Britain warned Iceland that it would be frozen out of the European Union after its President abruptly vetoed the repayment of a $5 billion loan.

The Treasury expected Reykjavik to rubberstamp the terms of repayment for the loan extended by Britain and the Netherlands at the height of the financial crisis. The loan meant that 400,000 savers with deposits in Icesave did not lose their money.

President Ólafur Grimsson stunned the world’s financial community by refusing to sign the repayment schedule into law. Instead, he said that the matter would be decided in a referendum among Iceland’s 243,000 voters.

The decision threatened to bring down the Icelandic Government, took its financial system to the brink of collapse and sparked the worst row with Britain since the Cod Wars of the 1970s. Fitch, the international rating agency, downgraded Iceland’s credit rating to junk status.

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