Icelandic referendum set to snub UK repayment demand

Failure of last-minute talks to reach compromise leaves voters to give their verdict

Iceland's disgruntled voters are expected to deliver a resounding "no" when they head to the polls today to vote in a crucial referendum on the terms of the island nation's repayments to Britain and the Netherlands.

The vote, Iceland's first ever referendum, was called in January by President Olafur Grimsson in response to widespread public anger at the punitive terms of a deal the government struck with its creditors last year. Voting centres open this week have already drawn crowds of people willing to queue to register their views.

A negative verdict, partly prompted by what many Icelanders view as Britain's intimidatory tactics when it used anti-terror legislation to freeze Icelandic assets when its banking system collapsed in 2008, seems inevitable. Polls are running at 70 per cent against the proposed legislation.

"We're sending the message: don't negotiate with us under coercion," Magnus Arni Skulason, an economist and founder of the InDefence group that led a petition for a referendum, said yesterday. "You can't threaten or bully other countries. You must be reasonable and try to solve it in a gentlemanly way, what we thought was the British way."

The existing terms attach a stringent interest rate to the £3.5bn that Iceland owes its creditor nations in compensation for money British and Dutch savers lost in Icesave, the internet offshoot of Landsbanki.

In the past three weeks Icelandic negotiators hoping to strike a better deal have been locked in desperate discussions with their UK counterparts, but yesterday finance minister Steingrimur Sigfusson told reporters in Reykjavik that it was "improbable that a new deal on Icesave will be reached before [the vote]", and talks broke off. British officials have already seen what they termed their "best and final offer", which revised the 5.5 per cent interest rate under the original deal to a floating rate plus 2.75 per cent, turned down.

Many in Reykjavik had thought the discussions would bear fruit. "It is a little surprising," said Ogmundur Jonasson, the former health minister who resigned from the government to campaign against the Icesave deal. "There had been a change in mood in the politics here, and we felt a change in the world's attitude towards Iceland – people seem much more sympathetic than they did before. We are not saying no to Iceland honouring its international obligations. But we are facing an unbearable burden."

Icelandic officials remain hopeful that a new deal will eventually be struck; if so, it could retrospectively override the referendum and finally settle the saga of their debts to the UK.

But the government remains wary that the vote could do further harm to foreign perceptions and investment. Credit agencies moved to downgrade Iceland immediately after the referendum was announced, which has made it impossible to bring foreign loans into the country. Moody's warned last month it might follow other agencies in downgrading Icelandic bonds to "junk" status if there is a "no" vote. If Iceland does fail to reach terms on repayment, crucial loans from the International Monetary Fund could be jeopardised.

"A 'no' decision won't affect these talks," said Elias Jon Gudjonsson, a finance ministry official. "But it can cause a lot of complications. If there are headlines that Iceland refuses to pay, that will make things more difficult."

Iceland's fragile financial status after its banking system's collapse was further underlined yesterday with the release of GDP figures for 2009 that revealed a precipitous 7 per cent fall on the previous year – although there were positive figures for the last quarter of the year, with output up 3.3 per cent on the previous three months.

The executive's dismay at the President's decision to call a referendum was recalled yesterday by Prime Minister Johanna Sigurdadottir's decision, along with members of her cabinet, to boycott the vote altogether. "I feel that this has no value," she told Frettabladid newspaper. "It is very sad that the first referendum of the republic of Iceland is on an outdated law."