January 26, 2009 / 5:05 PM / 11 years ago

SCENARIOS-Iceland ponders future as government falls

REYKJAVIK, Jan 26 (Reuters) - Iceland’s ruling coalition fell apart on Monday as Prime Minister Geir Haarde said he was handing in his immediate resignation and the head of one of the coalition partners said she was taking a leave of absence.

Haarde, who announced on Friday his intention to step down because he is fighting cancer, had planned to continue in his role until early elections proposed for May.

But political pressure in Iceland over the handling of the island nation’s financial meltdown has proved too intense.

What’s in store politically in the coming days and weeks and what are the implications for the big issues Iceland faces?

A NEW GOVERNMENT?

Broadly speaking there are three main political possibilities — a national unity government, a new coalition or a government made up of the previous coalition partners, the Independents and the Social Democratic Alliance (SDA).

Haarde’s Independents have 25 of 63 parliamentary seats. The SDA, which has 18 seats, has been headed by Foreign Minister Ingibjorg Gisladottir. Recently treated for a brain tumour which proved benign, Gisladottir said on Monday she was taking a leave of absence for one or two months. She suggested Social Affairs Minister Johanna Sigurardottir as a possible prime minister.

After the Independents and the SDA, the next biggest faction is the Left-Green Party with nine seats. Polls show it is gaining popularity and its leader, Steingrimur Sigfusson, has thrown his hat in the ring as a possible prime minister.

“What is likely to happen is that a minority government of the Social Democratic Alliance and the Leftist Greens is formed,” said Gunnar Helgi Kristinsson, a professor of political science at the University of Iceland.

“However, there are quite a few points which the two parties would have to agree on, such as the European Union, the IMF (International Monetary Fund) and who should become prime minister.”

He said it was not impossible that Gisladottir’s suggestion of Sigurardottir could be taken up. “She is the most popular minister of the outgoing government and has been successful in her role.”

CENTRAL BANK, CURRENCY DILEMMAS

Along with Haarde, another person who has come in for heavy criticism has been central bank chief David Oddsson, previously Iceland’s longest-serving prime minister and the architect of an economic overhaul during the past decade.

Local media have speculated about Oddsson’s future for months, but there was always the knowledge that he had a staunch ally in Haarde.

“It is very hard to think of a scenario which will involve David Oddsson staying at the helm of the central bank,” Kristinsson said.

“The only plausible option is if the Independence Party would form a minority government by themselves. However, then the other parties in the Althing (parliament) could pass a law ousting Oddsson from the bank.”

If he does leave the central bank, it will compound uncertainty about what will happen in Iceland’s efforts to make its currency tradeable again.

The political crisis seems to have demolished what little international action there was in the embattled crown. The Thomson Reuters conversational dealing system showed no international trade in the crown EURISK=D3 since January 21, when it was valued at 210-215 to the euro.

That is much lower than its value in the onshore Icelandic market EURISK= — between local banks which are now under government control — where it was quoted at 159 to the euro.

ECONOMIC QUESTIONS

Sigfusson has struck a populist note in his early views, calling for negotiations to be reopened with the IMF to make reforms better suited to “Icelandic needs and circumstances”.

Among other things, the IMF called for a sharp boost in interest rates to a fresh record high soon after the collapse of the island’s banks and its currency.

But analysts said that could end up being more harmful than helpful.

“I would hope that any new government would stick with the current IMF deal because otherwise the future for Iceland is even bleaker economically,” said Lars Christensen, head of emerging markets research at Danske Bank.

Either way, there is not much any government can do to revive the economy for some time. The economy is forecast to contract as much as 10 percent this year.

POLITICAL FACES, OLD AND NEW

Sigfusson’s gambit has introduced a fresh name to the mix.

Meanwhile, Gisladottir’s absence during the next couple of months could prove to be smart politically. She has long pushed for embracing the European Union — an idea Icelanders have now warmed to in the wake of the crisis — but she risked being painted with the same brush as Haarde’s party.

Having narrowly lost out to Haarde last time around in 2007, the former mayor of Reykjavik may be keen to preserve her chances for a future run at the top job.

Even leaving aside the question of his health, it is hard to see Haarde returning as a political player.

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