The result is that interest, to the banker, as well as to the man who has occasion to borrow, appears to be a payment made for the use of money.
4. What is interest?—The United States govern ment now pays from two to four per cent on its bonds. The Russian government paid as high as six per cent during 1915. The farmer in North Dakota pays about eight per cent. Anyone who borrows from a pawnbroker pays as high as 20 per cent, and a, high grade corporation, solvent and ably managed, borrows at five per cent. From the low rate of two per cent to the high rate of 20 per cent is a wide difference, rep resenting many economic vicissitudes. The phrase "gross interest" has been used to describe the total interest paid for an advance of capital. It includes an item of insurance against risk and a payment for the use of,capital goods.
Turning to the item of interest rates, cited above, we find that the allowance for insurance against risk explains the differences. The United States govern ment is as solvent, and as likely to meet its obligations, as any human organization will ever be. In the case of loans made to the government, there is no element of risk and no need of paying an item of insurance against possible loss. This, however, has not always been the case. During the Civil War the United States paid high rates upon the funds that it borrowed.
National strength and stability have been gained since 1865 and, with them, higher standing in the financial markets of the world. The element of insur ance against risk being eliminated, the rate of interest for the use of capital goods appears to be about three per cent. Where the rate varies from this amount there are other elements of cost that must be added, such as possible loss in failure to pay, cost of placing loan, delays in collection, and difficulty in _making transfer from one form of capital to another. The , last element touches the problem of capital supply as affected by ignorance of opportunities and the lack of market facilities in finding openings for products. The discussion of these factors may be left until the rate of interest is taken up, later in the chapter.
The term "pure interest" has been used to describe the amount paid for funds by a government like the United States. It is, in fact, the "net interest" which the economist endeavors to explain in the vary ing theories of interest, such as the productive theory, the abstinence theory, the use theory and the ex change theory. The definition given for interest was
"the amount paid for capital." This, however, is a reference to capital that hardly explains interest. Naturally the borrower has the use of the capital, but the lender would have that also ; the fact is, he actually has it in the absence of his own ability to secure it. He postpones the sacrifice necessary to becoming the rightful owner.
Interest thus becomes a bonus, a premium, an addi tion that the borrower pays at a future time. The lender foregoes the use of the capital now In order to receive the premium which the borrower is willing to pay in the future. This explanation possibly covers the need of a definition. Net interest is the value of present capital goods measured in the future value of such goods. The ability of the lender to wait becomes a major factor in the determination cf interest.
5. Reasons for business man knows tl‘t capital earns an income for its owner, which not only is sufficient to keep the supply of capital intact but which also includes an item of pay for its use. Many denials have been made of the statement that capital is productive. For instance, it is said that labor creates all capital. Unquestion ably labor and land are the elements that contribute to the immediate creation of wealth, but designation of the wealth for productive purposes may not be brought about unless there is abstinence of use. Sav ing enters as a great capital-creating effort, since it influences men to refrain from consumption now, in order that they may produce later.
Thus foods and materials become tools, engines and structures. The use of these in production de cidedly aids those engaged in specific tasks. The loom driven by power is so superior in the matter of productivity to the old hand-loom that no one doubts the necessity of having it. Alen want producers' goods because they add an income not securable without them. That is, such capital increases the product and, as a consequence, enlarges the income, making the borrower willing to pay rather than do without the capital that he has used in his business.