Steve KelseyIts Sunday afternoon just before lunch on a shiny winters day in London. That’s not a conventional time to let revolution loose on the world, but it’s 2020 and as we have all learnt this year the unthinkable is just a thought away. So its time for an opening salvo on some of our supposedly foundational beliefs.
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Why do we have interest?
Interest has been with us since the pyramids and probably even before that. Danegeld earned interest. The Lombards of Old London Town charged eye watering levels of interest that made that new-fangled Bank of England’s rate of 8% seem practically socialist, if they’d had socialism back then.
Interest is the cost of borrowing someone else’s money. That seems reasonable enough. After all, the lender might never get their money back, which is the first justification for charging interest. The more honest reason is that the lender wants to make a profit on lending the money, which again seems reasonable, otherwise why would the lender bother? Other than risk and profit there is a third slightly more complex reason which is as a means to deal with inflation. The value of money declines over time due to inflation. So a tenner leant one year is not worth a tenner in the year it is paid back. The borrower is paying the lender less than they borrowed, which seems a bit unfair on the lender.
So there are three reasons interest is charged. Risk, profit and compensation for inflation. Which all seems perfectly reasonable. It is what we have all been taught is fair. And it’s all bunk.
Back in the real world
Firstly let’s have a look at the real impact of interest. My mortgage, the second one I have taken out, is an interest only mortgage. The sum I borrowed was £400k and the mortgage lasts for 20 years. Today I pay around £1000 a month. Let’s say I pay that for the full twenty years period. At the end of twenty years I will have paid £240k and still owe the mortgage company £400k.
Let’s look at the mortgage companies risk. The mortgage company aren’t taking any risk. They own the property, not me. In addition to owning a valuable asset, the mortgage company will have insured against the risk of a default. Should this default ever happen the mortgage provider gets to collect from the insurance company and still own the property. That’s one of the reasons a mortgage company can always sell a property quickly for a reduced price, they don’t take a hit, the insurance company does.
What about inflation risk? The inflation rate is always unpredictable. I have known inflation rates as high as 12% back in the good old days of Tory economic mismanagement. Interest rates tend to follow inflation, thats the third reason interest is charged after all. So my interest based mortgage would take a hike to track inflation if it ever got out of control, so the mortgage company is well covered. Except, they were never at risk from losing out due to inflation. House prices track inflation as well. So the property they own would have grown in value. So the lender was covered by both the increase in interest due, but also by the increase in property value. No risk there.
The remaining reason is profit, and as we can see, it is the only reason that stands up to even a light degree of analysis. A critic might object that I had cherry picked a special case. Ok, then, what about the interest based charges made on pensions. A typical figure you will see quoted is 1.5%. Over the twenty five to thirty years you are saving for your pension that amounts to 35% of its value. What risk is a pension company undertaking receiving savings money from you? How does taking 35% of the pot protect you against inflation? Take a look at your credit card interest. How is that you pay 16% interest when the bank rate is currently 0.1%?
House finance, Car finance and Credit cards are the largest items on a household budget. All of them charge very profitable rates of interest.
In a civilised world
If we lived in a civilised world, we would see things very differently. In a civilised world we would understand that real wealth comes from the embedding of intelligence in base matter. I call this Civilisational Wealth to differentiate it from insipid and easily perverted terms like added value. Civilisational Wealth is what has brought us from mud bricks to AI, from crude huts to cities.
Anything that diverts money away from investing in civilisational wealth is detrimental to our civilisations growth and our personal wealth.
Pay it forward
But how can things be financed without loans I might ask on your behalf? In a civilised world we would employ Thinking Money classes to separate day to day expenditure from investments in building future wealth. I have covered that in more detail in this article on Thinking Money, but the key outtake is that money can always be created for expenditure into the future provided that it can be backed by civilisational wealth creation over time and isolated from day to day currency to avoid inflation. In the inverse of the often repeated mantra about ‘borrowing money from our children’, we can create money today to build things they can enjoy in the future.
Zero Interest
Financial stuff is boring. That’s by design. The people who know how the current system works sequestering money from us and stunting the growth of real wealth don’t want us to get interested in it. Thats why they use jargon to confuse us all and add complexity to what is very simple. Interest isn’t about risk, its about profit. Its also about huge amounts of wasted intellect and energy maintaining a system that has no other purpose than to make a few people rich at the expense of us all.
Its time we zeroed all that.