The Icelandic Kroner is in free fall, down 15 percent in one week. The current account deficit out of control, inflation running at more than 12 per cent and interest rates at a record 15.5 per cent. The three largest banks have liabilities eight times greater than the country's GDP. The Icelandic banks are not too big to fail; they are too big to save. The credit rating agencies have downgraded both the government and the four major banks. How can anyone get out of that kind of mess?
Don't laugh too long at the hapless Icelanders. The UK economy has the same basic structure as Iceland. Our financial sector employs 20 percent of the workforce, and the liabilities of our banking sector are several times annual GDP. Only we have a population of 60 million.
The MPC should think long and hard about the effect of a rate cut on sterling. Further exchange rate weakness might turn our little banking crisis into a fully fledged exchange rate crisis.
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