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What Is Interest
Interest doesn't come from human impatience. It is the opportunity cost of money plus the cost of trust — and as long as money can be put to work, interest will exist.
1. Impatience doesn't convince anyone
Last time we saw that Irving Fisher explains interest by human "impatience." That view isn't convincing, and it gives us nothing to act on.
So where does interest actually come from? Go back to where the last post ended: money is the most fundamental, most flexible means of production.
That part is easy to see. As a universal equivalent, money can be exchanged for any means of production and put to work. That's why we call it the most fundamental and the most flexible.
2. Reason one: opportunity cost
From there, it follows right away that money has an opportunity cost.
What is the opportunity cost of money? If the money stays with me, I can put it to work myself. If I lend it to you so you can produce, I lose that chance. And what if I'm more productive than you? Then lending it to you is a loss for me. So money carries an opportunity cost by its very nature.
Turn it around: money that isn't lent out and just sits at home isn't being put to work. There's no opportunity cost, so no interest arises.
So why does interest exist? Not because of human impatience, but because the opportunity cost of money creates interest. If I lend you my money, you pay me interest to make up for that opportunity cost. Simple.
3. Reason two: the cost of trust
The second reason for interest also comes from money being the most fundamental, most flexible means of production.
When I lend money out, am I taking a risk? What if the borrower doesn't produce with it but spends it? Or isn't productive enough and loses it? Or simply never pays it back? Every one of these is a real risk.
What do we call that risk? The cost of trust.
That's why, for thousands of years, the most common kind of loan has been the secured loan. Collateral is what offsets the risk of default when money is lent out.
4. Interest is eternal
So interest basically reflects the opportunity cost of money plus the cost of trust. And what sets the level? Broadly, the average productivity of society.
This also means interest exists naturally. As long as money can be put to work, there will be an opportunity cost and a cost of trust, and no one can abolish interest.
That leads to the next concept, one that matters enormously to us: interest is eternal.
In the next post, we'll look at why "interest is eternal" matters so much to us.