With all the turmoil in the financial industry, you would think that there would be a national conversation of money and lending. You would think that this would be a good time to re-examine the way we create money and the way we lend it. You would think, especially, that it would be a good time to review the subject of usury, especially since the credit card market is about to collapse in the same way the mortgage market did. But no, that conversation has not taken place.
Indeed, the last great economist to address the subject was J. M. Keynes, back in the 1930's. Keynes, who was no friend of the Church, surprised himself by finding that the Church's restrictions on usury made perfect economic sense, a sense ignored by classical economists:
Provisions against usury are amongst the most ancient economic practices of which we have record. The destruction of the inducement to invest by an excessive liquidity preference was the outstanding evil, the prime impediment to the growth of wealth, in the ancient and medieval worlds…I was brought up to believe that the attitude of the Medieval Church to the rate of interest was inherently absurd, and that the subtle discussions aimed at distinguishing the return on money-loans from the return to active investment were merely Jesuitical attempts to find a practical escape from a foolish theory. But I now read these discussions as an honest intellectual effort to keep separate what the classical theory has inextricably confused together, namely, the rate of interest and the marginal efficiency of capital. [The General Theory, 351-2]
What Keynes is saying in this somewhat technical language is that when returns to pure loans are higher than returns to actual investments, you will have a problem; if you can make more money lending to consumers at 25% than to auto makers at 10%, then the money for making things will dry up, and loans will shift to consumption and speculation. We have often noted this problem in the pages of The Distributist Review, (see The Utopia of Usurers, Usury!, Usury: Wealth Without Work, and many other articles) but we can't honestly claim that we have made a big impression on the public. However, Thomas Geoghagen in the pages of Harper's Magazine, has written an indictment of the current system entitled “Infinite Debt: How unlimited interest rates destroyed the economy.” Unfortunately, the article is not yet available on-line, but it is worth picking up a copy of the magazine to read it.
There is an interesting parallel between the lifting of the usury laws and the abolishing of the abortion laws: both were accomplished not by democratic process, but by legislative fiat; in Marquette National Bank v. First of Omaha Service Corp., a 1978 Supreme Court opinion, the court found that an 1864 law prohibited the states from enforcing usury laws in their own state if it was legal in another state. For all practical purposes, this ended usury laws.
The lifting of the usury laws had dire unintended consequences, one of which was the decline of manufacturing:
It may be hard to grasp how the dismantling of usury laws might lead to the loss of our industrial base. But it’s true: it led to the loss of our best middle-class jobs. Here’s a little primer on how it happened. First, thanks to the uncapping of interest rates, we shifted capital into the financial sector, with its relatively high returns. Second, as we shifted capital out of globally competitive manufacturing, we ran bigger trade deficits. Third, as we ran bigger trade deficits, we required bigger inflows of foreign capital. We had “cheap money” flooding in from China, Saudi Arabia, and even the Fourth World. May God forgive us—we even had capital coming in from Honduras. Fourth, the banks got even more money, and they didn’t even consider putting it back into manufacturing. They stuffed it into derivatives and other forms of gambling, because that’s the kind of thing that got the “normal” big return; i.e., not 5 percent but 35 percent or even more.
But in addition to the economic effect, it had a profound effect on the moral character of the nation:
The change in credit-card caps also had a bad effect on the moral character of the nation. Because interest rates were so high, the banks no longer wanted borrowers with good moral character. Look at the way lending has changed just since the time I was in law school in the early 1970s. Even then, the mantra of my teachers in contracts and commercial paper was: “The loan must be repaid!” I have a friend, a professor, who still quotes that refrain. But it’s out of date. At interest rates of 25 percent, or 50 percent, or 500 percent, lenders don’t really want the loan to be repaid—they want us to be irresponsible, or at least to have a certain amount of bad character.
One question, however, is why we were willing to oblige the bankers by displaying such a poor moral character. No doubt the convenience of the credit card was a factor, but there is more to it than that. One reason is that we had too. The shift in the economy from manufacturing to finance meant that workers were no longer able to bargain for wages through unions and other means. Since 1972, the median hourly wage has stagnated. We experienced a very odd phenomenon: productivity exploded, but wages remained the same. Obviously, there was not enough purchasing power to clear the markets. Workers responded in two ways. One was to work more hours and put more family members to work, with a devastation effect on family life. The other was to borrow more. Further, the best and brightest of our students no longer went into engineering or manufacturing, but into finance. We started to lose even the knowledge of how to make things. As Thomas Geoghagen points out, not only did financial companies account for 40% of corporate profits in 2003, (up from 18% in 1988) but this may understate the problem. Many “manufacturing” firms, like GM and GE, actually made their profits from their finance divisions. GM became a company that manufactured cars in order to make loans on them.
Our current bail-out plans are mainly directed at the banks, the hedge funds, the insurance companies, and other financial institutions. But this will not work. Without restoring manufacturing, farming, mining, and other basic industries, we cannot rescue the economy. But we have the order exactly reversed. The bankers get an instant bailout, no questions asked, while manufacturers, like the Big Three, have to crawl over broken glass to get what amounts to “chump change” in the context of the overall “rescue” numbers. Moreover, “contracts” with the derivative traders of AIG are regarded as sacred and unbreakable, while union contracts are broken at will.
It is the habit of the modernists to despise the past, and so it is no surprise that a restriction which existed in most cultures from the time of the Babylonians to the time of Jimmy Carter would be overturned. Yet, even modernism posits some empiricism, actually looking at the effects of an action. It is now long enough to look at the effects of the Supreme Courts 1978 decision. And without revisting this decision, we cannot fix the economy.