Are things cheaper in the Greek islands as a result of the economic instability?

I seriously doubt you'll find any significant discounts being offered. As far as I can tell it's business as usual out on the islands.

Tour companies might be offering package deals.

However, prices in general will be going up slightly, mainly because of a higher and (hopefully) enforced VAT (sales tax).

It wouldn't make economic sense for shops, hotels and restaurants to make discounts. They will perhaps absorb the higher costs in order to keep tourism going, but certainly have no interest in lowering their prices.

Firstly millions of people are still going to Greece for vacation. Greece is a huge holiday destination for Northern Europeans, and so far people haven't been scared of.

Secondly, Greece is still in the Euro, so no difference in exchange rate.

Thirdly, as comment number 2 states, prices might even go up due to tax increases.

Greece sees around 15 million tourists a year and so far it doesn't seem to change much. Things have calmed down again, and even at the height of the insecurity, the only change was people bringing more cash rather than credit cards.

'So far people haven't been scared of[f]'

Despite this post, and others like it tourism of course will be effected somewhat, common sense tells you that some people are going to cancel, but more on the mainland that the islands i would guess.

But true IMO is that Greek tourism will rebound, perhaps not in the very near future, but in the medium to long term a definite yes!

And as for tourism being cheaper, some tour companies may drop their prices to attract visitors, but i can not see that the average hotel, restaurant or shops that cater to tourists are going to drop their prices very much, if at all.

Some holiday flats remain empty on small islands like Kea, Syros, Donoussa, Lipsi, Agios Efstratios, Sikinos, Psara........where 90 per cent and more of all tourists are usually Greeks. There you may get some discounts if you bargain, but only for rooms, never for food, boats or other transports.
No change at "package tourist Islands" like Mykonos, Santorini, Crete, Kos, Rhodos, Ios, Milos, Skiathos, Zakynthos, Kefallonia, Samos, etc.

There were some cancellations when the banks closed but then tour operators offered some deals and actually there's been a big pickup on them so international tourist numbers are not going down.

I do not know if this is directly helpful to the OP but I say what I witness living in a popular tourism destination on mainland right know and having lived and worked on many other places in Greece, some islands included.
While Greece is not extremely expensive on most things, I think some cheap deals offered by huge tour operators during recent years have lead some visitors to major misunderstandings. I meet all the time tourists who booked cheap flights and accommodation and thought they could easily go by 20 euro per day or something. Well, maybe... if they only self cater and they very rarely join activities or pay site admissions or have a drink or buy a souvenir...
But Greece is not Thailand or something. A decent meal on a local tavern will come to around 12-15 euro/person, often more around the waterfront or on more upscale/touristy places. You will really struggle to find a drink like say a GT for less than 5 euros even on a town in the middle of nowhere, let alone a busy island beach bar or club. A coffee, the cheapest and most popular beverrage here in Greece will start at 2 euros upwards unless we talk for chain cafe places in large cities where occasionaly you find offers for coffee+a sandwich or snack for same price, or some tyupes of coffee starting from 1-1.50 euros. A soft cola drink bought from a corner kiosk or shop will cost at the very least around 0.80 euro. On cafe or bars or restaurants a couple of euros at least. And so on...

Tourism of Greek people drops year after year since the start of this financial turmoil, this is no news here... Psychology always plays a part on those things so this year the drop will be even larger. But as far as concerns incoming tourism, in reallity there is no major decrease. While situation might slightly vary from destination to destination, I have speak with people working on the tourism industry all over Greece during recent days and weeks and what all said in general is that when the referendum was announced, there were some cancellations and last-minute bookings decrease. Not so many cancelations really. Many people were waiting to see what happens before booking. But after the recent negotiations and the agreements between Greek government and the institutions, people who had their bookings on hold went for it and in general there is no difference between last summer and this summer in terms of crowds.

I could imagine that there would be great deals to have in the current climate when most people are afraid to travel, especially for those bringing in foreign currency (in my case USD).

It always really warms the cockles of my heart - it really does - when rich white kids from the top of the economic tree (for now anyway) start circling like vultures to see if they can take advantage of people and places that are not doing so well. It's really a good look ... eh.