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Originally published February 20, 1984

 

 

 

 

 

 

 

IT IS ASSUMED that a lender is entitled to get his money back when a loan he has made matures. It is further assumed that he is entitled to get not only his money but his purchasing power back; so if inflation is anticipated, he is entitled to charge extra-high interest on an account.

These assumptions are certainly understandable. Why should I lend money if I do not expect to have it returned? Why should I temporarily forgo the use of my money unless I am suitably paid for my abstinence? Yet understandable or not, these entitlements have curious consequences.

Let us begin by examining what capital is (for our purposes here we will not bother to distinguish between cash and producer’s goods). Capital, regardless of how you define it otherwise, is saved labor. It is past labor, as opposed to current labor. No capital ever came into existence except as the result of labor, and no capital ever did any work except in conjunction with labor. Not even land, in the economic sense, exists except as a consequence of labor. At the most primitive level, someone has to go to the labor of discovering the land, occupying it and exploiting it in some way.

Whatever right capital has to earnings is based on the fact that it is saved labor. As an object, capital has no rights. No object has rights (except in the cuckooland of some now fashionable philosophers), because objects can discharge no duties.

Now, if capital is saved labor, it would seem that it should be treated the same way as labor. A laborer is worthy of his hire. A week’s labor brings a week’s wages. But the laborer does not expect to have his labor, or any part of it, returned to him at the end of the week, nor does the laborer expect to continue to draw wages for that week’s work after it is done. (He may, when he retires, receive Social Security benefits, but they are not wages.)

It should be immediately obvious that capital, though it is saved labor, is different from current labor. It can earn interest forever; and at the end of one job, it is expected to be returned intact, whereupon it can be let out again. There is another difference: Capital can be bought and sold, can change hands indefinitely. But with the exception of slavery and possibly certain sports and entertainment contracts, labor can be “sold” only once. To paraphrase Yogi Berra, when it’s over, it’s over.

These differences provide the ground for a far more important one. Since capital is long-lived – sometimes almost immortal – and since it is interchangeable – sometimes as nondescript as putty – it is not bound, at least to the extent labor is bound, to a particular time and place. And being less restricted than labor, capital is more agile and more powerful in any contest between them.

Very likely the original capital was a hunter’s club or stick that proved as effective in controlling other men and women as in killing game. Perhaps, as Marx claimed, the state with its police performs the same service for today’s capitalists. The law, in its determination to protect a man’s home, which is one form of property, has drifted into absolute protection for all forms. This situation, though, obtains also under communism. For control of the means of production, what Communists call capital, enables the state to decide how the people shall work and live. Even without weapons and enforcers, however, capital is stronger than labor.

This is very strange because as we have said, capital is nothing if not past labor. Thus what is past, what is no longer, turns out to be more powerful than what is. Yet we cannot help feeling that Jefferson was right in saying that life is for the living. How can it be for the dead and gone?

Interest has always been a problem for thoughtful men. Although St. Thomas Aquinas lived long ago, he was not a fool, and his opposition to usury was not without reason. Banking was originally money-changing; this was inappropriate in a Temple, but it was and is a necessary service and worth modest fees. Interest, St. Thomas thought, was something else. “The proper and principal use of money,” he held, “is its consumption or alienation, whereby it is sunk in exchange. Hence it is by its very nature unlawful to take money for the use of money lent.” He is evidently thinking of the use of money to buy consumption goods.

What chiefly distinguishes our economy from his is the shift of banking from money-changing to money-lending, and the further shift from lending money to support the consumption of kings and dukes to lending money to support production. The discovery of the enormous power of compound interest, which is using money to support production, dates only from the 16th century. Keynes once calculated that every £1 Sir Francis Drake brought home in 1580 had by 1930 become £100,000.

Oddly enough, philosophers have not been bothered by rent (aside from Henry George, who objected to landowning). It seems reasonable and proper for a landowner to charge another for the use of his land. Once you take that step, you are on a slippery slope, though the slide has taken centuries. If you can charge for the use of your land, you can charge for the use of your shovel or boat or whatever. The principle seems the same, and furthermore you can sell your land and buy shovels to rent out, and vice versa. If real estate (remembering my column on “Appearance and Reality in Economics,” NL, December 26, 1983, note that word “real”) is alienable (see “Life, Liberty and Property,” NL, July 11-25, 1983) then practically all kinds of property are, as the lawyers say, fungible; that is, they can be exchanged for each other.

The next step is a big one. In modern societies it rarely happens that one exchanges land directly for shovels or boats or other forms of capital. The exchange is indirect. One sells one’s land, gets money for it, and uses the money to buy the shovels. The land, the shovels and the money are interchangeable. Consequently, it would seem only right that if it is just to charge for the use of land or of shovels, it is also just to charge for the use of the money that can be exchanged for land or shovels.

THE NEXT STEP is an even bigger one. If in a free market the price of shovels depends on the supply of and demand for shovels, it would seem reasonable that interest depends in the same way on the supply of and demand for money. But, reasonable as it may seem, we are at this point off the slope and into the soup. For contrary to what is widely thought, money is different from ordinary commodities such as potatoes, shovels to dig them with, or ships to transport them in.

The difference was unknown to Aristotle, St. Thomas’ mentor, and it is unrecognized by today’s hard-money men, but it can be quickly illustrated. If potatoes are overpriced, for whatever reason, only the potato business languishes. One can always eat cake. If, however, money is overpriced, bankers (who have the money to lend) may not suffer at all, but the entire economy languishes.

And this is what we have seen happen. Our bankers, led by Walter Wriston of the sleepless Citibank, managed to shrug off many of the New Deal regulations that were based, albeit unconsciously, on the fact that money is different. In particular, bankers outwitted so-called Regulation Q, limiting the interest they could pay. This, at first blush, appeared to be an act of generosity on their part. People with money to lend were charmed by the high rates that banks urged upon them. Competing with each other in the good old free market fashion, even reluctant banks (notably the savings-and-loan associations) had to run up their rates or lose their depositors to more aggressive neighbors. To pay their depositors increased rates, they had to charge their borrowers increased rates. The Federal Reserve Board cooperated by restricting the supply of money, thus magnifying the demand.

After a bit, the demand diminished. Businesses (who do most of the borrowing) couldn’t afford the high rates and cut back on production or went out of business altogether. Individuals did not buy new homes, and many lost the ones they had. Recovery or not, there are now over 735,000 bankruptcies before the courts, the most ever; and a record 4 per cent of the nation’s banks are on the Federal Deposit Insurance Corporation’s “problem list.

In a free money market, the only way the banks can be kept from ruining each other is by allowing them to ruin the economy. In the process, those with money to lend (in general, the rich) are enriched, and those with a need to borrow (in general, the almost-poor) are impoverished. This is a Reaganomic result probably even greater than that achieved by the Trojan Horse budgets and tax laws. The entitlements mentioned at the outset may not now seem so absolute – and indeed far less absolute than the entitlement of every citizen to food, clothing, shelter, and care in his old age.

The New Leader

Originally published December 26, 1983

A DELUSION appears from time to time in philosophy whereby appearance and reality are so separated that, as Charles Peirce observed, their connection is like that of a freight train held together only by a feeling of good will between the engineer and the brakeman in the caboose. A corresponding delusion suffered by many economists is that there is a real economic world underlying the actual one in which we live and have our being.

Classical economists are especially prone to talking about the real world rather than the actual one. They investigate the “real” GNP, not the “nominal” GNP (the quoted terms aren’t the same as those of medieval philosophy, but they give rise to similar difficulties); real interest rates, not nominal ones; real wages, not money wages: These investigations seem sensible and down to earth. Money, after all, is only good for what it can buy.

It was one of the marks of John Maynard Keynes‘ genius that he saw through at least some of the confusion this causes. At the very start of The General Theory, he showed why labor is concerned with money wages, not with real wages, to the bewilderment of classical economists. “Since there is imperfect mobility of labor,” he explained, “and wages do not tend to an exact equality of net advantage in different occupations, any individual or group of individuals who consent to a reduction of money wages relatively to others will suffer a relative reduction in real wages, which is sufficient justification for them to resist it.” He noted further that no specific wage negotiation can have a great enough effect on the general price level to make the latter worth considering by either party. High wages in Detroit have a slight and remote effect on the prices of the food and clothing automobile workers (and automobile magnates) buy.

Conservative businessmen nevertheless argue for “reality,” and not only in labor negotiations. Thus we hear much talk about the real interest rate, and how – regardless of what you thought when you talked with your friendly banker about a loan – until recently it was very low, or even negative. The nominal interest rate is what the banker was going to charge you; the real rate is generally determined by subtracting the rate of inflation from it (Keynes reasonably thought the deduction should be for future inflation, but that is obviously a guessing game and so not properly scientific).

If in 1980 you screamed when your banker reluctantly offered you a 16.5 per cent mortgage, he could sweetly point out to you that, what with inflation then running at 13.5 per cent, he was really asking you for only 3 per cent (plus, naturally, several mysterious fees and “points”). Moreover, if your tax bracket was, say, 30 per cent, he probably noted that your tax deduction for interest paid would amount to almost 5 per cent, putting you ahead of the game. You may have wondered who was keeping score.

The competing architects of the mishmash that is Reaganomics are agreed that your banker was correct in his reasoning. Messrs. Martin Feldstein and Donald Regan, Paul Volcker and Jack Kemp, all chant in unison that the economy suffers because rich people don’t have enough incentive to save. In particular, they don’t make long-term investments because they fear that when they get their money back it won’t buy as much as it does today. (The few I know seem to fancy buying extra condos here and there, and that seems like a long-term investment to me, but let that pass.) At this writing, when the real interest rate as calculated by your banker is at an all-time high, those with money to lend are (they would be shocked to learn) following Keynes in allowing not for present, but for future, inflation, which they evidently guess will increase.

Here Reaganomics has a stock answer: Make the rich richer. Considering what has been done so far, it’s hard to imagine what remains to be done, yet we need not doubt that pressure will be steady to reduce taxes in the higher brackets and to reduce income in the lower.

The anonymous White House and the palpable Representative Kemp (R-N.Y.) say in addition that the Federal Reserve Board should reduce the interest rate. Chairman Volcker replies that he could do so for a short while by increasing the money supply, but that resulting fears of inflation would send the long-term rate through the roof and would soon drag along the short-term rate, too. In brief, it is argued that the lenders’ search for real interest would make the nominal interest rate too high for anyone to borrow. Even though we may not like what is being done to us, it is for our own good.

T O CHECK on this argument, we must look a little more closely at the meaning of “realism” in economics. Does it in fact make sense to disregard money values and concentrate on real values? I will say that it does not.

In the actual world, where we do our actual buying and selling, it is money values that we do – and should – pay attention to. Keynes satisfied his tastes for old books and new paintings by speculating, mainly in commodities and currencies. He used his winnings for (among other purposes) buying paintings at the Degas auction in 1918. The real value of the paintings he bought for himself and urged others to buy was not about to change and, by definition, could not change. But the money value, as he anticipated, changed dramatically. He needed money to pay the money price for the paintings before it went up; the real values of either commodities or paintings had nothing to do with the case.

And of course it is impossible to say what the real value of those paintings was or is. Some of them I’d not give house room to, except for their sentimental association with the great man who once owned them. As far as the Consumer Price Index (CPI) or the GNP Deflator is concerned, the value of the paintings is nil. They don’t count; and to value them in terms of Smith’s or Ricardo’s or Marx’s labor theory would be ridiculous, as it would be ridiculous to attempt to apply Keynes’ wage unit to them. Since there is no way of saying what their real value is, it seems quixotic to insist that they have any in economic terms.

Nor are the paintings unique. The market basket of the CPI includes many items I would not give house room to and many others – entertainment, for example – that can be connected with a labor theory of value, or with any other “reality,” only by dint of the most laborious of gyrations. A theater ticket can be counted in the CPI because it is bought, that is, because it has money value. What its real value may be is beyond calculation.

The mere fact that the CPI is not the all-purpose market basket for all seasons, and that other indices (including many of the same items) have to be devised, indicates that the alleged reality shifts as the sands. In any event, like Keynes with his paintings, I need money to buy the things I want out of the baskets; and the more money I have, the more things I can buy. Regardless of the rise or fall of real values (whatever they might be thought to be, and however they might be determined), I’ll be able to buy more if I have more money. Why then should I not join other workers in resisting a reduction in my money wage?

In this I am no different from the investor (or speculator) who resists a reduction in money interest. Regardless of the so-called real rate, his choice is between the money rate and nothing at all. Like the unfaithful servant in the parable, he can bury his money, but that won’t help him. Or he can spend it, and that will help the economy. But if he wants to invest, he’ll have to follow the money rate of interest. In the end, he will compare the results of various investment strategies in accordance with the amounts of money they earn. Realism has nothing to do with it.

The New Leader

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