Time Will Run Back (39 page)

“There are several ways of answering your question, Adams. Perhaps the quickest would be simply to point out that creditors don’t
force
loans or money on borrowers. Borrowers pay interest voluntarily; they even bid against each other in raising interest rates because of their competitive desire for money. Evidently the
borrowers
don’t consider money sterile.”

“But—”

“Let me put it this way,” continued Peter. “What difference is there in principle between your borrowing a power saw from me and paying me a rental on it, or your borrowing from me instead enough money to buy the power saw yourself, and paying me interest on the borrowed money? Is the second process any less ‘productive’ for you than the first?”

Adams paused for another pinch of snuff. “Well, I can see
one
difference, at least. As soon as your power saw wore out, chief, or became obsolete, I would return it to you. If you wanted to continue renting it out, you would have to take a
diminishing
rental on it. Its rental and its value would keep falling until it was finally worthless. But if you lent me the money, you would expect the same amount of interest on it in perpetuity, and at any time that the loan expired you would expect to get back the full amount of your original principal, undiminished.”

It was Peter’s turn to think a while before answering. “That is true,” he said finally. “But what does it mean? It simply means that if I lent you the power saw or some other capital instrument that would sooner or later wear out or become obsolete, I would have to charge you a rental for it much higher than the interest I could charge you for the same amount of money. Then out of the rental that I got for the capital instrument, I would have to set aside each month a certain sum, so that by the time the capital instrument had become worthless I would have enough money to buy a new capital instrument. And so on.”

“But how do you know, chief, that there is in fact such a difference between rental rates and interest rates?”

“Because both the lender and the borrower, Adams, are free to choose either course of action they wish. This freedom of choice, plus competition in borrowing and lending, must tend to bring about precisely this relationship. Look at it now from the borrower’s standpoint. Suppose you borrow 10,000 goldgrams at 5 per cent a year interest in order to buy a house for 10,000 gold-grams and rent it out for 900 goldgrams or 9 per cent a year. This gives you an apparent profit above mortgage interest of 400 goldgrams a year. But you must set aside at least part of this 400 goldgrams for repairs, maintenance and depreciation of your house. You would probably allow another part as compensation for the risk of finding your house sometimes without a tenant, and still another part as compensation for your labor and responsibilities as a landlord. And so, as long as lenders and borrowers act with equal foresight, it will become a toss-up whether it is more profitable to lend out money for interest or to build houses with it and rent them. Certainly we won’t be able to say in advance that the lender of capital will necessarily be better off in the end because he gets interest perpetually and gets back the full amount of his principal. The long-run tendency must be for rentals minus maintenance or replacement cost to equal interest rates.”

Adams took still another thoughtful pinch of snuff. He did not seem to be quite convinced, but appeared to be on the verge of being convinced.

Peter continued: “Suppose we look at the matter in still another way. Lending 10,000 goldgrams to a woolen manufacturer is really selling him the amount of cloth that 10,000 goldgrams, put into his equipment, will bring into existence.”

Adams thought about this. “That is a striking way of putting the matter,” he said at last; “but I don’t think it is correct.”

“Why?”

“Let’s see what happens, chief. When you
lend
10,000 goldgrams to a woolen manufacturer you really don’t
sell
him anything. True, he uses the money to
buy
10,000 goldgrams’ worth of equipment. Now he’s got to pay you perpetual and undiminished interest. In order to enable him to do that, he’s got to earn a good deal more in each year with his new machines than he pays you in interest, because he has to put aside each year a certain amount of money—we might call it a
depreciation
allowance—in order to buy new machines out of the accumulated sum when the old machines have worn out or become obsolete. Now if everything works out perfectly, he won’t merely produce 10,000 goldgrams’ worth of cloth. He will produce a certain additional amount of cloth
perpetually.
And as this would mean an
infinite
amount of cloth, it ought to have an
infinite
value, and not merely 10,000 goldgrams’ worth of value. In fact, as the new machines, after proper replacement allowances, produce an infinite amount of additional cloth with an infinite value, the machines themselves ought to sell for an infinite price. And as a piece of land, also, can continue to yield crops infinitely, if properly fertilized, it also ought to sell for an infinite price.”

What was the answer to that? Peter lit another cigarette.

Adams finally broke into the train of his thoughts: “You know, chief, I’ve been puzzled about this matter for a long time. I’ve been discussing it with Patelli. And he has what seems to me to be an entirely different theory of interest.”

“Oh?”

“Patelli, chief, argues that interest
isn’t
the price paid for the services of capital at all, but something quite different. He says that interest springs out of the fact that people value present goods more than future goods of the same kind and quality. In other words, future goods are bought and sold at a discount as against present goods. Interest, he contends, is the
ratio
of the value assigned to want-satisfaction in the immediate future and the value assigned to want-satisfaction in remoter periods of the future. It is a
ratio
of commodity prices, not a price itself. In other words, Patelli says that interest arises out of what he calls ‘time-preference.’ “

Peter blew careful smoke rings as he tried to think this out. “Time-preference! That’s a very interesting phrase.”

“Patelli,” Adams continued, “argues that we prefer a cup of coffee today to a cup of coffee tomorrow; or one tomorrow to one a year from now; or one a year from now to one a century from now. Suppose, for example, you had no other means of sustenance, and you were asked to give up a crust of bread today on the absolute assurance that you would get in return two or even three crusts of bread a week from today, would you make the exchange?”

“All that doesn’t necessarily mean,” replied Peter, “that I value present goods more than future goods. It may merely mean that I prefer to eat when I am hungry and drink when I am thirsty. Or it may merely mean that I prefer to spread my consumption out evenly over time. If I had seven rolls of bread to last me for a week, I’d eat only one a day.”

“Patelli,” continued Adams, “argues that we always tend to underestimate our future needs and to overestimate our future supplies.”

“Perhaps something like that does happen,” conceded Peter. “You know, I’ve just thought of an interesting comparison between the way we look at time and the way we look at distance. When you stand on a railroad track and look along the track and along the line of telegraph poles beside the track, you
\now
that as a matter of fact each railroad tie is the same width as all the others and each telegraph pole the same height as all the others. Nevertheless, to your eye and to a camera, each tie seems narrower and each telegraph pole shorter than the one in front of it, and the last pole that you can see is reduced to a mere point in space. This is what’s known as perspective. Now perhaps Patelli is right. Perhaps we value things, if I may put it that way, in a sort of diminishing
time-perspective
just as we see them in a diminishing space-perspective. In other words, the further away a thing is, in either time or space, the smaller it looks to us. Now your telegraph poles, as you look at them, diminish to form a definite triangle. And in the same way a perpetual series of equal added outputs of yards of woolen cloth, or a perpetual series of approximately equal crops from a piece of land, tend, as we look forward into the future, to diminish in value to our mind’s eye year by year so that they form, not an infinite value but a sort of measurable triangle of value, like the triangle formed by telegraph poles in perspective. And perhaps that is why we put only a finite value on the machine or only a finite value on the piece of land.”

“And we arrive at the same sort of result if we look at the matter the other way round,” added Adams. “If people estimated future goods as highly as present goods, then you ought to be obliged to pay ioo goldgrams for the privilege of receiving 5 gold-grams a year for twenty years. But I have been in touch with a friend of mine who has set up an insurance business, and he tells me that as a matter of fact I can buy the right to receive 5 gold-grams a year for twenty years for only 62.30 goldgrams.”

“Because the current rate of interest is 5 per cent,” said Peter.

“But that is only another way of stating the same thing,” persisted Adams. “If people valued future goods as much as present goods, you ought to have to pay an infinite sum for the right to receive 5 goldgrams a year
perpetually.
But as a matter of fact you can buy that right for only 100 goldgrams. Or let’s clinch the matter by leaving out annual interest payments altogether. I asked my insurance friend how much I would have to pay
now
for the right to receive 100 goldgrams ten years from now. He tells me that I can buy that right for only 61.39 goldgrams. In other words, 100 goldgrams ten years from today is worth only as much as 61.39 goldgrams today. I also found out that 100 gold-grams
twenty
years from today is worth only 37.69 goldgrams—”

“Just a minute!” Peter took out a pen and wrote some figures on a pad. “Ah, just as I suspected, Adams. At a prevailing interest rate of 5 per cent, a man for 100 goldgrams can buy a twenty-year bond that not only pays him 5 goldgrams a year but returns his entire 100 goldgrams at the end of the twenty years. So he actually buys 200 future goldgrams for* 100 present goldgrams. Now your insurance friend tells you that the present value of your 5 goldgrams a year for twenty years is 62.30 goldgrams. And he tells you that the present value of your 100 goldgrams at the end of twenty years is 37.69 goldgrams. Now if you add these you get a total present value of 99.99 goldgrams.”

“And if you throw in the extra figures beyond the decimal points you get a total present value of 100 goldgrams,” agreed Adams. “So everything totals up correctly.... But you interrupted me in the reinforcing point I was about to make. Here are the figures: 100 goldgrams ten years from now have a present value of 61.39 goldgrams; twenty years from now they have a present value of 37.69; thirty years from now a present value of 23.14; forty years from now a present value of 14.20; fifty years from now a present value of 8.72—”

“Which proves?”

“Which bears out your illustration, chief, of the telegraph poles, your phrase about time-perspective; which shows that, other things equal, goods have a constantly diminishing value as they are remote in time.”

Peter lit another cigarette. He smoked it in silence almost down to the end.

“I can’t seem to make up my mind just now,” he said at last. “I can’t decide whether time-preference causes the interest rate, or whether the interest rate is caused by the anticipated marginal productivity of capital which in turn causes what Patelli calls time-preference.”

“But the diminishing value of 100 goldgrams over time—?”

“Doesn’t necessarily prove anything about causation, Adams. To say that 100 goldgrams fifty years from now is worth only 8.72 goldgrams today is merely another way of saying that 8.72 goldgrams invested at 5 per cent compound interest today would increase to 100 goldgrams at the end of fifty years.... Maybe the two theories can be reconciled, Adams.... Maybe they are supplementary. Maybe the marginal productivity of capital goods is one cause of the payment of interest, and time-preference is another, just as the value of gold, for example, is partly determined by its industrial and ornamental uses and partly determined by its use as a medium of exchange.... We haven’t time now to straighten out the whole business.”

“Perhaps we don’t even need to, chief.”

“What we are certain of, Adams, is this. Relatively few people would bother to save capital at all if they could get no interest for it, and still fewer would consent to let saved capital go out of their hands without the compensation of interest. And we do know that borrowers voluntarily pay interest and even bid against each other to raise interest rates. For if interest rates are less than borrowers are actually willing to pay, there develops what is called a shortage of funds. This can only be corrected by an increase in interest rates which will cause some people to be willing to lend more and others to want to borrow less. In short, we don’t necessarily have to know
why
people are willing to pay interest any more than we need to know why they are willing to pay high prices for whisky or gold or diamonds—”

“—or bad paintings.”

“Or bad paintings. People’s desires and tastes and valuations are what they are, and they seek to gratify them. And it isn’t for us, as bureaucrats, to say that their tastes are misdirected, because posterity may conclude that it was
we
who preferred the bad paintings to the good ones.”

“In other words,” said Adams, trying to sum up, “market values are the composite result of the valuations of individuals. Just as prices are fixed by the market, so are wages; and just as wages are fixed by the market, so are interest rates. And just as consumers are willing to pay for consumption goods anything up to the amount that the addition of these goods adds to their satisfactions, so producers are willing to pay for labor and capital anything up to the amount that a further increment of labor or capital promises to add to their profits.”