Interest

The lowness of interest is the most certain sign of a nation’s prosperity. Lowness of interest is generally ascribed to plenty of money.

Interest Rates are Not Caused by Money Supply

But this is not true since the only effect of the plenty of money is to raise the price of labour. Silver is more common than gold. You receive more of it for the same commodities. But do you pay less interest for it?

• Interest in Jakarta and Jamaica is at 10%.
• In Portugal, it is at 6%.

These places have more gold and silver than London or Amsterdam.

Would interest be lower if every gold guinea in England were replaced with 21 silver shillings?

• Surely no. We would only use silver instead of gold.

If gold were as common as silver, and silver as common as copper, would money be more plentiful or interest be lower?

• No. Our shillings would then be yellow. Our halfpence white. There would be no other difference.

If the multiplying of gold and silver 15 times makes no difference, doubling or tripling them will make much less difference. Any addition to the money supply only raises the price of labour and commodities. Even this variation is just nominal. This increase might have some influence on real prices, by exciting industry. But after the prices settle to the new abundance of gold and silver, it loses this influence.

Prices have risen near four times since the discovery of the Indies. Gold and silver have probably multiplied much more. But interest has not fallen much above half. The rate of interest, therefore, is not derived from the money supply [or its liquidity].

Money has a fictitious value. Its quantity is of no consequence, if we consider a nation within itself. When the money supply is increased, it merely obliges everyone to carry more metal money for clothes, furniture, or equipage, without increasing any life convenience.

If a man borrows money to build a house, he then carries home a greater load because the stone, timber, lead, glass, etc. with the labour of the masons and carpenters, are represented by more gold and silver. But these metals are chiefly representations.

A change in their size, amount, weight, or colour, does not change their real value or their interest. In all cases, the interest stays proportional to the sum. If you lent me so much labour and so many commodities, a 5% interest will always let you receive proportional labour and commodities. We, therefore, must not look for the cause of changes in interest rates in the changing supply of money.

Three Causes of Interest Rates: Profit rate, Demand for Borrowing, Supply of Lending from the Level of Industry and Commerce

High interest arises from three circumstances:

1. A great demand for borrowing
2. Little riches to supply that demand
3. Great profits arising from commerce:

These prove the small advance of commerce and industry, not of the scarcity of gold and silver. Low interest, on the other hand, proceeds from the three opposite circumstances:

1. A small demand for borrowing
2. Great riches to supply that demand
3. Small profits arising from commerce

These circumstances are all connected. They come from the increase of industry and commerce, not of gold and silver. We shall prove these with the causes and the effects of the demand for borrowing.

An inequality of property immediately arises when a tribe leaves its savage state because of population growth:

• some have no lands
• some have small lands
• some have large lands, more than they can work on. They employ those with no lands who agree to receive a share of the produce. This immediately establishes the landed interest.

Some landowners might store its produce for future use. Others might consume it immediately. Most of the landholders will look for other ways to earn more. There will be more prodigals than misers.

A state that only has landowners therefore has:

• little frugality
• many borrowers
• high interest rate proportional to the many borrowers

The difference depends most on the prevailing habits and manners which determing the demand for borrowing. If money supply is so great, an egg can be sold for sixpence.

The landlord’s idleness, joined with the higher price of commodities, would:

• dissipate the money supply at the same time, and
• increase the demand for borrowing.

2. Amount of Supply

The supply is also determined by the people’s habits and manners, not by the money supply.

In order to have many lenders, a big money supply is not needed. The only thing needed is for that money to be pooled as to form a large sum as a great monied interest. This begets a number of lenders and sinks the rate of usury. This pooling depends on the manners and customs.

If every man in Great Britain got £5 in one night, it would more than double the current money supply. Yet:

• the lenders would not be more numerous,
• the interest rate would not change.

If there were only landlords and peasants, this money would never be pooled into sums, but would rather only encrease the prices of everything. The prodigal landlord and beggarly peasant would spend it as soon as they receive it.

The reduction of interest depends on another principle – from an encrease of industry and frugality, of arts and commerce. Every useful thing arises from the ground. But few things are made useful immediately by nature.

There must be another class of men aside from peasants and proprietors of land who will receive from the peasants and proprietors the rude materials and work them into their proper form. These are called artisans who retain part for their own use and subsistence.

In the infancy of society, contracts were made:

• between the artisans and the peasants, and
• between one species of artisans and another.

These contracts are commonly entered into immediately by the persons themselves. But when men’s industry encreases and their views enlarge, the remote parts of the state can assist each other just as well as the contiguous parts, through merchants. It is one of the most useful races of men. They serve as agents between those parts of the state, that are:

• wholly unacquainted, and
• ignorant of each other’s necessities.

A city has 50 workers in silk and linen, and 1,000 customers. These workers and customers can only meet until one man erects a shop where all the workmers and customers repair.

A province has plenty of grass, cattle, cheese, and butter but lack bread and wheat. A neighbouring province has too much bread and wheat. One man discovers this. He brings wheat from the one province and returns with cattle. He supplies the wants of both and becomes a common benefactor.

As the people encrease in population and industry, the difficulty of their intercourse encreases. The business of the agency or merchandize becomes more intricate. It divides, subdivides, compounds, and mixes to a greater variety.

In all these transactions, it is necessary that a part of the commodities and labour should belong to the merchant as they owe a great measure to him. These commodities he will sometimes preserve in kind, or more commonly convert into money, which is their common representation.

• If money supply encreases together with the industry, it will require more money to represent more commodities and labour.
• If industry alone has encreased:
  • the prices of everything must sink
  • a small quantity of specie will serve as a representation.

The craving for exercise and employment of the human mind is the most constant and insatiable desire. This desire seems to be the foundation of most of our passions and pursuits. Deprive a man of all business and serious occupation:

• he runs restless from one amusement to another.
• He feels such a great weight and oppression from idleness.
• He forgets the future ruin of his immoderate expences.
• He becomes satisfied if you give him a more harmless way of employing his mind or body.
• He no longer feels that insatiable thirst after pleasure.

But if the employment you give him is lucrative, especially if every exertion of industry has profits. He gradually acquires a passion for it as he often wants gain. His only pleasure is to see the daily encrease of his fortune. This is why:

• trade encreases frugality
• among merchants, there is the same surplus of misers over prodigals, as, among the possessors of land, there is a surplus of prodigals.

Commerce increases industry by:

• conveying it readily from one member of the state to another, and
• allowing none of it to perish or become useless.

It increases frugality, by:

• giving occupation to men, and
• employing them in the arts of gain.

These soon:

• engage their affection, and
• remove all relish for pleasure and expence.

The infallible consequence of all industrious professions is to:

• beget frugality, and
• make the love of gain prevail over the love of pleasure.

Among lawyers and physicians, there are many more who live within their income, than who exceed it, or even live up to it. But lawyers and physicians beget no industry. They even acquire their riches at the expence of others. They surely reduce the possessions of some of their fellow-citizens, as fast as they encrease their own.

Merchants, on the contrary, beget industry by serving as canals to convey it through every corner of the state. At the same time, by their frugality, they:

• acquire great power over that industry, and
• collect a large property in the labour and commodities, which they are the chief instruments in producing.

Only the merchandize profession can:

• make the monied interest considerable, or, in other words, can encrease industry
• give a great command of that industry to particular members of the society by increasing frugality.

Without commerce, the state must consist chiefly of:

• landed gentry. Their prodigality and expence causes a continual demand for borrowing.
• peasants. They have no sums to supply that demand.

The money never gathers into large stocks or sums, which can be lent at interest. It is dispersed into numberless hands, who either:

• squander it in idle show and magnificence, or
• employ it to buy the common necessities.

Commerce alone assembles it into considerable sums. This effect it has merely from the industry which it begets, and the frugality which it inspires, independent of that particular quantity of precious metal which may circulate in the state. Thus an encrease of commerce creates more lenders and lowers interest.

How far does this encrease of commerce diminishes the profits arising from that profession, and gives rise to the third circumstance requisite to produce lowness of interest.

Low interest and low profits of merchandize are two events, that:

• mutually forward each other, and
• are both originally derived from that extensive commerce, which:
  • produces opulent merchants, and
  • renders the monied interest considerable.

When wealthy merchants become tired of business, or leave heirs unwilling or unfit to engage in commerce, most of their riches naturally seeks an annual and secure revenue. The plenty:

• reduces the price, and
• makes the lenders accept of a low interest.

This obliges many to:

• keep their stock employed in trade, and
• be content with low profits than dispose of their money at a loss

On the other hand, when commerce has become extensive, and employs large stocks, rivalships arise among merchants. This reduces profits of trade while encreasing trade itself. The low profits of merchandize induce the merchants to accept low interest more willingly when they leave business and begin to indulge themselves in ease and indolence. We do not need to ask [303] of low interest or low profits:

• which is the cause,
• which is the effect?

They both:

• arise from an extensive commerce, and
• mutually forward each other.

No man will accept of low profits if he can have high interest. No man will accept of low interest if he can have high profits. An extensive commerce produces large stocks. It reduces both interest and profits. It is always assisted, in its reduction of the one, by the proportional sinking of the other. Since low profits arise from the encrease of commerce and industry, they serve in their turn to its farther encrease, by:

• rendering the commodities cheaper,
• encouraging consumption, and
• heightening the industry.

Thus, interest is the barometer of the state. Its lowness is an infallible sign of the flourishing condition of a people. It proves the encrease of industry. Its prompt circulation through the whole state is little inferior to a demonstration.

A sudden and great check to commerce may momentarily have the same effect by throwing so many stocks out of trade. But it will be attended with such misery and unemployment in the poor, that it will be impossible to mistake the one case for the other. Some have asserted that the plenty of money was the cause of low interest.

They seem to have taken a collateral effect for a cause; since the same industry, which sinks the interest, commonly acquires a lot of the precious metals. Vigilant, enterprising merchants can draw money into a state through a variety of fine manufactures, if there is money in the world. The same cause, by multiplying the conveniencies of life, and encreasing industry, collects great riches into the hands of non-proprietors of land. It consequently reduces interest.

The plenty of money and low interest naturally arise from commerce and industry. But they are altogether independent of each other. An isolated nation which always has the same amount of coin but has constantly increasing population and industry will have the prices of its commodities gradually diminish.

This is because it is the proportion between money and goods which fixes their mutual value. The conveniencies of life in this case are becoming more abundant every day, without any change in the current specie. Therefore, fewer money among this people during productive ages will make a man richer, than in ignorant and slothful ages. Less money will be needed to:

• build a house,
• portion a daughter,
• buy an estate,
• support a manufactory, or
• maintain a family and equipage.

These are the uses for borrowed money. Therefore, the quantity of it has no influence on the interest. But the amount of labour and commodities must have a great influence on interest, since we really borrow labour and commodities when we borrow money. When commerce is extended globally, the most industrious nations always abound most with gold and silver, that low interest and plenty of money are almost inseparable.

But we still need to know its underlying principle. It might be useful in the conduct of public affairs. Improving the method of reasoning on these subjects is the most important, even if they are commonly treated most carelessly. Another cause of the popular mistake on the cause of low interest is the fall of interest after gold and silver suddenly enters and spreads after a foreign conquest.

Garcilasso de la Vega tells us that:

• interest in Spain fell near a half immediately after the discovery of the West Indies
• interest has been ever since gradually sinking in Europe.

Dion tells us that interest in Rome fell from 6-4% after the conquest of Egypt. The causes of the sinking of interest after a conquest seems different in the conquering country and in the neighbouring states. But in none of them can we justly ascribe that effect merely to the encrease of gold and silver.

In the conquering country, this new acquisition of money will:

• fall into a few hands, and
• be gathered into large sums which seek a secure revenue, either:
• by the purchase of land or
• by interest.

In the short term, it creates the same effect as a great accession of industry and commerce. The encrease of lenders above the borrowers sinks the interest. Interest sinks faster if the monied people find no industry or commerce to employ their money. So they lend it at interest. But after this new mass of gold and silver has been digested, and has circulated through the whole state, affairs will soon return to their former situation.

This happens while:

• the landlords and new money-holders:
• live idly,
• squander above their income;
• the landlords contract debt daily
• the new money-holders encroach on their stock until its [306] final extinction.

The whole money may still:

• be in the state, and
• make itself felt by the encrease of prices:

But it will not be then collected into any large masses or stocks. The disproportion between the borrowers and lenders will revert to what it was before. Consequently, interest increases.

Accordingly, early Rome in Tiberius’s time, interest had again risen to 6% even if no accident drained the empire of money. In Trajan’s time, money lent on mortgages in Italy, bore 6% on common securities in Bithynia.

The interest rate in Spain did not rise to its old rates because the large fortunes continually made in the Indies continued to sink the interest. It constantly supplied the demand of the borrowers. By this accidental and extraneous cause, more money is to be lent in Spain.

More money is collected into large sums than would otherwise be found in a state, where there are so little commerce and industry. The reduction of interest in England, France, and other European countries that have no mines has been gradual. It did not come from the encrease of money, considered merely in itself. Rather, it came from the increase of industry.

The increase of industry is the natural effect of the increase in money before it raises the price of labour and provisions. For if the industry of England had risen equally from other causes, then their consequences should be the same as at present. (since the stock of money had remained the same).

In this case, the country would have:

• the same people
• the same commodities,
• the same industry, manufactures, and commerce;

Consequently, it would have the same merchants. They would have the same stocks. They would have the same command over labour and commodities.

Those labour and commodities would only represented by fewer gold or silver. They would only affect the waggoner, porter, and trunk-maker.

Therefore, luxury, manufactures, arts, industry, frugality would be flourishing equally back then as at present.

Interest therefore must also have been as low, since low interest is the necessary result of all these, so far as they determine:

• the profits of commerce, and
• the proportion between the borrowers and lenders in any state.