What is Interest and Why Do We Deserve It?

Interest is the reward received by savers (bank savings accounts, government or corporate bondholders) to let others use their surplus money for other investments. Compound interest is the concept of getting interest on our interest. By allowing our original money to be used for someone else’s investment and being paid interest on it, we now have even more money in our account. We can lend our new amount of money again and get still more back. Therefore, the money in our account can grow at an accelerated rate even though we have done nothing productive ourselves to earn it.

What did we do to deserve compound interest? Do we really believe that we should continue to get something for nothing indefinitely? The answer is usually “Yes!”, and the reasons for most of us are very understandable.

1.  Very Personal Problems of Interest!

Many of us are probably doing, or have done, something relatively productive (let’s not try to define that term yet – most people would be afraid to look too deeply into it) and received money for it. Say I’m the father of a young family who wants to save for our future. Putting money in the bank at zero interest would be the same as stuffing it in our mattress – but we would still accumulate money for the future. If a friend or relative wanted to borrow some of our money, we could let them have it and get it back later, especially since it’s our savings and we don’t intend to use it for a long time. In times past we wouldn’t expect to ask for more back than we lent out, that was called usury and was a sin. After all, we didn’t really need it while our friend was using it.

But it sure would be nice if our money could grow faster than we can add additional savings to it! Aha! If we let someone else use the money that we don’t need now, doesn’t that mean our money is “working” for someone? Shouldn’t we be paid for the work our money does, especially since we worked so hard for it in the first place? Of course! It’s only fair. And if someone uses our money and makes it work really hard, shouldn’t our money be paid even more? I want my money to grow really fast (for my kids’ education, for my new home to fit the kids into…). If I’m retired, I know I deserve to live off my interest because I worked hard for my money in the first place and now I want my money to work hard for me. I’m going to look for “professionals” who will make my money work the hardest and get the best return - maybe that mutual fund, even though it owns stock in a Philippine logging company. I hear the ones with companies opening new markets for cigarettes in Asia, corn flakes in India, and cola in Africa are pretty good. Besides, according to my investment manager, money can do no wrong. I never realized that the economic theory of the “invisible hand” proved long ago that anything done to make more money only makes the whole world a better place!

2.  Is the Surface of the Earth Growing at the Rate of Compound Interest?

The ruling passion of the age is to convert wealth into debt in order to derive a permanent future income from it - to convert wealth that perishes into debt that endures, debt that does not rot, costs nothing to maintain, and brings in perennial interest. Although debt can follow the law of compound interest, the real en­ergy revenue from future sunshine, the real future income against which the debt is a lien, cannot grow at compound interest for long. The idea that people can live off the interest of their mutual indebted­ness is just another perpetual motion scheme. Herman Daly [1] believes:

“What is obviously impossible for the community - for everyone to live on interest - should also be forbidden to individ­uals, as a principle of fairness. If it is not forbidden, or at least limited in some way, then at some point the growing liens of debt holders on the limited revenue will be­come greater than the future producers of that revenue will be willing or able to support, and conflict will result.

I invite the economist to increase the scale of the carbon cycle and the hydrologic cycle in pro­portion to the growth of industry and agriculture. I will admit that if the ecosystem can grow indefinitely then so can the aggregate economy. But until the surface of the earth begins to grow at a rate equal to the rate of interest, one should not take this answer too seriously.”

Too many accumulations of money are seeking ways to grow exponentially in a world in which the physical scale of the economy is already so large relative to the ecosystem that there is not much room left for growth of anything that has a physical dimension.

pKilkus@gmail.com                       © Peter Kilkus 2020