I assume libertarians are opposed to banning usury.
Why?
Can you define what you mean by “usury”?
I ask because I traditionally thought it only meant interest, but I have recently seen it used to describe other forms of income as well.
Libertarians are opposed to prohibiting loaning money at interest because banning it would violate the NAP.
Banning the earning of interest also would distort the market since people would get artificially cheap credit.
The word “Usury” involves a moral judgement, saying that some rate of interest or some kind of loan is morally reprehensible.
A libertarian would argue that since the two parties involved in the loan agree voluntarily to the terms of the loan, and in their opinion it’s morally OK, that a third party should have no right to violently impose his morality upon them.
I’m actually coming to the view that contracts that are based on compound interest per se are ill-formed contractual arrangements in that there is not actually a single, agreed price. The cascading scale of defaulting prices upon non-payment implied in compound interest contracts are exploitative because a) they result in absurd sums very rapidly[1] and b) the terms of such instruments are invariably favorable to the wealthy, a sure sign that they are a symptom of the parasitic social order, not the natural social order. The underlying presumption of compound interest - that money is exponentially valuable in time - is actually false.
Islamic banking provides a set of instruments that I think accomplish the same purpose as compound interest contracts purport to accomplish - without the potential for layering debt upon debt and other forms of exploitation through fraud and financial subtlety. For example, Murabah is more like rent-to-own. Pawning is also another way to secure debt. Co-signing is yet another way. Until very recently, the legal machinery for implementing such ill-defined contracts simply did not exist… in other words, there is a symbiosis between compound interest creditors and Leviathan as a mechanism for making possible such contracts.
So, what about “growth”? What about the “modern, post-Industrial economy”, along with its inexorable economic growth? Isn’t compound interest just a natural phenomenon that has organically emerged out of the fact of growth? When you look at the historical emergence of central banking vis-a-vis the emergence of compound interest as a common form of structuring credit, you can’t help but notice that central banking emerged first. This should automatically send up red-flags. There is no a priori reason why credit should be an inherently compounding process (in mathematical terms, a “geometric series” or “exponential process”). Yet there is an a priori reason why devaluation/inflation is an inherently compounding process: every time you print money, the money pool is that much bigger… to draw a constant percentage of real value from the money pool, it is not enough to print the same nominal amount of money YoY, you must increase every year the amount of money you print by a constant ratio. The constant ratio is precisely what creates the condition for a geometric series or compounding. So, the true motivation for compound interest is not any natural market demand for it but, rather, in order to camouflage the action of the central banking system behind the private production of compound interest credit, a purportedly natural process that has organically emerged in the free market.
This view is my own and I don’t know of even any Austrians who hold this view.
Clayton -
[1] “$100 borrowed at 10% interest rate” sounds reasonable on its face… you have to pay back $110 in one year or $121 in two years, etc. But left unpaid for 100 years, this would be a $1.4M obligation… and the next year it would be a $1.54M obligation, etc.
Because the imposition of a maximum price on interest (i.e. usury laws) will result in credit being denied to high risk borrowers (or more likely, their needs being met on the black market where even higher interest rates must be charged).
Yeah, but Clayton ; in the long run we’re all dead. By the time that 10% interest rate loan comes to maturity I’m long dead, so they can bill me whatever they please at that point.
@Meistro: That’s beside the point. The point is that what began as a $100 obligation balloons into absurd numbers, not because “that’s what was agreed to” - of course people are free to negotiate any price they like between themselves - but because humans are extraordinarily bad at exponential arithmetic. Most people pay close to 2x the sticker price for an automobile because they buy it on credit… by the time you add up all the interest, the total purchase price comes out to nearly 2x. But they don’t think it through, they just say “Oh, 8% isn’t that much”. But it isn’t just 8%… it’s 8% on 8% on 8% on 8% on 8% on $25,000 (annuitized over 5 years or however many years the loan is). Some States have laws to try to rectify this by giving the consumer the total package price, etc. but the fact is that that’s like putting your finger in the crack of a leaking dam… the point is that everybody buys cars for that price, so of course, that’s what the Joneses will pay to have a car. In other words, my view is that it’s not an accident that things like car loans are the way they are. It’s an interlocking, interconnected system. It’s pure evil.
Clayton -
What contracts are based on compound interest? No bank lending is based on compound interest.
In defense of compound interest:
From Wikipedia:
History
Compound interest was once regarded as the worst kind of usury, and was severely condemned by Roman law, as well as the common laws of many other countries.[2]
In one passage, the Bible addresses the charging of interest in the following manner:
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Take no usury or interest from him; but fear your God, that your brother may live with you. You shall not lend him your money for usury, nor lend him your food at a profit. |
” |
The Qur’an explicitly mentions compound interest as a great sin. Usury (oppressive interest), known in Arabic as “riba”, is considered wrong:
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O ye who believe! Devour not usury, doubling and quadrupling (the sum lent). Observe your duty to Allah, that ye may be successful. |
” |
Richard Witt’s book Arithmeticall Questions, published in 1613, was a landmark in the history of compound interest. It was wholly devoted to the subject (previously called anatocism), whereas previous writers had usually treated compound interest briefly in just one chapter in a mathematical textbook. Witt’s book gave tables based on 10% (the then maximum rate of interest allowable on loans) and on other rates for different purposes, such as the valuation of property leases. Witt was a London mathematical practitioner and his book is notable for its clarity of expression, depth of insight and accuracy of calculation, with 124 worked examples.[3][4]
Point is, central banks did not exist in Roman times, or when the Bible or Kuran was written; the bank of England opened its doors in 1694. So it looks like compound interest was around way before central banks.
It may be true that people don’t grasp the math of compound interest. But that just means they are signing up for a Darwin Award when they voluntarily agree to a complicated contract without sitting down to figure out what it actually says, Certainly businesses, to which the vast majoirty of loans go, understand very clearly what they are getting into.
Even people who buy cars often buy more four or more cars in their lifetime, so they get to see exactly what is going on when they buy the first one.
That everyone buys cars for that price just means that that is the market price. And if people are willing to pay that price to keep up with the Joneses, that just means the subjective value of keeping up with Joneses is very high to the car buyer.
It’s hard to declare something evil unless one shows where there is fraud or violence involved.
Why would anyone be for banning (Use force or the threat of force to prohibit two individuals from engaging in a voluntary transaction for mutual benefit.) anything? All you do is deny the parties the ability to conduct mutually beneficial transactions. So both parties are worse off and someone gets stuck with the bill for enforcing the ban.
As for Libertarians in particular, as was previously stated any use or threat of force is against the NAP AND a violation of the private property rights of the individuals.
And the negative consequences of prohibitions are massive and destroy people. I was just visiting a small city in Central Mexico and there is the Federal Policia, really the army, patrolling the streets all because the insane drug war. And what is the drug war? It is simply prohibition of natural substances that hummanity has used for the past 10000 years that a bunch of evil and self interested parties decide to ban.
In defense of compound interest:
From Wikipedia:
There are some problems with that article in Wiki: It states that compound interest is that standard in the financial industry…
But US banks use simple interest on all consumer loans, mortgages and commercial lending (there may be some unusual exceptions). Payments are set up so that all accrued interest is paid at what ever frequency is agreed to (monthly, quarterly, etc,). If a payment is missed the interest is not added to principal and will not accrue additional interest.
But it was a very uncommon arrangement.
But how does it happen that such stupidity is so common? I’m not asking a question about population traits (why are so many people stupid) but, rather, how is it that this trait is so often expressed? For example, the willingness to commit petty theft is appallingly common. Yet there is actually not a lot of petty theft in absolute terms, compared to what there could be. This is because petty theft is punishable. So would-be petty thieves are induced to calculate - in their own terms - the costs of indulging the urge to commit a petty theft.
Yet, somehow, stupid people are not being induced to calculate the true costs of compound interest loans which they are taking out for literally everything from houses, to cars, to boats, to televisions, to dental work, to breast implants, etc. Let me put it this way and let you ponder it: the modern system of consumer credit is subtly redistributive.
Clayton -
Nonsense. The annuitization of the principal amount of the loan is calculated using compounding. And while individual late payments themselves do not get added to the principal and recalculated, they incur late penalties that are far more severe than any compound interest effects would have been. Finally, if you miss several payments and the loan goes into default, all the principal and the accrued late penalties, etc. are recalculated with interest. I don’t know what you’re trying to pull here, saying that US banks use “simple” interest. What a bunch of bullshit.
Clayton -
What a bunch of bullshit.
Hmmm. Lets discuss.
First lets make sure we are talking about the same thing. When you say compound interest you mean that interest is added to the principal balance. interest is then earned on the origianl principal and the previously accrued interest. If that is your claim as to how mortgages work it is not. At no time is accrued interest added back to the principal amount.
Interest is calculated (most times) on a daily basis on the outstanding pricipal balance. As this interest accrues it is kept separate from the principal as accrued interest. Your payment at the end of the month pays the entire accrued interest balance and (at first) a little bit of principal. At no point in that process is interest calculated on interest.
The annuitization of the principal amount of the loan is calculated using compounding
What exactly do you mean here. When calculating mortgage interest at what point do they add the interest to the principal?
And while individual late payments themselves do not get added to the principal and recalculated, they incur late penalties that are far more severe than any compound interest effects would have been.
This has nothing to do with compound interest.
Finally, if you miss several payments and the loan goes into default, all the principal and the accrued late penalties, etc. are recalculated with interest.
This also has nothing to do with compound interest.
So Clayton, do you only object to interest on the grounds that it is induced by statism or for some other inherent basis? I see nothing wrong with the Austrian idea that the interest rate is the basic way that the opportunity cost of money over time is conveyed to the entrepreneur, I see no other effective way of doing this.
These two statements contradict each other. The fact that the amount of each payment that is applied to the principal is reduced by the accrued interest is precisely what it means for interest to be calculated on interest. The two are logically equivalent.
Let us show the difference. Let’s say you take a $100,000 mortgage over 10 years to buy a home for 10% simple interest. This would be a total sticker price of $110,000, to be paid $11,000 per year, so payments work out to $916.66 per month.
Compounded interest of 10% on a $100,000 loan (compuonded monthly) for 10 years, comes to a monthly payment of $1,327. $1,327 * 120 = $159,240, so this 10% compounded interest loan is equivalent to a 59.24% simple interest loan.
Of course, the fact is that the meaning of “simple interest” is relative to time and that is precisely what interest compounding captures. There’s nothing inherently evil or abusive about interest compounding… rhetoric regarding usury aside. My point is not that compounding needs to be effectively banned, which is really what religious and political arguments against compound interest are interested in doing. Rather, my point is that I think that contracts should be structured such that the defaulting structure of the loan is fixed and final. You shouldn’t have an increasingly larger and larger claim against a defaulting debtor. Does this mean that there will be less credit? Yes, it does. Is that the end of the world? No, I think it isn’t.
The root problem here is that I think the law has been perverted into an instrument for securing creditors. Well, and expropriating them, too. In other words, the law has become a major clearinghouse of redistribution based on debt-based arguments… some of these arguments hurt creditors, some of them hurt debtors. But the point is that the criteria applied by modern law are generally not based on concerns of justice, they are based on purely commercial concepts regarding the “true value” of debt assets. Specifically, the compound interest argument is regularly applied to argue that Jones’ (creditor) is owed by Smith (defaulting debtor) restitution according to a compounded interest calculation. This is the result of the corruption of contract law whereby terms of prviate agreements - whether severe or lenient - are regularly ignored by the courts and the courts’ own ad hoc judgment substituted. This means it is impossible for a debtor (or creditor) to be secure that a contractual instrument has $X value in the event of default… it might have a value much greater than $X or much less than $X … it all depends on what you can convince the courts to accept. Thus, the focus becomes on persuading judges.
Of course it does. Let’s say you take a loan for $1,000 and do not pay. This, in turn, becomes $1,000 + $300 in late fees within the year (far in excess of the loan interest rate). After you default, you are not free of the obligation, you are now in debt $1,300 to a new creditor… at a whole new interest rate, etc. This process will repeat indefinitely. This is how people rack up “millions of dollars in unpaid parking tickets”, for example. Such absurdities are only possible because of the usurious nature of US credit and “fee” law.
Clayton -
@Neo: I think the economic conception of interest rate is wholly separate. If you read Mises on interest, he makes it clear that originary interest is a purely psychological phenomenon… it is simply the “rate” at which you prefer present goods over future goods.
Credit - the actual granting of loans - doesn’t have to use a concept of “interest” at all… it can just say “here’s the price you have to pay me if you want me to loan you $X for Y period.” How that price is calculated is irrelevant to the facts of the exchange.
What I’m arguing is that the law should restrict - by simplifying - the language of credit contracts to something like the following schema: “Smith agrees to repay Jones $X by Y date. Should Smith fail to meet Y date, Smith agrees to pay Jones $Z.” End-of-contract. The problem with the compounding nature of default in modern law is that it indefinitely cascades defaulting terms in the contract… should Smith miss Y’ date, he owes $X’, should be miss Y’’ date, he owse $X’‘, and $X’‘’ after Y’‘’ date, etc. While it is conceivable that someone might voluntarily agree to such a contract, it is my view that the existence of such contractual concepts is actually symptomatic of the corruption of private contractual agreements… contract-writers are actually imitating the de facto law created by how courts adjudicate debt, that is, the courts will apply a compounding rate in the calculation of “true value” of defaulted debt.
Where this is fallacious is in the assumption of the perfect profitability of loanable funds, an obviously false assumption. This, in turn, shows the underlying logic of law regarding defaulted debt: that it is the job of the law to make creditors as secure as possible, that is, perfectly secure. The fact is that creditors are taking a risk when they extend loans and they have no business being empowered to grind poor people to powder in order to make a lesson of them in order to terrify their middle-class clientele to always pay on time, thus securing the credit market (and expanding it) beyond what would pertain without such legal measures. The opposite is also occurring, where private lenders (or contractors of any type) have difficulty in holding people to the simple terms of their contracts because, in the view of the courts, private agreements are only binding to the extent the courts choose to make them binding, or to the extent they happen to invoke statutory law.
Clayton -
These two statements contradict each other. The fact that the amount of each payment that is applied to the principal is reduced by the accrued interest is precisely what it means for interest to be calculated on interest. The two are logically equivalent.
I didnt say that the principal amount is reduced by the accrued interest. You have two pots of money one is the principal owed the other is interest owed (accrued interest). Your payments are set up so that every month the balance in the accrued interest is paid in full with enough left over to pay a small amount of principal.
Let us show the difference. Let’s say you take a $100,000 mortgage over 10 years to buy a home for 10% simple interest. This would be a total sticker price of $110,000, to be paid $11,000 per year, so payments work out to $916.66 per month.
Compounded interest of 10% on a $100,000 loan (compuonded monthly) for 10 years, comes to a monthly payment of $1,327. $1,327 * 120 = $159,240, so this 10% compounded interest loan is equivalent to a 59.24% simple interest loan.
Ok I think I see where our disagreement is. Are you under the impression that you would be paying interest on interest in your second scenario? Because you are not. Compounding in this context has nothing to do with paying interest on interest. I only means how often is interest calculated.
The interest that you pay is based strickly on the outstanding princpal balance in both cases. The difference between your two scenarios is that your percentage rate is this: In your first example the 10% is per 10 years in your second example it is 10% per one year.
The extra $49,240 you pay has nothing to do with paying interest on interest. You pay more because you have agreed to pay 10% interest every year not just once.
Rather, my point is that I think that contracts should be structured such that the defaulting structure of the loan is fixed and final. You shouldn’t have an increasingly larger and larger claim against a defaulting debtor.
When you sign your loan agreement it tells you exactly how much interest you will end up paying and what the fees will be if you dont pay as agreed… Why not if that is what is agreed to. Edited because I miss read your statement.
Thus, the focus becomes on persuading judges.
If what you say is true this is an issue of a corrupt justice system and not contracts for compound interest loans.
Of course it does. Let’s say you take a loan for $1,000 and do not pay. This, in turn, becomes $1,000 + $300 in late fees within the year (far in excess of the loan interest rate). After you default, you are not free of the obligation, you are now in debt $1,300 to a new creditor… at a whole new interest rate, etc. This process will repeat indefinitely. This is how people rack up “millions of dollars in unpaid parking tickets”, for example. Such absurdities are only possible because of the usurious nature of US credit and “fee” law.
You are jumping from one issue to another. Fees are not interest… they are fees. So this has nothing to do with compound interest. If you are upset that when you borrow money that you are held to the terms of your agreement, I dont know what to tell you.
Even if the lender decides to never write off the bad debt, they cant do anything to you except harrass you about paying them back if it was unsecured, or repossess whatever collateral you secured the loan with.
As far as “millions of dollars in upaid parking tickets”, I highly doubt that this was a private entitiy… most likely a government entity.