Implementing loan quotas as a credit control tool in Iceland to regulate inflation

Abstract

Keeping inflation under control has been a big challenge for Iceland, especially with prices rising again in recent years. This thesis looks at whether loan quotas, which are limits on how much banks could lend, could help fight inflation alongside the Central Bank’s usual tools, like the interest rate. Using data from 2006 to 2024, that include historical events in Iceland, the study runs a regression analysis and tests different simulation scenarios where credit growth is limited. The results show that when credit growth is capped, inflation also goes down. For example, if lending is capped at 90% of its usual level, inflation is estimated to drop by about 1.6 percentage points. Even stricter limits, like reducing lending to 80% or 70%, are predicted to bring inflation down even further. This suggests that loan quotas could work well in the policy toolkit, directly targeting one of the main causes of inflation according to the post-Keynesian view of how economies work, excessive credit growth. Overall, the thesis shows how this kind of policy could play a meaningfulrole in helping Iceland keep inflation under control.