Iceland and Europe
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💰Money & Economy

Would our pensions be safer with the euro?

Yes, considerably. Iceland's pension funds are like whales in a bathtub inside the króna economy. They hold enormous claims on the future — in krónur. With the euro, our pension savings would become a claim on the vast European economy, with far more secure purchasing power and less risk.

Iceland has one of the strongest pension systems in the world relative to its population and the size of its economy. But that very success has created a problem that is rarely discussed: will the króna economy be able to deliver goods and services in line with pensioners' expectations when the time comes?

A whale in a bathtub — concentration risk

Icelandic pension funds now hold assets exceeding 200% of GDP. Because pensions are paid out in Icelandic krónur, laws and risk management rules limit how much the funds can invest abroad — due to currency risk.

This means the funds are forced to channel most of their contributions and returns back into the small Icelandic króna economy. They already own an overwhelming share of everything there is to own domestically: equities, bonds, funds, and mortgage-backed securities. They are like a whale in a bathtub; every time they move, water splashes over the sides. This extreme concentration increases the risk of domestic asset bubbles and tends to fuel inflation rather than contain it.

The lesson of 2008: When purchasing power went up in smoke

The 2008 crash illustrates the system's vulnerability. The value of many domestic assets held by the funds fell sharply. In the wake of the króna's collapse and surging inflation, the purchasing power of pensions contracted as well. It took the funds years to recover from the shock, and even longer for pension entitlements to regain their former purchasing power.

What would change with the euro?

Joining the euro area would fundamentally alter the pension system's premises:

  • Automatic conversion to euros: All króna-denominated pension assets would be converted to euros by the European Central Bank. In an instant, the entire pension savings of the nation would become a claim on the enormous European economy — instead of a claim on a tiny króna economy, in other words on ourselves.
  • Diversification: The pension funds would be freed from the króna constraint and could invest anywhere in Europe — in Dutch equities or German infrastructure — with zero currency risk. They would no longer be locked inside Iceland.
  • Purchasing power protected: When large cohorts retire and spend their pensions on imported goods, they would no longer need to fear that the króna might collapse under the pressure.

In short: The euro doesn't solve every problem, but it solves the single biggest problem facing the pension system. It allows the funds to diversify their portfolios beyond Iceland's borders without currency risk, and ensures that the purchasing power you build up over your working life doesn't go up in smoke in the next crash or currency devaluation.

Sources and further reading:

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