ROLLING BACK THE LANGUAGE OF ECONOMICS - Part 1 : INTEREST

This post will be the first in a series of posts that looks at how the use and perception of economic and political language have been changed over time.

INTEREST is a concept that we are all familiar with. Usually because we have to pay interest to banks, credit card companies, shops etc. Sometimes we receive interest on savings or other investments. The word interest comes from the notion that if you borrow for, say a house, your lender will charge you interest in order that you get to buy a house and the lender makes a profit. The lender also has an interest in your property. That is to say that he is interested because if you fail to complete the transaction at any point, that property may be sold. It may be sold for less than the outstanding value of the loan in which case the lender would make a loss. So it is no surprise that he is interested.

Compound interest means that interest is applied on an ongoing basis with respect to time. This causes problems for entities like governments where situations can occur such that the amount repaid in a given year is less than the interest due. In this case the interest will not only apply to the original debt, but it will also be applied to the interest too. Interest on interest.

Compound interest looks like this. If left unchecked, it runs away very quickly. This is due to the effect that compound interest has a mathematical function known as positive feedback.

It works in the same way as acoustic feedback. For instance if a microphone is placed too close to a speaker, the sound from the speaker goes back into the microphone, gets amplified and then comes out of the speaker a little louder. This new louder sound, goes back into the microphone and is amplified again and comes out of the speaker even louder. Effectively the amplifier adds compound interest to the sound each time. After a period if these repetitions, the noise becomes so chaotic and unbearable at which point somebody usually cuts the power to the system.

Another natural phenomenon that follows the same mathematical principle is sickness (i.e. diseases like cancers and viral infections).

As all financial services rely on the concept of interest to make profits, it is advisable to remember the analogies above.

Who's interested now?

It is interesting to note that the texts of the Christian, Jewish and Islamic faiths all expressly forbid the use of interest as the concept is seen as a levy on God's time. However, over time these ideas have been relaxed through a series of reinterpretations.

Nobody can be free of paying interest even if you save up for things before you buy them. Currently, due to the way interest has permeated through all aspects of the world economy via credit markets and commodities markets, about 45% of the price of all goods is used to service the interest on debt held in the supply chain.

Because of the invisible interest that has attached itself to the sales price of everything, most people are nett interest payers. In fact 85% of people are nett interest payers, about 5% of people are interest neutral and about 10% of people are nett interest receivers. In other words 10% of the people receive 90% of the interest that everyone else pays. Doesn't that sound like another more well known statistic. Yes, it is interest that is entirely responsible for the massively uneven distribution of wealth. How can you become a nett interest receiver. Well you just need to have a spare £500,000 hanging around that you don't need but you could invest.

Notwithstanding all of the above, the whole notion of interest is totally flawed. As an example, say that Jesus had deposited 1 penny into a bank account in the year 32AD with an account that would yield a typical long term interest rate of 5% per year. If he had returned in the year 2011 and gone to the bank to withdraw all of his money with interest, that amount would be

£8,582,678,794,222,570,000,000,000,000,000,000,000,000

That amount is difficult to imagine. However if the bank paid out in gold balls at today's gold value, it would amount to 44 trillion gold balls. Each gold ball would be the same weight as planet earth.

A great investment? Yes, but this financial model (INTEREST) cannot work in the long term.