Unethical Lending charges borrowers for money they have not borrowed by charging interest on interest. Lenders add interest to the amount borrowed and then calculate the interest. It means borrowers pay interest on interest, but the borrower does not have the use of interest on interest and hence is giving the lender something for nothing.
Instead of adding interest to the Capital, the interest should be kept separate from the Capital, and there should be no interest calculated on the interest. When a payment is made, up to 50% of the payment is taken from interest, and the rest of the payment comes from the Capital.
This small accounting change will address the financial stress of many lenders, increase the circulation rate of Capital and slow inflation without putting the country into a recession. Lenders do not lose out, and borrowers benefit. A slower circulation rate means Capital stops moving, and in the case of banks, it increases their share prices because the money has to go somewhere. This, in turn, increases the money supply and inflation because interest on interest does not generate extra production.
The small accounting change can also remove the need for bank shares. Depositors own the bank, and their deposit size determines their share of ownership. It eliminates the need for bank equity shares and stock market listings which eliminate operating costs, but it presents a governance challenge.
Comparison of an Unethical and an Ethical Loan
A $100,000 ethical loan over 20 years with a 5% interest rate will drop loan repayments from $8024 per year to $7500. The Bank has collected an extra $524 as interest on interest, which is unethical. The 5% interest rate covers the bank risk and a return on Lending. The additional $524 appears as extra dividends to Bank shareholders and increases Bank Share prices.
Unethical Loans encourage anti-social behaviour. If a bank can get extra money by increasing lending interest rates and decreasing its borrowing rate, it will do so. However, if it uses ethical loans, it will gain no advantage because its return will remain the same as there is no unearned income from an increase in the interest rate. The interest rate will stabilise at the rate needed to cover the cost of operations and the cost of risk.
The Perils of Unearned Income
Whether we like it or not, access to money is essential for survival in modern society. The easiest way to gain money is by finding a way to gain unearned income, and people will do it, particularly when it is institutionalised. We must recognise when unearned income exists and change our institutions to make it difficult. A simple accounting change to how we calculate Bank Interest will eliminate vast amounts of unearned income.
