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Zippy Catholic on Usury

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Our old friend Zippy Catholic has devoted assiduous labor to the study of usury. His great patriotic service to the Republic is opening this field of understanding.

Reading it, my mind goes instinctively to one of my favorite quotations from Chesterton: “The Christian ideal has not been tried and found wanting. It has been found difficult; and left untried.”

This Chestertonian epigram has the great virtue, among other things, of stating the direct truth on usury in modern high finance. Many decades and even centuries of economic arrangements have found difficult, and left untried, the Christian teaching on how, in full charity to fellow men, we might profitably lend out our capital.

Great historically-minded writing can often have the peculiar accents of a kind of integral detective novel. Zippy’s treatise on usury, now helpfully available as a free ebook, exudes this character.

Our friend has discovered a bloody crime, a heinous murder, treachery and folly and the human arts bent on malice and wrong.

The veteran of many ugly crime scenes, he has arrived, like a saturnine private dick as adapted from a Raymond Chandler story, at the scene of another one: the assassination of Christian ethics on debt finance.

Like any real detective, Zippy’s work is painstaking and meticulous, more than it is flashy and energetic. It’s the hard labor of following the assassin’s clues, discovering his conspiracy, in order to expose his wickedness and vindicate his victim.

The ebook is written as an accessible FAQ. It can all be read in one sitting (though more sittings will be needed if, like me, you desire a sustainable understanding).

A real thing has been assassinated. More precisely: sound doctrine has been exiled. The teaching on usury across the centuries has been dishonorably driven from public discourse. Christianity is not, in fact, wholly silent on how we should structure our capital markets.

I hope I do not blunder into oversimplification by attempting the summary that follows.

In modern parlance, Zippy’s account hinges on the question of recourse and non-recourse loans. (The Latin word is mutuum — a loan for consumption.) What precise recourse does the creditor have to recover his capital in the event of default?

Recourse loans attach to the debtor himself. Non-recourse loans attach to staked assets. The former, if charged any interest, constitute usury; the latter do not. Loans which, in the event of a default or other credit event, terminate their claims in concrete assets staked in the original agreement are not usurious, even if the interest charged is comparatively high.

Zippy: “Any profitable loan is usury unless its recourse claims fully terminate in actual assets.”

From the creditor’s perspective, Zippy tells me, usury is an attempt to charge rent for opportunity costs. As useful a parameter as opportunity cost may be in economic theory, it is not an asset which can be rented: it does not actually exist. When you stake your capital in some venture, you cannot also justly claim the possession and appreciation of that capital.

From the debtor’s perspective, usury attempts to alienate his potentialities and transact in them as something distinct from the person. St. Thomas, very perceptively, called this, “selling what does not exist.”

From still another perspective, taking into consideration that a person’s potentialities cannot in fact be alienated from the person, usury involves selling the person as if he were property: a subtle form of chattel slavery.

From another angle, the practical one: In order to move our economy away from this very grave disorder of property and labor and obligation, we should work to gradually convert much of the structure of debt markets into equity investments and rental contract income. It is not usury to purchase an equity stake in someone’s business venture. Nor is it usury to rent out property or assets at a fee. But it is usury to contract a debt obligation which pretends that the creditor may possess, and enjoy the appreciation of, the very capital he has staked in the commercial enterprise.

So Zippy the detective has restored the meaning of the teaching on usury. His work reveals its intelligibility, its applicability, and its sanity. Usury is real, and it is an acute and pernicious sin.

It need hardly be mentioned that Zippy wrestles at length with common objections. As always, patient and concise excellence characterizes his approach to critical protestations: from the unthinking apologists for usury, from the Catholic modernists who, mistakenly, believe their church has abandoned the teaching, and from earnest but confused skeptics. If you bristle at my summary scribbles here, rest assured that your complaints have, very likely, already been answered.

Thanks to Zippy, we know that usury is real and it is destructive to healthy capital markets. Reforming them is part of that solemn duty of restoration which the Christian man finds when he realizes that his ideal “has not been tried and found wanting. It has been found difficult; and left untried.”

It’s a really valuable achievement of intellect and study. Everyone should read and understand it, that we might begin the hard work of applying it.

Comments (169)

Paul,

I have the e-book on my Kindle and I've been through it already once (and a couple of the questions/answers I've read through multiple times when they were first posted on the internet). I have to admit I find much to admire in his analysis, but also much to give me pause. For example, the modern credit card industry is usurious based on these definitions. Now, that is how the cookie crumbles as they say, but as a practical matter it seems like credit cards can be very useful for all sorts of purposes. Sure, many foolish Americans use credit cards to take on too much debt. But they also use them to get through a tough month, finance a business, for convenience, etc. I personally always pay off my monthly bill so I guess I could live with turning all my credit cards into debit cards, but what about that unexpected emergency? Now I have to lend money from a bank or go to friends and family for a loan?

Again, if it is usury to use credit cards and usury is a sin (which Zippy makes a very strong case for) then we have to figure out how to live without credit cards. But that is one practical implication that seems unfortunate to me.

Jeff, thanks for the comment. I'm not sure if Zippy has specifically addressed that precise point.

The credit card industry would have to be reformed. That much is true. Still, the simple expedient of requiring a new cardholder to post, say, a $1000 US Treasury as security on the credit line would be enough. The credit firm would have to adjust their risk-weighting, but keep in mind that once the credit is secured to assets, its interest rate may rise at will. Thus the card issuer can adjust that rate based on what is staked in the origination deal.

So credit cards don't vanish from the earth. They just have a sounder grounding in reality.

I believe his position is that the people running the credit cards are doing wrong but that using them is making yourself the victim, not committing the sin.

Right, the active commission is with the creditor, not the debtor.

I will say that, regardless of my final evaluation of Zippy's analysis, he taught me about deficiency judgements on real estate. All those years I had a mortgage (since thankfully paid off) and thought it was the kind of loan that he would call non-recourse--that the most they could ever take if I defaulted was the house. Not that I was ever close to being "underwater," but simply not having known of the existence of such a thing as a deficiency judgement is...unnerving.

Paul, Prior to freezing my credit reports I would receive countless offers for new cards, not so much now. Except at the margins the problematic things about cards reflect regulatory and legislative capture by the industry.

For Example,

1. Card issuers being able to venue shop amongst the several states.

2. Bankruptcy law. It's now harder to discharge debt.

3. Loose regulation of the credit reporting agencies. Why should someone have access to my credit information without my permission?

4. Securitization which encourages the irresponsible issuance of credit.

Of course the poster child for usury is the student loan industry - almost undischargeable debt and designed to maintain and enhance class differences.

The only way to get what you want here would be a government of Elizabeth Warren clones.

Who gets the float on that thousand dollar bond?

I followed Zippy's in-depth treatment of usury a while back. It was mostly on his own blog, but he also rambled into other places. Like Jeff, I though Zippy did a great job on some parts of the matter, and not-so-great on other parts of the matter. (I didn't have any problem with the resulting characterization of credit cards as usurious, though).

In modern parlance, Zippy’s account hinges on the question of recourse and non-recourse loans. (The Latin word is mutuum — a loan for consumption.)

Part of the problem, which Zippy's stuff only partly clarifies, is with the word "loan". In the latin, for example in St. Thomas's treatment, by using "mutuum" as the transaction he is talking about, he limits his discussion to a subset of transactions that in other languages or contexts might be called "loans." Saying "a mutuum contract for interest is usurious" is true. But translating that as "a loan contract for interest is usurious" would be filled with problems, because of course there are non-recourse "loans" for interest which are not usurious, at least, people call them "loans". Now, most people use "loan" and "lending" co-extensively - the one is an act, the other the result of the act. But Zippy insists on narrowing that "lending" as specifically with respect to mutuum contracts:

“Lending” is a contract where the borrower is personally on the hook for return of the principal amount of the loan to the lender. This is traditionally called a “mutuum”.

That idiosyncratic usage won't help the general reader. Once you understand his language as referring only to that subset of loans, it makes more sense.

He also (self-professedly) uses a sense of "recourse" that he attempts to separate utterly from the enforcement of the payment terms if the borrower ceases to pay, which is not the most common way of looking at recourse these days. Whether his construction of this special sense is internally sound or not I won't get into, just noting that it is narrower than common.

But one thing that does is create room for categories of loan that are neither simply recourse nor simply non-recourse. If "non-recourse" loans are loans where the borrower can (without violating the terms) simply stop making payments, with the result that the lender simply becomes the full and absolute owner of the collateral, and if "recourse" loans are where the lender can go after the person of the lender, then there is a middle category of contracts where the borrower CANNOT simply stop making payments (without violating the contract), and yet the lender can ONLY go after a specific inventory of existing goods, and only up to the amount left unpaid, which he has to get judgment upon before he can take possession, this is neither the one simply nor the other simply.

Now, that doesn't completely vitiate the basic position, which Zippy correctly lays out, that a mutuum contract for interest is usurious. What it does, though, is create unnecessary doubt about things that might or might not be a "mutuum" taking his special sense of "recourse" because it doesn't quite fit that.

I would take issue with Zippy's claim that the Catholic Encyclopedia

has basically the same authority as you, me, or Wikipedia.

which, frankly, doesn't stand up to reason given that it has a Nihil Obstat and "you, me, or Wikipedia" don't. However, that particular entry, on usury, has some real problems, so maybe he was just exaggerating for effect.

Zippy: “Any profitable loan is usury unless its recourse claims fully terminate in actual assets.”

In the prevailing conditions of fiat money which is moreover getting debased by unknown amounts, how is "profit" on a loan to be defined and calculated?

Suppose, I lend a person 100 gold coins of 24 carat purity, do I make a profit when I am returned 109 coins of 22 carat purity?

the people running the credit cards are doing wrong but that using them is making yourself the victim, not committing the sin.

At least the user is willingly conniving in the sin. Is it not "formal cooperation with evil"?

BI, my understanding is that Z. is opposed to taking interest to recoup loss due to inflation. He addresses this in the FAQ, I'm pretty sure.

As far as "conniving in the sin," he quotes somebody (St. Thomas?) as likening taking a usurious loan to telling robbers where to find your goods in order to save your life. So the idea is that you are really a victim.

Perhaps he would (as I would) condemning unnecessarily taking such a loan as imprudent, but that's a different matter.

All of this is not to say that I'm fully persuaded of his evaluation of all recourse loans as morally wrong. I'm not, actually. But he has addressed a lot of obvious questions about it that arise.

Perhaps he would (as I would) condemning unnecessarily taking such a loan as imprudent, but that's a different matter.

Exactly. As he pointed out several times on the blog, determining that something is non-usurious doesn't mean it's totally licit.


All of this is not to say that I'm fully persuaded of his evaluation of all recourse loans as morally wrong.

I would emphasize that Zippy's position is that profiting from a loan with recourse to a person is morally wrong.

Bedarz Iliaci --

Question 45 addresses the issue of interest on a loan to counteract inflation or related price-fluctuations: https://zippycatholic.wordpress.com/2014/11/10/usury-faq-or-money-on-the-pill/#45

Question 35 has more to say on the subject as well: https://zippycatholic.wordpress.com/2014/11/10/usury-faq-or-money-on-the-pill/#35

On the question of inflation Z has stepped beyond the explicit Church teaching and proposed a solution by drawing out from the explicit teaching his own answer. It's not a bad argument, as these things go. It does suffer a bit from Z's view on money, which is a little idiosyncratic as well - such as he lays out here.

Money is nothing in itself: it is just a medium of exchange...Commodity-backed currency, though, is actually a wee bit more than just a medium of exchange. Gold, after all, has value in itself, since it is a useful commodity. Fiat currency has no value in itself. Because of this, fiat currency is a more honest medium of exchange than commodity-backed currencies which distort transactions somewhat through the introduction of the commodity itself into the picture.

is hardly a contention-free theory of money.

In question 45, he has a particularly odd model of how the fluctuation in the relative value of things, and things vs currency, applies to the teaching on usury.

So if it is an interest bearing mutuum it is usury, and the inflation rate (or price fluctuation between commodities or currencies generally) is irrelevant. In effect what the “just-to-cover-inflation” usurer is attempting to do is enslave the borrower (as opposed to purchasing claims against some actually existing property) as an inflation hedge.

One might say in response "hey, you're the one who came to me asking to borrow $1000 from me, I didn't come to you. I need that 1000 to buy roofing materials, but I won't be roofing for a month. I could buy the roofing materials now (and 'hedge' myself against the possibility the price will go up), but if you need the $1000 now and can pay me back in a month, that's fine. I just need to know that you will pay me back whatever amount will buy those roofing materials". Zippy is saying I am "enslaving the borrower". That's just silly. What if, in the meantime, the price of the materials goes down and the borrower pays back $950 instead of $1000? It is rather bizarre to say that this is "enslaving the borrower" and "making a profit" off the lent use of the money (which is, after all, the core meaning of "usury".)

Zippy has forgotten, I think, that usury entails that the lender insists on a return over and above the thing lent, a charge for "use" of the thing, when the very act of lending itself consists in giving over the use of the thing. (St. Thomas's and Pope Benedict XIV say that the root problem is charging for use when the lender has no claim to the use because the very act of lending the thing means giving up the use to the borrower.) If the lender requires only that the money returned buy the same goods - specified by a named good like the above roofing material - that it would have at the start, he may receive back more dollars but not for the USE of the money, and he gets back no more use than he gave up. This is clear also from the fact that if prices remain stable, or go down, he gets no addition over and above the thing lent, so he ipso facto gets no addition _for_the__use_. The Church is clear that even in a mutuum contract the lender can be paid for OTHER titles than that of the use of the money. He can be paid for actual losses incurred. (For example, if you ask me for a loan, and the only money I have is tied up in a registered investment account that charges a penalty of 5% - not 5% less interest, but a 5% penalty out of my originally invested amount - if I take the money out early, I can licitly charge you for the 5% I lose by taking it out early.) He can also charge for costs incurred by engaging in loan-making, e.g. fees for checking your credit rating.

Another difficulty with characterizing the problem as

enslave the borrower (as opposed to purchasing claims against some actually existing property) as an inflation hedge.

is that mutuum contracts, of their very nature, imply that the borrower will pay back in kind, which means that the prospect of repayment regards something nebulous as to current physical existence, it regards only the KIND. If I borrow your last bushel of apples for the season, and promise to pay you back a bushel of apples in the fall during harvest, that's an example of mutuum - a perfectly licit loan. There is no usury because the repayment is equal to the amount lent. But the future apples don't exist yet.

All mutuum contracts deal with a good whose use consumes or alienates the object, and for that reason the repayment either SIMPLY doesn't exist yet, or doesn't reside in the borrower's hands yet and he has to undertake to get ownership of it. That indeterminacy is natural to the mutuum. So hanging a critique on the claim not being "against some existing property" is rather strange.

Is prohibition of usury a moral axiom or is it derivable from some other moral axiom?
such as "it is wrong to enslave another person".
But the early Church was, I believe, more strict against usury and was accepting of slavery. So, their argument against usury could hardly be based upon the evil of slavery.

How much of the modern capitalism/ free market system and thought does depend upon usury? There is an unavoidable tension between Aquinas "there is a necessary baseness in commerce since it is aimed at profit" and Adam Smith "commerce is natural to man and basis of all society and civilization".

So supposing usury is outlawed in some future Catholic state.Then what features of modern commerce, necessary to provide for hundreds of millions of people alive would have to be changed?

Paul J Cella,

Zippy never considers the question of debasement of currency. Indeed, I suspect that given his view of fiat money, he considers currency debasement to be an entirely licit privilege of the sovereign.

My point has nothing to do with inflation. In a mutuum, the borrower has to return the equivalent amount in kind. Thus, if one borrows 100 g of gold, one must return 100 g of gold. Now if, the original 100 g of gold were in the form of 100 gold coins of 1 g each, and now the coins have been debased to only 90% gold, then I hope it is clear, that 100 coins now contain only 90 g of gold.
Then how is the mutuum going to be satisfied?
100 g of gold does not equal 90 g of gold + 10 g of copper.

Lydia,
"taking a usurious loan to telling robbers where to find your goods in order to save your life"

is a good analogy only when taking the loan is an extreme necessity-a matter of life and death. But the situation in credit card use are hardly ever that.As Jeffrey S specified "But they also use them to get through a tough month, finance a business, for convenience, etc"

I personally use credit card for convenience only and pay off each month.
At the very least, given that the credit card industry depends entirely on voluntary customers, it is the customers that cause the industry and its owners to sin. So, surely the customers sin against charity by furnishing an occasion for others to sin, and that too, not accidentally but deliberately and merely for some personal convenience.

Is prohibition of usury a moral axiom or is it derivable from some other moral axiom?

Bedarz, it is quite simple, it falls under the category of injustice because it is either (take your pick, both work) selling one thing twice, or charging for what does not exist. Both versions are a form of stealing. It is selling one thing twice because it is selling the THING and the USE, when these are not differentiable. It is charging for what does not exist because it is charging for a CLAIM that the lender has on the USE of the good when the lender has no claim on the use.

Tony, I'm interested in your own take on this idea of "selling what doesn't exist." Suppose that I'm selling apples. I charge $.75 per apple if the buyer pays today. But I charge $1 per apple if the buyer prefers to pay next week. I do this because it's going to be a hassle if I have to come after him and bug him to get the money (or even go to court, if he's bought a lot of apples from me and doesn't pay back) and because it's a lot more convenient for me to get paid today and get the money right away. In one obvious sense I'm charging interest and charging for the use of the money. This is straightforwardly "financing," as the term would be used if I were selling furniture or cars on a deferred-payment basis.

I myself don't think of that as selling what doesn't exist, but I suppose it _could_ be called that. Truthfully, I have trouble thinking that the person who charges the $1 for the apple if paid next week is doing wrong, and particularly not on the grounds of "selling what doesn't exist."

There are also many other examples of "selling what doesn't exist" that aren't related to loans--selling options, for example. Are these also wrong because "selling what doesn't exist" is always wrong?

Thanks for the kind words Paul.

The FAQ is much newer than my older blog entries on currency. In general the newest material best reflects my most up to date understanding, as you might expect. (My older stuff on fiat currency does still reflect my views more generally on fiat currency; but it turns out, as I discuss in several places from several points of view, that different views on currency are completely irrelevant to the usury doctrine. No matter who is right about the nature of currency, the prohibition of interest on mutuum loans denominated in that currency - or in any other exchangeable thing - still applies).

As discussed in Q35, the usury doctrine as expressed in Church documents and in Aquinas (see also here for his description from De Malo: https://zippycatholic.wordpress.com/2015/02/02/more-numbskull-medieval-finance/), has no dependence whatsoever on what is used as the currency in the mutuum loan.

The prohibition of usury applies consistently and universally to all simple mutuum loans, whether denominated in gold, fiat dollars, wheat, barbie dolls, cars, shoes, oranges, or moon dust.

The point about inflation in Q45 applies with the same force to currency debasement, or spoilage of perishables/ ontological depreciation more generally. There is nothing wrong with making investments as a hedge or security against fiat currency debasement or other spoilage -- chiefly by holding assets other than fiat currency or the deteriorating asset in question.

But it is always morally wrong to enslave your fellow man as a hedge against currency debasement by charging usury on a mutuum (full recourse loan). If you want a hedge, buy some assets. If you like gold as a store of value better than fiat dollars, buy some gold.

Lydia:

People always talk about more complex situations (e.g. futures contracts, which I address in Q46) where there may be 'hidden usury'. Part of the problem with 'hidden usury' is that what is exchanged is often (sometimes literally) apples and oranges; so just reciprocity depends on pricing. Once you toss pricing of goods into the discussion controversy and confusion reign, as you might imagine.

But just getting everyone to understand that (and why) charging interest on a simple mutuum (an apples-to-apples or dollars-to-dollars contract) is always morally wrong would be significant progress.

Anyhow, I'm heading back to my blog break now, so anyone who wants to mischaracterize my views, here is your opening. As usual I suggest folks read what I actually say, as opposed to paraphrases by the chronically unreliable, to get a grasp of my actual views.

That's why I was pretty careful to ask Tony what _he_ thinks about selling options, etc., and "selling what doesn't exist." I wasn't asking him to represent Zippy's views. I wanted to know more about his own, since he does seem to accept the wrongness of usury on the grounds that it is selling what does not exist. Of course, Paul may consider that to be OT.

Zippy should be on the panel of Shark Tank (meant as a compliment. :))

Lydia, I don't think that selling options is essentially in the category of usury. Unlike some people, I would not try to focus too much on selling "what does not exist" in futures contracts. The problems typical in futures contracts is not that the prospective good does not yet exist. That's a risk, and plenty of investments are good investments by taking risk about some good not yet existing - that's what the investment is for, to generate the thing that doesn't exist.

The problem with usury being "selling what does not exist" is that you are selling it AS IF it did exist - it's a kind of fraud. The thing that does not exist is the lender's due claim of title to the use of the money. If money's use is, precisely, to be "consumed or alienated", then lending money is saying to the borrower "I am giving over to you the use of the money". To then CHARGE for the use of the money is NOT "giving over" the use, it is selling it. Which is nonsensical.

Maybe it is easier to see with apples. I have apples available, and you are hungry. I offer to sell you an apple, and the price is "you pay me back one apple for my apple, plus a second apple for the use of my apple." That's nonsense. By selling you my apple, I can't separate out "the apple" and "the use" as if they were separable. To get one is to get the other. So there cannot be separable CHARGES for them either. To buy one is to buy the other. (Your proper response should be "no, that's OK, I don't want to buy the ACTUAL apple itself, just the use of it. And since the price for just THAT is one apple, I will use it and will pay you back one apple.") So if I lend you an apple instead of selling it, the act of lending means I give up the use, I cannot any longer have a CLAIM on the use. So charging for the use is like my charging you for the use of the Brooklyn Bridge - it's not mine. I would be charging you for what is already yours.

You can, however, engage in a futures contract, with risks etc, that include profit, as long as the profit is not based on charging for the use of a thing whose use is to be consumed.

It can also be an unjust futures contract, even if the injustice isn't usury - which I think Zippy says too. If I make a contract with you where I sell you one bushel of wheat today for a return of 30 crates of apples at the end of the harvest, that's probably an unjust contract. But it wouldn't be usury because the payment in return is not formally more in kind (wheat) than was lent out, nor even, formally, "more value than the wheat that was lent out", such as would be the case if the obligated return were twice the value of a bushel of wheat, in apples. (If wheat had some ingredient that was, in the meantime, found as a cure for Ebola and an epidemic were raging out of control, a bushel of wheat might well be worth more than 30 crates of apples at that point.) It would simply be an unjust price. No mystery there.

Tony, that's useful. (Pun intended.) So, in your apples example, it's not like the other guy can rent the apple from the lender (return the apple--like returning a rental car, and pay another apple as a rental fee). He's going to eat the apple (or it's going to rot). He can't return it and pay a separate rental fee (the second apple). So the idea of renting an apple is nonsense. But asking someone both to pay back the apple and to pay for the use of the apple is like pretending that you can rent someone an apple, when you can't. Does that sound right?

In which case, what is your opinion of my example of charging $.75 for apples if paid today and $1 for apples if paid next week? Is that usurious?

I wonder if we could analyze usury as "renting out money for a profit" and if that would be a helpful analysis.

But it is always morally wrong to enslave your fellow man as a hedge against currency debasement by charging usury on a mutuum (full recourse loan).

It is always morally wrong to enslave your fellow man. It is always morally wrong to charge usury on a mutuum. It is thus always wrong to enslave him and charge usury on a mutuum. It is, therefore, always morally wrong to enslave him and charge usury on a mutuum as a hedge against currency.

So far Zippy and I agree.

One thing I would like to point out is a potential ambiguity in talking about hedging or insuring yourself against inflation (whether recourse or non-recourse). Here are 3 examples that will draw out what I mean. In one case, the lender Able says to himself "this is a short term loan of 1 year, and I am fairly confident that inflation is going to run between 3 and 4 percent for the period, so I am going to charge 4%." In point of fact, the inflation he anticipates is prospective, uncertain, unreal. Charging a certain specified % for an unspecified, unreal future entails issues.

Second, the lender Baker says "I don't know what the inflation rate is going to be, so I am going to require the return of principal, plus whatever the CPI index shows that inflation caused over the period.

The third is my previous example, the lender Charlie says "I don't care about 'inflation' as a conceptual, generic matter regarding all the marketplace of goods, I just insist that the borrower pay back whatever it takes to buy that pallet of roofing shingles I was going to buy with the money - that pallet, 10 squares, brand X, color Z, grade 3."

One thing to note here is that cases 1 and 2 differ from 3 in an interesting particular. In both cases, they require the return of the FULL principal, and then there is tacked on another element for the pay-off. In the first case, the pay-off requires 4% even if inflation was only 3%. That's hard to even CLAIM that it pays Able back "for inflation." He ends up with more in value even than he started.

The second is trickier: the Baker gets the principal no matter what inflation has done. If there has been positive inflation, he gets that excess too. But if prices went down, he is insured against deflation.

In both cases, the "inflation" (or deflation) is measured against some generic, conceptual "the market" that doesn't entail measuring the value of the money returned versus any one specific item or kind of property. This is different from the third, where the value of the payment in return is set to a specific, clearly identified object - an object that the money would buy before the loan.

One way of analyzing Charlie's case is that he creates a title to the possible increase in required dollars to be paid back, by the risk of a possible decrease in the dollars he can demand in return. His "insuring against inflation" is bought with "accepting a risk of loss (of dollars) by deflation". So his required payment scheme does not entail as such a charge for the use of the money.

Charging "for inflation" could thus mean different things to different people. Unless it is spelled out exactly what is meant, it is probable that confusion will creep in.

So his required payment scheme does not entail as such a charge for the use of the money.

Do the A and B cases?

In which case, what is your opinion of my example of charging $.75 for apples if paid today and $1 for apples if paid next week? Is that usurious?
Suppose that I'm selling apples. I charge $.75 per apple if the buyer pays today. But I charge $1 per apple if the buyer prefers to pay next week. I do this because it's going to be a hassle if I have to come after him and bug him to get the money (or even go to court, if he's bought a lot of apples from me and doesn't pay back) and because it's a lot more convenient for me to get paid today and get the money right away. In one obvious sense I'm charging interest and charging for the use of the money.

The prospect you set out isn't clearly that of charging for the use of the money. Here's why I say that: you mention the "hassle if I have to come after him and bug him to get the money (or even go to court)". It is a well understood principle that the time and effort to go through a collection process - whether you do it yourself or hire that out - is costly. Even if you only have to call him up and say "what about that $1 you owe me", it still costs you business time, and you have to account for it. If you have 1000 such clients, you could spend a whole week making those phone calls, and thus lose other business for the week. Even the cost of recording the debt so you don't forget it is a business cost.

One of the tell-tales on whether the charge is for the use of the money is whether it is tied to time in a quantitative manner: 1% per month, for example. If the charge is "for collection costs", those don't run "by the month", or at least not definitively so. In your case, Lydia, if the charge is $1 next week, but still only $1 in two weeks, that doesn't look like a charge for use.

The second issue is whether the contract involves a sharing of risks or profits or any other form of value. If you lend a farmer one bushel of seed wheat with the proviso that you will get 2 bushels in return only if the harvest is over 50 bushels, (otherwise he just owes you 1/50 of his harvest), you are sharing risks and thus it is proper to share profits also. That's not a usurious contract. You become an investor with him. This is not strictly a mutuum contract, anyway.

Very good point about tying the return on investment to time. I'm pretty sure that if you're buying furniture on financing you _do_ pay interest by the month or whatever. So the normal process of taking credit/financing from the seller of a product is not _solely_ a matter of paying more for the privilege of not paying cash.

Do you have an opinion on the theory of "lost opportunity cost" which is sometimes used to justify charging interest in a way that is tied to time?

Do the A and B cases [entail as such a charge for the use of the money]?

Since in both A and B there runs the possibility of the lender getting more than the amount of inflation (i.e. more than the same value of money), I would be very hesitant to claim that it does not entail usury.

However, there is this consideration: a businessman can and does set forth charges for things that he expects to cost him, and he doesn't have to peg the ACTUAL charges to the ACTUAL costs, he can estimate the probable future costs and just establish his own charges based on what he estimates. When he does so, he also bears the risk of guessing too low, in which case he can suffer a loss.

So, let me put it this way: if a contractor charges you $30 per hour "plus materials costs", he is setting up to charge you explicitly for his ACTUAL materials costs. He cannot then charge you 10% more than the materials costs if he finds that the materials costs were lower than he expected, "just because". Nor can he charge you $35 per hour when he finds that the materials costs were different than anticipated. If, however, he anticipates spending $1000 on materials, and his bid is for $30 per hour for 20 hours plus $1000, and he finds out later the materials cost him $900, well he didn't formally contract for the "cost of the materials" he formally contracted for $1000, and he would have had to eat the loss if the costs went over $1000.

If the businessman is a lender, and he makes 500 loans per year, he is either going to (a) balance out his high estimates with his low estimates on inflation, and end up even steven (no profit or loss on that aspect), or he is going to (b) fall short or overshoot the mark. I would say that if he overshoots the mark OVERALL, then it is clearly and certainly that he is making a profit on the lending of the money. I don't know how he is going to avoid the charge of usury on that.

For this reason, I would set up bank lending differently. All loans would be built-in as "principal plus inflation" loans. However, all loans would also involve shares in the bank, so that if the bank overall gets more in "inflation" payments than actual inflation, the excess is returned to the class of participant shareholders (the borrowers, in this case), so the bank passes through any excess back to the payors. Thus the bank as an entity never profits from missing the mark on the inflation rate. (it is morally acceptable to lose money on a transaction, so it isn't any moral problem if they fall short.)

As Zippy says in Question 35, "asking the question 'what if things don’t go according to plan?' is particularly helpful in distinguishing usurious contracts from non-usurious contracts." When things go south in some kind of financial arrangement, what recourse does the creditor have? If the loans were collateralized by certain actual assets, and his claims terminate with those assets, then usury is not involved. If the loans attach to the borrower's person, his potentialities, which cannot be alienated, then any interest charged is usury.

But keep in mind that if the creditor's claims do terminate in assets staked in the original agreement, he can charge whatever interest rate he likes. Perhaps the creditor doesn't think very highly of the assets the borrower proposes to stake as collateral, but he'll accept the risk of default on the strength of the interest rate. These sorts of risk assessments go on all the time in finance. Curtailing usury would simply make the whole structure sounder. Borrowers would tend to have more skin in the game, and creditors would tend to have a much more robust clarity on the risks they are taking on.

On the point about hedging against inflation, the same principle applies. The creditor who's apprehensive about inflation may either insist on collateral that protects against inflation (precious metals, German government bonds, etc) or he may charge higher interest, or some combination of both. But he commits the grave sin of usury when his inflation hedges attach to the potentialities of his borrower. If he wants a full-recourse loan, he'll have to satisfy himself with a zero interest rate.

The creditor who's apprehensive about inflation may either insist on collateral that protects against inflation (precious metals, German government bonds, etc) or he may charge higher interest, or some combination of both. But he commits the grave sin of usury when his inflation hedges attach to the potentialities of his borrower. If he wants a full-recourse loan, he'll have to satisfy himself with a zero interest rate.

I don't follow your second option, Paul: "or he may charger higher interest." If that is an _alternative_ to staking on collateral, isn't that supposedly just the whole "usury" thing coming up again?

Lydia: If the creditor's claims terminate in actual assets, interest may be charged at whatever rate the parties agree to. If the recourse is only to assets, it's not usury.

So collateral could be combined with interest in countless ways. A business loan secured with a $5000 US Treasury bond might (just pulling number out of a hat) fetch a 5% rate, while one secured with 40 shares of Apple stock (worth roughly $5000 today) might fetch a 3.5% rate, precisely because the lender thinks that Apple stock will hold value better. Or maybe he thinks Apple is over-valued and would prefer the Treasury bond.

My point is merely that both the nature of the collateral and the interest rate could licitly function as creditor hedges against inflation, supposing that the loan is not full recourse.

The prohibitions on usury date from the era of specie money.To apply them to the present requires a theory of money and as Tony shows, Zippy's theory of money is not undisputed.

Shouldn't we regard the debasement of currency as the much greater fraud perpetuated by the Govts on common man. It is the fiat money and printing of that which has enabled the universal monstrous totalitarianism of the modern age.

To talk about usury while ignoring fiat money is, in my opinion, pointless academic discussion of finer details of dogma with no application to real life.
Even the silence of the Catholic hierarchy is telling. Is the usury considered as sin anymore?

And if you do admit the sin of usury, do you have to abandon Adam smith and Mises? Or are there still ways to reconcile Adam Smith with Aquinas?

BI:

Shouldn't we regard the debasement of currency as the much greater fraud perpetuated by the Govts on common man[?]

Generally speaking, no. Fiat currency is not inherently fraudulent. Nor is specie currency inherently stable. The abiding danger with fiat money is inflation; the abiding danger with specie money is deflation. Again generally speaking, deflation is far more destructive of human flourishing. Low-grade inflation has coincided with numerous extraordinary burst of innovation, productivity and prosperity; whereas sustained deflation has almost always sown ruin, privation and misery.

Does fiat money present nefarious actors in government with some real opportunities for abuse and perfidy? Unquestionably. Have these, at times, produced calamitous hyperinflation? Yes. But I reject the view that fiat currency is at the root of our modern problems. I'm not even sure I would count it as a problem at all.

In part, it comes down to whether you view currency as primarily a medium of exchange or primarily a store of value. But both depend utterly on social convention. There is no conceivable currency that could operate as either a medium of exchange or a store of value absent the social prescription that upholds the utility of circulating money. It is a comforting illusion that commodity money preserves the value of currency against social or political depredations.

Now, having set all this down, I want to say firmly that this thread is not going to get buried in goldbug debates. I will briefly answer objections you might have, but I'm not going to carry on a long debate on this.

Finally: No, I do not think we have to abandon modern market economics by admitting usury is a sin and calling for action against it.

I completely agree with Paul that we do not have to abandon modern markets if we get rid of usury. There is, simply, no necessity to having loans be usurious that gets us what we need out of finance.

As Zippy says in Question 35, "asking the question 'what if things don’t go according to plan?' is particularly helpful in distinguishing usurious contracts from non-usurious contracts."

I agree that it really does make sense to ask what if things don't go according to plan. I would point out, though, that Zippy creates a problem for his own argument: he defines (in footnote 1) "non-recourse" not as "what happens when things go wrong" but something else:

The way it is used throughout this FAQ is that in a non recourse contract it is not a violation of the contract terms for the ‘borrower’ to stop making payments on the loan, leaving the ‘lender’ to recover whatever he is entitled to recover from the collateral and the collateral alone. The ‘borrower’ has not violated the terms of the contract in this case, by definition: the agreement was that if the borrower stops paying, he is quit of all obligation under the contract. The lender gets to foreclose on the collateral to recover his entitlements and costs, and the lender’s recourse is to the collateral alone.

So, in this approach, non-recourse means the debtor has 2 legal and moral options: pay the loan payments, or stop making the payments and lose the collateral. It is his election to do either one. His "not paying" is not "going wrong". The lender take full ownership of the collateral isn't what happens when something is "going wrong".

This way of defining "non-recourse" leaves as a middle state (about which nothing is asserted) a case where there is explicit reference to an asset as collateral, but ONLY 'if things go wrong", where the borrower is morally and legally obliged to follow the terms of the loan to actually make the payments. Which is, generally, what most people have understood by "loan" since time immemorial. It does little good to construct a rock-hard case against usury if it is then restricted to a tiny, almost non-existent subset of actual loans and is trivially true.

To understand my hesitance to follow Zippy's description of usury 100%, consider the following scenario. Bob and Tom are friends. Tom runs into a financial crunch, and is short on money. Bob lends him 1000. The agreement consists of the following terms: "Just pay me back $1050 within 12 months, OK?" That's it. No further terms.

If we treat this as a "recourse" loan, that has to be due to hidden recourse that is somehow built into some sort of social "rules" that Bob could resort to "if things go wrong", because the entire explicit terms of the agreement never mentioned anything like "if things go wrong." Or even "if you decide not to pay me back." They are friends, they never considered things going wrong - or not paying.

But it is, of course, entirely possible to have societies where there ARE NO positive rules that positively create recourse in Tom's person in such a case - there would surely be primitive societies would have been like that. If there is recourse there, it exists by reason of the natural law alone: Tom is morally obligated to pay what is owed. But natural law alone, without positive law, cannot determine what to do if Tom decides not to comply with his moral obligation (or simply can't repay in money because he doesn't have it). That takes positive law. (Imagine, if you will, Bob taking the matter to the village elders, who say "we have never faced this before, so we are going to deem that your agreement included the implicit clause 'if you have it', and Tom doesn't have it, so he has no obligation to pay you anything.") Since natural law only provides that an obligation to pay back justly exists, and does not extend to concrete remedies, Bob has no concrete means of recovery of his money without positive law. So, there is no way to absolutely presume there is recourse in the absence of actual terms of recourse in the contract. So, properly speaking, the loan is not a recourse loan. Even though it does not "terminate" in an asset of Tom's. The critical fact is that it does not terminate in Tom's person in any definitely recoverable sense,

But the additional payment of $50 is still interest. And it is either interest due merely to the "use" of the money, or it is interest based on some other title to payment other than the loan of the money itself. But nothing about the scenario creates any other title to an additional payment. (Any condition you could imagine might BE an additional title, we can simply say "this scenario doesn't have that condition.") It is my argument that what usury consists in essentially is the "charge for use and use alone," and this charge can exist even without recourse.

I. The nature of the sin called usury has its proper place and origin in a loan contract. This financial contract between consenting parties demands, by its very nature, that one return to another only as much as he has received. The sin rests on the fact that sometimes the creditor desires more than he has given. Therefore he contends some gain is owed him beyond that which he loaned, but any gain which exceeds the amount he gave is illicit and usurious.....The law governing loans consists necessarily in the equality of what is given and returned; once the equality has been established, whoever demands more than that violates the terms of the loan. (Benedict XIV, Vix Pervenit]

It is an oddity of language and translation that Benedict uses "mutuum" and that this is translated as "loan" in all the English versions I can find. Because, of course, the term "loan" is much broader than "conveyance of a consumable under recourse to the person." It is an oddity because of course it follows the scholastic period's use of "mutuum" in the discussion of usury. St. Thomas's articles on usury assume a mutuum loan, and do not say anything about whether usury applies to non-mutuum loans. However, his use of the term mutuum implies a conveying of money with no other title to repayment than the mere handing over the money (I.E. no extrinsic titles). (Objection 5 and response in article 2 of Q 78 is the only place this comes up).

So my conclusion is that the exact same species of wrong can exist in a loan of money without recourse to the person as exists with recourse to the person, if the so-called "title" to the interest is in the mere lending of the money itself and nothing further. This species of wrong quite fairly is described as being a "charge for use" where no charge for use is licit. To artificially separate this species of moral wrong into "usury" for cases of recourse to the person, and something else if there is no recourse to the person (nor asset-based recourse), is erroneous. The species of disorder is one, and it should go under one name.

Here is a problem I have with considering usury (as I think Paul, at least is using the term) a grave sin:

I find it trivially easy to construct situations in which an indubitably usurious loan seems _obviously_ much less wrong to me than a non-usurious loan as defined. Shouldn't that present a problem for regarding usury thus defined as either intrinsically wrong or, especially, as gravely wrong?

Scenario: Lender 1 lends Borrower 1 $500 in an undeniably usurious fashion, as defined, and recovers a very small profit. Borrower 1 has been checked out on the credit application, is known to have a solid job, and pays easily, as fully expected. Lender 2 induces (by flashy advertisements) feckless, unemployed Borrower 2 to put up his house (his only significant asset) as collateral for an undeniably non-usurious loan. He uses the money to take expensive vacations and do other things that he cannot sustain. He loses his house. No other action is taken. There is no deficiency judgement possible. But now he is homeless and penniless.

It seems to me quite evident that Lender 2 is a shark, preying off of the foolishness and imprudence of Borrower 2. But the loan was fully collateralized, non-recourse, and in one sense was placed on a very solid basis. If Lender 1 has committed a sin at all, it strikes me as an extremely academic sin, difficult even to see with, metaphorically speaking, the moral naked eye.

Doesn't this seem to constitute a prima facie problem with any analysis that regards Lender 1 as having committed a grave sin?

This way of defining "non-recourse" leaves as a middle state (about which nothing is asserted) ...

No, it doesn't. There is no 'middle state'; someone who thinks so simply does not understand.

There is a nontrivial difference between things not going as the parties hope it will go (that is, as planned) and someone violating the agreement. If both parties are not stupid, each will have enough 'skin in the game' that they will both want the venture to work out as planned (that is, not default). The nonrecourse borrower (from a not-stupid lender) will lose more than he borrowed (because the property the borrower stakes will be worth more than the loan) if he defaults.

If things don't go according to plans, though, then default in a non-usurious contract is not a violation of the contract. The borrower may lose more than he would if he didn't default, but neither party has violated the terms of the agreement.

"But what if the parties are stupid" moves the discussion to areas outside of the agreement itself, and usury (when committed) is intrinsic to what is agreed, that is, the contract.

Lydia:
It is trivial for anyone with the slightest imagination to create hypothetical scenarios in which a particular lie is not as gravely wrong as a particular imprudent or cruel act of truth-telling. Does it follow that lying is not intrinsically wrong? It is trivial to concoct a scenario in which a particular act of theft is not as gravely wrong as some selfish act with one's own property which is not theft. Does it follow that theft is not intrinsically wrong?

"Not usury" does not mean "intrinsically just" -- Question 11.

Yes, I do know that you don't automatically consider non-usurious loans to be morally right, Zippy. I have understood that all along. But the question about "gravely wrong" remains. This probably gets into the interesting question of whether "intrinsically wrong" should be identified with "gravely wrong," doesn't it? The latter may not be a term you have used yourself for all usury, but Paul, taking off on your analysis, used the phrase "grave sin" above, which is why I directed my question more to him than to you.

Lydia:
I expect you are being too pedantic with Paul (though he can of course speak for himself). If I said that lying has become a pervasive grave wrong in our society and most people don't even acknowledge that it is always wrong, I haven't made a categorical claim that there are no such things as white lies.

(Where "white lies" == venial lies, not "lies which are not morally wrong", in case that was not clear).

This probably gets into the interesting question of whether "intrinsically wrong" should be identified with "gravely wrong," doesn't it?

It may also be interesting to ask whether all lying becomes gravely wrong in a society which pervasively refuses to acknowledge that any but the most egregious of lying is wrong at all. Gravity of moral wrong is always in part a matter of circumstances, even though no circumstances can make an intrinsic moral wrong morally licit.

In any case I don't think it is at all unreasonable to characterize usury as a pervasive, execrable, grave moral wrong in our society. I would certainly use those same words to characterize (say) inchastity in our society, I would expect any charitable reader to "keep up", and I would view chin-stroking observations that some acts of inchastity are venial as both trivially true and as (at best) missing the point.

I agree with Zippy: not all intrinsically wrong acts are gravely wrong acts. Many are trivially wrong. Further, that a social condition can be gravely harmful to society even though many of the individual acts are venially bad. Minor corruption in government officials (say, taking $20 from a pulled-over driver instead of writing up for a ticket) can be pervasive and damaging to society even when many instances are minor considered alone. Usury is pervasive - as much so as credit card debt.

I follow your arguments there, Zippy, and I think you make good points.

This all gets a little subjective, I have to admit. Here's part of my (admittedly subjective) problem: I have always thought of a term like "usury" in more general terms as meant to denote "loan sharking" and the like--grave wrong done specifically in lending and by means of lending. To restrict the term to a smaller subset of that set, which leaves out a lot of obviously loan-sharking practices that are clearly grave, exploitative, rapacious wrong *in lending*, while singling out something that can be venial, doesn't "sit well" with me. It's not just that one is describing an entire class of sins that can, as it happens, be venial (like inchastity) but rather like one is leaving out a lot of things that seem like they should belong in the class. As the saying goes, your mileage may vary.

There is a nontrivial difference between things not going as the parties hope it will go (that is, as planned) and someone violating the agreement. If both parties are not stupid, each will have enough 'skin in the game' that they will both want the venture to work out as planned (that is, not default).
If things don't go according to plans, though, then default in a non-usurious contract is not a violation of the contract.

OK, so as you view the word, "in default" is "not in violation of the agreement", but rather, not making payments and therefore invoking the explicit conditions in the contract that say what to do when you don't make payments. As an election between two different optional parts of the contract. Electing one option instead of the other isn't violating the terms.

This is one way a person can choose to define 'in default'. It is not what I think is the standard sense, which is indeed at least _a_kind_of violation:

1: failure to do something required by duty or law :

But let's not get hung up on that. Let us admit you can use the term with your own definition - especially if you make the definition clear. I will, instead, avoid the term and get to the underlying concept and underlying reality.

I think that the critical issue is whether there is a moral obligation to comply with a provision of the contract. I think that can be present in a contract even when there are clauses that say what to do if you don't comply.

If I rent a house to a stranger, there is probably a law that says what steps I have to take to get him out of the house if he stops payments. But BEFORE such a law was ever made, many rental contracts wouldn't have any explicit terms of "what happens if you stop making rent payments", it was just _understood_ that the right to live in the house only extends as far as the continued payments extend and no further. That is the just "equal exchange" of a good contract.

If I had such a contract that doesn't spell out anything for what happens if you stop making the rent payments, I had the moral right to recover the use of my house from you. How would I achieve this? One way is to sue in court, get the court to agree that you are living in my house without the right to live in my house, and send an officer of the court to physically move you out. (This is 'legal recourse', which is somewhat a different concept than asset recourse, it is using the state to impose a state-based remedy, invoking the power of the state to remedy an injustice. It has nothing to do with pledging an asset.) However, since a man's home is his castle, at least putatively I had the right to use force myself to get you off my property - you ceased to have the right to resist that force when you stopped following the contract that provided a right to be on my property. Probably someone got hurt doing this. Probably lawmakers decided to avoid the "someone getting hurt" by making a law about eviction procedures, involving the sheriff, a claim or filing procedure, etc. After the law was made, all the already existing rental contracts that didn't specify any terms for "what happens if you stop making payments" had a clearly usable pathway to get justice - a remedy to recover the use of their property - not by the old universal fallback (generic) remedy of taking it to the state by just plain suing - but by using a specifically designed statutory process that need not involve the judiciary (depends on how the lawmakers want to set it up - could be as simple as having a civil servant verify the contracts and payments, and notifying the sheriff to evict.) Clearly, the change from the landlord having a remedy in generic 'legal recourse' to the state as judging the matter in a lawsuit, to having a a procedure applicable specifically to evictions that may or may not involve judges, doesn't change the underlying nature of the remedy being 'legal recourse'.

I contend that after that change in law, making new contracts that state "(B) you are obligated to make the payments spelled out in the Clause A. If you do not make the payments stated in Clause A, the Landlord shall have the right to invoke the eviction procedures of Statute 45.410.999.2-A(i) without notice" does not fundamentally change the nature of the contract regarding the obligation to make the payments. Without having this clause B, the Landlord probably had just as much authority to invoke that statute. Merely identifying the authority in the contract did not create a new right in the landlord. And it certainly does not create a scenario in which the obligation on the renter is now "either make the stated payments or submit to the outcome of with the statutory eviction process." He is still morally obligated to make the payments in Clause A. Adding B is not creating an obligation-free election in the renter. Failing to make the payments is IN VIOLATION of the moral obligation to comply with A, and the fact that there are terms that tell us what to do when you violate A doesn't change that.

The fact that a contract may spell out what can happen if one party fails to meet his obligations under the PRIMARY terms of the exchange does not automatically mean the successive terms that do such spelling out relieve the parties from the moral obligations toward the primary terms.

But just as importantly, having this new law in place does not mean that a contract drawn up without referencing a right to eviction procedures now has those eviction procedures as a formal part of the terms of the contract. What it has is a statutory remedy to a violation to the terms of the contract. So a decision by the renter to stop paying and take "whatever the consequences" cannot be construed as "a different form of complying with the contract," it is violating the contract.

Likewise, if a lender fails to make any extra provisions in the contract for mutuum loan, and just says "pay me 1050 in 1 year", the fact that there is either a judicial or statutory state-imposed remedy for failure to comply with the terms of the contract is not "a different sort of complying with the terms of the contract." It is a violation of the terms of the contract, to which there is 'legal recourse.'

And this can be carried this over similarly to asset-backed loans. The problem is that backing a loan with an asset can have many, many different models and rules to it. If I lend you a rake, and take your cloak as security, what does that mean INTRINSICALLY, by nature, (as apart from special positive law or custom)? It probably means, at the least, that I won't give your cloak back until you give my rake back. It does NOT inherently mean that I have the freedom to use the cloak in the meantime - that exposes it to extra risks. (Usual property law distinguishes between a "security interest" in property and a "possessory interest", where the latter does allow for the holder to use it.) It certainly does not inherently mean that I can rent out the cloak to make money off it for the time being. The nature of the security interest is somewhat murky - in terms of natural law - for what happens at the "end" of the loan, if you don't return the rake. What if you never return the rake? Am I obligated to continue to hold the cloak (and store it unused) forever? That's unrealistic. Can I eventually claim the cloak as my own, turning a security interest into a completed ownership interest? Probably the basic nature of the act of taking it as security admits of this, but does not specify a clear time for this to happen. In fact, what happened in the past is that at some point Bob makes the cloak "his own" by a unilateral act of choice, and Tom complains at law that Bob didn't have that right, and...we get another one of those stupid muddles. So they write a law that if the contract didn't specify a term period to the loan, the term is one year, and Bob can file a form at the one year mark to take full ownership upon approval by the clerk. Again, the mere fact that the law now provides a process for remedy doesn't mean Tom is not obligated to return the rake. His options do not suddenly become a free choice of "return the rake, or lose the cloak, whichever I prefer."

Tony:

Prescinding from argument over what is and is not "the standard sense" of default, editorial clarity is why, in my ebook/FAQ, I spend five paragraphs clarifying my use of the term "recourse" and why, editorially, I chose to use it:

https://zippycatholic.wordpress.com/2014/11/10/usury-faq-or-money-on-the-pill/#footnote1

I think that the critical issue is whether there is a moral obligation to comply with a provision of the contract.

The critical issue in determining whether a particular agreement does or does not fall under the species of usury is the nature of the agreement itself. It is a basic category mistake to start conflating usury with issues of positive law, theft, fraud, misunderstanding, and ambiguity. A usurious contract presumes an unambiguous contract and characterizes the contract itself: it presumes that the parties mutually agreed to certain terms. The objective nature of those agreed terms determine whether or not the contract is usurious.

If there was no agreement, or if the agreement was ambiguous and did not cover contingencies other than a 'base case' which did not work out, or if one person tried to defraud the other, etc, then the parties have made themselves a mess. And under no circumstances should the sovereign impute a usurious contract (that is, both a capacity to profit and a capacity to pursue deficiency) to a 'lender' in that situation.

That's why Vix Pervenit urges people to spell out their various contractual contingencies when they pursue profit. And that is why the Magisterium clarifies multiple times in multiple places that non recourse contracts for profit can be (though are not always necessarily) morally licit, while usury (full recourse/mutuum loans for profit, whether explicit or implicit) cannot ever be morally licit under any circumstances.

If both parties are not stupid, each will have enough 'skin in the game' that they will both want the venture to work out as planned (that is, not default). The nonrecourse borrower (from a not-stupid lender) will lose more than he borrowed (because the property the borrower stakes will be worth more than the loan) if he defaults.

And this represent WHY I made the explanation I gave above. In lending, the lender Bob wants to make sure he gets what he has coming to him. Generally he wants to be repaid the money he lent, because he is in the business of money-handling. He is willing to take collateral as security, but selling property isn't his business, so he doesn't really want to have to convert the property to money (liquidate). So he insists on collateral that is worth more than the money lent. He does this also because he wants to ensure that the borrower, Tom, will accept the unpleasantry of paying the money back more surely than the greater unpleasantry of losing the property. Bob want the money he lent more than non-liquid property, and he wants to make sure Tom wants the property more than he wants the money. So the collateral is set high enough so it is worth noticeably more than the money lent. (There is also risk to the property losing value, but that is a secondary issue that doesn't change the above.)

So normally the only way Tom can get the loan is to put up (put at risk of loss) as collateral property worth more than the money lent. Now, this is asset-backed, so it is OK for Bob to charge interest, and he does that, he charges interest that is equal to what he thinks is the value of the investment use of his money - which is also at least related to a putative rate of return on investment for him. So, if the sheer terms of the agreement are simply Tom pays 1000 back with 10% interest, or loses a car worth 2000, then the property he loses (upon failure to repay) is greater than the money he got. That is, there is an INEQUALITY in the exchange. It is a different inequality than that of usury, but it is still unequal, unjust. (The inequality is not presumptively balanced by opposite goods, like risks, the interest rate does most of that, leaving a definite inequality.)

I doubt that 80 or 100 years ago people thought of the terms of a loan that provided the right of the lender to convert the collateral into full ownership, upon failure to pay, were terms that were simply allowing Tom to elect at will pathway B rather than A. I think that they continued to think of these terms as "what happens if you don't meet your obligations, spelled out instead of left to chancey courts of law." The fact that he loses more than he got from the lender means that he would normally only accept B if he had too, it was not a wholly free choice. Further, there was undoubtedly social shame attached to failure to pay - which should not have applied if Tom was simply electing one of his options. As contracts have gradually morphed in a society ever more litigious, it is probably true that there is less and less reason to view just making the payments already instead of defaulting as a moral obligation, but I think it highly problematic to assume this trajectory is free of social damage. It helps lead, among other things, to a mentality of people saying of laws "it is morally OK for me to break the law if i just accept the penalty (if I am caught)", a calculus of profit vs risk, rather than obedience.

The critical issue in determining whether a particular agreement does or does not fall under the species of usury is the nature of the agreement itself. It is a basic category mistake to start conflating usury with issues of positive law, theft, fraud, misunderstanding, and ambiguity. A usurious contract presumes an unambiguous contract and characterizes the contract itself: it presumes that the parties mutually agreed to certain terms.

I don't disagree with that. It is seeing what is actually "the contract" and what they mutually agreed to that we seem to disagree on.

If there was no agreement, or if the agreement was ambiguous and did not cover contingencies other than a 'base case' which did not work out, or if one person tried to defraud the other, etc, then the parties have made themselves a mess.

Are you saying that Bob and Tom agreeing "Tom will pay Bob 1050 in 1 year" is an ambiguous contract? Because it did not specify what happens if Tom fails to pay?

See, I don't view that as ambiguous. I view it as imprudent given a certain context, like our current ligitious society. Less imprudent in a place like Texas in 1860. It is always prudent to spell out things that might be misunderstood, but in simpler societies (and with simple provisions like the one sentence above) not as much would be misunderstood. I don't know why the state would fail to call such a contract clear, even if it refused to enforce it as usury.

Lydia:

It's not just that one is describing an entire class of sins that can, as it happens, be venial (like inchastity) but rather like one is leaving out a lot of things that seem like they should belong in the class.

Well, I can hardly fault you for a subjective bias that I pretty much shared before doing due diligence on the subject myself, especially given my own preexisting status as a financial expert. (It would be false modesty and deceptive to readers to say otherwise: while on most bloggy subjects I am an 'autodidact', that is, unqualified, when it comes to finance I am both formally qualified in terms of education and professionally qualified in terms of experience).

But my view as expressed in my self-indulgent editorial rant (Question 29 -- and no, there is no particular rhyme or reason to the ordering of the questions) is that usury apologists have been using that expansiveness of interpretation -- the idea that all unjust pricing and financial exploitation which looks like lending but is not specifically mutuum lending is usury -- to promote ambiguity on the subject of usury specifically and shroud the subject in fog for literally centuries. John Noonan specifically does this in his book, IIRC: he sets the premise of his whole book by suggesting that you can't understand usury without first fully buying into medieval just price theory, and that is flat out tommyrot. The one thing Noonan consistently does in his book is ignore and obfuscate the one thing that popes mentioned several times in Magisterial documents: what I call "recourse".

A similar conflation is at work in the folks who seem to think that fiat currency or economic environment or what have you are capable of having some kind of categorical impact on the subject of usury. Economics is to finance as meteorology is to farming. My qualifications are in the latter - in building and understanding the capital structure of businesses and other property arrangements - not the former, and the former is entirely irrelevant to the moral question of usury. Aquinas is quite clear in De Malo: shoes loaned for exchange to be returned in kind rather than in particular are as much a currency as gold, and gold held as security, not exchanged by the borrower, but to be returned to the lender in particular unless the secured loss occurs can be licitly rented for profit.

Tony:

Are you saying that Bob and Tom agreeing "[Bob will pay Tom $1000 now.] Tom will pay Bob $1050 in 1 year" is an ambiguous contract? Because it did not specify what happens if Tom fails to pay?

It isn't ambiguous if that is in fact the full extent of the agreement, as understood unambiguously by both parties. It is just a straightforward case of usury: a mutuum loan for interest.

Tony:

That there might be social shame or implications with respect to future opportunities when a business venture fails does not imply that anyone violated an agreement. A failed entrepreneur might well feel shame and might well have trouble getting investments for another go at it. But that doesn't mean that he violated a contract. General expectations and hopes are not contract terms. A good contract will get everyones' incentives aligned, and will cover every reasonable contingency; but general hopes and expectations are subject to harsh reality and are extrinsic to actual contracts.

And "I bet most people think about this the wrong way" doesn't constitute an argument against anything I've actually proposed. It is probably even true. Heck, Lydia didn't even realize that when she signed all her mortgage paperwork she was agreeing to be subject to a deficiency judgment.

I am doing my little part to educate people - the small number who actually read my stuff - on the subject. So sue me.

"I am doing my little part to educate people - the small number who actually read my stuff - on the subject. So sue me."

Do we have an agreement?

Best comment of the day!

It isn't ambiguous if that is in fact the full extent of the agreement, as understood unambiguously by both parties. It is just a straightforward case of usury: a mutuum loan for interest.

Right, that's what I thought it was. But there is no recourse to the person.

Tony:
You still aren't using the word "recourse" the way I am using it, clearly. Which is a sign to me, based on prior experience, that the productive part of the discussion has come to an end.

You still aren't using the word "recourse" the way I am using it, clearly. Which is a sign to me, based on prior experience, that the productive part of the discussion has come to an end.

Well, I am quite confident that at least parts of this discussion were useful to others, at least the parts that show Tony is dumb. Isn't that useful?

I of course understand that there is a way of using "recourse" differently from the way you are using it. I was using it the way you use it here (the first way), in your footnote:

In short, there are (at least) two ways of understanding recourse. In the first way recourse refers to what the various parties to the contract are entitled to in the scenarios covered by the contract. It answers questions like “who gets what if the borrower stops making payments”, as a matter of what the agreement between the parties itself requires. In the second way, recourse refers to legal remedies under the positive law when someone breaks the agreement. “Recourse” in this second sense is not a part of what is agreed by the parties in the contract itself. This FAQ uses the term ‘recourse’ in the first sense, to refer to the terms of the contract itself.

If the entire contract is "Bob will give Tom $1000. Tom will give Bob $1050 in 1 year", then the entire contract doesn't specify _anything_ about what the parties are entitled to under "scenarios". It certainly doesn't answer any questions of "who gets what if he borrower doesn't make payments".

In what way is that different from the way you were using recourse?

(Just for attempted clarity, I uniformly used the expression 'legal recourse' to refer to the second, which is a different thing, and because I wasn't attempting to speak to the concept 'legal recourse' at all in my 3:41 comment, I didn't use that phrase. I was referring to the sort of first recourse in the quote above from your footnote. Because, the terms of the contract don't specify anything like an "if this", or "in case of that".)

Tony: Where else is the $1050 going to come from except Tom's person? I suppose the ambiguity rests in the fact that it appears to be a kind of gentleman's agreement without formal documentation, thereby precluding any intervention on the part of the courts to make Bob whole.

Actually, Tony inspired me in this thread to start thinking of the complaint against usury in terms of "pretending to rent out something that cannot be rented out," hence fraud, which I think may be part of what Zippy has been getting at all along. Not that Tony used that phrase "rented out," but as I say, I was inspired to think of it by his discussion of apples and charging once for the apple and separately for the use of the apple. Charging for the use of something makes sense if you can give _that thing back_. but charging for the use of something that you can't give back but can return only notionally (e.g., the same face value of money as the principal), along with a fee for the use of the "thing" returned, is, at most, a legal fiction. The question then remains whether it is a bad or fraudulent legal fiction, which I find rather interesting to mull. This has given me a new take on what I think Z. has been getting at about "selling something that doesn't exist." Sometimes it just takes a different phrasing to make me "get it."

Paul, are you suggesting that the provision "Tom will pay Bob $1050" is, by that very provision alone, "recourse" in Zippy's sense?

Zippy, is that your intention?

Lydia:

... charging once for the apple and separately for the use of the apple.

I'm not sure how that is different from this (other than the substitution of apples for wine and the entirely unnecessary degree of muddleheaded logorrhea):

Accordingly if a man wanted to sell wine separately from the use of the wine, he would be selling the same thing twice, or he would be selling what does not exist, wherefore he would evidently commit a sin of injustice. On like manner he commits an injustice who lends wine or wheat, and asks for double payment, viz. one, the return of the thing in equal measure, the other, the price of the use, which is called usury.

Tony: As I mentioned it's the absence of any formal contractual documents that introduces the ambiguity, not the character of the loan, which appears to be that of a mutuum loan with interest. But perhaps it could be said that friendship and trust supply the security on the loan, and that if Tom defaults, he forfeits that friendship and trust.

Of course, the sure way to avoid usury would be to write up loan documents with specified assets at stake. Bob should understand that his loan engages him in a commercial arrangement with Tom, and that his capital is now staked in that venture, which means it cannot simultaneously be possessed and its appreciation enjoyed. If he wants to receive interest on the loan, he'll have to persuade Tom to stake certain assets of his own as collateral against default.

Zippy, you are quite right. As I say, I see that you have been saying this all along. There is a major chance element in when something "clicks" with me. Plus, it was just by happenstance that I thought of the idea of "pretending to rent what cannot be rented," which is _my_ wording, nobody else's. I just happened to be inspired here and now to think of it.

Here's what, perhaps most of all, excites me about the rediscovery of opposition to usury as a sound doctrine, applicable and intelligible even in an age when notional derivative values exceed the value of all human wealth by a very wide margin: though it is pervasive and pernicious, curtailing usury's direct influence would not entail tearing down modern finance. This was a real fear of mine upon discovering some grave and astounding political-economic effects of the 2008 usury crisis.

High finance could adapt to this without a lot of macroeconomic damage; certainly less than, say, an ill-advised reversion to commodity money; probably less than even the excrement sandwich of banking reform known by the names of two infamous leftists since mercifully departed from public office. There's a real chance we'd come out on the other side with sturdier, more flexible and more upright finance. Let us cast off these chains of sin and get on with other matters.

Practically speaking, what we need is for the idea that usury is intelligible and reformable, to percolate the precincts of public opinion with enough potency, that financiers cannot help but begin to model for an post-usury age.

Paul, would that be true if we cut out not only usurious contracts as defined but also all lending contracts that are bad in other ways? Since there is a huge, unexplored field of other exploitative lending practices that do not fall under this rubric of usury as defined, it would seem that it would make a much bigger difference to the economy if these were addressed as well. For example, even if deficiency judgements were banned (to a hearty hear-hear from me, I might add), unwary or unwise people would still be likely to sign their homes or other assets away in return for some short-term desires, to pay for medical quackery, or a variety of other reasons, and no doubt the banks would be happy to encourage them to do it. Larger-scale reform would be likely to hurt even more. Not that I know enough myself to say what the effects would be even of removing usury as thus defined from the economy.

Paul, reform of banking and lending is greatly needed. Usury is a big part of what needs changing. Re-starting the Franciscan loan societies would be a start. Surely they can eliminate the predatory "car-title loan" businesses, (even though these are not usurious because they are asset backed) and the pay-check loan businesses. Re-energizing the local savings & loans, with participant / shareholders as borrowers, would also help. (Although federal credit unions serve a similar role.) And of course changing the cultural mindset on credit cards is a big, big need.

Yes, reforming the ubiquitous usury problem would be a big step in the right direction, but the reform would hardly exhaust the problems encrusted on high finance. It would do little, for instance, to address the symbiotic excesses of bond markets and pension and other institutional funds. Dealing in yield-high structured bond securities is a business for pros; your average cowtown university endowment finance officer, or small city retirees fund manager, should probably steer clear. Especially in this climate of historically loose central bank policies, many of these institutional investors are still operating based on a morbid optimism concerning their likely rate of return over the long term. This induces in them an insouciance concerning "too good to be true" investments, which in turn encourages sharps and charlatans on the seller side. This kind of stuff may deal only in bonds issued by institutions, not people, so usury may not involved; but it's still insidious and corrosive of free markets and sound finance.

There is a lot of deceit buried our society's extravagance of documentation. This is related to the power and influence of the legal guild, which can often operate like a pretty ruthless cartel and which facilitates the enormous disparities in knowledge and expertise, through which many frauds are perpetrated on the unwary or desperate.

Especially in this climate of historically loose central bank policies, many of these institutional investors are still operating based on a morbid optimism concerning their likely rate of return over the long term.

Too true. Some 10 years ago, pension plans were allowed to pick their own rate as the "reasonable" rate expected in the future, for determining the value of future liabilities and thus required contributions. Plans usually chose rates from 7 to 8 percent. Few plans have realized 7% over the last 10 years. (They now must use a prescribed set of rates based on - you guessed it - corporate bond yields.)

Another area of high-finance fraud is that these pensions are normally stated in fixed dollar terms, and measured in fixed dollar terms, even though everyone knows that inflation is going to make those future dollars worth a lot less. One fix for retirees would require that pensions simply build a cost-of-living adjustment (COLA) into the stated benefit, AND to assume a comparable COLA into the presumptive rate of return, so that all you need to estimate is the future "rate of return after inflation", which is MUCH easier to guess at. If you just set it at 3% (to be conservative), or 4% (if you are edgy and risk-taking), you won't go very far wrong.

Tony,
It is not inflation that "is going to make those future dollars worth a lot less" but Govt. policy of currency debasement. Usury is meaningless under the prevailing circumstances.
Govt control of currency was demanded by Marx in 1848 and now apparently is the conservative position.

Interesting timing, as just a few weeks ago a friend recommended "The Usury Prohibition and Natural Law: A Reappraisal," an article from The Thomist by Christopher Franks. I read it and thought it quite good. Was wondering if Zippy (or Paul) knows it and if so, what their opinion is.

Thanks.

NM, do you have a link? I cannot find one that works. I read a tiny bit of Franks, and liked what I saw (mostly, perhaps not every single particular).

It is not inflation that "is going to make those future dollars worth a lot less" but Govt. policy of currency debasement. Usury is meaningless under the prevailing circumstances.

Usury is not meaningless, its harmful effects are merely mitigated to the extent that the fiat currency is debased. That doesn't change the essential moral facts about usury.

No, Tony, I couldn't find one either. I ended up getting it on hard copy through I.L.L.

It is not inflation that "is going to make those future dollars worth a lot less" but Govt. policy of currency debasement.

BBedarz, whether it is through debasement of the currency or some other mechanism (and I pretty much agree with you on the reality of the debasement going on), the fact of the matter is that the EFFECT is going to be (a) inflation, and (b) dollars worth a lot less. If you want to call (a) and (b) distinct, I don't really care. If you want to suggest that the debasement will cause (b) without causing (a), I can't imagine what that would look like in practice.

Tony,
Rather than inflation being the major deplorable consequence of fiat money, I see the forced re-distribution or stealing of the wealth of the ordinary people and enriching of favored constituencies.

That is, the inflation does not hit everybody equally. Some, that receive newly created money, are enriched while others lagging in the chain to receive the new money lose. Thus, the Govt, that by definition, is the first recipient of the newly created money is aggrandized and the society weakened.

That is why, inflation is a red herring in these discussions. Thing is, how is wealth getting re-distributed.

PS: "inflation" means that the future dollars are going to be worth less. Thus, inflation can not cause those future dollars to be worth less.
Inflation is the phenomenon, the cause has to be something else.

NM --

I'm not familiar with the article. Are you able to excerpt or summarize it?

BI --

The insistence of some folks on holding more physical currency or precious metals than is wise, is less the "deplorable consequence of fiat money," than the deplorable consequence of stubbornness, paranoia or ignorance.

We must strictly guard against the folly of conflating of preservation of wealth with mere accumulation of cash.

A man who earns $150K per annum and keeps $50K of it in large bills, but never invests in stocks, bonds, or the money market, has only himself to blame when over time he discovers that his wealth has been "re-distributed."

It is true that inflation does not hit everybody equally. (It hits hardest those with income in excess of their expenditures, who unwisely keep their excess purely in physical currency.) It is furthermore true that the condition of many is too parlous to permit any savings. It is also true that those goods and services which are most sensitive to currency fluctuations, consume a larger portion of the budget of lower-income people. (But remember the other side of the coin: the massive surge over the past year in dollar strength against, for instance, oil and gas has redounded to the benefit of those most subject to the prices of those vital goods.)

Leaving aside black markets, building wealth begins precisely with one's emergence from the purely cash economy. Avoiding the re-distribution of currency depreciation is analogous with having a serviceable investment strategy implemented over time, even on a tight budget.

Meanwhile, US dollars have appreciated markedly, over the past half-year, against euros, yen, and pounds; so strictly speaking the past few months have been pretty good for those who excessively hoard physical dollars. I'm the farthest thing from a financial investor, but now is a great time for the affluent among them to put that cash back in circulation and book a nice trip to Europe. They could even take a risk and buy some relatively cheap oil and gas assets while they're at it, thereby likely rendering any future rounds of QE less damaging to their portfolio.

Last week the WSJ ran a fascinating little article, with relevance to this discussion.

Route to an $8 Million Portfolio Started With Frugal Living
After Ronald Read’s death, friends were surprised by his wealth. His top stockholdings included Wells Fargo, Procter & Gamble and Colgate-Palmolive
By ANNA PRIOR

Excerpt:

Ronald Read may have spent years pumping gas, but he was even more adept at pumping up his portfolio.

Mr. Read, a longtime resident of Brattleboro, Vt., died in June at the age of 92. His friends were shocked when they learned his estate was valued at almost $8 million. Long widowed and with two stepchildren, he left most of his money to a local hospital and library.

So how did he manage to pull it off? Besides being a good stock picker, he displayed remarkable frugality and patience—which gave him many years of compounded growth.

He lived modestly, working as a maintenance worker and janitor at a J.C. Penney store after a long stint at a service station that was owned in part by his brother. Those who knew him talk of how he at times used safety pins to hold his coat together and sometimes parked his 2007 Toyota Yaris far from where he was going to avoid having to feed the parking meter.

“If he could save a penny, he would,” says Bridget Bokum, a senior client associate at the Wells Fargo Advisors office in Brattleboro, who is assisting with his estate.

When he died, Mr. Read left behind a five-inch-thick stack of stock certificates in a safe-deposit box. The shares represented the bulk of his estate, and his executor and Wells Fargo still are working to determine their exact worth. [. ..]

Mr. Read owned at least 95 stocks at the time of his death, many of which he had held for years, if not decades. They were spread across a variety of sectors, including railroads, utility companies, banks, health care, telecom and consumer products. He avoided technology stocks.

Friends say Mr. Read typically bought shares of companies he was familiar with and those that paid out hefty dividends. When dividend checks came in the mail, he plowed the money back into more shares, Ms. Bokum says.

Paul,

While I am not one to denigrate wise investing, (and my own record is spotty), I will take a page out of John Mueller's book "Redeeming Economics" and ask: what opportunities did Read pass up to invest in persons directly, such as having children, or paying for a good education for his stepchildren? Or offering a business opportunity to those kids when they wanted to try an endeavor but were stymied by lack of funds?

Speaking as a father, I see that there are virtually an infinite variety of opportunities to invest in a child with plausible hope of worthwhile return. Yet often that return cannot be measured in dollars. If I pay for violin instruction so the child acquires a discerning ear, leading to a refined musical sense, forming the start on a connecting - deep in the soul but not yet at the level of thought - the "good" with "the beautiful", and thus another piece in the mosaic of learning to love God perfectly, that investment may be a very good investment without ever paying off in dollars.

The virtue of prudence requires not only investing for a good dollar return, but keeping THAT goal in perspective to the overall goals of the human good, which puts wealth at the service of more fundamental goods. And there is NO evidence in the snippet Paul gave us, that Read didn't do that, so I am not presuming anything.

Right, Tony. Excellent points. Even economists are increasingly aware of the unsearchable riches of human capital, which is why they are finally waking up to the enormous perils of aging populations.

My citation of the late Mr. Read was primarily concerned with showing that even modest income can support sound savings and investment. Secondarily I would emphasize, apropos this thread, the preference for equity as opposed to debt, which seems to have formed the basis for Mr. Read's wealth. It's not that all bonds involve you directly in usury; while many do, the deeper problem, as we mentioned in the case of pension funds, is the broader illusion that capital can be lent and possessed for use at the same time, thus preserving an unduly optimistic expectation of returns on capital.

And it occurs to me that the purchase of a good quality musical instrument (which, when combined with instruction and practice is indeed "another piece in the mosaic of learning to love God perfectly") is also, on a much lower level, a plausibly wise disposal of currency to vouchsafe against the perils of fiat money. If every hoarder of excess currency went out purchased a quality musical instrument, American prosperity would be advanced in many more ways that one.

Paul Cella,
So a man is required to invest in stocks, bonds, or the money market, and has only himself to blame if he doesn't wish to participate in financial markets and is reduced to penury in his old age.
This necessity is precisely why I am against fiat money. It works to aggrandize the rich and the powerful (foremost the State--point that you keep on ignoring) .
So, the not-so-clever ones, ones that do not understand high finance, the stock market speculations, the money markets, don't they count?
Are they all to emulate Mr Read?

The capitalist society may generate returns to capitalists for a while but capitalism works to wreck the ties that bind the society itself.A society of people all getting wealthy on compound interest and stock market returns will be unstable for the people will have no ties binding to real, tangible wealth. Financial wealth only leads to consumption, not to human satisfaction and not to political stability.

It's funny, while I sympathize with Bedarz comments about fiat money, I agree with Paul generally about investing.

Bedarz, I really think that you would find this post and comments worthwhile. Among other things, Mueller really makes a case for treating "investing" in human beings themselves, and not only investing in capital (as usually understood).

At the same time, the foundational kind of "investing in humans" is the choice to have children (or at least try), and this implies (if we are being intelligent about it, as we must be to call it "investing" at all), responsible parenthood. This means taking thought for the future of those children: nature intends not primarily the immature baby, but the fully complete adult. So also, then, those responsible parents who take thought for the future of the kids must also take thought for THEIR future, including when they are done raising kids and are in retirement. In the old days, having kids was good investment for retirement. Especially for the 85% of humans involved in agriculture, or the 10% involved in a craft that they would hand over - lock, stock, and shop - to their children. Not so much by itself any more, although baby boomer DINKs are now beginning to discover that having a grand nest egg and *no kids* to help them use that resource wisely (and protect it against rapacious money managers) isn't such a great option after all. The responsible adult will take thought for the future of when they can no longer work and provide for that. Which implies, really, investing both in human beings and in capital.

But it does not imply being beholden in fiat money as such. I tend disagree with the notion that the only way to run a modern economy is with fiat money, and I tend to disagree with the notion that fiat money is inherently an improvement in finance and the economy, that it is a positive good for society precisely because it is by fiat. It is possible, even if somewhat difficult, to invest in ways that do not rely on the fiat nature of the money by which we transact business.

So a man is required to invest in stocks, bonds, or the money market, and has only himself to blame if he doesn't wish to participate in financial markets and is reduced to penury in his old age[?]

The man who holds all or most of his income, above and beyond expenditures, in physical currency is a fool who indeed only has himself to blame for the perpetual loss of wealth that this decision represents. Currency is not a reliable store of value. If his scruples prevent him from traditional investments in securities and financial assets, he still has many options: jewelry, silverware, artwork, memorabilia, real estate, direct stakes in the enterprises of family and friends.

Hoarding physical currency, however, is destructive of the wealth that his profitable income, along with his frugality, represents. At the very least he should convert a sizable portion of his income above expenditures into US Treasury bills and bonds, so that his capital can begin to generate its own income. (Remember, governments are institutions with abundant assets, to which their debt attached; interest on government bonds is not usurious.)

Now, of course I do not mean he should decline to hold cash at all. That, too, would be foolish. The primary usefulness of currency being its capacity for liquid exchange, it behooves everyone to keep sufficient physical cash (that is, aside from consumer banking accounts) on hand for emergencies.

Tony's points about the humane economy are well taken. The decline of family size and stability dwarfs the problem of fiat money by several orders of magnitude in terms of the distortion and destruction of human capital.

Political economy is the integration of the wealth and assets of generations. Wealth ultimately consists in human enterprise -- the application of intelligence and hard work to the natural resources of the planet. Wise stewardship preserves and expands the capital stock, which arises, again, out of the God-given fruitfulness of mankind.

Most responsible parents, for instance, begin thinking about special education accounts for the children before they are born or while they are very young. Inheritance of small equity stakes, like those which over time enriched Mr. Read, by grandchildren and other relations is very common in this country. The generation now vanishing, which endured the Depression and Second World War, is well-known for its frugality; its grandchildren are now buying houses or setting up IRAs with capital accumulated sagaciously over time and passed on within families. The ubiquity of these traditions refutes your point that "Financial wealth only leads to consumption, not to human satisfaction and not to political stability." Mr. Read barely consumed any of his capital. Much of it will descend, by his free choice, to local institutions: an investment directly back into his community.

BI, perhaps you will appreciate this longer treatment I wrote a decade ago: http://www.thenewatlantis.com/publications/technology-and-the-spirit-of-ownership

"I'm not familiar with the [Franks] article. Are you able to excerpt or summarize it?"

I don't have time to do it now, but I'll try on the weekend.

Bedarz Iliaci:

If you prefer gold to fiat money and stocks, buy some gold. If you prefer furniture, houses, tools, or any of thousands of other kinds of property over capital markets for wealth storage, buy those things. Nobody is forcing you to hold on to cash in a mattress.

And if some people are so stupid as to hold on to large quantities of cash in a mattress, well, that still doesn't justify charging usury on a mutuum loan.

"... the borrower ought not incur loss regarding the lender's stupidity." - St. Thomas Aquinas, De Malo.

BI writes:

So, the not-so-clever ones, ones that do not understand high finance, the stock market speculations, the money markets, don't they count?

Possibly pertinent:

http://www.prnewswire.com/news-releases/underwater-homeowners-sink-deeper-even-as-home-values-rise-300053532.html

The irony gets thickest in these discussions when the usury apologia machine starts spinning the possibility of the government declining to enforce deficiency judgments ---- "Usury must be 'permitted', which is to say, usurious contracts incorporating deficiency judgments against persons must be enforced good and hard by the government, because the evil government which we cannot trust debases the relative value of fiat currency on average!" ---- as disempowering for the less fortunate tier of society.

Usurers have always proposed the excuse that they are just empowering the poor. Well, that is even kind of true: slavers do feed and shelter their slaves.

Currency is not a reliable store of value.
Replace by
Fiat currency is not a reliable store of value (by design).

Yesterday, in a book about the outbreak of World War 1, I read that within hours of war breaking out, cafes
and restaurants all over Europe refused to accept bank notes and would take only gold.

Till 1971, dollar was convertible with gold and in fact dollar was defined in terms of gold.
Now dollar is undefined. What does it say on the note? That the bank promises to pay bearer the sum of one dollar (for example).
Thus, the note itself is not one dollar.Then what is one dollar?

Is Zippy always slanderous?
By what right is he accusing me of being a usurer?

Paul Cella,
I agree with your article on the fundamental importance of property.
You yourself note that financial property does not fulfill all the ends that real property does.
Thus, I am not hopeful that the ownership society, defined by widespread ownership of financial assets in large corporations, in which
most people have no connection with real productive property, this kind of society will fulfill the ends of "several property" as Hayek called it.

Real several property disperses power and fulfills human ends.
Ownership society does neither.

We have a saying--good son, why accumulate; bad son why accumulate. Mere accumulation of financial assets does not profit.
Merely having a share certificate in one's name does not make one proprietor, one does not grow into a proprietor of a real concern by having a thick folder of share certificates.

BI:

Is Zippy always slanderous?
By what right is he accusing me of being a usurer?

Nobody accused you of being a usurer. How would I even know (and why would I care) if you are or have been personally involved in making mutuum loans for profit?

At most I implied that your words are a tool of mammon, like the words of leftists who cannot allow a discussion of abortion to proceed without attempting to change the subject to (their own prudential take on) poverty (which they treat as dogma).

I am happy to make that explicit: whatever your intentions, from my point of view your words and the words of others like you are tools of the usury propaganda machine.

Till 1971, dollar was convertible with gold and in fact dollar was defined in terms of gold.

Not that it has anything whatsoever to do with the sin of usury, but that fact - the lateness of that date - is rather problematic to those who see fiat money as the root of all modern problems.

Is it your view that charging interest on full recourse (mutuum) loans in US dollars was a sin before 1971, and then stopped being a sin once the gold standard was dropped? If that isn't your view, then doesn't it follow that your rants about fiat money are off topic?

Bedarz Iliaci,

Just to be clear, gold convertibility of the US Dollar ended for US citizens in 1932, for foreign private parties in 1968 and for foreign governments/central banks in 1971. (Edwin Veiria's opus on the dollar makes clear that the Constitution defines -- upheld by subsequent court rulings -- the dollar as a certain weight of fine silver, not gold. Laws were passed later on by Congress setting the ratio of gold to silver. My own view is that the dollar becoming fiat was unavoidable but the proper and correct legal procedures to do so were never undertaken, such as an amendment to the Constitution).

But gold does not technically float against the dollar like you may assume. The Treasury still holds the US gold reserves on its balance sheet at $42.22/oz. Whereas the ECB floats their golds reserves against Euros every quarter. But currencies all over the world do not truly float against gold because of the existence of the paper gold markets which masks/hides the true price of actual physical gold. There is no publicly available price of physical gold for currencies to float against. The paper gold markets will collapse eventually setting bullion free and ending the dollar's role as world reserve currency. Such role being the cause of the global imbalances driving the world economies into the ground. A gold standard will not help; bullion must be free to float so it can price currencies. As long as there remain multiple large, sovereign trading blocs around the world then free floating bullion will reign in the excesses of government fiat currencies we see today.

Most of this seems separate from the question of usury.

underwater-homeowners-sink-deeper-even-as-home-values-rise

The irony gets thickest in these discussions when the usury apologia machine starts spinning the possibility of the government declining to enforce deficiency judgments ---- "Usury must be 'permitted', which is to say, usurious contracts incorporating deficiency judgments against persons must be enforced good and hard by the government,

Of course, it is hard to locate any usury in homeowner loans, because these are almost all asset-backed loans. So the government "declining to enforce judgments" would not have the least effect toward changing the position of home loans as not being usurious.

because of the existence of the paper gold markets which masks/hides the true price of actual physical gold.

Andrew, please clarify: are you referring to transactions "in gold" where what actually changes hands is not the physical gold but paper documents giving TITLE to an amount of gold? So that the gold bullion itself remains in its stored place?

Although I find it rather humorous to think of paper documents stating titles to gold as being the instrument of choice for large transfers, (since that's what a bank note started out as to begin with 500 years ago), I am not quite sure why the paper-based market will collapse, unless there is a war in which parties cannot get access to their physical gold to "enforce" his paper title.

By the way, does the paper gold market float imaginary paper gold using fractional reserve concepts?

So the government "declining to enforce judgments" would not have the least effect toward changing the position of home loans as not being usurious.

I think the idea is that if there were no possibility of a deficiency judgement, the loan would be entirely asset based. Otherwise, if a deficiency judgement is possible and the house is underwater, the loan is partly asset-based and partly not. It can be partly recouped by going after the borrower personally.

Tony, as far as your own approach to this, do you think that homeowner loans are not usurious even if the house is underwater and the borrower personally would be on the hook for the deficiency if he sold? Or do you think that they could be usurious even if asset-based entirely? Or some third option?

The Usury Prohibition and Natural Law: A Reappraisal, Christopher A. Franks, The Thomist 72 (2008)

Franks suggests that "typically modern approaches to human agency, whether the extreme individualism of homo economicus or the voluntarism of a moral self whose primary feature is the freedom of indifference" cause misunderstandings of both Aquinas's teachings on usury and on natural law. Franks states: "A careful reading of Aquinas's usury teaching suggests that, for him, justice in economic exchange requires keeping nominal wealth (money values) tied relatively closely to real wealth (actual goods and productive human activities), and that doing so requires that exchanges fit within the cycle of nature's provisions through which God cares for creatures in general and human in particular. The placement of exchanges within that cycle reflects our ontological poverty." The latter refers to the "lowly neediness of creatures whose existence is not their possession, but a gift."

His idea is that because of what Aquinas understood to be natural to man as such, economics and natural law were inherently related, and the usury prohibition arises out of that relation. The separation of them, therefore, he sees as unfortunate, coming as a result of the gradual "rationalization" of economics considered apart from natural law teaching. Economics was thus seen to have "progressed" beyond its prior outdated assumptions, one of which was the idea of this radical dependence on God, ontological poverty.

Franks sees the usury prohibition as Aquinas's attempt on the basis of natural law to "keep money-making from eclipsing the order on which it depends," which would thus tend to avarice and injustice. He fleshes this all out both historically and philosophically, and concludes that a taking seriously of Aquinas's assumption of our "creaturely lowliness" and the "benevolent, encompassing, and penetrating teleological order that natural law teaching presupposes" requires us to think hard about not only usury, but perhaps about many other assumptions embodied in our everyday economic practices.

Tony, as far as your own approach to this, do you think that homeowner loans are not usurious even if the house is underwater and the borrower personally would be on the hook for the deficiency if he sold?

Lydia, I was assuming that the house was _all_ the lender could go after with a home loan.

If the lender can go after the house, and if that's not enough he can go after the borrower "personally" I don't think that's "asset-backed", that's recourse to the person. As far as I can tell, anyway: it doesn't END at the asset.

Remember, though: it isn't merely that a loan has recourse to the person that makes it wrong. It is perfectly fine to have a mutuum loan with recourse to the person - as long as you aren't asking more in money back than the money you lent. If you say "pay me back the $1000 I lent you, or I will be able to garnish your wages, or I start selling your goods until I have re-couped $1000", that's not a case of usury. It's the addition of the PROFIT on top - the addition of interest over and above the $1000, in such a case that puts it in the class of usury.

Also, if the loan requires as a payment something of different kind than the money lent, say labor, it isn't usury unless the labor is EXPLICITLY the measure of more money than the money lent. If I say "pay me back the $1000, or I can exact 1000 hours of labor from you" that's recourse to the person (in a limited sense), but it isn't explicitly exacting more than the worth of $1000 return. If I happen to decide your hours of labor are worth $1 per hour TO ME, then it isn't formally exacting more money than I lent and it isn't going to fall under usury. (It may be unjust for another reason.)

The really interesting question is what happens if the recourse "to the person" is limited effectively to no more than the original amount, even if the payment scheme isn't: "pay me back $1050, or I can exact from you labor (which we mutually agree is) worth $1000".

Or do you think that they could be usurious even if asset-based entirely? Or some third option?

In my opinion a loan can be usurious if it is asset backed if (a) the PRIMARY payment provision is for more than the lent amount, on no other basis than the lending of the money, and (b) the asset recovery is strictly part of the "recourse" contract terms of "what happens if the borrower does not pay the amount he obligates himself to pay", and if the amount of asset (once liquidated) the lender keeps is equal to the principal plus interest. In that case, the borrower is OBLIGATED (insofar as one can be obligated under an unjust contract) to repay an amount more than was lent merely because of the lending itself. To consider this "just a shared investment of the asset" is, I think, a significant mis-characterization of the reality.

I think I follow that about how an asset-backed loan could be regarded as usurious.

Btw, the bit about going after the borrower is closely tied to the issue of the government's "enforcing judgements." The nature of a deficiency judgement is that "going after the person" part of it. I think those were, specifically, the type of judgement that Z. was saying should not be enforced, and that is why he implies that the absence of a deficiency judgement could rescue a loan from being usurious. If one's notion of usury is tightly tied to whether or not it is fully asset-backed, deficiency judgements become pretty crucial.

Tony,

Yes, when I say paper gold markets, I'm referring to the fractional reserve nature of bullion banking. Banks which trade in gold have far more gold oz denominated liabilities than they have actual gold oz on hand (100:1? 200:1? no one outside knows exactly except it's big). When I refer to paper gold collapsing I'm talking about a classic style bank run where the gold ounces cannot be printed up to meet liabilities. The Washington Agreement in 1997 established that the major central banks of the world would cease to use their gold reserves to backstop the bullion banks, something they had been doing for decades to establish credibility of these paper markets in their infancy (these paper markets were needed to move bullion to where it needed to go during the 80's and 90's to keep global trade humming along without running up the price of gold until the Euro could be established). The Washington Agreement has been subsequently renewed every 4 years since 1997.

Can anyone explain why fractional reserve based bank notes (in its origins, at least) is anything other than fraud?

NM -- sounds like the treatment by Franks was sensible and thoughtful. I've long believed that the enthusiasm for ever more refined abstraction, combined with that arrogance of engineering which so often drives competitive math and business minds, lies at the root of the 2008 crisis. Unless wealth can remain firmly tethered, in the minds of economic actors, to the human creative power, natural goods, and social trust, from which all wealth arises, we end up in these dire situations where psychological factors -- panic, aversion to risk, mistrust -- freeze up the whole system of financial exchange. The next step is massive government intervention.

Tony -- are you suggesting that unless a bank holds capital at at 1:1 of the money it loans out, it has committed fraud?

Lydia:

I think I follow that about how an asset-backed loan could be regarded as usurious.

I talk about that in my discussion of "recourse":

"If the contract terms say that it is a violation of the contract for the lender to stop paying and turn the collateral over to the lender, then the loan is a mutuum and any interest charged is usury. The lender may be limited to recovering his principal and interest from the collateral legally, but the borrower is understood to have violated the terms. This is not a ‘non recourse’ loan the way the term is used throughout this FAQ, though other people in other places may refer to this understanding as ‘non recourse’."

Paul:

... unless a bank holds capital at at 1:1 of the money it loans out ...

The meaning of the question depends on the meaning of "holds capital". Non recourse notes against actual property are capital: in effect, they are preferred equity (that is, equity stakes with liquidation preference) in the actual property.

Of course even a less than 1:1 ratio between various securities in a capital structure is not fraud, as long as the capital structure is fully disclosed to investors. Also, focus on ratios simply ignores liquidity: not all capital is equally liquid, so fixation on a ratio without taking liquidity into consideration is moronic.

Furthermore, modern depositors with access to Google are hardly in a position to claim that they are being lied to about the nature of fractional reserve banking in general. Heck, forget about the Google age: it isn't as if the Econ 101 nature of fractional reserve banking has been a big conspiratorial secret within the lifetimes of any person living today.

Tony -- are you suggesting that unless a bank holds capital at at 1:1 of the money it loans out, it has committed fraud?

Depends on what you mean by "fractional reserve banking." Paul, I referred to bank notes in their origins. There, I stand by the question. I accept that later banking may be different in critical details.

I take the origin of the bank note to be roughly what I outlined in this comment: Essentially, a paper document by a storer of gold saying "I have received X ounces of gold for storage redeemable with this note." And then issuing notes for which he did not receive gold deposits. In that context, yes, I absolutely do suggest that THAT sense of fractional reserves - or putting out more notes than you have received gold for storage - is fraud. Some of the notes issued are just lies.

Some people will say that "those who accepted the notes were taking a risk on the redeemability of the note, i.e. taking on an investment". But I don't think that works, not in the first place. The person who brought his actual physical gold to Goldsmith to store his gold for him, and received in return notes for that amount of gold, thought he was receiving a RECEIPT that entitled him to recover his gold, not an investment ticket in a ponzi scheme. And that is, finally what doing fractional reserve note-issuing in that context really was, a ponzi scheme - the last one holding the notes was screwed, by design. Nor did the note-receiver participate in the profits by which Goldsmith made a killing with putting out more bank notes than he ever had gold deposits for, so he wasn't "investing" in any real sense.

"sounds like the treatment by Franks was sensible and thoughtful"

Yes, I think so too. It's a 35 pp. essay and goes into considerable detail, so it's well worth reading in its entirety.

Econ 101 nature of fractional reserve banking
And how many people take Econ 101? All statements that Zippy makes about fiat currency and fractional reserves apply with double force to usury. Usury is not even regarded as sin by almost all denominations and it is doubtful that even the Catholic Church would bother.

BI:

All statements that Zippy makes about fiat currency and fractional reserves apply with double force to usury.

That is flat out false. Fractional reserve banking is widely understood and information on it is widely available (has been for all of our entire lifetimes). Usury is not widely understood at all (thus my FAQ/ebook): you have to delve into centuries-old texts just to get an accurate grasp of what it does and does not mean. Fractional reserve banking (that is, holding less currency in a vault than the nominal amount than depositors have invested in a company's projects) is not intrinsically immoral; usury is intrinsically immoral.

And that just begins to touch on the differences.

Far from being widely understood, I would say that probably 99 persons out of 100 have never heard of fractional reserve banking and being explained would intuitively call it fraudulent.

Unlike usury, which as explained by you, has very little real-life implications-- there might be plenty of usury going, but nobody is incurring the sin of usury.
Since credit card companies and home loan companies are not persons, they can't sin and the credit card users are innocent victims.

While, fractional reserve banking and fiat money is implicated in the rise of modern totalitarian govts that intrude everywhere. Those who justify and promote fiat money are heirs to Marx. We do not forget that govt control of money was demanded by Communists.

BI:

Far from being widely understood, I would say that probably 99 persons out of 100 have never heard of fractional reserve banking and being explained would intuitively call it fraudulent.

Anyone who hands his money over to the bank in 2015 without understanding what the bank is doing with it - investing it in projects of varying liquidity - has only himself to blame.

... nobody is incurring the sin of usury. Since credit card companies and home loan companies are not persons, they can't sin ...

Nonsense. Of course the employees and officers of companies can and do sin.

I have to agree with Bedarz on this one. Zippy is wrong on fractional reserve banking. I have met very few people who have any idea what it is, let alone that it's how we do banking. In general, ignorance of the intricacies of the banking system is not the responsibility of the ordinary individual. The banking sector has worked to maintain certain popular assumptions about how it operates because the truth would be incendiary for its relationship with the public.

Since credit card companies and home loan companies are not persons, they can't sin and the credit card users are innocent victims.

Neither are governments, so by this logic no sin was committed by a state that committed mass democide. But in reality, corporations are just legal fictions composed of real people, making real choices and those people are all individually responsible for the choices they make. The secretary who processed the paperwork to deport a thousand prisoners to a camp or gulag is an accessory to murder, not innocent victim.

Anyone who hands his money over to the bank in 2015 without understanding what the bank is doing with it - investing it in projects of varying liquidity - has only himself to blame.

As much as I think your other statement was wrong, I agree wholeheartedly. Anyone who has lived through the financial shenanigans of the last 15-16 years and hasn't noticed a pattern of thievery meriting research into how the system actually works is just being irresponsible with his money.

Mike T:

In general, ignorance of the intricacies of the banking system is not the responsibility of the ordinary individual.

That is frankly typical of the modern usurious mindset, which thinks investors (depositors) are entitled to interest on risk-free capital and needn't be bothered with understanding the nature of the property or projects in which they have invested.

Bankers do have a responsibility to disclose what they do to investors (depositors): they invest depositors' liquid currency into less liquid projects, and under normal operating conditions keep enough cash reserves around so that both their borrowers and their depositors have access to cash when they need or want it, "on demand". This only works as long as operating conditions remain reasonably normal (that is, when not everyone wants the nominal value of all investments in cash all at once, that is, not during bank runs); but allows the capital to be deployed efficiently to preserve wealth and even earn a profit, while maintaining liquidity (access to cash) as long as conditions remain relatively normal.

This has been fully and very publicly disclosed since all of our grandparents were in diapers.

However you can lead an investor (depositor) to information, but you can't make him read. This is a classic case of indignant individuals blaming the problems of modernity on anything but the true source of blame: themselves.

It is an investor's responsibility, whenever he expects or hopes for a profit, to actually understand what it is that he is investing in and what entitles him to that profit.

If an investor's understanding of his investment contract is that he is entitled to interest without the risk inherent in ownership of (or property claims staked in) actual assets, however those assets and claims may be aggregated in a capital structure, then he is committing usury. It is still possible that his counterparty is not party to usury -- sometimes contracts are not clear or clearly understood, and in this case it is a failure on the part of depositors to understand their own investments, not a failure on the part of what the formal contract actually says.

Neither fiat money nor fractional reserve banking are inherently moral problems in themselves. (That of course is not a prudential endorsement of any particular arrangement, situation, government policy, banking practice, etc). The reason they are perceived as problems by some folks is because of the usurious mindset of those folks: a classic case of blame displacement.

The problem isn't the nature of fiat money or fractional reserve banking. The problem is the usurious mindset of modern people who think they are entitled to risk-free preservation of capital and even profit. Physicians, heal thyselves.

The basic details on depository consumer banking are not particularly complicated, nor should they be conflated with the complexity of high finance and capital markets. Savers are, I think, obliged to realize that their deposits with a bank, far from being mere safety deposit boxes for currency, are loans or investments in the bank. Most banks do provide safety deposit boxes, and any customer who would like to store his currency in those, rather than on deposit to the bank, may freely do so.

The business of any bank is to earn higher yields on loaned capital that what it pays out in borrowed capital. That's the nature of the enterprise. Depositors are part of it, by virtue of the capital (physical currency or direct-deposit income that is electronic only) they have lent to the bank.

Mistaking banks for storage units for physical currency is, indeed, a basic mistake, which can be quickly rectified by a little reading.

A complicating factor is that governments now almost uniformly insure deposits, which among other consequences obscures the reality of the depositor-as-investor in the bank. A strong case can be made that the distortions introduced by deposit insurance exceed their usefulness; but a contrary case, also strong, can be made for the proposition that irrational bank runs are usefully mitigated by the insurance.

The final fact is that there is and can be no perfect way to preserve capital. Human things are always in motion. Wealth, resting on social trust, rule of law, expectations of generational continuity, and the like, is not inherently stable. Its value fluctuates constantly. Currency can no more preserve it than precious metals can.

Paul:

The final fact is that there is and can be no perfect way to preserve capital.

Right. Under the modern usurious mindset, people think they are entitled to hold onto wealth and have someone else take responsibility for maintaining buying power, without any effort or incurred risk. If they lose buying power then by God someone is to blame: the thought that it is their own responsibility to preserve their own wealth never even crosses their minds.

But even the most durable actual property requires constant effort just to preserve it: to defend it from the ravages of time and the pillaging of bandits. If you own property you are its steward, and as long as it remains yours you cannot pass off moral responsibility for its preservation and investment to others. If that doesn't sit well with someone, he can by all means give it all to the poor.

In most big banks, if the range of ways the money could be used and exposed to loss were honestly reported to depositors, most people would flee them to small banks or credit unions. You're dancing around an issue, acting as though the average person is just shocked to find that their deposit went into backing a mortgage or car loan. Much of the 2008 crisis happened because of the games being played within banks that would have had people running in terror if they understood what could happen to their money through actions not normally declared in marketing materials or even known to ordinary bank managers at local branches.

A complicating factor is that governments now almost uniformly insure deposits, which among other consequences obscures the reality of the depositor-as-investor in the bank. A strong case can be made that the distortions introduced by deposit insurance exceed their usefulness; but a contrary case, also strong, can be made for the proposition that irrational bank runs are usefully mitigated by the insurance.

It's also a complicating factor that the FDIC doesn't have the assets to actually insure virtually any popular bank in the US at this point. According to Wikipedia, they're down to about $18B in assets left from a high of $50B in immediate availability with reach back into the treasury of only $500B. Given the state of the federal government's finances, the value of the FDIC in practice, should another 2008-level crisis happen, is all but illusory at this point.

Mike T:

In most big banks, if the range of ways the money could be used and exposed to loss were honestly reported to depositors, most people would flee them to small banks or credit unions. You're dancing around an issue, acting as though the average person is just shocked to find that their deposit went into backing a mortgage or car loan. Much of the 2008 crisis happened because of the games being played within banks that would have had people running in terror if they understood what could happen to their money through actions not normally declared in marketing materials or even known to ordinary bank managers at local branches.

This is typical wooly headed right liberal populism. The "banks" central to the '08 crisis wouldn't have taken consumer savings and checking deposits if you had banged on their doors and begged them too.

The point is that there is nothing intrinsically wrong with fiat money or fractional reserve banking, in principle; that usury is always morally wrong in principle; and that what motivates a lot of the right-liberal populist raving against fiat money and fractional reserve banking is a combination of willful incomprehension with a usurious mindset which sees Main Street depositors as entitled to wealth preservation and growth without risk.

And just as many see it as a matter of Main Street deposits should be part of a boring system of deposits and sane, justifiable loans in which the risk to the depositors and bank are minimized as much as possible while accepting the existence of the risk intrinsic to banking.

Mike T: The trigger for the 2008 crisis was an investment bank (Lehman Brothers) and an insurance company (AIG), not depository institutions. At some point that autumn the Fed permitted investment banks to all convert to commercial banks, so that they could access the discount window. This was dubious but probably necessary, given the panicked circumstances.

As for the FDIC, since it's backed by the US Treasury and the Fed, which can print new money, there's much reason for concern about it assets.

Zippy:

Under the modern usurious mindset, people think they are entitled to hold onto wealth and have someone else take responsibility for maintaining buying power, without any effort or incurred risk. If they lose buying power then by God someone is to blame: the thought that it is their own responsibility to preserve their own wealth never even crosses their minds.

Indeed. And this mindset is magnified enormously in the wild search for yield that dominates securities markets. On the institutional side demand for capital returns, unchecked by the reality that capital cannot be simultaneously lent out and preserved in possession and appreciation, produces huge concupiscence in the sellers. They are consistently under pressure to pretend their risky assets are actually quite safe, to pretend that investors in their funds can have their cake and eat it too. The huckster mindset of financial charlatanry gains a more solid foothold under usurious conditions.

Mike T: The trigger for the 2008 crisis was an investment bank (Lehman Brothers) and an insurance company (AIG), not depository institutions. At some point that autumn the Fed permitted investment banks to all convert to commercial banks, so that they could access the discount window. This was dubious but probably necessary, given the panicked circumstances.

So what on Earth is the reason to allow an investment bank like Lehman Brothers to have access to federal money instead of going bankrupt and liquidating assets?

An ironic question, given that Paulson and Bernanke did adopt a policy of official indifference to Lehman's implosion; and the immediate, disastrous and shocking consequences of that decision insured that nothing like it will happen again any time soon.

I know Lehman did not get federal money (should have worded it more clearly). Still, your response doesn't answer the question. What function did they serve that was so vital to the economy as to justify any intervention? Why should any investment banks, AIG, etc. get to line up at the federal trough?

Hell, Harley Davidson and Verizon ended up accessing the Fed's liquidity facilities. General Electric was a major participant. These are industrial companies, not banks (although GE's finance unit got so big that it almost became a big shadow bank with an auxiliary industrial arm).

Therein lies your answer, Mike: the panic induced by the collapse after Lehman's bankruptcy blew holes in the finances of almost all market participants. A precipitous collapse in all financial assets is the very definition of the conditions necessary for the Fed to act as lender of last resort. No one likes it, but that's why you have a lender of last resort.

Mike T:

What function did they serve that was so vital to the economy as to justify any intervention?

This is way OT, but the answer (already given many times at the time) was liquidity for corporations, not individuals. No liquidity for corporations, no paychecks for anyone on Main Street. Harley Davidson (as one example among thousands) was within days of not being able to pay employees, despite very healthy financials, because it could not withdraw its own "money" from the corporate "bank". 2008 was a corporate bank run, not a consumer bank run. The threat was not that people could not get at their savings: it was that they wouldn't get their paychecks.

A little something more on-topic:

When in the sacred tribunal of penance you have heard all that your penitents have prepared themselves to confess of their sins, do not at once think that all is done, and that you have no further duty to discharge. You must go on further to inquire, and by means of questions to rake out the faults which ought to be known and to be remedied, but which escape the penitents themselves on account of their ignorance. Ask them what profits they make, how, and whence? What is the system that they follow in barter, in loans, and in the whole matter of security for contracts [a.k.a. "recourse" -- Z] ? You will generally find that everything is defiled with usurious contracts, and that those very persons have got together the greater part of their money by sheer rapine, who nevertheless asserted themselves so confidently to be pure from all contagion of unjust gain; having as they said, the true testimony of a conscience that reprehends them in nothing. Indeed, some persons consciences have become so hardened that they have either no sense at all, or very little sense, of the presence of even vast heaps of robberies which they have gathered into their bosom. - St Francis Xavier

Fractional reserve banking, as Tony has already noted, is built upon lie and fraud.
So it is intrinsic evil.
What you call usury crisis, I call it crisis of fiat money and fractional banking.
It is simply blame-shifting to ignore the lie built into the foundation of fiat money and talk of usury alone.

2008 was a corporate bank run, not a consumer bank run.

Oddly enough, this actually snaps a lot of it together for me. Hitherto, I hadn't seen any good explanations other than investment banks being kinda somehow tied to consumer lending institutions. I assumed the threat was due principally to the investment arm imposing catastrophic liabilities on the entire corporate structure which included most consumer lending institutions. In some cases, that might even be true to an extent, but if the investment banks were the primary institutions corporations used, that would explain why all of the stocks, bonds and other financial products went to Hell in 2008.

Fractional reserve banking, as Tony has already noted, is built upon lie and fraud.

As I understand it, the way fractional reserve banking works is that a bank may issue a $100k loan from a $1k deposit. The bank doesn't actually have the other $99k in assets to actually give over to the borrow. So when the borrower buys a piece of property with that $100k note it has the same legal buying power as Federal Reserve-issued notes. In fact, it's denominated in USD and has all of the appearance of USD for the purpose of the transaction. Yet the lending institution only has $1k in USD capital backing it which means that there is at least a strong element of legally sanctioned counterfeiting of currency in the transaction.

Now Zippy and Paul can and should correct me if my understanding of the mechanics are completely wrong here, but from everything I've read our system at least allows banks to more or less just whip up fake US currency on demand. If that be the case, it takes the issues with fiat currency and runs with them far beyond what is intrinsic to fiat currency. Fractional reserve banking made more sense to the average person pre-1913 because the notes issued by banks were understood to be only as good as the asset base and reputation of the bank whereas today, I don't think that information could even be obtained by federal investigators with real certainty.

Fractional reserve banking, as Tony has already noted, is built upon lie and fraud.

For the record, I make distinctions that Bedarz does not:

Depends on what you mean by "fractional reserve banking." Paul, I referred to bank notes in their origins. There, I stand by the question. I accept that later banking may be different in critical details.

I do not hold that fiat money is intrinsically wrong. Whether it is prudent, though, is another story. And I do not hold that fractional reserve banking, as such, must be built on lies. I would prefer that concrete instances of it were built on sound principles, which I don't think normally is the case.

Mike T: in a rough-and-ready sense, it is fair to say that banks create money. But remember, as Zippy and I have explained repeatedly, they can undertake this business only because many, many people (depositors) believe in the business enough to invest in it. No bank anywhere could ever operate if folks declined to lend their own money to it.

Keep in mind also that most transactions are purely electronic these days. The last time I was paid direct cash for regular labor was almost 20 years ago when I mowed lawns in Denver, Colorado, as a knucklehead highschooler. I bought a coffee this morning with a $20 bill that I believe I withdrew in another state three weeks ago, and I'm not an exceptional frugal man. Even physical checks are declining in use. I wonder how many people under twenty-five know how to write a check.

Another key thing: in most cases, bank deposits come out of the income of customers. Their labor has been remunerated and those earnings (in excess of expenses) are deposited in a bank. Their labor is their main source of income. But they have only limited immediate use for what their labor earns. The want to put a portion of their regular income on reserve for later use, and they're looking for a business that can provide this service. So: The depositor's relationship with his banker is a business arrangement. The bank provides maturity transformation.

Quite often, the transaction by which income begins to be stored, in technical detail, goes from the employer's bank to the employee's bank directly. Bankers for each party are making secondary arrangements with the money. Then the money may immediately depart for a third party's bank: the employee's power company or cellphone provider, say. Physical currency is never involved.

Meanwhile, other people have immediate need for the money. Folks leave work and only need immediate use of a portion of their income, while the contractor on a job needs it now to purchase materials, equipment, and labor. Or the larger company needs it now to issue payroll checks. Etc.

This is all maturity transformation. Banks are managing the demand horizons of their customers. Demand for what? Money.

Now hear this: There is nothing inherently more valuable, sub specie aeternitatis, in a $20 gold coin, a $20 bill, a check endorsed for $20, or an electronic transaction for $20. They are all upheld in their value by social convention: trust and business interest, chiefly.

Because these things can break down, however, banking is inherently risky. That's why it's a business. And that is why we permit those who undertake it to try their hand at earning a profit. And that is also why those who start the process -- everyday income-earners who contract to store their money -- are a party to the business of the bankers managing the money. They may not realize this, but it's true.

In fact, an aspect of the usurious mindset is manifest precisely in the unwillingness to know what's going on, to operate though the mere fact that I have earned more income than I immediately need, entitles me to the present use of whatever I need, plus the appreciable use later. The fact that so many believe their excess earnings should be preserved indefinitely for them, at all times responsive to their immediate demands but still holding its absolute value, illustrates how deep we are in this muck.

Begin your reformation by realizing always that there is no guarantee of preservation of anything you attempt to store, except those treasures which you store up in heaven. To think that your earnings in excess of expenditures are owed to you, preserved pristinely in perpetuity, and at your immediate beck and call, is to think quite wrongly about money. And wrongly about justice between commercially transacting financial actors.

Maturity transformation is a imposing term (I know it was for me when I first encountered it). But it fits right with what I've also said several times: At back of all this lies the great human project of financial integration between generations. It's about how we deploy and dispose of, across living generations of men, the wealth our creative work has generated from the natural resources of the earth. We're all enormous and reckless consumers of that wealth for some 15-20 years of our lives. No method has yet been devised to make a baby or even a toddler a producer of wealth. Most children cannot contribute even the most rudimentary meaningful labor to the family before they are four or five.

On the other hand, as adults age they tend to acquire skills, connections, knowledge, wisdom, expertise, by which to augment their labor and make it increasingly fruitful. After their children are grown, they normally still have many productive years left. They desire to make their excess income useful, by partnering in the enterprises of the young. Some part of this is indeed fully in line with Christian charitas; some part of it is more interested, because investors think the particular enterprises of the young in which they have invested, will bring them great gain. In any case, it comes back to this social partnership by which we humans undertake the financial integration of generations.

Finally, consider the language Burke uses in his famous rebuke to the "social contract" theorists like Rousseau:

Society is indeed a contract . . . It is a partnership in all science; a partnership in all art; a partnership in every virtue, and in all perfection. As the ends of such a partnership cannot be obtained in many generations, it becomes a partnership not only between those who are living, but between those who are living, those who are dead, and those who are to be born. Each contract of each particular state is but a clause in the great primæval contract of eternal society, linking the lower with the higher natures, connecting the visible and invisible world, according to a fixed compact sanctioned by the inviolable oath which holds all physical and all moral natures, each in their appointed place.
Mike T: in a rough-and-ready sense, it is fair to say that banks create money. But remember, as Zippy and I have explained repeatedly, they can undertake this business only because many, many people (depositors) believe in the business enough to invest in it. No bank anywhere could ever operate if folks declined to lend their own money to it.

Belief in the banks as businesses doesn't change the fact that what they do is legally sanctioned counterfeiting. Where bank notes in the past weren't perfectly fungible in daily use with officially minted currency, "bank money" today is fungible with any form of currency that originates in federal institutions. $100k in federal reserve notes will spend identically to a $100k cashier's check from a private bank today. That has policy implications.

Paul, in all of that comment I didn't see you clearly addressing what Mike T. said about issuing a 100K loan based upon 1K of deposits. Did I just miss something? Or was this just a "yes"? "in a rough-and-ready sense, it is fair to say that banks create money."

And if so, how, precisely, did all of the remaining comment actually amount to, "That's no problem"? (The portions concerning the fact that we now use electronic currency more than physical currency seem to me fairly irrelevant.)

Mike T:

Yet the lending institution only has $1k in USD capital backing it which means that there is at least a strong element of legally sanctioned counterfeiting of currency in the transaction.

That is not really true, or more accurately it "isn't even wrong", because capital (actual property itself, various claims to actual property, and actual sovereign currency) and credit are not really the same thing at all. Modern economists like to treat credit and currency as if they were the same thing ("money"), but they aren't. When banks issue credit that credit is backed up by the balance sheet of the bank, which includes not only its cash reserves but all of its property interests. It is further backed by the assets into which the credit is invested. The only time it becomes "unreal" is in cases of usury, because the "assets into which credit is invested" don't exist in a mutuum loan.

Let me illustrate the difference between currency and credit (economists tend to treat both as "money"*) with a question.

Would you rather have a credit line for $50K, or $50K in cash?

* As I've said, I'm a finance guy and decidedly not an economist. The difference between finance and economics is like the difference between farming and meteorology.

When banks issue credit that credit is backed up by the balance sheet of the bank, which includes not only its cash reserves but all of its property interests. It is further backed by the assets into which the credit is invested. The only time it becomes "unreal" is in cases of usury, because the "assets into which credit is invested" don't exist in a mutuum loan.

I can see that. If usury were categorically stamped out, the only real delta that would exist between issued credit and asset reserves for the bank would be ordinary market value fluctuations.

Would you rather have a credit line for $50K, or $50K in cash?

From the perspective of the person *from whom I buy something with the credit*, the two are identical. For example, suppose I use the 50K to buy a house. (I know, a cheap house, but it's just an example.) The seller of the house actually gets that 50K credited to his bank account. (Or, if we're going to quibble, he gets part of it credited to his bank account, and the closing attorney gets part of it credited to his bank account, etc.) For the seller, once the money is credited, it makes no difference that it was borrowed by the buyer. The seller can spend it just like any other money. He can probably even get it as cash from his own bank, if he wants to.

So, the borrower is now supposed to pay that money back; that's true. So it isn't as good _for him_ to have gotten a 50K loan as to have gotten a 50K line of cash. But from the perspective of how much money is deemed to be circulating in the economy, that money has really been created in the sense that it's now floating around out there in various people's bank accounts when it was not regarded as part of the supply of money floating around out there for other people to spend previously.

Lydia and Mike: Banks do create money from a depository base, but they do not counterfeit currency. Saying what they do is "legally sanctioned counterfeiting" means it's not counterfeiting.

Nor, in my opinion, is it inherently problematic.

Mike T: in a rough-and-ready sense, it is fair to say that banks create money.
Yet the lending institution only has $1k in USD capital backing it which means that there is at least a strong element of legally sanctioned counterfeiting of currency in the transaction.

I would avoid the term "counterfeiting." The banks are not producing specie in any direct sense. But it remains that there is an element of truth here.

There's this report from Iceland: Iceland looks at ending boom and bust with radical money plan. The government is thinking about taking away the capacity of commercial banks to create money (not currency) through lending.

I am all for the ongoing creation of money. The economy itself grows as people generate new wealth that never existed before. New money needs to be available to reflect that new wealth. And I don't think that it inherently MUST be only one specific party that does it (government, central bank, commercial banks, other parties). But the rate of creation of new wealth through offering credit in fractional reserve banking is completely driven by the reserve rate, (running today at something like 3% I have read), whereas this has almost nothing to do with the rate of creation of new wealth. In addition, there is effectively no near and close connection between the activity of wealth creation and the credit generation of new money. There is often SOME connection, if a producer borrows in order to produce more, but (a) not all producers will borrow to do it (that's what offering stock is for, instead), and (b) much of the credit borrowing has nothing to do with generating new wealth.

Lydia:

So, the borrower is now supposed to pay that money back; that's true.

If it is a non-recourse (non-usurious) loan, no capital has been conjured out of nothing: it is by definition tied up in actual property in which its claims terminate: it isn't a mere commitment on the part of a mutuum borrower to conjure new capital from somewhere, anywhere, to pay back the loan. It isn't strictly true, in a non-usurious contract, that "the borrower is now supposed to pay the money back" (though if done properly the borrower will have a strong incentive to do so). The borrower does have to make payments in order to keep possession of the actual property, but no faux-capital has been conjured into existence out of nothing.

The conjuring of faux capital out of nothing, again, occurs whenever mutuum loans are made for commercial gain: under conditions of usury. A promise to pay back a mutuum loan is not property, that is, real capital. Unsecured commitments are not real capital, by definition.

And again, the reason BI's kind of populist conservatism has a freakout over fiat money and fractional reserve banking (as presently practiced) is because of their own usurious mindset: they think there is just title to gain (preservation of capital is a kind of gain too, since all actual property requires constant tending in order to maintain its buying power) without the risks inherent in having their investment (deposits) tied up in actual property and fully terminating in that property.

If it is a non-recourse (non-usurious) loan, no capital has been conjured out of nothing:

I'm not really freaking out myself, just trying to be clear. Even supposing the loan to be non-recourse, I don't see quite how that makes a difference to the point concerning fractional reserve banking and exponential increase in money supply by the very act of lending. Suppose that the loan is fully non-recourse. And suppose we simplify it way, way down to a miniaturized system (a "toy case," as it's sometimes called): The bank has $1 in deposits. Then it gives credit to someone for $10 to buy an item with, and this loan is fully non-recourse. There is collateral put up for the value of that $10, and the bank can't take anything beyond the collateral. This is all set in stone. The seller of the item that the borrower wants to purchase (whatever that item may be) gets $10 in cash in return for his item; he can spend that money as he pleases. There is now $9 in the money supply of the economy that literally wasn't there before. The money isn't really tied up in the collateral. The collateral is sitting around somewhere in case the borrower defaults, but the collateral itself isn't part of the money supply. Nor is the item purchased (if that is different from the collateral) part of the money supply. The $10 in the pocket of the seller, however, *is* part of the money supply in the economy and is now being freely spent. (The item purchased needn't be the collateral for the loan, though it might be. That doesn't matter to your definition of a non-recourse loan as I understand it, so I'm not stipulating on that one way or the other.)

Lydia:
Your "toy case" ignores the rest of the bank's balance sheet, which is what makes it credibly able to extend credit in the first place.

As I understand it (and I am certainly open to being corrected on this) the rest of the bank's balance sheet includes both assets that are counted as money (part of the money supply) and assets that are not. And the lending can greatly exceed (even by an order of magnitude or more) the portion of the bank's balance sheet that is part of the money supply. Hence, it still (as I understand it) happens in fractional reserve banking that the money supply itself within an economy, denominated in the currency of that economy, is increased by the act of lending.

Lydia:

As I understand it (and I am certainly open to being corrected on this) the rest of the bank's balance sheet includes both assets that are counted as money (part of the money supply) and assets that are not. And the lending can greatly exceed (even by an order of magnitude or more) the portion of the bank's balance sheet that is part of the money supply.

Sure, when both currency and credit are equivocally labeled "money". But again, when usurious contracts are not in play, who cares?

Suppose the Bank of Bob has a balance sheet with a million dollars in assets of varying liquidity. Some of those assets can be sold within an hour, some within a day, some within a week, some within a month, and some are perhaps less liquid still; but (suppose that) none of the assets in question are either currency or credit, so they don't count as "money".

BoB also has $10K in actual currency (the "reserves" in fractional reserve banking). This is "money", since we use the term equivocally to refer to both currency (an asset) and credit (not an asset); but "money" specifically does not refer to the other assets on BoB'S balance sheet.

BoB extends non-usurious credit to Fred for $100K to buy construction equipment using non recourse loans, where Fred has to make a substantial down payment on each purchase. This extension of credit by BoB to Fred "increases the money supply" by $100K when the label "money" is used to refer indiscriminately to both currency and credit -- but again, who cares? Where is the problem?

Fred buys a backhoe with some of his own currency as down payment (because his credit line is non recourse, so he has to make a down payment on every purchase) and by writing a BoB check against his credit line to the backhoe supplier for the remaining balance. The backhoe supplier (who would not have accepted the check in the first place if BoB did not have a strong balance sheet and a good reputation) brings the check to BoB, and BoB gives the supplier currency in the amount of the check. This decreases the "money" supply, because Fred has now used up part of his credit line. BoB has to make sure it retains enough currency on hand to cash any checks, and manages cash by sometimes selling some of its more liquid assets when it has to (it may also use cash earned from ongoing operations). Because the loan to Fred is non recourse, BoB now adds its property interest in the backhoe to its balance sheet, and Fred continues to retain access to the remainder of the credit line.

But BoB hasn't "created money out of nothing". It has created "money" (because the term refers to both currency and credit equivocally) by using its property to stake Fred's venture.

The place in our economy where faux assets are created out of nothing is in mutuum lending for gain: usury. Non-usurious fractional reserve banking does not involve the creation of faux assets. Using the label "money" to refer to both currency (an asset) and credit (not an asset) may be helpful to weather forecasters, I mean economists: but as a financial matter, treating them as the same kind of thing is unsound.

(Note: I've attempted to write this to be maximally understandable: thus the simplification of Fred's use of the credit line to a down payment on every purchase, to make concepts explicit. That was an editorial choice: the requirement is that the credit line be non recourse in general however it is structured, not that it must follow the specific down-payment-per-transaction structure in the example).

What if one backhoe costs the whole 100K and more (the "more" being an amount Fred is able to come up with himself from his own currency and pay as a down payment), and the backhoe seller wants to be paid in currency? The backhoe seller, for some strange reason, refuses to accept a check. Where does BoB get the 100K in currency to loan to Fred for Fred to use to buy the backhoe?

Where does BoB get the 100K in currency to loan to Fred for Fred to use to buy the backhoe?

From liquidating assets on its balance sheet, or bringing on new investors (e.g. depositors), or through any number of other ways that an operating business can raise cash: even by borrowing against the assets it already owns if for whatever reason it does not want to liquidate any of its current assets.

Remember, the thing that is supposed to be all fraudulent (even though everyone has known it for generations) about fractional reserve banking is the reserve ratio vs deposits: the fact that the bank holds less actual currency-on-hand than the sum total of all possible withdrawal requests, assuming that all of those requests came in simultaneously.

Of course in order to generate interest for depositors, the bank has to do that. Stored currency is in fact entirely infertile; worse, it cannot even be preserved and protected without cost. Even the most durable property incurs inherent cost just to maintain and protect it. That's why the "Cash and Cash Equivalents" line on corporate balance sheets is almost never currency, to any significant degree: rather, it is productive assets which can be converted to currency quickly and reliably under normal conditions - that is, highly liquid productive assets.

The lending/credit side of a bank is really the "operating business" of the bank: the non-currency assets which make producing an operating profit possible. It is on this side that banks are said to "create money" -- which is truthy enough as long as we ignore the fact that credit, although not an asset at all, is labeled, along with actual currency, as "money".

But even an idiot knows that having a credit card with a $50k limit is not an asset in the way that $50k of cash that you actually own is an asset.

A bank's job is to square the circle of providing cash on demand to depositors and borrowers, while at the same time keeping the asset base productive enough to produce investment returns for depositors. If the bank was literally there to keep depositors' money safe then depositors would have to pay: they would not receive interest. As Paul suggested, banks actually do provide that service for people willing to pay for it, in the form of safe deposit boxes

Lydia, one of the methods by which large industrial and commercial enterprises raise regular money is a security called commercial paper -- short-term debt sold (with the assistance of large banks) to anyone in the market for them, usually investment, money market and pension funds. CFOs use CP all the time for payroll, utilities, rent, etc. It trades on highly liquid markets and at the top end functions as a key part of the structure of investment funds of all kinds, just below government securities in anchoring the safe end of investments.

Right after Lehman Brothers was sent to the guillotine in 2008, CP trading began to freeze up, producing the real risk that normal operations in perfectly sound enterprises would grind to a halt for want of this regular source of financing. This was one of the points of pressure that induced the huge reversal in policy leading up to the TARP. In other words it was the indication of a kind of catastrophic capital-market bank run that, in the judgment of policymakers, no Treasury Secretary or Federal Reserve Chairman could, in accordance with "lender of last resort" principle, fail to act decisively to stem.

My _impression_ (but again, I'm open to correction) has been that the money supply is increased by bank loans in a way that is _not_ canceled out when Fred (in the scenario) uses up part of his line of credit. This, as I have understood it, is because of a different part of the whole fractional reserve thing than the reserve-to-deposit ratio. It's because of the reserve-to-credit ratio. Once the bank gives Fred the line of credit and he uses it, that money is literally newly out there, being spent. The backhoe company has that money. It made its profit on selling the backhoe. It can spend that money however it desires, and that money now circulates through the rest of the economy. And as I understand it (again, subject to correction), the bank does _not_ have to liquidate other assets or bring on other investors or even, officially, borrow the additional money (above its previous reserves) that eventually goes out to the backhoe company and circulates throughout the rest of the economy. It is just "deemed" to have this additional money to lend on the basis of a kind of generic trust in the bank, which indeed might be based _broadly_ on the rest of the bank's balance sheet and what-not, but which is only connected with it in that loose sense. Not, that is, in the sense that the bank actually sells any assets in order to have the money to loan to Fred for Fred to buy the backhoe. It is in this sense that it seems that money--actual money, not just credit treated as money--is permitted to be created ex nihilo in the course of the transaction and pumped into the economy at large, never to be put back into the bottle.

Now, I may be wrong about this. Perhaps the bank actually does have to borrow the money from elsewhere in order to lend the money. But my impression had been that that was the whole point of the bank's being permitted to loan out x times more than its actual holdings.

And again, I have the impression that economists equivocate on terms like "the money supply" in ways that would send a CFO to jail. This stems in no small part, in terms of culture and mind set, from the anti-realism which underlies usury.

Well, if we were talking about an individual, as far as I know it would be literally impossible for him to loan money, even as pixels transferred from his bank account to someone else's, if he didn't actually have those pixels in his account to begin with. I mean, if it were really _just_ Bob, and not the bank of Bob, it wouldn't matter how many houses and lands Bob owns, he could only loan _money_ to Fred to buy something with--be it a house, a backhoe, or apples--if he actually had gotten that money from somewhere else. So if he didn't have it on hand as money and wanted to loan it to Fred, he himself would have to either borrow it or sell some of his assets. Then the money Bob raised _from_ somewhere else would pass from Bob through Fred and onward to the account of the seller of whatever Fred wished to buy, in which case no one would even allege that Bob had created money out of nowhere. Whereas, if I'm right about this, banks qua banks are somehow treated differently on precisely that score. Which is actually a different matter from their being allowed to loan out their deposits rather than keeping them in storage. I follow all of that. But it would be possible (as it would be with an individual) for one to loan out _no more than_ the cash or account deposits one actually has on hand, rather than _many times as much_ as what one actually has.

Lydia:

It's because of the reserve-to-credit ratio.

But the reserve-to-credit ratio suffers from the same irrelevancies in this discussion as the reserve-to-deposits ratio. A business (or wealthy individual, for that matter) has to have enough liquidity to be able to come up with currency when needed to settle particular transactions. How much cash is reasonably needed on hand is entirely different from maximum possible theoretical requirement for cash at any given moment.

Call the difference between actual cash on hand and theoretical maximum possible demand for cash - in a dynamic economy - an 'increase in the money supply' if you like, ignoring the non-"money" parts of the balance sheet. But it is not an increase in actual currency or real assets, as long as there are no usurious contracts which pretend to create assets out of unsecured commitments.

Lydia:

Well, if we were talking about an individual, as far as I know it would be literally impossible for him to loan money, even as pixels transferred from his bank account to someone else's, if he didn't actually have those pixels in his account to begin with.

Again, distinctions which are not being made matter. Individuals can cosign on a line of credit - more informally, I can call the store owner and say "yeah, give Bob what he wants, he's good for it and I'll stake my car title to make sure he's covered when the net 30 bill comes due" - thereby 'creating money out of nothing' in the same way that corporations and banks do.

A business (or wealthy individual, for that matter) has to have enough liquidity to be able to come up with currency when needed to settle particular transactions.

Hmm, this doesn't make sense to me in terms of how (I think) actual transactions with borrowed money from a bank take place in a fractional reserve system. As far as I know, what appears in the account of the backhoe seller at the end of the transaction is *actual assets*. There is no distinction preserved in the account of the seller between what he received for his goods from money that a buyer borrowed from a bank and money that he received from a buyer who had the cash on hand. It is real assets by the time the deal is over. The seller of the item himself could then choose to change those assets into anything he pleased--real estate or gold or toenail clippers.

In this sense, _all_ borrowed money that is spent (and why else does the borrower borrow it?) is going to turn up in the account of the seller as real assets. Just how liquid it is at that point depends, at most, upon the policies of the _seller's_ bank in which he has the account and how much _they_ are willing and able to give out to him as immediate cash. It doesn't depend anymore _at all_ upon the liquidity of the _lending_ bank. Once the seller gets his payment, the lending bank is out of the picture, and he has his pixels in his bank account. Yet the problem is that it doesn't have to be, from the lending bank, fluid assets to begin with. It's just conjured out of nowhere. (At least, I think this is correct.) Which even a very wealthy individual could not do.

Individuals can cosign on a line of credit - more informally, I can call the store owner and say "yeah, give Bob what he wants, he's good for it and I'll stake my car title to make sure he's covered when the net 30 bill comes due" - thereby 'creating money out of nothing' in the same way that corporations and banks do.

Well, I could be wrong, but I don't _think_ this is working in the same way that a lending bank does. Because in the case of a lending bank, the seller literally doesn't even have to _think_ about your good faith or your solidity anymore once the sale is complete. There is no later "when the net 30 bill comes due." When Bob borrows money from a bank to buy something, the _seller_ isn't being asked to extend credit to Bob. The seller gets paid at the point of sale or the house closing. He's done. At that point, it's all between Bob and the lender. The seller just has money in the bank instead of his house or his merchandise, just as if Bob had had the money on hand.

Lydia:

Because in the case of a lending bank, the seller literally doesn't even have to _think_ about your good faith or your solidity anymore once the sale is complete.

If the buyer paid with currency, the transaction is fully cleared. If the buyer paid with a check, that check has to clear; and that check clearing depends upon the balance sheet of whomever wrote it. If it is a cashier's check issued by a bank, it will clear or not based on the bank's capacity to provide currency when the check is cashed.

Banks do not create sovereign currency. Banks make contractual commitments to deliver sovereign currency on demand to the extent of their balance sheets. These commitments can themselves (like any fungible contract) circulate like a currency; but they aren't the same thing as cash. Depository accounts are not the same thing as cash. Just as stock certificates are a non-cash contractual claim to a slot in the cap table of an institution, against its balance sheet, depository accounts are also a non-cash contractual claim against the balance sheet of an institution.

Now it is certainly possible for institutions to become overly leveraged, It is also possible for the sky to fall. But none of that is evidence of the per se immorality of fractional reserve banking in the absence of usurious contracts.

I believe that in a mortgage purchase of a house the funds are provided by wire transfer from the lending bank to the bank of the seller. A wire transfer, as far as I know, acts exactly like putting assets into the bank of the seller. Once the funds are wire transferred, the closing transaction is completed, and the seller has actual assets. (That is also when title is transferred to the buyer, with the lending bank having a collateral interest in the property.) The extent to which these assets are or are not sovereign currency depends only upon the seller's _own_ bank's future ability to deliver currency on demand, not anymore upon the lending bank's ability. The funds have already been delivered (by wire) to his bank. A number of pieces I have read (not by goldbugs or even those who disapprove of the practice) strongly imply, however, that those funds did not _come from_ anywhere, even though they are undeniably real (to the extent that the seller's own bank is able to meet _its_ depositor's demands) when all is said and done. If indeed this is correct, and the lending bank did not actually have to "get" the funds that ultimately turn up (quite real) in the seller's account _from_ anywhere but created them in a merely notional fashion by bookkeeping on their own end (creating a claimed "new balancing deposit" to match the newly created loan), it does really appear that the bank is creating sovereign currency by creating a claim to sovereign currency that, in the final analysis, lies only between the seller and his own bank. See this Forbes article, for example:

http://www.forbes.com/sites/francescoppola/2014/01/21/banks-dont-lend-out-reserves/

Lydia:

A number of pieces I have read (not by goldbugs or even those who disapprove of the practice) strongly imply, however, that those funds did not _come from_ anywhere, even though they are undeniably real (to the extent that the seller's own bank is able to meet _its_ depositor's demands) when all is said and done.

That, again, is because of economists' sloppy failure to make distinctions -- the kind of failure that would land a CFO in jail, and which ought to make an analytic philosopher cringe.

Bank deposits are (as I have said many times) not sovereign currency: they are a contract, a kind of option, secured by the bank's balance sheet (the total of all property in which it has claims). As a depositor you have the option to go to the teller and demand cash in the nominal amount of your deposit account. This option is limited by and to the actual balance of property in which the bank holds claims -- its balance sheet. And it is never the case in ordinary circumstances that everyone holding these options attempts to exercise them all at once: a bank run is what happens when depositors lose faith in the capacity of the balance sheet of the bank to produce enough currency on demand.

Options (like stock, bonds, and other securities) can be bought and sold themselves, and can be created by the company against whose balance sheet the option asserts claims. In Silicon Valley in the 1990's (I'm not sure about now) it was commonplace for startup companies to create stock options and use them to (at least partially) pay for building rent. Startups often pay for things with options or other securities representing claims against their balance sheet / cap table as opposed to cash. I've paid for things like the services of a PR firm that way myself as CEO of a startup, which turned out to be a far better deal for the PR firm than just paying their regular fees denominated in cash.

Options are not created 'out of nothing', although they are created by the owners of the institution: they are contractual claims against the assets of the institution which issues them. (It is worth noting that any such issuance dilutes the equity of current owners).

Now it is certainly common enough for transactions in these options to complete without anyone ever actually going to one of the backing institutions and demanding cash: without the option being exercised. It is also not unheard of for someone to trade stock options for a house. At the end of the transaction the seller, as agreed, is given options not sovereign currency. That is what happens when "money" is wired from one deposit account to another: options are exchanged, not sovereign currency.

But the idea that an institution can merely 'deem' sovereign currency into existence is confused and wrong. The thing that institutions can issue on their own authority is claims against their own property, that is, their balance sheets. And conflating options against the balance sheet of a bank (deposits) with sovereign currency, putting them both under the heading of "money", leads people to believe all sorts of lunatic things -- like the idea that banks can just up and 'deem' themselves to have more property claims than they actually have; or that they can magically conjure funds from central banks without impairing their own balance sheets through non recourse notes, outright sale of property, or other contracts which represent claims agains property the bank actually has; etc etc.

Again, the source of faux property in our economies is not fractional reserve banking. It is usury, and perhaps some other things besides, but definitely not fractional reserve banking per se in the absence of usurious contracts.

I wrote:

(It is worth noting that any such issuance dilutes the equity of current owners).

It may be further worth noting that even this isn't really true, as long as the institution gets something in return for the options it issues. But if an institution were to arbitrarily issue options (including the options called "deposits" and included in economists' measures of "money") for no reason whatsoever, receiving nothing in exchange, that would amount to a "give away" of common equity.

At the end of the transaction the seller, as agreed, is given options not sovereign currency. That is what happens when "money" is wired from one deposit account to another: options are exchanged, not sovereign currency.

But I'm pretty certain it switches at that point from being an "option" on Bank A (the lending institution) to being an "option" on Bank B (the seller's institution, to which he told the buyer's lending institution to "wire the funds"). It doesn't remain tagged as an "option" on the lending bank. I think if one really thought of it as an option, it would need to be traceable back in case of a claim to the lending bank. But that is not true. It turns into a deposit account (or a portion of a deposit account) held "in" Bank B, which is an option to go to the teller at Bank B and ask for currency. If the account holder at Bank B does that, Bank B isn't at that point going to go back to Bank A and ask for the currency to give him! Bank A is out of the picture. That would not seem to be how "trading using options" would work. If I pay for something by giving the person I want to pay a stock option, it remains a stock option in the company in question. If he wants to turn it into some other kind of property, he has to deal with that company.

A further thought, hopefully bringing this back closer to on topic:

The reason people think of banks as 'creating money from nothing' is because of the 'pay no attention to the assets behind the loan' mentality of usury. The usurer - the full recourse lender - doesn't care how the proceeds of the loan are spent, he just cares that the borrower pays it back with interest. The non recourse lender is financially vested in where the loan proceeds go (even if indirectly into property as security), not in the borrower himself.

So in the typical presentation, a bank 'creates money from nothing' by making a 'deposit' entry on its liabilities and a corresponding 'loan' entry on its assets. But this is only 'creation of money from nothing' if the option (contractual claim against the bank's balance sheet) is worthless and the loan in itself is an asset: as if the mere fact of making a loan at all, any loan, produced a piece of property -- an asset.

What is ignored in this presentation in the absence of usury (that is, when the loan is non recourse) is that on the 'deposit' side, the bank is issuing an option against its actual assets which does impair those actual assets; while on the non recourse 'loan' side the bank is purchasing a claim against some actual property with that option.

The mentality behind the myth of banks 'creating money out of nothing' in fractional reserve banking is connected to the usurious mindset. Absent usury, there is no 'creation of something out of nothing' in fractional reserve banking. (That doesn't of course mean that banks cannot become over-leveraged, that no other stupid things are going on, etc).

Lydia:

It doesn't remain tagged as an "option" on the lending bank.

This isn't magic. The transacting intermediaries also have to settle accounts with each other.

As repeatedly point out, my kind of populist conservatism freaks about by the aggrandizement of the federal govt that is implied in fiat money.
I am not as worried by banks counterfeiting money as I am by State counterfeiting it.

And what is with deliberate confusion of "depositors" and "investors"?
Bank deposits are no kind of investment.

BI -- it was a lot more clear to everyone before the appearance of deposit insurance. But even with the insurance, your deposits are, strictly speaking, loans to the bank.

BI:

As repeatedly point out, my kind of populist conservatism freaks about by the aggrandizement of the federal govt that is implied in fiat money.
I am not as worried by banks counterfeiting money as I am by State counterfeiting it.

As anyone who has managed to follow along in the discussion may be able to see, or at least start to see, fully electronic transactions which use bank deposits (a kind of option) as currency - and wherein those options are never actually exercised to demand the sovereign currency which they promise to deliver on demand by tapping the balance sheet of the bank - aren't actually completed in fiat money, although dollars still provide a kind of relative measure. Electronic transactions are done in options against the balance sheets (property holdings) of commercial banks. In effect, what backs electronic "money" is not (say) gold or silver stored in a government vault or, as in the case of fiat money, the government's commitment to accept it to settle tax liabilities: electronic money is backed by the various titles to various kinds of actual property held by commercial banks.

The kind of options we call "deposits" (and which economists include in the "money supply") have a value which closely tracks the value of the dollar (that is, actual sovereign currency), because they can be exercised at any time (during banking hours) without cost to demand ("withdraw") an equivalent quantity of sovereign currency. But they are not themselves fiat money: the bank's capacity to produce sovereign currency on demand is powered by its balance sheet of real, productive property -- at least in the absence of usury -- which it can sell for sovereign currency when necessary to meet withdrawal demand.

As anyone who has managed to follow along in the discussion may be able to see, or at least start to see, fully electronic transactions which use bank deposits (a kind of option) as currency - and wherein those options are never actually exercised to demand the sovereign currency which they promise to deliver on demand by tapping the balance sheet of the bank - aren't actually completed in fiat money, although dollars still provide a kind of relative measure.

I understand that this is your position, Zippy, but I can't help wondering in that case why Bank 2 even accepts deposited "funds" (as you call them, "options") electronically from Bank 1 as if they were currency and converts them into "options" on itself--on Bank 2. After all, at that point Bank 2 is on the hook to produce these "funds" in the form of currency should the person to whose deposit account they have been credited choose to ask for them. Why would Bank 2 even do this? Are you saying that Bank 2 keeps a record of what other bank it got the "funds" from originally? Does this continue to be relevant down the line? "We hold an option on Bank 1 in virtue of which we credited funds to the account of Mr. Jones. Let's call that in now." Or is the idea that Bank 2 asks for something separately, something _other_ than the electronic funds transfer itself, from Bank 1 in order to induce it to convert the "option" on Bank 1 into an "option" on itself? If so, what could that be? Or is it really just that Bank 2 treats electronic deposits transferred from another bank as currency because of some vague "faith in the system as a whole"?

Lydia:

I understand that this is your position, Zippy, but I can't help wondering in that case why Bank 2 even accepts deposited "funds" (as you call them, "options") electronically from Bank 1 as if they were currency and converts them into "options" on itself--on Bank 2...

Because it is a bank. That is what they do, and is why people deposit their "money" there in the first place: so they can get to it on demand and transfer it where they want, while still earning interest or at least having it 'pay for its own upkeep' to keep it reasonably secure in as efficient a manner as possible.

A bank which refuses to transact with other banks for its customers will not remain in business very long, even if intermediary institutions are required. Commercial banks are themselves customers of the central bank and may (I don't really know, and it doesn't change anything essential one way or the other) transact with each other through central banks, although nothing stops them from transacting with each other as well AFAIK. I don't know the details on that -- they may be required to transact with other banks directly as a regulatory matter for all I know.

Suppose you electronically transfer the funds in your deposit account from bank 1 to a new account at bank 2.

In a 'toy' case involving just the two banks, at the close of the transaction bank 2 now holds -- in its own internal asset account -- an option exercisable for $X of currency against the whole balance sheet of 1 (a deposit account at 1 equivalent to the one you transferred -- in effect, the ownership of that option changed hands from you to bank 2), and issues a new option (deposit account) for $X on demand against its own whole balance sheet (which includes its new option against 1) to you. If bank 2 doesn't like bank 1 it can exercise the option right now for currency ("withdraw the money") and have it over with, or sell the deposit in 1 to someone else. Otherwise, it can just keep its own deposit account at 1, or add the new amount to an already existing interbank account.

In reality the 'behind the scenes' settlement can be significantly more complicated than the 'toy case', but that is the basic idea. If you aren't in the business of transacting on demand with other institutions for depositors, you aren't a commercial bank. If you don't like the counterparty you might have to convert to cash to get it done, but that is what you are there for as far as your depositors are concerned.

The bottom line though is that bank deposits are (in the absence of usurious loans) claims against actual property, not 'money out of nothing'.

The idea of a banker giving away something for free based on "faith in the system" is hysterical.

Paul Cella,

But even with the insurance, your deposits are, strictly speaking, loans to the bank.

True, but making a loan to the bank is not investment in the bank.
It does not justify Zippy's usage of depositors as investors in the bank that usuriously demand fixed returns.

BI:

True, but making a loan to the bank is not investment in the bank.

Of course it is. Anything that is exchanged in return for a liability on the bank's balance sheet is an investment in the bank. When you deposit cash, the bank takes title to that actual cash (can now do whatever it chooses to do with that particular cash) and issues a liability - a property claim against its balance sheet - in your name. What you have purchased with your cash is a claim against the bank's balance sheet: an option you can exchange at the teller window for cash on demand.

People purchase deposit accounts for all sorts of reasons - security, as a hedge against inflation/debasement, efficient use of capital, whatever - but just intransigently deny that they are a kind of investment is an ostrich maneuver, sadly typical of the populist conservatism that freaks out over fiat money and fractional reserve banking while ironically defending or at least utterly failing to understand usury. Usury is the main corruption, the swiss cheese of cancer on the balance sheets of banks which introduces unreality into our economy, and from which too many 'conservatives' are always distracted by their own incomprehension.

Someone who, in 2015, doesn't understand that when he makes a deposit he is making an investment in the bank probably ought to find a trustworthy relative to help change his diapers and look after his money.

typo: "... but to just intransigently deny..."

Thanks, Zippy, this has been educational. An interesting thing is (and I'm not saying this snarkily, because I'm now inclined to think you are right) that the ordinary joe cannot find the slightest trace of these interbank accounts or behind-the-scenes book-keeping whereby one bank holds a call on the first bank as the asset in virtue of which it creates a call on itself for funds for an account holder. The ordinary joe just sees a funds transfer from your account (be it created by your taking a loan or by the deposit of the contents of your piggy bank) to my account (because you bought something from me, are giving me money, or whatever). This is true whether the funds transfer is done electronically or by use of an old-fashioned check or even a cashier's check. There's no sign to the layman of the reason why the _bank_ accepts the funds. The layman naturally assumes that this is because the bank treats the funds "same as cash." But once one realizes that the funds transferred are _not_ "same as cash," then the question arises that we have been discussing--what does the receiving bank "get out of it" that causes the receiving bank to add funds to my account, which are (strictly speaking) a liability for that bank, since I could ask for the funds in cash? And even a champion googler can find it extremely difficult to turn up an answer to that question, as I can attest (having tried). Which just adds to the impression that this is "created money" which everyone just sorta agrees to treat as money.

Lydia:
I'm gratified that it has been helpful. I wouldn't expect Everyman to understand how things work "behind the scenes" between banks (though Everyman definitely should already know that his bank deposits are a commitment from the bank, not actual cash). But if it were possible to create "money" out of nothing, I'd be a trillionaire and the Little Sisters of the Poor would be the Little Sisters of the Rich.

"Money" is always backed by something. Sovereign currency is backed by the government's promise to accept it (and only it, for the most part) for settlement of tax liabilities and other debts arising from legal proceedings. Bank deposits are backed by the balance sheets of the banks. Much of the "assets" on the latter are claims against actual property, but a portion of them are claims against persons in the form of interest bearing mutuum loans - usury. It is only this last portion that is really - quite literally - nothing, that is, no thing.

It is, of course, possible to create money out of nothing in a fractional reserve banking system. In fact, that's what a fractional reserve system *is*. You deposit $1M in reserves at the fed today and you can loan $9M to your customers tomorrow. Where did the other $8M come from? It came out of thin air. Believe it or not there is an empirical study published on this question which seems to have settled it. The study was published in December of 2014 and can be found here:
http://www.sciencedirect.com/science/article/pii/S1057521914001070

Talk about profiting from something that does not exist!

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