Tuesday, October 21, 2014

"Interest is just another form of income."

In comments at Prag Cap, Cullen Roche:

Interest is just another form of income. If interest rates rise substantially then someone is earning a high income from this and someone is paying a higher fee for holding money. This doesn't necessarily "crowd out" anything, but I guess it could if it causes undue pressure on any particular sector (like the household sector when housing prices began to decline in 2006).

Interest is just another form of income.

Yeah, interest is the form of income that is paid to finance. As opposed to wages (paid to labor) and profit (paid to capital).

Gene Hayward asked me something a few days back... Geesh, like three weeks ago:

Is the "Capital" referred to by you and all the other sources only "Physical" capital or does it include "financial" capital or "finance" as you refer to it often?

Basically, the question is: What is capital?

That question rolled around the back of my mind for a while, and I think I finally have an answer.

If I take some of my income and spend it, that's not capital. Maybe I buy lunch with that money. It's a good lunch, and a fair trade. I got what I paid for. And I don't expect to get my money back. I am such a good consumer!

If I take some of my income and save it, that's not capital. Maybe I put it into a simple savings account. Maybe I put it in a more complicated savings account with a fancy name. Either way, I'm saving. I say my money's "in the bank". I don't know where the money is, really. But I do have a claim on it and I can get it back (perhaps only after a delay or after paying a "penalty" of some kind).

If I take some of my income and use it in a way that there's a good chance my money will come back to me, that's capital. This differs from saving because when I save I'm not using the money. It differs from what I called "spending" because when I spend I don't ever expect to get the money back.


If I put my money into saving of some kind, that's "finance". If I put it into productive activity of some kind, that's "capital". That's the difference.


Gene Hayward said...

Thanks, Art. That was VERY helpful.

The Arthurian said...

A month gone by, I was going to write a follow-up on the Cullen Roche quote at top. Oddly, however, the comments seem to have disappeared from Cullen's Prag Cap post.

Remember the old Rollerball movie from the 1970s? James Caan goes to Switzerland to use the library. The old librarian says We seem to have misplaced the Middle Ages.