Thorvaldur Gylfason

1. From Dependence to Diversification: The Case of Iceland Thorvaldur Gylfason

2. History: Three key dates 1904 Home rule • Icelandic Minister for Icelandic affairs, responsible to the Althing • Supreme executive power transferred from Copenhagen to Reykjavík 1918 Sovereignty • Royal union with Denmark • Foreign affairs still handled by Denmark 1944 Independence • Controversial: some wanted to wait

3. Iceland’s economic development since 1900 Rapid economic growth: Revolution • Iceland: 2½% per year 1900-2000 • Denmark: 2% per year 1900-2000 Major sources of rapid growth • Institutions: Democracy, liberty, equality • Investment • Education • Trade • Diversification away from fish

4. Iceland’s economic development since 1900 Further sources of rapid growth • Escalating foreign debt • Living beyond our means • Question of sustainability • Hard work • Need long hours to make ends meet • Mixed blessing: Sign of costly inefficiency • Rural interests are overrepresented in the Althing • Special-interest politics has delayed modernization in the direction of a wide-open market economy

5. A common misconception about fish in Iceland Iceland is no longer a fish-based economy • Share of fisheries in economic activity is less than many seem to think • In GDP: less than 10% • In employment: less than 8% • In exports: less than 40% • Natural consequence of rapid growth • Fish stocks are fixed while other sectors of economy continue to grow

8. More on trade and diversification Foreign trade is key Goods, services, capital, labor • “Four freedoms” (EEA) Ideas, technology, innovations • Trade is education Fierce debate in Iceland … • … since 1843, when Jón Sigurðsson published his first treatise on trade

9. Foreign trade is key • For example, debate in 1920s about whether to import foreign workers to “enlarge” Iceland • Those in favor stressed efficiency gains from industrial expansion • Those against emphasized threat to Iceland’s national identity • Debate continues • To join or not to join the EU? • Iceland vs. Norway

10. Foreign trade is key Iceland’s entry into EEA ten years later • 33 MPs of 63 voted for EEA agreement Substantial and diverse gains • Backbone of Iceland’s economic liberalization in the 1990s But, for Iceland, EEA is not enough • Local oligopoly hurts consumers Even EU membership is not enough • National currency hinders trade

11. Foreign trade is key • In these debates, • there are those who look outward and want to make Iceland more like other countries nearby, and larger … • ... and there are also those who look inward and wish to be on guard against foreign influences and want to keep Iceland different, and small • Some want a mixture of both • Beware of false contrasts • Openness can be a source of strength

12. Foreign trade is key • Trade is key to diversification, which also matters greatly for growth • Major challenge • Develop human resources through education and vocational training • Iceland’s success derives from its well-educated people, not fish in the sea • Natural-resource dependence has proved to be a mixed blessing around the world: question of education, inter alia

13. These slides can be viewed on my website: www.hi.is/~gylfason In conclusion The key to lasting economic success is a market economy based on free trade, diversified economic activity, well-educated labor, and sound policies and institutions The End Political sovereignty, then full independence, helped Iceland achieve these goals

14. Jón Sigurðsson “When trade was free in ancient times, the country lived its golden age.” (1843) Foreign trade restrictions were lifted in 1855 “You think that someone may swallow us up. Let them gobble, in the sense that they trade and do business with us.”

15. GDP per capita 1975-2002 (US$, constant 1995 prices, ppp) Denmark and Iceland’s growth performance since 1975 is almost indistinguishable

16. GDP per capita 1975-2002 (US$, constant 1995 prices, ppp) Denmark and Iceland’s growth performance since 1975 is almost indistinguishable Ireland caught up, and surpassed us

17. Investment 1960-2002 (% of GDP) Quantity vs. quality Similar investment behavior in Iceland and Denmark since mid-1980s Before, egged on by high inflation, Icelanders invested more

18. Tertiary education 1970-2000 (% of cohort) Denmark remains ahead of Iceland in higher education Recently, spurred by proliferation of different colleges, some private, tertiary education enrolment has risen

19. Exports 1960-2002 (% of GDP) Exports from Iceland have been stagnant relative to national income since 1870 Exports equivalent to one third of GDP: too small for such a small country

20. Foreign direct investment 1974-2002(% of GDP) Iceland has also been a reluctant recipient of FDI This reflects a general reluctance to engage in free trade, as witnessed by Iceland’s unwillingness to join the EU

21. High-tech exports 1988-2002 (% of total exports) Iceland has not been at the forefront of the high-tech revolution Manufacturing has been hurt by preferential treatment of fisheries

22. Primary exports 1962-2002 (% of merchandise exports) Iceland has begun to diversify its economic base Fisheries account for 40% of exports and less than 10% of GDP and the labor force

23. Current account balance 1980-2006 (% of GDP) ! Forecasts

24. Foreign debt 1980-2004 (% of GDP) !

25. GDP per hour of work 2002 (US$ at 1999 prices) !

26. Fish exports 1980-2003 (% of total exports)