The Subtle Tyranny of Interest Rates

Interest rates are the price of credit. They are the price of access to capital.

Now, it is obvious that pricing credit is not tyrannical in and of itself. Interest compensates a lender for default risk and the risk of inflation eroding the purchasing power of the money that they lend.

The tyranny I am getting at is subtle. It is the tyranny that Keynes pointed to when he proposed a euthanasia of the rentier. Keynes proposed that low interest rates would:

mean the euthanasia of the rentier, and, consequently, the euthanasia of the cumulative oppressive power of the capitalist to exploit the scarcity-value of capital.

Keynes pointed to an important feature of interest rates: the fact that capital has a cost is not just the result of default risk and the risk of inflation. It is also a result of the scarcity of capital.

Now, that is inevitable in a world where financial capital consists of metal that you dig up out of the ground.

But in our brave new state-backed fiat monetary system, why should capital be so scarce that those who have it can profit from its scarcity?

Obviously, central banks should not print money to the extent that it becomes worthless. But capital availability is absolutely critical to the advancement of society: the investment of capital is how societies become productive. It is how technology improves, and it is the key to wealth accumulation.

What Keynes didn’t specify was what exactly in the interest rate paid was the part that represented the “scarcity value” of capital.

Obviously, it doesn’t include the part that compensates for inflation, which is why we need to look at inflation-adjusted interest rates. And it isn’t the part that compensates for default risk. This is easily calculable too: it is the excess paid over lending to the monetary sovereign.

In the U.S. and Britain, that would be the American and British governments. In the eurozone — for complicated political reasons — there is no monetary sovereign exactly, but we might measure it by looking at it in terms of the spread against German government borrowing, because Germany seems to be the nation calling the lion’s share of the shots.

Here’s the real interest rate on U.S. 10-year government borrowing (I chose the 10-year because it is a benchmark, although I would have preferred to use a harmonized rate from across the yield curve.):


So what are we really seeing? The general trend is that real interest rates on U.S. government borrowing are overwhelmingly positive, with a few periodical exceptions where real rates on borrowing went a bit negative. This bias toward positive real interest rates on lending to the monetary sovereign, I would argue, is the rentier’s profit resulting from the scarcity of financial capital.

Year over year, that is going to compound heavily. It is these rentiers, I would argue, who should be euthanized. Not because they should be resented for doing well out of the system.  No. They should be euthanized because of the opportunity cost of devoting resources to enriching rentiers, resources that could be deployed productively elsewhere.

And how to euthanize the rentiers? Because we have identified what the rentier’s share is, the answer is very simple: making a real interest rate of zero on lending to the monetary sovereign an objective of monetary policy.

Update: After much debate, I have decided that euthanizing rentiers is not a matter for monetary policy, but a matter for fiscal policy. I have written another post discussing this.

14 thoughts on “The Subtle Tyranny of Interest Rates

  1. Pingback: The Subtle Tyranny of Interest Rates « Financial Survival Network

  2. If a country is poor it has plenty of high return investment opportunities ahead of it. And the same time, the opportunity cost of saving (starvation) is high. Put another way, savings at a given interest rate is very low, while demand for investment at a given interest rate is very high. The result is that interest rates consistent with full employment are probably very high. If you set risk-free rates too low then borrowers would jump on the opportunity to borrow and invest at these high returns, while savers would hardly save anything. The result is that far too little money is saved at full employment, while far too much money is borrowed and spent. In other words, borrowing exceeds saving by a large amount. This gap between savings and borrowing at full employment is filled by the fractional reserve banking system (newly created money) or declining cash hoards. In other words: the result is too much spending and rampant inflation.

    The question is always: what interest rates balance saving and borrowing at full employment? The preference for saving and borrowing are always changing based on circumstances, and so is the ideal risk-free interest rate (that leads to full employment and stable inflation). So if you anchor rates at a real rate of zero then there’ll be times when you experience inflation as a result.

    I explain more in my book (which is very short):

    Which also lays out a new monetary system which would make it unnecessary to centrally plan interest rates, while also removing capital providers’ grip on the economy.

    I hope I haven’t misinterpreted the post.

  3. I’d like to propose another mechanism.
    What about interest being the reward the lender gets for the job of allocating scarce resources (capital)?
    The current problems have arisen from the fact that the system no longer works properly, investors have become rentiers – just as you said. They no longer adjust interest according to the perceived risk associated to a certain venture, they just ask a monopolistic fee for the privilege of using a resource that has been hoarded by those very rentiers.
    In a way it is a historical turn back to a sort of feudalism. In those times the lords controlled the land, nowadays the rentiers control the flow of money.
    We can remedy this situation very simple. All we need to do is to remember that real capitalism is a lot more about mutual trust than about mere money.

    • Interest rates are the reward the lender gets for the job of allocating capital. That requires risk. Positive real interest rates in a risk-free market like lending money to a government which controls its own currency are nothing more than rent.

      • Risk is not the only thing that determines interest rates. Consider also the possibility no one wants to save at a 0% real rate (or not enough people). They value a dollar tomorrow less than a dollar today. In this case, borrowers need to first pay savers to defer spending, and then on top of that pay them for risk.

        If you only pay them for risk, then no one will save, except those savers that value a dollar tomorrow at least as much as a dollar today.

        Those savers who value a dollar tomorrow more than a dollar today would be happy saving at an interest rate less than what would compensate them for the risk.

    • Betterfailling I think you’d be interested in the system I propose in my book (see comment above). It does exactly what you desire: turns money into an instrument to facilitate trade. It can no longer be accumulated as wealth.

      • I’ll try to lay my hands on it – living in Romania complicates things a little bit – but I don’t think I’d go that far as that.
        After all trade involves private property and that involves a certain amount of wealth…
        Rather than a new set of laws we need a new kind of attitude towards things.
        I’ve read some place that Israel is not that much the Chosen People but the People who has chosen (a new way of life). How about us making the same thing? Choosing another economic paradigm, just as Dan Price has done. Not giving up wealth altogether, just spreading it around a bit – for the ‘better good’ of us all. As it happened when Ford had jacked up the wages in his factories.
        “The point is not so as to be paying a “decent wage” or anything of that sort: it is to be paying a higher wage than other employers. That gets your workforce thinking they’ve got a good deal (for the clear reason that they have got a good deal) and if the workers think they’ve got a good deal then they’re more likely to turn up on time, sober, and work diligently.”
        Like it or not the market is a lot freer that it was 100 years ago. If the deals are not perceived as being fair those involved will gradually opt out, in various forms. Everybody will suffer from this.

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