Australian media has been filled with stories about bank hidden fees on debit cards. However, a bigger one is hidden fees on loan accounts. With loans, you pay the advertised interest fee twice and any other bank fee debited to your loan account twice.
Every time a bank debits a loan account, it expects you to repay the money it is about to give you. The bank creates new money (which costs it nothing) and puts it into an account you designate, like your trading account. With a credit card loan, the money goes directly to the merchant.
However, the banks don’t do this with interest and bank fees. The money that should benefit you, the borrower, ends up with the bank because the bank is the merchant. The bank, however, does not acknowledge that debiting the loan account pays the interest or the fee, and it expects you to pay it again. This leads to paying the bank twice.
Debiting your loan account extends your loan, and you should benefit financially from the extension. Your money pays the interest or fee to the bank, which receives the money but does not reduce your loan.
Banks justify the process by calling it compound interest. It is not compound interest, which is interest on interest. Banks charge you twice for interest and fees, which is quite different.
A Spreadsheet Example
The following spreadsheet (available here) illustrates the problem and provides the solution.
The only difference between the two calculations is that interest is subtracted from the Capital on the right table above. The right table is correct, as the bank creates money that is paid to the bank to pay the interest. This transfer is invisible to the borrower, making it hard to understand and see the deception.
However, banks understand, and they are happy to misrepresent the situation. We know they understand because their loans with other banks—including the Reserve Bank—work on a mutual credit system where they do not double-pay interest.
Another interesting result is that the amount paid to finish the loan is the same as the amount of new money created. This is correct as interest paid is subtracted from the capital.
The word “interest” creates confusion. It implies that money earns interest, but interest does not come from money “earning” interest. It is a bank fee that includes a component that depends on the loan size.
What Governments Can Do Tomorrow
Governments pay interest twice. With one stroke, governments can negotiate with banks and halve their interest payments, causing inflation to drop to zero because of the increased productivity of existing capital. Using community banks where the owners are depositors and borrowers will make the communities they serve wealthier.
Emergent Properties
There are many emergent properties of banks behaving dishonestly, as their actions distort the financial system.
The advantage given to wealthy people and organisations to new money through loans leads directly and inevitably to inequality in society. It results in a Zipf distribution of wealth whereas a socially and economically better distribution is the Poisson Distribution with more people in the middle of the wealth distribution and few people in poverty.
Dishonest behaviour reduces the economic system's productivity as vast amounts of money are wasted and left unproductive.
Loans are an extraordinarily costly way to introduce money into society. Simple alternatives eliminate all interest payments and capital costs for community-owned assets.
This can change without causing inflation or disruptions to society by stopping banks from claiming new money interest as the banks instead of the borrowers who pay for it.
Canberra Light Rail as an Example
Today, the ACT government has contracted for the second stage of Light Rail and is building it financed with loans. The estimated cost is one billion dollars, and the number of passenger trips per year is 3,300,000. Assume the outstanding loans are about $1,000,000,000 and have an interest rate of 6%. The estimated cost of operating the Light Rail without finance is assumed to be $30,000,000 per year, and it is estimated that 472,000 residents live there.
By operating and paying off Light Rail with a single interest payment, the ACT government would save half the $60,000,000 yearly interest payment.
If the ACT Government purchased the remaining loans with zero-cost new money, the community would save about $120,000,000 yearly, and most people would get zero-cost light rail rides. Implementing this would take a few months and be an extension of the new ticket system. A new Canberra Company would build it, and it, in turn, would be owned by the transport customers who used it. This would save more money.
Implementing a Community Owned Light Rail
The following outlines the broad principles and changes. There are many other possibilities and variations, and the systems will evolve.
Politically and socially, Light Rail mustn't pit one part of Canberra against another. The following achieves that purpose while showing how to build efficient infrastructure that is not financed without taxes or loans and brings choice and collaboration to the design and construction.
All Canberra residents could own Light Rail and govern it jointly with the government.
A government representative will chair the governing board, and six other members will be randomly selected from a group of elected people who received a quota of 1,000 votes from shareholders. All shareholders receive one vote. Elections will be held every four years in an off-general year election.
Light Rail's capital value will initially be one billion dollars, and each resident will receive 2,000 $1 shares financed with new money. New residents will receive $2,000 shares when they first reside in Canberra. Shareholders will receive 5% more shares each year and must sell 10% to another investor. Initially, each $25 ride payment purchases $15 worth of shares, and the ride itself is $10. The ride can be paid for by selling $10 worth of shares.
Share sales made to consumers move capital and realise its value. The circulation of the same money transfers value each time it moves. Each sale of a ride transfers $25 of value or economic activity. This makes community-owned enterprises more economically efficient than regular shareholder companies and better able to compete.
The Light Rail will operate at a profit, increasing as the number of rides increases. The profit can be redistributed to riders as new shares and used to invest in new Light Rail Services.
Different ride prices handle subsidies for various groups, like children and pensioners. For example, those now travelling free can pay $15 a ride.
Summary
The financial system is beset with issues associated with creating new money. Fixing the double interest payment is the first necessary step. Once this is done, many options appear, such as removing loans to transfer existing assets. The key focus should be the intentional selection of new assets to build. Current and future consumers must have a significant say in investment choices. This will create a productive economy because we will use at least half the money to produce the same output for all assets built this way.
What will happen will be exciting but probably better than our current trajectory as a species.
