I am sure this has been discussed before but I couldnt find a recent relevant post or haven't heard it addressed by an Austrian view.
Where does the money that pays for interest come from? I know there is a 'value' to withholding consumption to make capital available but where does the money come from? Take this example:
In a simple economy with 1 bank and 2 people - a farmer and a blacksmith - the farmer borrows 1000 @ 10% interest from a bank and buys tools from the blacksmith with the 1000. Then produces food (with the tools) which he consumes some and sells some to the blacksmith for 1000 (all the money in circulation). The farmer now owes the bank 1100. Where does the 100 from interest come from.
I always assumed the central bank was ever expanding the money supply to make up for this deficit but have never heard it adressed by an Austrian Economist. I always thought the Austrian view was the money supply should/could be fixed but if this were possible everyone would go bankrupt and only few would be left with all the money.
The real Austrian answer is originary interest and time preference
Every individual chooses how he wishes to live and attempts to make this so, in economics this involves the buying and selling of goods and services, this, by definition has to extend to points in time as well. It is a universal trait that man will prefer things sooner to later if all the conditions for the wanting of that thing is met. For instance if I will want water because I am thirsty, so I can give it a miss now, but in two hours from now when I am thirsty and I will want the water as soon as I am thirsty, if it were between waiting and drinking then I would choose to drink immediately, I would not want to wait. However, If it were between a cup of water when I first became thirsty and two cups of water ten minutes from that time then I might choose to wait ten minutes.
This principle of time preference also extends to money. An individual who values money in the now will not want to part with it. So there is only one way to convince a man who wishes to spend now to lend to you, and that is by offering him interest. This is deemed originary interest, or how many of tomorrows dollars is worth one of today's. I will not save a thousand dollars just to receive a thousand dollars and one cent a year from now, perhaps I will if I'd get a thousand one hundred dollars. Additional interest is added to loans based upon how insecure they are, if I can't be sure of even getting back everything that I loan you then I better be getting a lot of money if your venture does succeed, otherwise if it were the same amount of interest then I would just go and give out a loan to a less risky venture.
As the interest rate becomes lower then more people are prone to withdraw their savings and spend today, however in an unhampered market this is because for two factors, the interest rate became lower either because loans are less profitable (Businesses know that they will not be able to make enough to pay back the loan so they stop taking out loans) or because people are more inclined to save their money, so the rate of interest goes down because people are starting to value money tomorrow more, a lower rate of interest tomorrow is still worth more than the principle is today.