The great debate rages on about how to fix the economy. I argued in my last article that tax increases, austerity and central bank stimulus do not work and will never solve the crisis. Banker-created fiat debt is like a cancer that grows and grows until it is too large to cure. Interest on fiat debt that was printed out of thin air by the bankers continues to grow larger and larger until economies, nations and individuals are suffocated by it. The result is slowing growth, high unemployment, unjust austerity to those that had little to do with the debt crisis and the continued transfer of wealth from the middle class to the ultra rich.

The response in the U.S. and Europe has been to hand over Trillions in taxpayer bailouts, loan guarantees and other favors to the banks that are directly responsible for causing the crisis. What an idiotic response! It is idiotic not only from an ideological point of view or through the lens of common sense, but it is idiotic because it does not work. It only buys a little more time and allows the crisis to grow even worse, as we are now seeing in the U.S. and Europe.

We should instead be following the lead of Iceland. They did not bail out the bankers, they jailed them, along with the politicians that conspired in the fraud. Iceland gave relief to homeowners, canceling a large part of their fiat bank debt. The result was that after their economy shrank in 2009 by 6.7%, it proceeded to rebound in 2010 by 2.9% and in 2011 by 2.4%, outpacing the gains of the European Union and other developed countries. Fitch Ratings concluded:

“The unorthodox crisis policy response in Iceland has succeeded.”

(Source) Geir Haarde, the Prime Minister of a Social Democratic coalition government, negotiated a two million one hundred thousand dollar loan, to which the Nordic countries added another two and a half million. But the foreign financial community pressured Iceland to impose drastic measures. The FMI and the European Union wanted to take over its debt, claiming this was the only way for the country to pay back Holland and Great Britain, who had promised to reimburse their citizens.

Protests and riots continued, eventually forcing the government to resign. Elections were brought forward to April 2009, resulting in a left-wing coalition which condemned the neoliberal economic system, but immediately gave in to its demands that Iceland pay off a total of three and a half million Euros. This required each Icelandic citizen to pay 100 Euros a month (or about $130) for fifteen years, at 5.5% interest, to pay off a debt incurred by private parties vis a vis other private parties. It was the straw that broke the reindeer’s back.

What happened next was extraordinary. The belief that citizens had to pay for the mistakes of a financial monopoly, that an entire nation must be taxed to pay off private debts was shattered, transforming the relationship between citizens and their political institutions and eventually driving Iceland’s leaders to the side of their constituents. The Head of State, Olafur Ragnar Grimsson, refused to ratify the law that would have made Iceland’s citizens responsible for its bankers’ debts, and accepted calls for a referendum.

Of course the international community only increased the pressure on Iceland. Great Britain and Holland threatened dire reprisals that would isolate the country. As Icelanders went to vote, foreign bankers threatened to block any aid from the IMF. The British government threatened to freeze Icelander savings and checking accounts. As Grimsson said: “We were told that if we refused the international community’s conditions, we would become the Cuba of the North. But if we had accepted, we would have become the Haiti of the North.” (How many times have I written that when Cubans see the dire state of their neighbor, Haiti, they count themselves lucky.)

In the March 2010 referendum, 93% voted against repayment of the debt. Iceland chose the route of protecting its populace (the taxpayer) from absorbing more debt so that the global banking oligarchy could be made whole. The IMF immediately froze its loan. But the revolution (though not televised in the United States), would not be intimidated. With the support of a furious citizenry, the government launched civil and penal investigations into those responsible for the financial crisis. Interpol put out an international arrest warrant for the ex-president of Kaupthing, Sigurdur Einarsson, as the other bankers implicated in the crash fled the country.

But Icelanders didn’t stop there: they decided to draft a new constitution that would free the country from the exaggerated power of international finance and virtual money. (The one in use had been written when Iceland gained its independence from Denmark, in 1918, the only difference with the Danish constitution being that the word ‘president’ replaced the word ‘king’.)

To write the new constitution, the people of Iceland elected twenty-five citizens from among 522 adults not belonging to any political party but recommended by at least thirty citizens. This document was not the work of a handful of politicians, but was written on the internet. The constituent’s meetings are streamed on-line, and citizens can send their comments and suggestions, witnessing the document as it takes shape. The constitution that eventually emerges from this participatory democratic process will be submitted to parliament for approval after the next elections.

Some readers will remember that Iceland’s ninth century agrarian collapse was featured in Jared Diamond’s book by the same name. Today, that country is recovering from its financial collapse in ways just the opposite of those generally considered unavoidable, as confirmed yesterday by the new head of the IMF, Christine Lagarde to Fareed Zakaria.

The people of Greece have been told that the privatization of their public sector is the only solution. And those of Italy, Spain and Portugal are facing the same threat. They should look to Iceland. Refusing to bow to foreign interests, that small country stated loud and clear that the people are sovereign.