UK taxpayers have been left more than £100m out of pocket after a European court ruled that the Icelandic government had no obligation to repay Britain and the Netherlands for rescuing depositors in failed bank Icesave.
The European Free Trade Association (EFTA) court on Monday ruled that Iceland did not break European free trade laws on deposit guarantee schemes by refusing to compensate foreign depositors after Icesave’s owner, Lansbanki, collapsed in 2008.
The judgment obliterates any hopes the UK government had of pursuing Reykjavik for interest on the £2.35bn bail-out. It also raises grave questions about Europe’s cross-border banking arrangements, which allow overseas lenders to “passport” into a country without being subjected to local financial regulation.
In a key ruling that will set a precedent for future cross-border depositor guarantees, the EFTA court dismissed all three claims brought against Iceland and said the compensation rules did not mean the government had to fund the scheme.
“It is of considerable satisfaction that Iceland’s defence has won the day in the Icesave case. The EFTA Court ruling brings to a close an important stage in a long saga,” the Icelandic Foreign Ministry said.
The case stems from the collapse of Icesave in 2008. To prevent a run on any other banks, the then Chancellor Alistair Darling decided to bail out Icesave’s 230,000 savers to the full extent of their savings about £3.5bn. Of that, £2.35bn was covered under the rules of the European financial compensation scheme.
Iceland refused to pay the sum, as its financial crisis had nearly bankrupt the entire country, prompting the UK to invoke terrorist legislation to seize Landsbanki’s UK assets.
The UK has since been pressing Iceland to repay not just the £2.35bn of principal but also the interest bill to British taxpayers. Initially, the UK requested interest of 5pc before adjusting its demand to between 3pc and 3.3pc a year from 2009 to 2016. Both requests were rejected by the Icelandic public in two referendums.
The EFTA court has now ruled out any prospect of the UK suing Iceland for the interest cost, and clarified that governments are not liable to cover the cross-border depositor guarantee obligations of their banks. It effectively saves the Icelandic government more than £100m that would have been paid under the second Icesave Agreement.
A Treasury spokesman said: “We are being reminded again of all that went wrong in our system of financial regulation, which we are still paying the price for.”
The UK taxpayer is on course to recover almost everything, as Landsbanki’s administrators have confirmed that the estate has more than enough money to cover the £2.35bn principal and £100m in official penalties that applied until 2009. Asked if Britain might demand further interest, though, Iceland’s Prime Minister Johanna Sigurdardottir on Monday said: “They are in no position to do so.”
The ruling also makes a mockery of the cross-border European banking rules. Governments are currently prohibited from stopping a bank operating in the country while remaining subject to the host nation’s regulator. The court ruling means that host nations have no responsibility for foreign depositors in the event of a collapse. Savers can only recover their money from the bank directly, through the administration process, which could take years.
Jóhannes Karl Sveinsson, Iceland’s Supreme Court Attorney, said: “This is cross-border banking. The EU has an enormous problem [with it]. They are trying to improve the situation. I would think this ruling would give them a reason to speed up what they are doing.”