Frosti Sigurjonsson, Member of the Parliament of Iceland and Chairman of the Committee for Economic Affairs and Trade, today published a report outlining the need for a fundamental reform of Iceland’s monetary system.  The report, commissioned by the Prime Minister, considers the extent to which Iceland’s history of economic instability has been driven by the ability of banks to ‘create money’ in the process of lending.

The gross demand for money is affected by various factors such as the size and growth rate of the real economy, and the financial sector.  Demand for ISK is also affected by the fact that taxes can only be paid in ISK, thereby creating an underlying demand for ISK by taxpayers.

While banks have an incentive to create money, the costs of an overshooting money supply, in the form of inflation or bubbles, are borne by society in general. This separation of benefit and cost may explain why banks have not created an optimal amount of money for the economy

This has been discussed for centuries almost. Are we better of with credit bubbles and business cycles or are we better of without? Schumpeter’s creative destruction in his theory of economic development would be a good starting point, because money has real consequences!This means that in order to create new money for a growing economy, households and businesses must go deeper in debt. “

Let us not forget that government can create money, too. They call this deficit spending, and we already have decades of experience. Not the Keynesian era, but the neo-liberal era, too! Government debt has exploded, pundits all over the world would tell you, and … government bond yields approach zero.