Usury Frustrates the Creative and Unitive Aspect of Commerce

To produce a book, I prefer to teach the topic, and work through the questions with students, in that way testing the ideas and growing the book.  This blog was associated with a class, but I could never get enough students through the schools to make the class a go.  I will proceed with the book, but sadly, uninformed by rigorous debate.

What Islamic scholars I have tried to engage are generally reticent for whatever reason, contrary to my experience of Moslem hospitality in general.  Perhaps the topic is too hot.

But I can engage Moslem scholarship, and I find a most excellent article here.

The rationale behind the prohibition of interest-based transaction is not beyond the common wisdom. If the funds are borrowed for consumption purposes, then charging of interest is clearly a sign of moral bankruptcy and inhuman behavior. In case the funds are provided for investment purposes, even then the prohibition is rational. It is obvious that such transactions involve a one-sided traffic. The entire burden of risk and uncertainty, being the norm of trade and business, has to be born by the debtor/investor. On the other hand, the creditor/saver is guarantied for a sure return.

I recommend this article for being succinct and comprehensive.

Although the rationale is not beyond common wisdom, there are also reasons beyond common wisdom to abjure usury, as I will note below.

Borrowing money to consume is to stay on a path of diminishing returns.  If you need to borrow money to live, then your life is not ordered to your best options.  Truly there are circumstances which are short term, or long term due to injustice, but to take a loan for consumption is to ignore the signal that something is wrong.  There is the term "deserving poor" in which a lender gives a hand to someone who has been in error and is reforming.  Charging interest distorts this person's recovery by making the lender's demands absolute while the borrower's recovery is relative.

Funds at usury are always available, for there will always be someone who can get more out of your life than you are willing to give, if only they can trap you.  Usury is a trap.  To refuse funds at usury certainly narrows the options for solving a problem, but it is within those very narrow options where one's unique talents are discovered, and the efforts at recovery are made on a most solid basis: you find where you are not only most productive, but where you are the best at what you do.  Usurious loans give a false sense of achievement (I got the loan approved!) versus the grueling trial and error of finding what talent you have which the world will reward.

Anyone making a loan ought to do so limited in scope to an act of charity.  As an act of charity, not only is there the loan, there is the opportunity of offering compassion in the form of advice from one who is doing well to another who is doing poorly.  If the loan cannot be paid back, there is even more opportunity for a charitable act, and that is to forgive the loan.  And non-forgiveness of a loan is a most mild rebuke to a borrower.  The only sanction is to not lend more.  The errant borrower is then obliged to go find another benefactor, from whom he will benefit from another round of instruction and bromide.  He who lent without being any help is improved by the experience that his lending in this instance did no good.

If it is easier to borrow than produce, few people will change their habits in order to be more productive.  Productivity is always measured to the degree you serve others.   "Welfare" is taking borrowed credit, credit someone else will have to pay at some time.  The state steps in and acts as usurer trapping the poor on one hand and obliging future generations with no say on the other hand to make good the loan.  For society to offer welfare is to lure incalculable potential into a dead-end, and leave the tab with lenders who have no say.  As Dorothy Day said, it is amazing hoe much you can get in the way of luxury if you just do without the necessities.  Simply compare the results of welfare when it was the job of mediating institutions with welfare as a state function, and the argument is done.

As to usury on a business loan, first we must follow Noonan in recalling all loans are an act of charity, and a business loan is a chimera.  The article on riba quoted above is correct, but to add to it, anytime "credit" is cheaper and easier up front than other means of finance, the moral hazard of taking easy or cheap or both in the form of credit will trip up the entrepreneur more often than not, and in any event, eventually.

Loans at interest are simply unnecessary to an economy.  The usury-free range of options are sufficient to the task of a prosperous economy.  And here again, the borrower's absolute needs become relative to the lender's desires.  Serving the customer becomes secondary to paying the usurer, this misallocating resources in the enterprise.

The article goes on to eliminate the arguments for usury.  I'll only add the pro-usury arguments depend on terms that upon which few agree, thus winning by obfuscation. Money, credit, profit, rent, capital,  are all terms upon which among economists there is disagreement, even within a given school of thought. Even if within a school there is agreement on the definition of some terms, there will be disagreement on another, making conclusive argument impossible. Since no one has the others understanding of the terms in use, it is not possible to make an argument one way or another.  The practice of usury remains like a evil redoubt, unassailable for a lack of martialing reason to the assault..

Apart from the major differences in sale and usury contracts, and in the nature and functions of physical and financial capital, Islam prohibited the transactions involving interest on moral and social grounds. This is because it develops miserliness, greed and a selfish attitude in the individuals, and destroys the high virtues of kindness, sympathy, help and mutual regard in the society. It create a tendency among the people to earn wealth by hooks or by crooks.... It diverts the flow of investment to the projects offering a high rate of interest irrespective of whether or not these are socially desirable.

These are the rationales not immediately apparent.  Usury frustrates the creative and unitive aspect of commerce, as noted in this paragraph in the forms of misallocation and malinvestment.  This aspect is little appreciated must must be highlighted.

If one steps back and observes, usury is a relatively small part of the economy, that is to say the vast majority of commerce is usury free, with equities and vendor finance taking up the lions share of commerce.  This proves usury is unnecessary.  At the same time, the destructive elements in the economy can be traced to the relatively small portion of the economy that is usury based.  Like an otherwise healthy adult, the body economic can become quite ill over a tiny virus entering the system.

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Interest and The Loan, and Charity

For all intents and purposes "interest" today means usury, although once upon a time, on the theoretical argument level, there was a difference.  And even then, interest meant a loss, not a gain.

But as Judge Noonan emphasized to me, and this is an example of the kind of clear thinking you need to be a judge, usury is about the loan.

A loan can only be a charitable act.  A buddy in a jam, the widower down the street making ends meet, travel money to be paid back later.

A loan would never be for consumption, for if the widower is starving, she needs another kind of charity, not a loan.

A loan would never be for business purposes, for business requires shared risk, and usury expressly requires guaranteed return when life has no guarantees to offer.  If you want to make money with your money, you invest it at risk in a business, not lend it at usury to a business or person.

A loan of a horse or a car earns no consideration or fee, for the instant one charged a friend for the use of a car it becomes a rental.

A loan of a horse for a fee is not a loan but a rental.  Loans and rentals are different because to rent something is to make use of it but not own it.  There is wear and tear in a rental that is acceptable.  And if the horse dies, it is the owner who is out, not the renter.  Same with a house that burns down (sans negligence).  Under usury, if the loan money goes up in smoke, under any circumstances, it must still be paid back.  And there is the enslaving trap.  When sure things don't work out, you end up enslaved.

A loan is a charitable act in itself.  One does not have the use of his money until the loan is repaid, so yes, there is a lack experienced by the lender and in that measure there is charity.  With a loan another charitable act is immanent: forbearance or even forgiveness.  Making a loan is running the risk you will be paid late or not at all.  In that case, the lender is obliged to let it go.

Business and charity ought never mix.  If they come together the outcome is necessarily evil (in the sense of "lack of good.") When the sacred couples with the profane, in divine hybridization, the result is profane.  You can get profane from the sacred and the profane, but you cannot get sacred from that union.

Make money doing business.  Next, do charity.  Mohammed is much clearer on this than any other prophet.

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Usury and Cascading Cross Defaults

Federal Reserve Chairman Greenspan introduced the term cascading cross-defaults.  The idea was should the failing system not be bailed out, rack and ruin would follow.  But we should know better.

The scene is after the Babylonian captivity, Ataxerxes has given Nehemiah leave to rebuild Jerusalem.  Reasonably enough, the peoples around Jerusalem are not pleased with this, and not unlike today, the Jews were half-armed and half-working.

Given these challenges and the wonderful opportunity at hand, what is the toughest problem Nehemiah faces?  Usury.  Nehemiah Chapter Five:

¹ And there was a great cry of the people and of their wives against their brethren the Jews.

² For there were that said, We, our sons, and our daughters, are many: therefore we take up corn for them, that we may eat, and live.

³ Some also there were that said, We have mortgaged our lands, vineyards, and houses, that we might buy corn, because of the dearth.

⁴ There were also that said, We have borrowed money for the king's tribute, and that upon our lands and vineyards.

⁵ Yet now our flesh is as the flesh of our brethren, our children as their children: and, lo, we bring into bondage our sons and our daughters to be servants, and some of our daughters are brought unto bondage already: neither is it in our power to redeem them; for other men have our lands and vineyards.

⁶ And I was very angry when I heard their cry and these words.

⁷ Then I consulted with myself, and I rebuked the nobles, and the rulers, and said unto them, Ye exact usury, every one of his brother. And I set a great assembly against them.

⁸ And I said unto them, We after our ability have redeemed our brethren the Jews, which were sold unto the heathen; and will ye even sell your brethren? or shall they be sold unto us? Then held they their peace, and found nothing to answer.

⁹ Also I said, It is not good that ye do: ought ye not to walk in the fear of our God because of the reproach of the heathen our enemies?

¹⁰ I likewise, and my brethren, and my servants, might exact of them money and corn: I pray you, let us leave off this usury.

¹¹ Restore, I pray you, to them, even this day, their lands, their vineyards, their oliveyards, and their houses, also the hundredth part of the money, and of the corn, the wine, and the oil, that ye exact of them.

¹² Then said they, We will restore them, and will require nothing of them; so will we do as thou sayest. Then I called the priests, and took an oath of them, that they should do according to this promise.

And where is the damage worse?  Jew on Jew exploitation.  That people sell their own down the river should be a given in all circumstances.  Jew v Jew, Christian v Christian, Moslem v Moselm, Irish v Irish...

So what is the solution?  General default.  Those who oppress lose only their power to oppress, and the oppressed regain their freedom.  The world does not end.

And what is the sanction for those who refuse to give up their usury?  Ostracization. Necessary and sufficient.  If you attempt to enforce usurious contracts, you'll starve to death.

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No Interest Loans

Interest or usury is strictly forbidden in the major religions.  It's most common occurrence is with a loan.  I am told with no interest, loans, and the lifeblood of the economy, would dry up.

The kind of loan meant here is a loan to start a business.  But what the religions demand is that the funds intended to be used as a loan instead be used as a contribution to a partnership.  Therefore, there is no less funding available, there is merely another structure under which it is offered.

This ignores a kind of loan called vendor financing, in which a vendor extends a customer time to pay, a kind of loan.  Here too interest is (usury) is forbidden.

So usury prohibition has no effect on progress, it only checks unnatural aggregation of power, a power if unchecked becomes the worst kind of check on progress.

To make the argument people can and do and would make loans is good, but there is also the example of people who extend considerable amount of money with no expectation of being repaid at all.  What argue there would be no loans if no usury when we have donation of money with zero expectation of being repaid?

This generosity is so widespread that scam artists target donations.  For example...

The organization had raised more than $631,000, but had given less than 1% to victims, state officials alleged. At the same time, roughly $13,000 in donations had been allegedly transferred to personal bank accounts, according to court documents.

And this is only one of many Hurricane help charities, not to mention the billions offered by taxpayers who will get nothing in return.

Clearly people generously give money away.  Others are happy to risk it at interest (usury).  Investing the same in a company may in fact be less risky.

The idea that no usury means no investment is not supported by reality.  Usury may be widespread, not because it is necessary, but because there is no objection.  As President Bill Clinton said, he did all of those nasty things for the simplest reason: because he could.

Getting rid of usury will be simple.  Just make it an unenforceable debt, like a gambling debt in USA.

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Since Employees Lend Money to Employers...

If usury is acceptable, then should not employees in USA, all of whom lend money to their employers, not be paid interest?

Every employee is like a good restauranteur. The employee only charges after delivering satisfactory service.  Let's take for example an employee who is paid at the end of every month.  Say the employee earns $100 a day (some $12.50 an hour.)

Now technically employees only lend credit to their employers, but this is also true of loans made by banks.  No one lends actual money.

This employee waits 30 days to be paid for that first day's work.   In effect, this employee lends his employer $100 for 30 days. (and 29 dasys for the 2nd day's work, and so on.)  If interest is acceptable, and employees in USA are making loans to employers, should not employers pay these employees for these loans?  I mean, fair is fair.

Certainly the money involved is not large.  I went to http://www.csgnetwork.com/interestsavcalc.html to see what a loan of $100 for 30 days at 6%, a generous rate for a employer on a business loan, and I see it would be a mere sixty cents.

But wait, there are 22 work days a month, and until the month ends, every day is added to the total lent to the employer.  It looks like this when each days wages are calculated at interest until the EOM payday:

0.6

0.48

0.44

0.43

0.38

0.36

0.35

0.33

0.31

0.3

0.25

0.23

0.21

0.2

0.18

0.16

0.15

0.13

0.08

0.07

0.05

0.03

0.03

5.75

So big deal, the employee is out some $5.75 per month, in an interest regime.  Or a measly $69.00 per year.  But this is $69 the employer does not have to borrow since the employee is financing the employer to that extent.  And say the employer has 100 employees, then the employer is saving $6900 a year in interest by taking no interest loans from his employees.  That all goes straight to the bottom line.

Now some employees, a banker for example, make not $100 per day, but $1000 per day.  You doubt that?    With some 242 workdays a year, that is only a salary of $242,000.  There are plenty of people who make that.  Ask them about kicking in $690 per year to their employer.

But let's say almost everyone only makes $100 per day.  And there are some 130 million people employed in USA.  Let's be fair, let's say the are mostly paid twice a month, not once a month.  So let's cut the interest owed employees in half, to about $2.85 per pay check.

That is $370,000,000 denied employees by employers every single two week pay period.  Or nearly ten billion dollars a year.  Nice!

In USA employees could use this money.  What with taxes going up on them.  If you believe interest is good and right, then why deny your employees interest on the money they lend you?

I'm just sayin' ...

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Home Loans?

I was speaking with a realtor of the Muslim faith on Sharia compliant transactions, and he deplored the "Sharia-compliant" programs on offer in USA.  He confessed he was not the most devout Muslim himself, but he said people who accept these deals are accepting "pork labelled beef."

I share his desire to see things labelled properly.  A most obvious source of confusion in the discussion is calling what mortgage bankers offer "home loans."

Well in Islam and Christianity loans are strictly a charitable act, in which no interest (usury) may be charged, under any circumstances.  Both religions are clear and strict on this point.

The idea of a home loan is confused.  No bank lends money for a home as a charitable act (and as a matter of fact, banks lend credit, not money, anyway.)  So a bank offering a home loan suffers an internal contradiction.  Banks do lend money (or credit) for homes as a business proposition.

Now making a loan of money to someone to buy a house, as a charitable act, is applauded in both religions (although the IRS expects to tax someone on imputed usury income).  That would be the term "home loan" properly used in both Islam and Christianity.

Now banks do business lending credit at interest (usury), a practice strictly forbidden to this day by both religions.

And both religions approve the business of helping people get into homes.   How, if not by lending money (or credit).  Well, by a means that goes back to the beginning of mankind.  A business deal in which a homeowner sells his house with time payments to two or more people, who form a partnership.

Say Tom has $450,000 he is looking to invest in a business and I have $50,000.  Tom already has a house. We agree to pool our money to buy a house together.  Now Tom owns 90% of the house, and I own 10%.  We agree I will rent out Tom's 90% from him and live in the house.

If further I want to buy the house form Tom, and he is willing to sell, then at any point I buy him out, or  but up his portion over time.  As long as "interest"is not built into any of the payments, this business deal is quite acceptable in both religions.

So home ownership, the process of acquiring a home, ought to be looked at as a business deal, not a loan (unless of course someone is simply gifting you a house, or lending you money to buy it, with no interest on the repayment, as an act of charity.)

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How Loans Ruin Students and Universities

(Cross posted at perishyourpublisher.blogspot.com)

A correspondent studying Chinese in Taiwan sends me this article, which states, inter alia,

At the Juilliard School, which completed a major renovation a few years ago, debt climbed to $195 million last year, from $6 million in inflation-adjusted dollars in 2002. At Miami University, a public institution in Ohio that is overhauling its dormitories and student union, debt rose to $326 million in 2011, from $66 million in 2002, and at New York University, which has embarked on an ambitious expansion, debt was $2.8 billion in 2011, up from $1.2 billion in 2002, according to the Moody’s data.

Well, yes.  The theme is students must pay for this.  Indeed, where else does money for a college come from, except tuition.  Largely borrowed.  There are alumni donations, and government grants, but these debts are in the range of impossible to repay.  And if impossible, they will not be repaid.  At some point, the schools will default on the loans, and the balances written off, and although the bondholders should suffer, where we have state intervention we have chaos, so we cannot know who will bear this burden.

One group that will, no matter what, is the students themselves.  Their tuition contributes, so the cost of the education comes with the gilt-premium.  But it is unlikely they can ever earn enough to cover the cost of the education.

Almost no one is predicting colleges will experience default rates on par with those of indebted students and graduates, at least not anytime soon. While payments on debt principal and interest have increased over all, they remain a manageable piece of the expense pie for most institutions, partly because of historically low interest rates, financial analysts said.

The low interest rates caused the misallocation of resources and the malinvestment in the building boom.   The interest rates will not stay low forever.  Then comes another boom, as in the lowering thereof.  But my jaw dropped at the implication:  "hey, who cares about the students and graduates insolvency problems after getting "educated" as long as the institution does well."  How come the attitude?  Adminstrators pensions.  That is all that matters.

The article goes on:

“We borrowed a lot of money, but we had no choice,” said Thomas H. Powell, the university’s president, who maintains, despite the credit rating, that it has regained its footing and has no need for additional debt. “I wasn’t going to watch the buildings fall down.”

False dilemma and straw man argument, at once.  You always have a choice.  The problem is gilding the lily, misallocation and malinvestment, not "buildings falling down."  Maintenance of beautiful 100 year old buildings would have cost mere millions.  Trying to buy your way into the USNews top 25 costs hundreds of millions in smoothie machines and rock walls.

Still, higher debt payments and other expenses have contributed to the runaway inflation of college costs, and the impact on students is real and often substantial. New financial realities on campuses are imposing conflicting demands on college administrators: do they make their institution more affordable, or continue to spend money to make their campus more attractive?

Did you notice anything?  The word "education" is not in that paragraph.  College costs, demands on administrators (poor things), institution, expenses, even "institution more affordable" but not "education."  How come?

Despite a lull in construction after the financial crisis, borrowing has continued to grow, Moody’s data shows. “Schools are behaving like the Greeks, irresponsibly,” said Richard K. Vedder, an economics professor at Ohio University and director of the Center for College Affordability and Productivity.

And why not?  Those Greek leaders were often educated in USA, one prime minister was actually born in USA, educated at Amherst and Harvard, was the son of an econ prof, so naturally, he would be a socialist.

By comparison, the cost of instruction grew 5 percent in that time period. The Bain report estimates that a third of colleges and universities are financially weaker than they were a few years ago.

That is actually a reduction in actual costs.  I have two daughters at university, and from their comments it is clear that this money is not making it into the classroom or to the instructors.  The universities are pulling emeritus back into the classroom to keep from hiring young new stars, ones whose cost includes pension contributions.  Cutting corners today that will lead to deleterious effects tomorrow.

“How do you bring people to teaching facilities that are really subpar?” he said. “It’s not a matter of gilding the lily, in many cases.”

False dilemma again:  We have an excess of first rate instructors looking for work.  A university is a library with faculty associated.  If you have more than a library, some classrooms, faculty offices and maybe some dorms, you are over doing it.    

David K. Creamer, vice president for finance and business services at Miami University, said the importance of college rankings had pressured administrators to spend more and more. In some rankings, the effect of spending is direct because institutions with “the best dorms” or “the best athletic facilities” are singled out. The effect on other rankings is indirect: better facilities attract better students, and that ultimately raises rankings, Mr. Creamer said.

Ah yes.  We get better students.  And how do we know?  Why, the SAT scores of our applicants are higher.  Never mind that SAT scores are no predictor of success in college or life.  Never mind that SAT scores have been inflated and with the self-selecting teaching to the test prep classes a school would have had an "improvement" in SAT scores anyway.   Just blow smoke.  "I'm getting $285k a year in salary alone (back in 2008, who knows how high it is now) and an astonishing pension ahead.  This will blow up on someone else's watch."  

One rule if you have kids heading to college: no student loans.  This whole problem is based on "easy credit."  You expose your child to being chained to this looming disaster if you burden them and yourselves with student loans.  It may be harder to get an education without student loans, but not impossible.  I've got two kids through and one with a year to go.  No student loans.  It can be done, it is a discipline.  But teaching kids economic discipline is important, since they certainly will never learn it at a USA university.

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Where Do Start-ups Get Their Money?

Not from banks.  Not from assymetrical-deal venture capitalists.  They use their own savings.  But then it goes off track.  Credit cards.  Skip the credit cards.


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Why Usury is Wrong

Because it does damage.  A good example of the damage it does is taking place in China right now, where people are lending money to make money.

“It sounds scary at the beginning, but then I found it’s common in many places, and my sister-in-law has been doing it for a long time,” said Ji, who supports a 2-year-old son and a paralyzed father. “I’m counting on the money. They’ve never missed a payment, and my money is protected by law.”

Note the confidence in the government.  It is a critical intervention by the state in the market on behalf of usurers for the usury to do the most damage.  In that way borrowers get a false confidence which makes life easier for the lenders.

Usury doing damage is not apparent, nonetheless the Greeks and Romans philosophers condemned it along with all major religions.  God forbid it because it does harm.

1. In a loan someone lacks somethings.  The lender has an excess.  A loan is fine in this case, if there is no usury (AKA interest.) If there is usury (AKA interest) then the person who borrows the money must  pay back more than he borrowed, from his industry.  The person who takes the loan has to work harder to get stable, the person lending the money ends up with even more excess.  By these means the rich get richer and the poor get poorer.

To lend without usury build community as it takes a human connection grounded in common wealth. With usury a loan becomes about aggregating power.

2. When wealth is aggregated in one persons hands, the economy becomes distorted, to whatever degree.  We see in centrally planned economies there is at once a terrible shortage in one area and waste in another.  In a market that does not support usury, it is almost impossible for one or a few people to aggregate power unto themselves and begin to distort the market.  Distorted markets have terrible shortages of needful things and massive hulks of rusting waste.

3. More to come...

Instead of property redistribution, it is better to have no exceptional accumulation to begin with.

The solution is not more regulations, but less.  And non-enforcement of "interest" on loans, as we do not enforce gambling debts either.  Just leave the market alone, and watch usury evaporate.