions from International Investors, with answers; updates

The Central Bank of Iceland as received questions from international investors and has prepared answers that are now available here. Note that the answers to Questions 9, 10, and 12 have been updated. 

New Foreign Exchange Rules: Questions from international investors, December 2, 2008, with answers (updated December 9, 2008)

1. Q: What is the Central Bank trying to achieve? Is there anything that they need or want from the international banks in terms of co-operation or information?

A: In Iceland’s Letter of Intent to the IMF, it is stated that “the immediate challenge facing the Central Bank of Iceland is to stabilize the króna and set the stage for gradual appreciation“. While the underlying fundamentals e.g. a sharp current account reversal should support a recovery of the króna from the current depressed level, the large stock of ISK-denominated securities owned by non-residents is a matter of concern. Given the leverage and degree of FX exposure in the Icelandic economy, a strategy of lifting all the emergency controls on foreign currency transactions at once was deemed to be too risky. Hence, at the same time as all restrictions on current account transactions are lifted, the Central Bank of Iceland has been given the authority to impose temporarily capital account controls until the króna has been sufficiently stabilized. We intend to remove the controls as soon as it can be done without the risk of severe damage to the Icelandic economy. This strategy should also be in the interests of foreign investors as it reduces the risk of panic sell-off and sets the stage for a phased and non-disruptive removal of the restrictions. The informal foreign exchange guidelines introduced immediately after the collapse of the domestic banking system have become increasingly difficult to implement and observe in a non-discriminatory manner and invariably lead to multiple exchange rates. The Central Bank of Iceland welcomes discussions with both residents and non-residents regarding these controls, particularly if this will help to clarify them or to improve implementation. 

2. Q: Are non resident banks able to trade current account related FX flows with Icelandic banks or the Central Bank?

A: Nonresident banks will be able to trade current account related FX flows with all Icelandic banks, that have correspondent accounts.

3. Q: Can existing (as in entered into prior to the issuance of these Rules) spot and forward FX transactions between international counterparties be settled?  If the Rules do not apply to outstanding transactions, then do they apply if the parties agree, now or at any point in the future, to roll the settlement date forward to a new date sometime in the future?

A: Spot FX transactions entered into prior to the issuance of the Rules can be settled. The Central Bank will not object to rolling settlement dates forward if the parties and principal amounts are the same and króna-denominated instruments are settled in krónur.

4. Q: Can any coupon/principal repayment/maturity proceeds from ISK Eurobonds and/or Icelandic Government/CB issues be repatriated into hard currency? Would the Central Bank consider a period of amnesty for these investors now holding said securities?

A: The principal repayment and maturity proceeds from króna-denominated bonds/securities may not be repatriated in foreign currency. Coupon payments are freely convertible and may be repatriated. Any payments due on foreign currency-denominated Government bonds will be made in foreign currency. An ‘amnesty’ would not make sense. There is no intention to punish any non-resident investors; the controls are in place purely because, at present, Iceland lacks the foreign exchange with which to allow substantial capital outflows.

5. Q: If the regulations on spot/forward FX transactions apply to trades done between non-residents, is there any threshold below which such transactions are not necessarily covered by these same restrictions?

A: The only limitations are those related to the accounts of non-residents; and the requirement that króna-denominated instruments must be settled in krónur.

6. Q: If a non-resident has a deposit or FX swap maturing, can it reinvest that ISK amount in ISK-denominated securities?

A: Yes.

7. Q: In what instance, are foreigners allowed to transfer Icelandic krónur to another foreigner's domestic account?

A: There are no restrictions on transfers between domestic króna-denominated accounts of non-residents in Iceland.

8. Q: What type of ISK movements between the accounts of international investment banks will be monitored, and what evidence will be required to justify such transactions?  What form, if any, will the registration procedures for ISK transactions covered by the Rules take?

A: All types of ISK movements between the accounts of foreign deposit holders with domestic banks will be monitored via the banks. Iceland's Financial Supervisory Authority (FME) has the surveillance authority to do this, whereas the Central Bank can access the information from the banks. Withdrawals from foreign currency accounts or the purchase of foreign currency from Icelandic banks is subject to the requirement that the party demonstrate that the currency will be used in accordance with the Rules on Foreign Exchange. Withdrawals from króna-denominated accounts for the transfer of capital is not allowed. There is no registration procedure established by the Rules, however, the Central Bank may issue additional guidance for the implementation of the Rules if necessary.

9. Q: In what instance can foreigners trade króna-denominated bonds without any ISK movement?

A: Non-residents can freely settle transactions with króna-denominated bonds among themselves in foreign currency abroad.

10. Q: Can international investment banks switch international clients out of Eurobond holdings into domestic government debt?  Can international clients sell króna-denominated assets outright to international investment banks?

A: Yes, but the settlement must be made in foreign currency abroad, as non-residents might not be able to settle offshore trades in Icelandic krónur.

11. Q: Will the Central Bank of Iceland permit ISK payments to be made between non-resident investment banks mandated by existing derivative contracts?  If not, does the Central Bank condone the tear-up of said contracts and, as such, would it facilitate any ISK cash movements as a result?

A: Settlement of derivative contracts concluded before the Rules entered into force is allowed. However, payments are to be made to króna-denominated accounts, from which transfer abroad for capital transactions is prohibited.

12. Q: How does the Central Bank propose that issuers of króna-denominated Eurobonds (such as KfW, EBRD, EIB, Toyota…) make good on coupon payments and principal redemptions?

A: The Central Bank has no authority over these issues, but they could possibly be made good by settling the payments in foreign currency outside Iceland at the current FX rate. Also, foreign parties that have different ISK positions can net out these positions.

13. Q: What mechanism will the Central Bank propose for netting specific foreign exchange interests between the international investment banks?

A: This is not related to the FX Rules. It is not the role of the Central Bank to propose a solution to this problem. International investment banks know their own positions and are free to agree with other international investment banks how to settle contracts between them.

14. Q: Has the Central Bank had any conversations with the Euroclear/Clearstream clearing houses about retail investors who wish to exit their ISK cash position upon maturity?

A: Now that the controls have been passed into law, the Central Bank of Iceland is discussing these issues with international securities settlement systems (SSS), and will publish the conclusions of such discussions on this website.

15. Q: Will the Central Bank of Iceland continue to roll CDs upon maturity so that banks can reinvest any proceeds?

A: The Icelandic authorities will endeavour to ensure that appropriate investment opportunities are available to investors. The Central Bank of Iceland may issue new CDs, or other government or government-guaranteed securities will be available for investors.

16. Q: Will the local banks continue to pay market interest rates on long ISK cash balances, and will they be able to offer an overdraft rate for short balances? Or failing that, will the Central Bank establish a facility whereupon international banks can lend/borrow directly with them, given the risk/credit issues some have in dealing with the failed local banks?

A: ISK deposits will pay interest rates according to the policy of the bank where the deposit is held. Short balances are subject to Article 3 of the Rules. According to this, if the borrowing is not related to cross-border transactions with goods and services, the borrowed amount may not exceed ISK10,000,000 per year, and the loan period must be at least one year. There are no limitations on interest payments.

17. Q: If an international investment bank has two custodians, can ISK payments be made between them?

A: Yes, through their Icelandic króna accounts.

18. Q: What are the penalties for violation of these Rules?

A: The penalties for violations are set forth in the law that was passed by the Parliament on November 28.