The president of Iceland has refused to sign a controversial bill to repay $US5 billion to the United Kingdom and the Netherlands.
Olafur Ragnar Grimsson said he would instead hold a referendum on the bill, following public protests, the BBC reports.
Leading credit agency Fitch Ratings has downgraded Iceland's long-term debt rating to junk status, saying news of the decision creates a new wave of political, financial and economic uncertainty.
The legislation was designed to compensate governments forced to bail out their savers with Icesave accounts following Iceland's banking collapse in 2008.
Opponents argue the terms of the payments will unfairly hurt Iceland and its recovery from economic crisis.
Legislation to repay the money was approved by Iceland's parliament in December, but the approval of the president is also required before it can be passed into law.
It is now up to the government to decide how to proceed. It must consider whether to go ahead with a referendum or whether to withdraw the bill and reopen negotiations with the United Kingdom and the Netherlands about a repayment schedule.
The government has seen significant public opposition to the bill.
Mr Grimsson says even if the referendum rejects the law, Iceland will honour its obligations under previous legislation which campaigners say has less onerous repayment terms.