Welcome to Iceland: Despite the crunch, it's still worth a visit

"There has never been a cheaper time to visit colourful Reykjavik," proclaims an opportunistic press release from Icelandic Express, the island's answer to easyJet. With the krona down 40 per cent since last year, it says (failing to point out that most of this fall has taken place in the past week or two), a pint of beer now costs only £4, down from £6.50, and a three-course meal is £35, compared with £57 previously.

Nobody was pushing the world's most northerly capital as a budget destination a few years ago. Thanks to the boom engendered by the country's entrepreneurs, financed by ambitious banks, and to pop exports such as Björk and Sigur Rós, the city had become hip. Icelanders were over here, buying our fashion chains and football clubs, and Reykjavik had been discovered by the likes of Damon Albarn of Blur, who had a bar there. Nor has the city entirely lost its chic: on Thursday, which would have been John Lennon's 68th birthday, Yoko Ono was there to illuminate the "Imagine peace tower", a temporary outdoor installation in his honour.

In truth, Reykjavik is not so much "colourful" as a neat, brightly painted town the size of Bournemouth. It makes more sense to come to Iceland for its uniquely awesome landscapes, although this island just south of the Arctic Circle is not to everyone's taste. Notoriously, Richard Nixon described it to reporters as a "God-forsaken place", even before their flight arrived in Reykjavik, where he had a summit meeting with President Georges Pompidou of France. Claims that an aide later tried to amend this to "cod-forsaken place" might be apocryphal.

As WH Auden and Louis MacNeice discovered some 70 years ago, Iceland is a country shaped by fire, ice and an incessant wind, where scarcely a blade of grass or a tree softens the view. More than 10 per cent of its surface is covered by glaciers: one, Snaefellsjökull (which means "snowy mountain glacier") is atop an extinct volcano used by Jules Verne as the starting-point for his Journey to the Centre of the Earth.

There are plenty of active volcanoes, too. The world's newest island, Surtsey, appeared in 1963 after an eruption off Iceland's south-west coast, though only scientists are allowed to visit it. One of the steaming springs at Geysir gave the English language its word for any spout of hot water.

At Thingvellir, you can see the valley created by the European and North American tectonic plates pulling apart, but it is not just a geological marvel. This was also the meeting-place of the world's oldest parliament, which first gathered more than a millennium ago. As the winter sets in, all this scenic grandeur will be enhanced by the Northern Lights, visible from most of the island. Since the entire population is only 300,000, there is plenty of room to breathe – and right now Icelanders need your hard currency.

Just a minute, though. Aren't we practically at war with Iceland? In the 1970s it was fish, and now it's finance: the international financial meltdown has forced the Reykjavik government to nationalise all the main banks, but according to Britain, it was prepared to guarantee the savings only of its own citizens, while refusing to do the same for foreigners (including this one) who had been lured by high interest rates into putting their money into Iceland's banks. Gordon Brown said he had told his Icelandic counterpart, Geir Haarde, that what his country had done was "totally unacceptable" and "effectively illegal". Britain even used anti-terrorism legislation to seize Icelandic assets here, which Mr Haarde finds equally outrageous.

While we are unlikely to see the kind of confrontations on the high seas caused by the Cod Wars three decades ago, there will be lasting ill-feeling resulting from what Mr Brown says is an entire country effectively defaulting on its debts. Individual British savers are being rescued by their government, but dozens of British councils, charities and health authorities which had deposited some £1bn in Iceland might not be so fortunate. Mr Haarde's government, for its part, claims that Iceland's largest bank, Kaupthing, might have been saved if its British arm had not been seized, leaving it incapable of meeting its commitments.

But if there is anger here, consider the depths of humiliation being plumbed in Reykjavik. Not only has Iceland been forced to go begging to other Nordic countries, and to seek a massive rescue loan from Russia, it is mockingly being pointed out that the Finance Minister, Arni Mathiesen, has a master's degree in fish pathology from the University of Stirling rather than any qualification in economics.

If any dead cod was involved, presumably he would be able to tell us how it had met its end, but that might not be a lot of help in solving the country's almighty financial disaster. There are even suggestions that the crisis will put paid to Iceland's carefully nurtured attempt to occupy one of the temporary seats on the UN Security Council for the first time in its history. A vote is due in New York this week.

The fumbling Icelandic government and central bank may deserve every scrap of ignominy heaped upon them, but it is hard to argue that the tiny population deserves the hard times that lie ahead. Mr Brown's rescue plan for British banks could cost as much as £13,000 per Briton, but it has been estimated that Iceland owes £35bn, or £116,000 for every man, woman and child. As money poured into the island in recent years, transforming lifestyles, the central bank kept ramping up interest rates to contain inflation, but that simply attracted yet bigger flows of funds.

Since borrowing in krona became so expensive, some Icelanders were encouraged to take out mortgages in foreign currencies. Now they are not only watching the value of their properties plummet, like British homeowners, but the size of their debt has practically doubled in a matter of days.

The only consolation is that Icelanders are a tough bunch. Their island was uninhabited before the ninth century because even Greenland seemed more hospitable, and now they are philosophically preparing to resume the ways of earning a living to which they were accustomed before the boom times arrived – from fishing, from aluminium smelting, and from tourism.

So don't allow the tensions between our government and theirs to put you off a visit. I can even recommend an authentic place down by the harbour in Reykjavik, where you choose your fish kebabs from the freezer, and they are cooked on the spot. If you see some unfamiliar blood-red cubes on a skewer, that is minke whale, unfortunately, but don't allow it to cause anti-Icelandic feelings. Whale was all the population had to eat many times in the past, and in the future it might once again be a matter of necessity, rather than stubborn tradition.

Iceland: Still worth a visit?

Despite the ill-will between the UK and Icelandic governments, the island nation has a great deal to offer the traveller. Here are a few of the best things about it:

* The Northern Lights should start their sporadic performances next month, and for the next eight weeks Reykjavik has the added attraction of the flame flickering in the Imagine Peace Tower, which Yoko Ono lit last Thursday in memory of her late husband, John Lennon.

* Iceland has 126 public baths for a population about the same as Sheffield's. They are meeting places rather than formal spas.

* Even the shortest visit should include a trip to the amazing Blue Lagoon.

* The island has perhaps been modest in its gifts to the rest of the world, but one is the word "geyser". The original geyser seethes quietly down a country road before blasting boiling water out of the ground.

* Thingvellir National Park, where the world's first parliament was created in a chasm opened by the earth's tectonic plates.

Simon Calder, Travel Editor