INVESTING IN ICELAND: OPPORTUNITIES AND OBSTACLES

UNCLAS REYKJAVIK 000191

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E.O. 12958: N/A
TAGS: PGOV PREL ECON EFIN IC
SUBJECT: INVESTING IN ICELAND: OPPORTUNITIES AND OBSTACLES

REF: Reykjavik 176

Do not post on internet. Contains business information.


1. (SBU) Summary: As Iceland struggles to rebound from last year's
financial meltdown, the government is reevaluating the future
direction of the country, including the role of foreign direct
investment (FDI). There is potential for investment in a variety of
sectors, particularly those that utilize green energy. The
government has stated its desire to bring in FDI to create jobs and
rebuild the economy, yet recent actions have begun to discourage
foreign investors from entering the market or expanding operations.
Creating and adhering to business-friendly tax policies will
encourage more FDI. End summary.

Opportunities
--------------


2. (U) Katrin Juliusdottir, Iceland's Minister of Industry (SDA),
recently opened a conference on FDI with her thoughts on why
investors are attracted to Iceland. Investors, she said, come to
the country to take advantage of Iceland's abundance of clean
energy, educated population, and geographic location. She added,
however, that Iceland must diversify its economy if it intends to
create a sustainable and competitive financial system. The country
has identified several fields on which it is concentrating efforts,
but is open to any idea that would utilize the country's resources
in a profitable, environmentally responsible manner.


3. (SBU) Several government leaders, including three Ministers, have
told us that they view data centers as a key to the development
future of Iceland. Data centers are an ideal industry for Iceland
due to the country's naturally cool climate and low utility costs.
According to the director of the government-sponsored Invest in
Iceland Agency, data centers that invest in Iceland can negotiate
power supply prices for 20 years. This could lead to savings of up
to 40 percent per year on energy costs compared to data centers in
London. As a result of these advantages, several data center firms
are looking at Iceland, including an American company that is
rumored to have lined up IBM as a client.


4. (U) The government of Iceland is also actively trying to attract
FDI in the field of health tourism. An American-financed company is
planning to open a private hospital outside of Reykjavik that will
specialize in hip and knee surgeries for foreigners. Invest in
Iceland is also seeking investors for carbon fiber production,
utilizing the energy stream from geothermal plants to power
greenhouses, cultivation of aquatic biomass, and polysilicon
production. Similarly, the property manager of the old NATO base in
Keflavik is actively seeking businesses to set up operations. It is
focusing on areas such as data centers, a renewable energy research
center, health tourism and a flight school, but is flexible and open
to other industries. The area is close to the international airport
and a harbor and has access to renewable energy.

Obstacles
--------------


5. (SBU) A major obstacle to investing in Iceland is the uncertainty
created in the fallout of last year's financial crisis. The
representative of one of the first companies trying to open a data
center in Iceland noted at the recent FDI conference that the
country is perceived as a risky place to do business as a result of
last year's financial meltdown, the Icesave issue, and the ongoing
currency restrictions. Capital controls remain in effect, though it
is anticipated that the Central Bank will begin gradually lifting
the restrictions upon receipt of the next tranche from the IMF. The
managing director of the McDonald's franchise in Iceland announced
the closure of all three restaurants effective November 1, citing
the rising cost of importing ingredients and the lack of any signs
of an economic recovery.


6. (U) A second obstacle is Iceland's evolving tax structure. Fred
Vossen, a partner with PriceWaterhouseCoopers in Belgium, stated at
the FDI conference that the lack of certainty regarding the tax
environment impedes investment. The government currently views
increasing tax revenue as one of its few options in the struggle to
reduce the record deficit that is projected to exceed 10% of GDP in

2010. Vossen argued that a proposed uniform energy tax (reftel)
would kill Iceland's national competitive advantage in energy
intensive industries. Media reports indicate that foreign companies
have already halted at least seven different projects after learning
about the proposed energy tax and are looking to establish
operations in other countries.

7. (SBU) The data center representative agreed with Voss, noting
that the uncertainty surrounding tax issues is the number one
problem today. Despite Iceland's stated desire to attract data
centers, for example, its prospective tax policy could produce the
exact opposite effect. (Note: In addition to taxing the data center
itself, the Ministry of Finance is considering classifying each
server as a physical presence in Iceland, which would subject each
data center client to additional taxation. End note.)


8. (U) Another potential obstacle to foreign investment is a rising
nationalistic movement in Iceland. A growing number of Icelanders
are increasingly wary of foreign investors and deeply protective of
maintaining ownership of Iceland's natural resources. The
government has stated that it would also like to diversify the
economy beyond the aluminum and fishing industries. As a result,
aluminum projects planned years ago have been delayed or canceled.
For example, the Minister of Environment did not renew a letter of
intent for the construction of an American smelter in the north to
allow the government to investigate more environmentally friendly
options that could create more jobs or income. (Note: It is
perceived that the long-term contracts negotiated by the aluminum
industry contain unfavorable terms for the government, particularly
regarding the cost of energy usage. End note.) The Minister of
Environment also called for a review of an environmental impact
assessment for another American aluminum smelter near Keflavik
already under construction. Her decision could delay the project
anywhere from two months to two years and raises the question of
whether Iceland will honor previous commitments to foreign firms.

Comment
--------------


9. (SBU) The Minister of Industry recognizes that FDI is a key
element in creating jobs and rebuilding Iceland's economy; however,
she faces some strong opposition in creating such a reality,
especially from the minority members of the ruling coalition. The
potential exists for FDI in Iceland, ranging from small business to
large scale investment. Yet the debate regarding the appropriate
types and level of FDI in Iceland must be resolved in short order
for Iceland to restore its credibility in the international business
community. Implementing a business-friendly tax policy is the first
step, which the government must do in consultation with key industry
players. Iceland should also create an incentive package for inward
investment that is in line with EU regulations, to include tax
incentives, training grants, and cash grants for fixed asset
investments. However, since the government has yet to fully grasp
the importance of implementing such measures, a comprehensive
investment strategy including such incentives is unlikely to
materialize any time soon. End comment.