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REYKJAVIK

Iceland's capital is a pretty and well-constructed picture, its buildings in soft blues and reds, harmonious shades of granite, slate and white. Dormant volcanoes provide a dramatic backdrop, their snowy caps disappearing in mist that merges into cloud.

Reykjavik, for a while a trendy destination for a short break, has lost of none of its appeal as the crisis crunches cruelly. Inside the cafes and bars, the capital's pleasing colour scheme flows across long comfortable sofas and designer chairs. But you can't help wondering if these places will look shabby and tattered in a couple of year's time. The political volcanoes are active and lava may flow, changing the landscape.

The people protesting at the regular demonstration in front of Iceland's small parliament are a varied bunch. At the front one man in the fancy dress of a convict's uniform carries a banner calling a particular banker a pig. Near him a couple of teenagers hold a black flag, their faces obscured by balaclava masks. By contrast a warmly dressed woman sits at an outdoor cafe table a little way from the square, a Yorkshire terrier perched on her lap, putting down her latte only to applaud the speakers' loud rhetoric.

They are here united in their anger at the handling of the crisis - not in their prescription of a solution. It has hit all ages and all classes. Unemployment, taxation and inflation rise together in an unholy trinity. Many of the expensive four wheel-drive jeeps you see around town were bought with loans offered in a mixtures of currencies , the Japanese yen prominent among them. It was a smart move when the krona was strong. It doesn't look so clever now, as people see their debts double overnight, and they end up owing far more than their vehicle is worth.

Many think salvation lies in joining the euro. While some say the government should just go ahead and use the currency unilaterally, as Montenegro and Kosovo do, more think that their country should start urgent talks to join the European Union. Long before the crisis opinion polls indicated that a majority were in favour of beginning talks about joining the EU and thought that they and their country would be better off if they joined the euro.

At the back of the demonstration I talk to the former Iceland Foreign Minister, Jon Baldvin Hannibalsson, a Social Democrat. "People are losing their flats and homes because of the exorbitant levels of interest," he says. "In terms of people's lives it would mean stability rather than risk and volatility. Prices would get lower and the interest rate, instead of being 26% would come down to normal levels. In terms of people's lives it would be a solution."

But the Independence party, which is similar to the British Conservatives, has long been against membership, and has long been the dominant partner in government. There's strong pride in the self-reliance of , stuck in the middle of the Atlantic, that only gained independence from Denmark in 1944.

But a major practical reason against joining the EU has been the mainstay of the nation: fish. Iceland fought, and in diplomatic terms won, the cod wars against Britain and there is a strong feeling that it would be wrong to give up this precious piscine resource to the tender mercies of the unlauded . Incidentally there is a fascinating arguing that Iceland has got it right, and the EU wrong, when it comes to conservation.

But the government appears to be listening to the demands of the people and of business. It will hold a special conference later this month to discuss its policy towards the EU. One idea that is being floated is to hold a referendum not on membership itself but on beginning talks about joining. That would probably have the merit of keeping the party together. But it's also likely that the Social Democrats, the junior party in government, would regard this as unnecessary shilly-shallying and pull the plug on the coalition. This would mean a general election in which the Independence party might be well-advised to brace themselves for a hammering. Jon Baldvin is scathing "They are insisting that the nation, which is in crisis, should wait for this party to make up its mind on the biggest national issue. It's a national shame, a disaster, they are unfit for government, they should resign."

Jon Steindor of the is one of those putting pressure on the government to switch the policy of a generation and go into the EU. He thinks change is in the air. "The crisis has shown us the consequences of being outside the EU. We feel if we had been inside already things wouldn't have been so bad. The main problem for Icelandic industry is the instability of the krona and never knowing how much what you are buying will cost you."

Iceland may not be one of the world's great powers, but it is one of the great casualties of the global financial crisis and the decision of its government and people will have an impact on the way the euro is seen.

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