Cablegate: Iceland's Financial Crisis: The Russia Angle

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STATE FOR EUR/FO A/S FRIED

E.O. 12958: DECL: 11/03/2018
TAGS: PREL EFIN ECON PGOV RS IC
SUBJECT: Iceland's Financial Crisis: The Russia Angle

Classified by: Ambassador Carol van Voorst for reasons 1.4 (b) and
(d).

1. (C) The announcement by Iceland's Central Bank on October 7 that
Russia would provide a USD 5.4 billion loan created an international
stir, unleashing a wave of speculation as to who had approached
Russia, why and when the contact was made, and what the Russians
could be contemplating as the quid pro quo. The who and when
questions seemed to have been put to rest by Prime Minister Geir
Haarde's comment last week that he had discussed assistance with the
Russians in August "on his own initiative." As for the quid,
everything from landing, refueling, maintenance or other rights at
the former U.S. base at Keflavik, to advantageous exploration and
exploitation rights in potential gas and petroleum fields under
Icelandic waters, has been suggested.

2. (C) Following the announcement, a team of Central Bank and other
financial experts traveled to Moscow October 14-15 for talks. They
did not return with a deal, but did hold open the possibility of
further talks. Although we have been told there have been telephone
and e-mail contacts, there have been no subsequent meetings. In the
meantime, Russian government comments to the press have been getting
progressively bleaker, hinting at doubts concerning Iceland's
creditworthiness. There has also been casual talk that Iceland's
failure to gain a UN Security Council seat last month may have
lessened Russian interest. International press stories outlining
Russia's own financial difficulties appear to have significantly
dampened expectations here. As more time passes without a successful
deal, Russia's motives have been questioned, including suggestions
that Moscow was never serious about the loan and offered it only as a
public tions stunt to boost Russia's image and discomfit the West.
(If so, this tactic has not worked all that well: Icelandic polls
taken in October 2006 and October 2008 show the same 39 percent of
the population favorably disposed towards Russia, though the
negatives in 2008 are slightly higher.) Although the Icelandic
government asserts in public that the deal is still on the table and
bilateral discussions will continue, in private, high-ranking sources
in the MFA and the Prime Minister's office tell us that the deal is
on the back burner and they want it to stay there. Iceland has no
interest in a bilateral financial arrangement with Russia except as a
last life-saving effort should friends and allies fail to come
through with credit. Icelandic leaders hope that any such loan would
be included as part of the IMF bail-out, with Russia only one of a
consortium of lender countries. If it is a separate bilateral deal,
however, the government has also repeatedly assured us and the public
that the loan would be a purely financial transaction, with no
foreign policy implications. Few we have talked to believe that
Russia would actually be so altruistic.

3. (C) There has been no lack of theories and entertaining
"informed" comment as to why the Russians would be willing to offer
financial assistance for the first time to a NATO country. Much of
the speculation we have heard features one or all of the following:
corrupt Russian oligarchs, Prime Minister Putin, shady bank dealings,
money laundering, and secret accounts in the now-failed Icelandic
banks. One well-placed observer points to a purported close
friendship between Russian Ambassador Victor Tatarintsev and PM Putin
that supposedly inclined the Prime Minister to be generous to
Iceland; other commentators suggest secret illicit connections
between various oligarchs and the now defunct Icelandic banks or
their European branches and subsidiaries. A story that circulated
among the international press camped out in Reykjavik two weeks ago
claimed that the Russian leadership offered the loan to recover
Russian state property that had been illegally put up as collateral
for a loan that a company closely tied to Putin had obtained from
Iceland's Kaupthing Bank.

4. (C) The matter remains a puzzle, and post can't claim to have a
firm fix on any part of it. The MFA Permanent Secretary told the
Ambassador the MFA had no knowledge of any bilateral loan discussions
before the Central Bank announcement. A senior MFA source blamed
the whole business on Central Bank shenanigans, asserting that the
Prime Minister did not know of the contacts between the central banks
until very recently. Yet another senior official told us that the
loan offer started off as something quite different: when an
Icelandic citizen owner of a small bank in St. Petersburg complained
of problems with currency transactions, the Russian Central Bank
proposed to the Icelandic Central Bank that the two institutions
discuss some sort of cooperation, presumably a currency swap. At
some point this summer, the Prime Minister was made aware of and
became involved in the budding deal. How the currency swap became a
huge loan offer is left unclear. What does seem certain, though, is
that the Central Bank's announcement of the loan offer came as a
surprise to many, including members of the Prime Minister's office
and the Foreign Minister's inner circle.

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5. (C) Of all the government representatives who have discussed the
loan in public, Central Bank Governor David Oddson has been the most
obviously enthusiastic. If the Central Bank announcement was an
attempt by this former Prime Minister and champion wheeler-dealer to
pressure lagging friends - particularly the U.S. - into quickly
offering their own loans, the game has not been successful. Except
for Norway, whose Foreign Minister announced a loan today, the
Nordics and the rest of the potential lenders continue to mull over a
decision.

6. (C) There is little public or government support for the loan
except as a last-ditch effort to rescue Iceland from financial ruin.
Since the closing of the base at Keflavik in late 2006, the
Icelanders have kept a wary eye on the increasingly visible Russian
military activities in the High North. They don't like the Russian
presence in the North Atlantic and don't want to encourage it. This
government most particularly doesn't want to be beholden to Moscow.
No letter to Russia was included in the flurry of missives sent last
week to potential lenders, including the U.S., the European Central
Bank, China, Japan, and the Nordics. However, if the Icelanders
can't find the USD four million they need to complete the agreement
with the IMF from sources they prefer, then sheer necessity will
dictate that they take whatever the Russians make available. As to
the terms of that loan, stated or implied, the deepening financial
crisis and the pending social upheaval here suggests that the
Icelandic government will be in no position to be too choosy.

VAN VOORST

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