by the beginning of the 1990s. but it was a long, drawn - out process, and the story of that battle is too long to recount here. honoured guests : before i continue, i think it appropriate to state clearly that i do not think iceland is lost in a highland fog at the moment. no, visibility is good in all directions. we should also bear in mind that iceland's inflation is in line with that found in other western countries, and even somewhat lower. we are no longer outliers as we were in the 1970s. in fact, we are in many ways well positioned in international context. nevertheless, i would like to mention the circumstances that brought about the vicious cycle - iceland's stumbling about in the economic blizzard of the 1970s - so that we do not get lost again. there were three main reasons for that episode of runaway inflation. 1 ) the central bank did not have the independence to bring its policy instruments to bear on inflation. instead, interest rates were determined on political premises and were kept unchanged even though inflation was rising. 2 ) the state's finances were unsustainable. the treasury financed deficit operations by taking overdraft loans from the central bank - the equivalent of money printing - or by taking foreign loans, converting the proceeds to kronur in the central bank, and using them to finance development and deficit operations – another equivalent of money printing, which fuels inflation. 2 / 8 bis - central bankers'speeches 3 ) and then came the game of leapfrog : labour unions responded to price hikes by demanding nominal pay rises, followed by even more nominal pay rises in response to even higher inflation - and so the game continued, while repeated currency devaluations safeguarded exporters'earnings. since then, improvements have been made on all these fronts. not only is the central bank independent, it has also been granted more authority and more tools since it merged with the financial supervisory authority in 2020. this enables the bank to act more decisively and effectively than before. the government's overdraft account was closed by agreement between the central bank and minister of finance friðrik sophusson in 1993, and the bank's authority to finance the treasury was revoked with the passage of a new central bank act in 2001. furthermore, iceland's fiscal health has improved vastly in recent years with the regular preparation of fiscal plans. it should be noted here that covid - related expenditures and revenue losses

domestic borrowing costs that take place. this foreign currency borrowing is intermediated by the domestic banking system, where the financing is more short - term than the lending. thus the banking system has a growing balance sheet in fx, with a maturity mismatch but limited lolr facilities to backstop it. in short, financial risks are accumulating, both in the financial sector and among firms and households. at the same time, the economy is increasingly in an unsustainable position, with an overvalued currency and big current account deficit. the bis central bankers ’ speeches whole thing then comes crashing down when foreign financing comes to a sudden stop, heralding a currency crisis and even a banking crisis as well. before i go further, let me warn you, though, that this is only part of the explanation of the financial crisis in iceland. the offshore activities of the banks and old - fashioned macroeconomic mismanagement were equally important, if not more so. on this topic, i refer you to other speeches and publications by myself and others. 2 what can and should be done about the problems i have laid out? in answering that question, we should take into account that the biggest problems occur when global factors – cross - border financial integration and associated capital flows – and domestic vulnerabilities interact negatively. in principle, solutions could be directed at any or all of these. some are obvious in their design and relatively easy to implement, especially if they can be implemented unilaterally by individual countries. others are more complex in their design or require global, regional, or big - country action that is not necessarily forthcoming. one potential solution is to enter a monetary union, thus eliminating the small country monetary policy problem. it would also reduce the financial risks emanating from currency mismatches and foreign currency maturity mismatches in the balance sheets of domestic banks. but as this is currently not on the agenda in my own country and recent developments have demonstrated that it is no panacea – with pros and cons that extend far beyond my topic her – i will not dwell on it further. there is no doubt that flaws in the international monetary and financial systems exacerbate the problems that i have mentioned. reforms that would reduce the current asymmetries in the adjustment burdens of surplus and deficit countries, or would to a greater degree internalise the global externalities of the monetary policies of central banks issuing major reserve currencies, could reduce