The Price of Time

Title: The Price of Time – The Real Story of Interest

Author: Edward Chancellor

Publisher: Allen Lane, 2022 (First)

ISBN: 9780241569160

Pages: 398

 

There are many customs which were widely followed in ancient societies but have turned morally abhorrent in modern ones. Slavery is one such thing. On the other hand, lending money at interest was repugnant to the ethics of ancient societies but has found acceptance in modern societies. What we have done is to bring in a demarcation between lending at exorbitant rates as usury and normal financial transactions at a fair rate of interest. In fact, interest is a justifiable reward for a mutual exchange of services. The lender provides the use of his capital for a period of time, and time has value. A trader borrowing money for commerce is morally bound to share a part of the profit he had earned from the use of capital provided by someone else. Even if the enterprise ended in a loss, it is of no fault of the lender and he has to be still compensated. This is in a nutshell the logic for continuing with the practice of charging interest for the use of others’ money. The word ‘interest’ derives from Latin ‘interesso’, which is a legal term for compensation paid by a defaulting debtor. As world economies grew to ever larger proportions, the rate of interest turned into a crucial parameter that has the potential to affect the health of the economy. Central banks were then instituted to continuously monitor the market movements and to tweak the interest rates to steer them in specified directions. Just as a high rate of interest is detrimental to the growth of the economy, too low an interest rate also have grave consequences attached to it which are explained in great detail in this book. ‘The pitfalls of a low interest rate’ should at least have been a subtitle of this book. Edward Chancellor is a graduate in history who had made his career in financial investment and asset allocation. In 2008, he received the George Polk Award for financial reporting and he is the author of ‘Devil Take the Hindmost: A History of Financial Speculation’ which was an NYT Notable Book of the Year.

 

The institution of taking a portion of money or commodities as fee for lending resources has an unbelievably early origin. The Mesopotamians charged interest on loans before they discovered how to put wheels on carts. The practice is much older than coined money which only originated in the eighth century BCE. Pre-historic people charged interest on loans of corn and livestock. However, popular ethics shunned interest. Religion followed suit and the church’s injunctions against usury and lending of interest were stringent. However, medieval bankers and merchants found countless ways to evade these – the original amount of loan may be overstated; loans in clipped coins had to be repaid in unclipped coins or loans stipulated for impossibly short periods and interest concealed in heavy penalties. Anyhow, with the growth of trade and commerce in the early-Renaissance period, the church’s attitude softened. The canonists then referred to borrowed money as borrowing something tangible such as a plough which has to be paid for. England put into effect a legislation in 1571 which made the taking of interest legal.

 

The author makes a prescient analysis of how early societies were ranged against taking interest and why modern societies take a much more tolerant attitude. Ancient cultures were agrarian in nature and villages were self-sufficient to a great extent. In such a system, a person approaches a lender for the sole purpose of financing something related to consumption such as on food or other family needs. The debtor was within the lender’s power to extract his money and tribal elders stepped in to prevent exorbitant rates of interest. This was thoroughly changed when trade and industry became widespread. The lender usually consisted of people who invested their savings in a bank and the debtor may be a business tycoon. The situation was reversed as the debtor became more prominent in stature than the creditor. In such a scenario, interest represented the lender’s stake in the success and profit of the borrower while usury was associated with the extortion of the needy. The rate of interest declined over time. This spawned extreme financial jugglery. Outbreaks of financial recklessness did not occur at random. They tended to appear at times when money was easy and interest low. The book explains the speculative bubbles in England and France in the seventeenth and eighteenth centuries as examples. Low interest rates fuel speculative manias, drive savers to make risky investments, encourage bad lending and weaken the financial system. Almost three-fourths of the book is dedicated to warn readers about the dangers of a very low interest rate approaching zero which was seen in many developed countries recently.

 

Chancellor cites the tragic instances of the 1929 and 2008 crises to drive home his argument on the disasters which follow a very low rate of interest. There is no detailed analysis of the crises which the author assumes the readers are familiar with. In the lead up to 1929, bank credit in the US more than doubled. Growth in industry could not match the growth of credit. So the rates came down and it changed track to finance stock loans, real estate mortgages and the purchase of foreign securities. Such a hefty arrival of cash lifted the share market to stratospheric levels from which there was only one way to go – towards the bottom. The shares tumbled very quickly and the Great Depression came into being. In a similar vein, in the years before 2008, ultra-low interest rates led to a housing bubble and the subsequent sub-prime mortgage crisis. However, the Federal Reserve kept the interest rates at rock bottom levels claiming that the meltdown was not a failure of economic science but of economic management in the form of regulations. The author fumes that instead of hounding them out of office, the Fed’s stand was credited with saving the world from another Great Depression.

 

The mechanism of how low interest rates vitiate national economic decisions is examined in detail. Central banks are tasked with ensuring price stability for which they target inflation to be within limits. When economy is healthy, inflation and interest rates will be lower. However, allocation targets of credit may change subtly and this may lead to bubbles. Lower interest rates lead to credit growth and larger accumulated debt on the economy. When the crash eventually comes, central banks intervene and usually lower the interest rates further. This starts a vicious cycle. However, this assertion is doubtful as mad speculation during the point of recovery from a crash does not seem plausible. Interest rate thus regulates the economy and weeds out inefficient entrepreneurs. At zero interest rate, heavily loss-making companies can still be in business on life support from bailout packages. The entire economy then progresses at the solemn pace of a funeral march. Over-investment in fancy profit schemes of unicorns is another feature of low interest rates. Monetary authorities often hope that companies would use their access to cheap debt to boost investment. Instead, they choose to buy back their shares with such leverage. Buying back own shares was illegal till 1982 as a form of stock manipulation, but was legalized to allow a company to employ easy credit. The financial sector hugely benefits from such an atmosphere at the detriment of core industrial output. Here, the author points out a major difference from the post-World War II era. Then also, the interest was kept low, but economy had had real growth because after 1945, Americans had robust savings, few debts, no financial bubbles and little financial engineering.

 

The book warns us about not getting too euphoric about the rate of recovery from a crash or during low interest rates and cautions against attributing them to the central banks’ policy of further cut in rates. When the cost of borrowing is low enough, even the most absurd investments can appear viable. The local government in the city of Shiyan in China ordered that local mountains be flattened to make space for new manufacturing plants nearby. This was at a time when China was going through low rates. Savings are needed for the accumulation of capital. Societies that don’t invest enough witness financial experts make money through debt manipulations which will tend to stagnation in the economy. A good deal of economic and jobs growth post-2008 crisis is false growth with little chance of sustainability. It is based on fake money conjured up by Fed to buy assets at fake prices.

 

The book talks about the clout exerted by the so called financial wizards which is disproportionate to the accuracy of their predictions. Chancellor narrates several instances when the opinions of even the greatest of experts – including John Maynard Keynes – going miserably awry. At any given time, it looks as if half of the experts will be predicting good times and the other half forecasting doom. So when a crash finally happens, half would claim victory and the other half would simply look the other way. The book concentrates only on the US and EU and a little bit on China. Most of the matter is relatable only to the US which severely restricts its appeal. As a developing economy which is soon poised to be No. 3 in the world, the author should have spared at least a few pages for India too. Rather than describing the custom of interest, the book attempts to showcase the ill effects of having a very low interest rate in the economy. As it is a book on interest, readers would expect a chapter on Islamic banking which is said to be conducting business in other ways as that religion still forbids taking or giving interest. Here also, the readers would get disappointed. The book is somewhat big for the content and readers would get a bit tired towards the end.

 

The book is recommended.

 

Rating: 3 Star