Ethical usury.

“The land is free,” said the young King, “and thou art no man’s slave.”

“In war,” answered the weaver, “the strong make slaves of the weak, and in peace the rich make slaves of the poor.”

Oscar Wilde, The Young King.

Lending and borrowing are basic human activities. A tool, a pound of flour, a sum of money, these go back and forth between individuals and are part of ordinary social intercourse, of friendship and neighborliness. This social credit also applies to those commercial enterprises that are funded by parents and friends. Lending is a social function. Usury is a business. And the informal practice of lending is perverted to make a profit. The borrower must pay interest, a form of rent. And, as is the case for social lending, professional lending concerns two categories of borrowers. There are those who borrow for their own personal use and those who borrow as entrepreneurs. So that credit may be granted for consumption and for investment.

Individuals can only lend what they have. Banks can grant credit in quantities that multiply what they have (x12 seems the commonly accepted limit). This is possible because most of the credit granted by a bank merely moves around the different accounts in the bank. The loans never leave the bank that grants them, and need not be materialised in the form of cash or equity. But this immateriality does not hinder the paying power of bank credit, nor its capacity to increase demand. Banks lend imaginary money and are paid back with “real” money, the central bank stuff. By granting credit, banks transform their accountant money into currency that can be used as a reserve for increasing credit (x12). But this siphoning off must result in a situation where only accountant money remains in the bank’s accounts. This is still not a problem for all transactions between customers of the same bank. But transactions between banks are regarded with growing suspicion.

Bankers make a business of lending for profit. They lend to investors and to consumers, depending on demand. An entrepreneur wishing to expand his business (or to start a new one) may borrow the funds he needs. But he may just as well raise funds by selling shares in his business. And, when possible, he will prefer the second option. And, as entrepreneurship concerns the power of control as much as it does wealth, borrowing funds is in fact the least appealing of three alternatives. The best choice is to expand by reinvesting profits, as this does not entail any loss of control or wealth. The second choice is to sell shares while keeping a controlling majority. Wealth is shared in the form of dividends, but power is maintained. Finally, borrowing funds means paying back with interest. The funds acquired must be returned, and then borrowed again when the used investment needs to be renewed. While the fixed rate of interest takes no account of the actual rate of profit. Borrowing to invest leaves control of a worn out investment and can reduce wealth, if the profit rate falls below the interest rate.

Given the choice, an entrepreneur will not borrow funds for his new investments. Wishing to consume more, a person can only borrow. (For most of history and for most of humanity even to-day, consumer borrowing was and is solicited to survive in lean times, not to consume more than usual. Growth fueled by consumer credit needs an affluent society. The concept is recent - post-WW1? - and had not yet been tried on such a scale. This latest experiment seems to have reached its conclusion.) Consuming now and paying later means paying more than the price, as the bill will include interest. This surcharge reduces the borrower’s overall spending.

Banks exist to lend money at interest, but neither of their potential customers really benefits from this service. However, any increase in the value exchanged on the market depends on growing amounts of liquidity. So that monetary creation is an essential part of economic growth. If the supply of wealth is to increase and find a solvent demand, the supply of money must increase proportionally. And the age old problem is how to circulate this continual supply of additional liquidity. As the state had the prerogative of minting coins, it traditionally assumed the right to circulate all new monetary emissions in payment of its budget deficits. But, when paper money replaced gold and silver coin, this system led to many abuses and the first use of new money by the state was abandoned.

Circulating extra liquidity in the form of credit and debt reduces the state to being a borrower among others, while remaining the trustee of national currency. The power of state is behind the central bank whose function is to guarantee the value of the legal tender. That means robust law enforcement against counterfeiters and, theoretically, a firm hold on inflation. The state and its banking appendix back the value of currency, and the confidence they inspire depends on both financial and political stability, whereas the creation and circulation of additional liquidity is left to the private sector.

Granting credit is as old as trading, and probably preceded the earliest introductions of money. Credit plays an essential part in the process of exchanging goods and services. The more so when coin is scarce, or not yet invented (I’ll give you X to-day, and you’ll give me Y next full moon). But, at some point in time, granting credit came to mean getting more value back than the value given, so that paying back or paying later meant paying more.

Usury is justified by risk and ethics. The lender must cover the possibility of a default on the part of the borrower. But this is in fact insurance not interest, and is often added on as a surcharge (e.g. life insurance). The moral approach is that the econo-miser is superior to the spendthrift. Waste not, want not. And the morality of saving merits the reward of interest. More prosaically, interest is considered as rent paid to the proprietor. But, whatever may be the justification of usury, no difference is made between unspent incomes and the multiple virtuality of banking credit. Lending hard earned savings is considered the same as lending them on twelve times. The saver gets 5% and the banker gets 60%. And the first is used to justify the second, who neither saved nor actually owns, nor even has what he is lending.

Money is the necessary intermediary of exchanges on the market. Money is the demand that should balance with supply, if prices are to be stable. Supply is the result of producing goods and services. And, as production is the result of investment in the means of production and in wages, the market price of supply should cover the price of the investment, plus taxes, land rent, interest and profit. Demand is both the renewal of the means of production and the consumption of wages, while taxes, land rent, interest and profit may join one demand or the other. Taxes are seldom invested, though government funds such as the Trust for Social Security are a part of the budget. Land rent, interest and profit are frequently invested (wages may also be saved from consumption), thereby disrupting the balance of supply and demand.

The components of value (means of production, wages, taxes, land rent, interest and profit) accumulate in the final consumer stage of production. In this way the means of production are renewed and the rest, the added value, is consumed. When a part of the added value is invested instead of being consumed, this brings demand for consumption below supply and, by increasing investment, will ultimately increase consumer supply. (When investments grow with credit, additional money is circulated. This can result in consumer demand exceeding supply, as all investments are not immediately consumable). However, all additional investments do not necessarily increase production and, ultimately, consumer supply. Corporate bonds and shares, or treasury bonds, or real estate, can accumulate increasing speculative value without the slightest effect on supply. But all additional investments, productive or not, that come from added value must necessarily reduce consumer demand.

If additional investments are funded with bank credit, consumer demand is strong. If additional investments are funded with added value, consumer demand is weak. Unless, in the second case, bank credit can turn around from funding investment to funding consumption. But, whereas an investment is supposed to and often does return its value with a profit, consumption returns no value at all. Additional investment funded by bank credit is returned and profit pays for interest. Additional consumption funded by bank credit is not returned and interest raises the price paid, thereby reducing the borrower’s future consumption by more than his present consumption has increased. An invested debt can turn over because profit pays for interest. A consumed debt must turn over with an increase, to cover the interest. Invested debt grows at the same rate as investment. Consumed debt must grow faster than consumption to compensate interest. Invested credit receives interest that is a part of profit. Consumed credit receives interest that is a part of future consumption. So consumer credit can compensate invested added value, and can even increase consumer demand to balance the increased supply from those additional investments. But maintaining this demand means constantly re-lending paid back credit as well as interest.

Additional money with a nominal value of 100 is circulated as consumer credit every year. These 100 are paid back 125 over five years in equal yearly payments of 25. Borrowing means more spending and increased demand. Paying back means less spending and reduced demand. So, if demand increases by 100 the first year, its growth is only 75 the second year, because 25 of the first year’s credit is paid back and taken out of circulation. Then follow growths of 50, 25, 0, -25, -25, -25, etc. For growth in demand to remain at 100, lending must grow in consequence. From 100 the first year to 125 the second, then 156, 195, 244, 305, 356, 414, etc. When an increase in demand of 100 needs the lending out of four times that amount (414), subprime loans cannot be far off.

Increasing or even maintaining consumer demand with credit just runs away and is not sustainable. But, as investors would rather invest their incomes than borrow at interest, with the result that consumer demand is insufficient, there seems no simple alternative solution. Either we resign ourselves to periodic financial upheavals on an ever increasing scale, with all the human suffering that implies, or we take a very hard look at who owns what, where it comes from and how it is used. This could lead to different forms of property and credit, where the commonwealth would have priority over private greed. But it won’t be a gala dinner party.