Iceland did not do well. But it did better. Because of sound economic and financial policies.
In the curious case of the Icelandic economy the admirable economist Tyler Cowen misses the wood for the trees. The situation is simpler than he indicates:
A) Thanks to financial machinations of out of control banks Iceland experienced a terrible financial crisis from which it has not yet fully recovered (graph), despite capital controls and the right sizing of debts and devaluation ( Mind: devaluation does not seem to increase exports. See this recent ECB study, look here for J.W. Mason on this. Devaluation might however direct domestic demand from imported to domestic goods).
B) It did, however much better than, for instance, the Baltic states (and Ireland, see below), which did not only experience a terrible financial crises, too (albeit not as bad as the Icelandic one) but were on top of this the victims of austerity policies aimed at depressing domestic purchasing power and transferring wealth to international creditors.
Cowen does mention it but does not seem to grasp the implication: external devaluation does lead to relatively higher prices for imported goods (because of the extreme current account deficits of these countries this was, however, not a bad thing) – but unlike the internal devaluation embraced by the Baltic countries it does not lead to relatively higher prices for domestic goods and, especially, services. Which means that there will be a shift from spending on imported stuff to spending on domestic stuff, which mitigates the decline of domestic employment, income and production. This is the road travelled by Ireland and, though long and bumpy, it at least enabled Iceland to prevent the worst consequences of deregulated finance gone wild. The Baltics, however, deepened the crisis because they did not grasp the implications of basic macro econmics. To enable savings which were needed to pay back the debts they slashed government and private spending but, when push came to play, these savings evaporated as cutting spending did not lead to higher savings but to less income, employment and production and therewith to lower savings. How often do we have to say this: cutting domestic spending and wages does not automatically lead to higher exports and will, therefore, depress the amount of funds available to pay back debts.
Did I already mention that Icelandic demographics are much more favorable than the Baltic ones? It will take some time, but the tiny but more or less stable Icelandic population will once be larger than the declining Estonian one. Might this difference in especial birth rates at least have something to do with people having a kind of long run basic trust in their government that it will do (or that they can force it to do!) what is arguably best for the population? Hmmm… something to ponder.
See also this Krugman post which shows that the development of employment in austerity country Ireland followed the Baltic pattern. And I fully agree with Cowen that in the cases mentioned above forceful reflation would have been the better option. The main take away – in case of crisis, choose for work and income, not for financial wealth and debts.