Iceland will announce on Monday a €1.5bn ($2.1bn, £1.3bn) recapitalisation of its banking sector and unveil a deal to hand control of two of the country’s healthy new banks to foreign creditors.

The steps mark an important milestone in efforts to rebuild Iceland’s shattered banks and reintegrate the north Atlantic island nation into the international financial system.

The government will issue bonds worth IKr270bn ($2.1bn) next month to three new banks set up last year after the country’s three main banks fell victim to the global credit crunch.

Creditors to the failed banks, will be offered equity stakes in two of the new banks as compensation for healthy assets that were salvaged from the ruins last October.

A provisional agreement was reached on Friday after weeks of difficult negotiations, clearing the way for the long-awaited recapitalisation, according to people involved in negotiations.

The deal is the latest in a series of steps aimed at restoring trust in Iceland’s financial system and stabilising its broader economy.

Last week, the Icelandic parliament voted to start negotiations to join the European Union .

In another breakthrough, the government last month agreed a deal to reimburse billions of pounds and euros lost by British and Dutch savers in Icelandic bank accounts.

Restructuring its banks, repaying creditors and stabilising its currency were all conditions of the $10bn rescue package granted to Iceland by the International Monetary Fund and European countries last year.

The capital injection to be announced by the government on Monday would increase the core tier one capital ratios of the new banks to about 12 per cent – in line with international standards.

Under the provisional deal, creditors to the failed banks will be offered controlling stakes in New Kaupthing Bank and Islandsbanki, which inherited the healthy assets of the failed Kaupthing and Glitnir banks, respectively.

The agreement was struck with the “resolution committees” set up by the government to unravel the failed banks but creditors were closely involved and are expected to give approval.

The deal would compensate creditors only for the assets transferred to the new banks, which represent just a fraction of the $60bn owed to foreign lenders. But it clears a crucial hurdle towards building a new bank system and starting the process of cleaning up bad assets in the failed banks.

“It was important that we reached an agreement with creditors rather than it ending up in litigation,” said an Icelandic official.

A formal deal has not yet been struck concerning assets taken from Landsbanki, the third failed bank, because its foreign entanglements – including heavy liabilities to the UK and Dutch governments – are the most complex. People familiar with negotiations said an outline deal was in place and would be finalised by the end of July.

Negotiations were led by Hawkpoint, a British financial advisory firm, appointed by the Icelandic government to oversee the process.

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