Other People’s Money

A book review of what sounds like an excellent book explaining the foundation of time, risk, and money. My comments in [Brackets].

‘The Price of Time’ Book Review: Getting Interest Rates Wrong


August 12, 2022

After the financial crisis of 2008, the dread of economic collapse gave way to yet another exuberant bull market. All sorts of asset classes—industrial commodities, house prices, stocks—soared to irrational extremes. “Never before in history had so many asset price bubbles inflated simultaneously,” Edward Chancellor writes in “The Price of Time,” a sweeping historical analysis of how our financial system once again became untethered from the world it is supposed to serve.

The Price of Time: The Real Story of Interest

By Edward Chancellor

Atlantic Monthly

At the heart of such derangement, Mr. Chancellor argues, is a single factor: artificially low interest rates. As he reminds us, interest rates are the most important signal in a market-based economy, “the universal price” affecting all others. Interest is best defined as the time value of money, which Mr. Chancellor artfully renders as “the price of time.” It is the price that informs every key financial decision—saving, spending, investing. Suppressing the rate of interest is a powerful way to boost an economy otherwise bound for recession, but it is a dangerous one. It is to finance what opiates are to medicine, a distortion of perception disguised as a cure.

[Yes, this is an excellent summation of the concept of interest. It represents the time value of money but also compounded by the risk of uncertainty over future value. I explain this more comprehensively in my short book on finance and economics, Common Cent$. All financial and economic decisions can be distilled down to the choice of whether to consume now or later. The interest rate helps to balance that choice to create an equilibrium for consumption, savings, and investment over time. A high rate leads to less present consumption and more savings and investment because the return to deferred consumption is greater. A low rate encourages the opposite: more present consumption and less saving and investment because the reward for deferring consumption is lower. The promise of new technologies will raise the rate of interest as the perceived future reward is greater. The perception of greater uncertainty and risk over those prospects also increases the rate to compensate for potential loss.]

After 2008, Mr. Chancellor notes, “central bankers pushed interest rates to their lowest level in five millennia.” The move seemed like a success at first, averting deflation and mass unemployment. But behind this immediate result lurked structural problems that the bankers had left to fester. Low rates have compounded “our current woes,” Mr. Chancellor says. These include “the collapse of productivity growth, unaffordable housing, rising inequality, the loss of market competition” and—as we may all feel right now—“financial fragility.” [Yes, we have created a fragile economy, fragile social structures, fragile political institutions, a fragile environment, and a shaky future. All unnecessarily.]

A summary of Mr. Chancellor’s argument risks reducing his fascinating work of history and analysis into a mere polemic—it is so much more than that. Mr. Chancellor, a financial journalist and the author of “Devil Take the Hindmost: A History of Financial Speculation” (1999), has seemingly read every pamphlet and treatise about interest ever written, many contradictory and most containing at least a kernel of truth. His attempt to understand our present moment sends him on a tour of ancient and modern finance, and he proves to be an engaging and instructive guide. One turns the last page of “The Price of Time” with a new and richer sense of the price that “lies at the heart of capitalism,” as Mr. Chancellor puts it.

The practice of charging interest is as old as time itself. Before Mesopotamians had learned to coin money or place wheels on carts, lenders had established the practice of demanding more in the future of whatever they made available to borrowers in the present. The etymology of many of the words for interest derive from the offspring of livestock, reflecting an awareness that wealth well managed is fruitful. But the etymology also reflects a suspicion that interest allows the rich to devour the poor. Ancient Hebrew words for interest include one meaning “the bite of a serpent.” The magic of compound interest, transforming a pittance into a fortune—has always provoked both awe and fury.

From the beginning, Mr. Chancellor shows, rulers have tried to intervene to soften the antagonism between borrowers and lenders. The earliest set of laws, Hammurabi’s code in Babylon (from around 1750 B.C.), is preoccupied with regulating interest—setting maximum loan rates, including 20% for silver and 33.33% for barley. A millennium later, Athens’s renowned lawgiver Solon ordered all the stones recording mortgages destroyed as part of an effort at moral and political renewal. (His predecessor Draco, to whom we owe the word “draconian,” had forced many debtors into slavery.) Thinkers and philosophers throughout history—from Aristotle and Aquinas to Proudhon and Marx—have regarded any rate of interest as unjust. Mere scribblers shared this view. According to Daniel Defoe, “interest of money is a canker-worm upon the tradesman’s profit.”

Diorite stela with the Code of Hammurabi. Detail showing the King standing and receiving the 282 collected laws from the God of Justice Shamash. Babylonian civilization, 18th Century BC. Paris, Musee Du Louvre (Photo by DeAgostini/Getty Images)Photo: De Agostini/Getty Images

The perception that borrowers are inherently needy and lenders greedy stubbornly persists. But whatever truth it contained in the premodern world vanished with the rise of capitalist economies. Of proto-capitalist 16th-century England, the historian R.H. Tawney wrote: “The borrower was often a merchant, who raised a loan in order to speculate on the exchanges or to corner the wool crop.” As for the lender, he might well be “an economic innocent, who sought a secure investment for his savings.”

What perceptive minds grasped in the 16th century is forgotten by those who, today, think that low interest rates necessarily promote equality. Like any other price, the rate of interest reflects a complex balance of forces in the real economy, from aggregate savings to future expectations. When governments push that price too low—or too high—they create distortions that are counterproductive and socially unjust.

In [the] past 15 years, interest rates have been pushed to near zero throughout the developed world. They even became negative in Europe and Japan. But the results, Mr. Chancellor observes, were not as distressful for the rich as a medieval canonist might have hoped. The price of securities tends to rise or fall inversely with the price of interest. [The rate of interest determines the capitalization rate of financial assets. For example, when interest rates rise, house prices go up because borrowers have more leverage. Conversely, when interest rates rise, these same asset prices must fall – which is where we get collapsing asset markets. If these markets’ prices don’t fall, we get a credit freeze.] Those who own the most securities thus benefit the most when interest rates fall. “It is no coincidence,” Mr. Chancellor writes, “that the greatest fortunes have been gained during periods of abnormally low-interest rates.” As he vividly puts it, “great whales feed off the savings plankton.”

Low interest rates don’t help the poor, who don’t have access to cheap credit. They do help people with formidable assets already, in part by making leverage more attractive. With money so cheap, financiers can boost investment returns with borrowed cash. As Louis Brandeis observed, Wall Street uses “other people’s money.” It prefers to pay as little as possible for the privilege.

Mr. Chancellor’s first objection to the manipulation of interest is therefore a moral one. “Distributive justice requires that borrowers and lenders receive an equivalence of value,” he writes. It is unjust that thrifty workers can’t earn a decent return on their savings accounts while sophisticated speculators earn fortunes from capital borrowed for free. [And some of our technocrats still don’t understand the financial roots of our increasing inequality, foolishly blaming it on the capitalism system itself.]

His second objection is at once more pragmatic and more alarming. Artificially low rates distort the decentralized decision-making process of a market economy. Without interest, he writes, “capital can’t be properly allocated and too little is saved.” Investors accept more risk in pursuit of higher returns, making future growth seem more attractive than current profits. And because interest is one of the chief costs in finance, low rates shift economic activity from “real world” enterprises to purely financial transactions. [Financialization of asset markets, like housing.] .As the Boston hedge-fund manager Seth Klarman has stated: “The idea of persistent low rates has wormed its way into everything: investor thinking, market forecasts, inflation expectations, valuation models.” [Our fiat currency regime since 1971 created the exploding hedge-fund industry.]

In pushing down interest rates, then, central banks have engaged in a form of central planning subtler and more pernicious than the discredited 20th-century variety. The failures of central planning are obvious when the state attempts to direct the entire economy, from railroads to grocery stores. Misguided monetary policy, by contrast, operates invisibly, dispersing perverse incentives and false signals throughout the financial system. “And the more we blunder, the more the system itself appears to fail, which in turn justifies further interventions,” Mr. Chancellor writes. Even worse, the more central bankers intervene, the more rigged the system seems to become. [The only correction to all this is Mr. Market bringing down the hammer at some point. It won’t be pretty and everyone will scream.]

Mr. Chancellor’s learned and engrossing history concludes with a somber warning. Compared with more heavy-handed forms of government intrusion, central bankers’ manipulation of interest rates may seem rather innocuous, and it is much less likely to provoke howling objections from ordinary citizens. But more than any other, it threatens the efficiency and integrity of the free-enterprise system. Behind the price of time is the priceless right of freedom. [Yes, what all this financial mismanagement will do is reduce our precious liberties, which won’t be felt until they’re gone.]

Mr. Rowe is a historian in Dallas.

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