Animal Spirits in Iceland

Abstract

This article seeks to understand the 2008 economic crisis in Iceland in light of the ‘animal spirits’ framework as pioneered in the 2009 book by George Akerlof and Robert Shiller. Rooted in a Keynesian perspective it analyses the micro-foundations of a boom and bust sequence. It demonstrates how human attributes such as confidence, reliance on stories and bad faith can help explain the decisions taken in Iceland in the time leading up to the crisis. The combination of high levels of confidence and a new era story spurred a development that morphed into a mania. Actions based on bad faith also contributed as they gave the impression of success even though, in the long run, they undermined the whole system.