Thursday, May 24, 2012

The Errors of the Economists: Usury

from The Distributist Review
by on July 31, 2011 2:00 PM

Usury and concepts of legitimate interest are points of contention between distributists and modern economists. A lack of understanding on the difference between them, and how to determine if a particular transaction is one in which interest may be legitimately charged, can make our positions confusing for those considering Distributism.
The average person, trained to accept the prevailing economic model, treats money as though it has the ability to produce wealth rather than being a convenient means of acquiring goods that actually do so, or just buying goods period. Because they look at money as a wealth generator, they see no problem in charging interest for its use. They have never been asked to look at the fundamental points that determine whether charging interest is legitimate or usurious.
What is the Real Difference Between Sales, Loans,  or Rentals?
A sale is an exchange of things of equivalent value, it is a transfer of ownership of the things exchanged. A loan is not an exchange at all. It is the temporary use of a specific thing which much be returned. A loan requires the return of the same thing loaned, not merely an equivalent thing. If I loan you my car, I require that you return the same exact car to me. If I charge you for using the car, it is a rental.

Are There Things Which, Due to the Nature of Their Use, Cannot Be Loaned or Rented?
To use a classical explanation, “consumable” things cannot be loaned. “Consumable” in this sense means that using it involves either its loss or its destruction. The use of a sandwich is the eating of it. This destroys the sandwich and it cannot be returned. The use of money is the spending of it. This means you have “lost” (are no longer in possession of) the money and it cannot be returned. Because the normal use of these means they cannot be returned, they can only be sold. I am speaking here of the “normal” use. I will address below situations where the intended use is different than the “normal” and does not involve the destruction or loss of the thing.
If I “loan” you ten dollars to buy lunch, you will no longer have that ten dollars and cannot return it, nor are you expected to do so. You are only expected to return an equivalent amount of money, which means we are actually exchanging different things of equivalent value. In other words, I am selling you ten dollars and allowing you to pay me at a later time. What is the just price for ten dollars? The amount of money, or the length of time allowed for repayment, or the existence of a contractually established plan for repayment does not alter the nature of this transaction. What we typically call loans of money are actually sales regardless of these factors. While some try to argue that the “lender” is maintaining a claim of ownership on the money, the reality is that he is relinquishing ownership of that specific money for a claim on an equivalent amount of money at a later time. This is no different than my buying you lunch today on the agreement that you will buy me lunch next week. What is the just exchange? If I buy you a grilled cheese sandwich and expect you to repay me with a grilled steak, I don’t think you’ll consider that an exchange of equivalent things. Yet, for some reason, we are supposed to accept getting one amount of money and having to return a much higher amount in exchange.
What About Legitimate Interest?
Distributists accept the concept of legitimate interest and the use of money for profitable enterprise, so how does this work in Distributism if interest on loans of money is prohibited? Another form of transaction that we would typically call a “loan of money” is actually an investment. For example, If I loan you $10,000 for your business, I can legitimately claim some portion of the profits you will make with that money. The difference between this transaction and the previous example is that this involves money used to acquire goods for a business enterprise. This is a key point that is misunderstood about our position. Interest may be charged for “productive loans.” The term “productive loans” can also cause confusion because, when we hear “productive,” we think of actually producing something. My understanding of the term, however is that it also encompasses loans to service enterprises. Therefore, a “productive loan” is a loan to a business that either produces goods or provides services for profit. Even in these cases, however, the classical view is that the interest charged is not on the money itself, but on the potential for profit it enables. In other words, the “interest” is not based on a continued claim to the money, but on a claim to a portion of profits the money made possible. It matters not whether the investment is permanent, as in buying a partnership, or temporary, where the return of the money removes the legitimate claim to a portion of profits.
What is Usury?
Usury is a concept that embodies several different ways of trying to conduct transactions that are unjust. George O’Brien gives a very good explanation in his Essay on Medieval Economic Teaching which I will attempt to summarize here.
Charging for Both the Sale and the Use of Something
This is the classic and literal definition of usury. Imagine that I sold you my lawn mower, but also attempted to charge you for every time you used it. While this is an unlikely example, it illustrates the problem with charging interest on money. Again, the confusion lies in the fact that we use the term “loan” when “sale” is more accurate. Instead of saying I loaned you ten dollars, say I sold you ten dollars to buy lunch, and you can see why the same rule should apply. It is legitimate to sell a thing, or the use of a thing, but not both.
Charging For Something That Isn’t Owned
Interest is often justified based on the fact that repayment is being made over time and the “lender” suffers a loss during the time it takes for repayment. I will address the idea of specific losses below, but we cannot charge for the time it takes to repay a debt because we are then charging for time, which is not owned.
Charging in Order to Eliminate the Risk of One Party
Even in Medieval days, people were allowed to take steps to protect themselves from losses. However, the means of doing this were always at the expense of the one being protected. Typically, a lender could take out insurance in regard to a particular transaction, but was never allowed to pass the cost of such insurance to the borrower because the borrower gains nothing from the insurance. The very idea of just compensation requires that the one paying gains the benefit of the payment. In the case where interest on loans of money is “justified” as compensating the lender against the risk of loss, it is the borrower who is making all of the payments but the lender who gains all of the benefits. Therefore, even if we allowed the borrower to be charged interest to protect the lender against a failure to repay, we would have to conclude that the borrower is justly entitled to have all of that interest returned if he does not fail to repay the loan. Any transaction where the terms protect only one side from the potential risk of loss is usurious.
Charging Excessively High Rates of Interest
Even in the case where interest may be legitimately charged, high rates of interest can be considered unjust and therefore usurious.
How Do These Apply Today?
When addressing the claims used to justify interest today, we find that nothing has changed since the Medieval, and even pre-Christian times. Certainly the mechanics, scope, and speed of transactions have changed with the development of technology, but the reasoning behind the claims used in attempting to justify usury, or to deny that certain things are usurious, are essentially the same as they always were. Let’s take a look at some of these justifications.
Interest as a Rental Fee on a Loan of Money
Rent is a payment required for the use of an item where ownership is not transferred. When I rent a car, the rental company retains ownership of the car and charges me for its use. As I have outlined above, a loan requires the return of the exact same item loaned, and the normal use of money involves its loss, so what we typically call loans of money are actually sales. However, there are cases where money can truly be loaned.
Let’s say you have a rare ten dollar bill I would like to use as part of a presentation. The expectation is that I will not spend it, but will only display it and return that same ten dollar bill to you. This is a true loan because my intended use of this piece of money does not involve its loss and you are maintaining ownership of that specific piece of money. If you charge me for that use, it is not interest, it’s a rental fee.
Compensation for Not Having the Money (Loss of Use)
Some will argue that the lender (who is actually a seller) is unjustly deprived of the money owed him, and opportunities to use it, while waiting for repayment. Therefore, interest is justified to compensate him for this loss. The problem with this claim is that he voluntarily entered into the agreement and can set time limits on repayment at that time. There is no injustice if the return payment is made on time, because he voluntarily gave up the use of the money for the term of the loan. Additionally, because the transaction is actually a sale, the “lender” has no claim on the money or its equivalent value until the time repayment is due.
In the case of late payments, a claim of unjust deprivation of the money could be made and interest justifiably charged in compensation. However, interest could only be charged on that portion of the loan that is actually late. If you borrow $10,000 with the agreement that you will pay back $200 every month, and you are late on one of your payments, interest could only be charged on that individual late payment, not on the entire balance outstanding which has not yet come due. The point is that the “lender” has voluntarily agreed to forgo the use of the money according to the terms of repayment. If I “loan” (sell) you ten dollars on Monday on the promise that you will repay me by Friday, I have suffered no loss if I agree to those terms and you repay me on time. The same is true if the term is for thirty years rather than a week.
Interest on Money as Compensation for Lost Opportunities for Gain
This is an extension of the previous claim, adding the idea that the “lender’s” use of the money during the time of the loan would have been for profitable investment. The assumption behind this claim is that whatever investments would have been made would have yielded positive returns.  Conceptually, compensation for this loss has always been admitted. Practically, such claims were denied as justification for charging interest on money on the grounds that the compensation must be equivalent to the loss, and the loss cannot be known at the time of the loan. The claim rests on a prediction of future events.
I am loaning you money now and, until you pay me back, I cannot invest that money in other places to earn a profit. Therefore I am going to make an assumption about how much profit I would have made and charge you for that. What if my assumption is wrong? Modern economists justifying such charges never seem to consider that such investments could result in less gain, no gain, or even the loss of the investment. After all, if the investment would only have yielded a two dollar return, it is unjust to charge ten dollars  for that lost opportunity. Justice would require that the difference be returned to you, but this is unthinkable to the mind of the modern economist. This is why claims for such compensation in the Medieval era always required the lender to prove the loss before he could make the claim. By using this claim to justify interest charges, modern lenders are assuming the loss, but they’re not required to prove anything.
Interest charged on non-productive loans, as typified by credit cards, home mortgages, and personal car loans, are usurious. They are charging for both the use and sale of money, which constitutes unjust transfers of wealth that only serve to concentrate wealth away from the average person and into the coffers of rich monopolists. The various claims that the people of the Medieval era just never imagined the different ways we use money today is false. It is true that they never envisioned computerized transactions, but a reading of the various issues they addressed shows the people of that time were very innovative and clever in their attempts to gain profit from the use of money. They also tried to use the same reasons to justify charging interest as do modern economists. The same can be said of the various cultures that have forbidden usury around the world going back for more than 2,000 years. The principles against usury developed over centuries of reasoned thought apply to today’s methods of wealth generation no less than they did in ancient times.