It is shown that As vacancies in the LaFeAsO superconductor induce a strong enhancement of the paramagnetic response both in the normal and the superconducting state. Although As vacancies themselves are non-magnetic defects, they are able to form localized magnetic moments due to strong covalent bonding with neighboring Fe ions. The microscopic theory of magnetic moment formation in semi-metallic state of non-stoichiometric LaFeAsO is constructed in a framework of appropriately modified Anderson-Wolff model. Experimental manifestations of enhanced paramagnetism and the influence of magnetic fluctuations on superconducting pairing are briefly discussed.