By Elias Thorsson
REYKJAVIK (Reuters) - Iceland's prime minister called for a snap parliamentary election on Friday after one party in the ruling coalition quit the government formed less than nine months ago.
The outgoing party, Bright Future, cited a "breach of trust" after Prime Minister Bjarni Benediktsson's party allegedly tried to cover up a scandal involving his father.
That leaves the country, whose economy was wrecked by the collapse of its banking system nearly a decade ago, facing its second snap election in less than a year.
The outgoing government would be the shortest-living in Iceland's history. The previous government was felled by the Panama Papers scandal over offshore tax havens.
"We have lost the majority and I don't see anything that indicates we can regain that. I am calling an election," Benediktsson told reporters.
He said he would be looking to hold the election in November though that would mean it would not be possible to finish next year's budget.
It is ultimately up to President Gudni Johannesson, whom Benediktsson will meet with on Saturday, to make the decision on a new election.
If he accepts the call for an election he is likely to ask the government to stay in place until a new coalition is formed but he could also ask other parties to try form a majority. Johannesson was not immediately available for comment.
The news knocked more than 1 percent off the value of the Icelandic crown against the euro and the dollar.
The scandal revolves around a letter written by Benediktsson's father to help an old friend have his criminal record expunged after he was convicted of sex offences against children.
"The board of Bright Future has decided to terminate cooperation with the government of Bjarni Benediktsson," the party said in a statement. "The reason for the split is a serious breach of trust within the government."
The Ministry of Justice, under Sigridur Andersen, a member of Benediktsson's Independence Party, initially refused to disclose who had written the letter of recommendation. She was later ordered to do so by a parliamentary committee.
Andersen told broadcaster Stod 2 that she had informed Benediktsson about his father's involvement in July but had not told anyone else.
"I was told by the justice minister that we were discussing confidential matters, which followed the rules of the ministry...I decided to handle the issue as a confidential matter," Benediktsson said.
He had later informed the chairmen of the coalition parties, he said.
"First, it was illegal for me to indulge the information, second, I informed them when I could."
The prime minister's father, Benedikt Sveinsson, confirmed on Friday that he had signed a letter supporting his friend's application to have his "honor restored", a procedure that effectively erases a criminal record. Among the requirements is a letter of recommendation from a close friend or associate.
Sveinsson said he had not discussed the letter with anyone.
"This week, it came forth that my father had written a letter... I couldn't have written such a letter myself and I will never try to defend that," Bendiktsson told a news conference.
Capital Economics economist Stephen Brown said a change of government could frustrate plans to overhaul Iceland's monetary policy framework. Benediktsson's administration has asked experts to look at options, including pegging the crown to the euro or the pound to keep sharp shifts in the currency from destabilising the economy.
The central bank cut interest rates four times in the year to June to tame the crown. The currency has soared on the back of a tourism boom that has helped the economy recover from years of crisis but increased the risks of overheating. The strong currency is also hurting Iceland's exports.
"I think if there's going to be another election and possibly the chance of a more left-wing government, then that probably decreases the chance of monetary policy being loosened any further in the future," Brown said.
"That could be quite important."
(Reporting by Elias Thorsson in Reykjavik, additional reporting by Julie Astrid Thomsen and Teis Jensen in Copenhagen and Marc Jones in London; Writing by Stine Jacobsen and Teis Jensen; Editing by Larry King)