I assume libertarians are opposed to banning usury.
Why?
What a bunch of bullshit.
Hmmm. Lets discuss.
First lets make sure we are talking about the same thing. When you say compound interest you mean that interest is added to the principal balance. interest is then earned on the origianl principal and the previously accrued interest. If that is your claim as to how mortgages work it is not. At no time is accrued interest added back to the principal amount.
Interest is calculated (most times) on a daily basis on the outstanding pricipal balance. As this interest accrues it is kept separate from the principal as accrued interest. Your payment at the end of the month pays the entire accrued interest balance and (at first) a little bit of principal. At no point in that process is interest calculated on interest.
The annuitization of the principal amount of the loan is calculated using compounding
What exactly do you mean here. When calculating mortgage interest at what point do they add the interest to the principal?
And while individual late payments themselves do not get added to the principal and recalculated, they incur late penalties that are far more severe than any compound interest effects would have been.
This has nothing to do with compound interest.
Finally, if you miss several payments and the loan goes into default, all the principal and the accrued late penalties, etc. are recalculated with interest.
This also has nothing to do with compound interest.
So Clayton, do you only object to interest on the grounds that it is induced by statism or for some other inherent basis? I see nothing wrong with the Austrian idea that the interest rate is the basic way that the opportunity cost of money over time is conveyed to the entrepreneur, I see no other effective way of doing this.
Your payment at the end of the month pays the entire accrued interest balance and (at first) a little bit of principal. At no point in that process is interest calculated on interest.
These two statements contradict each other. The fact that the amount of each payment that is applied to the principal is reduced by the accrued interest is precisely what it means for interest to be calculated on interest. The two are logically equivalent.
Let us show the difference. Let's say you take a $100,000 mortgage over 10 years to buy a home for 10% simple interest. This would be a total sticker price of $110,000, to be paid $11,000 per year, so payments work out to $916.66 per month.
Compounded interest of 10% on a $100,000 loan (compuonded monthly) for 10 years, comes to a monthly payment of $1,327. $1,327 * 120 = $159,240, so this 10% compounded interest loan is equivalent to a 59.24% simple interest loan.
Of course, the fact is that the meaning of "simple interest" is relative to time and that is precisely what interest compounding captures. There's nothing inherently evil or abusive about interest compounding... rhetoric regarding usury aside. My point is not that compounding needs to be effectively banned, which is really what religious and political arguments against compound interest are interested in doing. Rather, my point is that I think that contracts should be structured such that the defaulting structure of the loan is fixed and final. You shouldn't have an increasingly larger and larger claim against a defaulting debtor. Does this mean that there will be less credit? Yes, it does. Is that the end of the world? No, I think it isn't.
The root problem here is that I think the law has been perverted into an instrument for securing creditors. Well, and expropriating them, too. In other words, the law has become a major clearinghouse of redistribution based on debt-based arguments... some of these arguments hurt creditors, some of them hurt debtors. But the point is that the criteria applied by modern law are generally not based on concerns of justice, they are based on purely commercial concepts regarding the "true value" of debt assets. Specifically, the compound interest argument is regularly applied to argue that Jones' (creditor) is owed by Smith (defaulting debtor) restitution according to a compounded interest calculation. This is the result of the corruption of contract law whereby terms of prviate agreements - whether severe or lenient - are regularly ignored by the courts and the courts' own ad hoc judgment substituted. This means it is impossible for a debtor (or creditor) to be secure that a contractual instrument has $X value in the event of default... it might have a value much greater than $X or much less than $X ... it all depends on what you can convince the courts to accept. Thus, the focus becomes on persuading judges.
Of course it does. Let's say you take a loan for $1,000 and do not pay. This, in turn, becomes $1,000 + $300 in late fees within the year (far in excess of the loan interest rate). After you default, you are not free of the obligation, you are now in debt $1,300 to a new creditor... at a whole new interest rate, etc. This process will repeat indefinitely. This is how people rack up "millions of dollars in unpaid parking tickets", for example. Such absurdities are only possible because of the usurious nature of US credit and "fee" law.
Clayton -
@Neo: I think the economic conception of interest rate is wholly separate. If you read Mises on interest, he makes it clear that originary interest is a purely psychological phenomenon... it is simply the "rate" at which you prefer present goods over future goods.
Credit - the actual granting of loans - doesn't have to use a concept of "interest" at all... it can just say "here's the price you have to pay me if you want me to loan you $X for Y period." How that price is calculated is irrelevant to the facts of the exchange.
What I'm arguing is that the law should restrict - by simplifying - the language of credit contracts to something like the following schema: "Smith agrees to repay Jones $X by Y date. Should Smith fail to meet Y date, Smith agrees to pay Jones $Z." End-of-contract. The problem with the compounding nature of default in modern law is that it indefinitely cascades defaulting terms in the contract... should Smith miss Y' date, he owes $X', should be miss Y'' date, he owse $X'', and $X''' after Y''' date, etc. While it is conceivable that someone might voluntarily agree to such a contract, it is my view that the existence of such contractual concepts is actually symptomatic of the corruption of private contractual agreements... contract-writers are actually imitating the de facto law created by how courts adjudicate debt, that is, the courts will apply a compounding rate in the calculation of "true value" of defaulted debt.
Where this is fallacious is in the assumption of the perfect profitability of loanable funds, an obviously false assumption. This, in turn, shows the underlying logic of law regarding defaulted debt: that it is the job of the law to make creditors as secure as possible, that is, perfectly secure. The fact is that creditors are taking a risk when they extend loans and they have no business being empowered to grind poor people to powder in order to make a lesson of them in order to terrify their middle-class clientele to always pay on time, thus securing the credit market (and expanding it) beyond what would pertain without such legal measures. The opposite is also occurring, where private lenders (or contractors of any type) have difficulty in holding people to the simple terms of their contracts because, in the view of the courts, private agreements are only binding to the extent the courts choose to make them binding, or to the extent they happen to invoke statutory law.
Your payment at the end of the month pays the entire accrued interest balance and (at first) a little bit of principal. At no point in that process is interest calculated on interest. These two statements contradict each other. The fact that the amount of each payment that is applied to the principal is reduced by the accrued interest is precisely what it means for interest to be calculated on interest. The two are logically equivalent.
I didnt say that the principal amount is reduced by the accrued interest. You have two pots of money one is the principal owed the other is interest owed (accrued interest). Your payments are set up so that every month the balance in the accrued interest is paid in full with enough left over to pay a small amount of principal.
Let us show the difference. Let's say you take a $100,000 mortgage over 10 years to buy a home for 10% simple interest. This would be a total sticker price of $110,000, to be paid $11,000 per year, so payments work out to $916.66 per month. Compounded interest of 10% on a $100,000 loan (compuonded monthly) for 10 years, comes to a monthly payment of $1,327. $1,327 * 120 = $159,240, so this 10% compounded interest loan is equivalent to a 59.24% simple interest loan.
Ok I think I see where our disagreement is. Are you under the impression that you would be paying interest on interest in your second scenario? Because you are not. Compounding in this context has nothing to do with paying interest on interest. I only means how often is interest calculated.
The interest that you pay is based strickly on the outstanding princpal balance in both cases. The difference between your two scenarios is that your percentage rate is this: In your first example the 10% is per 10 years in your second example it is 10% per one year.
The extra $49,240 you pay has nothing to do with paying interest on interest. You pay more because you have agreed to pay 10% interest every year not just once.
Rather, my point is that I think that contracts should be structured such that the defaulting structure of the loan is fixed and final. You shouldn't have an increasingly larger and larger claim against a defaulting debtor.
When you sign your loan agreement it tells you exactly how much interest you will end up paying and what the fees will be if you dont pay as agreed.... Why not if that is what is agreed to. Edited because I miss read your statement.
Thus, the focus becomes on persuading judges.
If what you say is true this is an issue of a corrupt justice system and not contracts for compound interest loans.
You are jumping from one issue to another. Fees are not interest.... they are fees. So this has nothing to do with compound interest. If you are upset that when you borrow money that you are held to the terms of your agreement, I dont know what to tell you.
Even if the lender decides to never write off the bad debt, they cant do anything to you except harrass you about paying them back if it was unsecured, or repossess whatever collateral you secured the loan with.
As far as "millions of dollars in upaid parking tickets", I highly doubt that this was a private entitiy... most likely a government entity.
You might want to take the time to reread Clayton's posts more closely.
Yea I dont feel like we are talking about the same thing.
Re-read the sentence you quoted.
No. Compound interest loans operate on precisely the same principle as compound interest in a savings account or other financial instrument. Interest is calculated on principal plus accrued interest. The fact that the calculation is done stepwise during each billing period is irrelevant. If that is the case then mortgages, consumer and commercial loans done the US are not compound interest loans. You do not pay interest on the accrued interest. Also, with savings accounts and CDs you do not earn interest on accrued interest. You earn it on the account balance. Its not until they pay you the interest and you deposit that amount that you begin to earn interest on it. It would be similar to having an open ended line of credit like a home equity line where you drew on your LOC in order to pay you payment. Nope. 10% simple interest calculated for one year would still be $110,000 - payments would be $9,166.66 per month. As for "10% per year"... well, that's again compounding Once again if you mean you are paying interest on the interest that accrued during the first year in addition to the pricipal then you are incorrect. If you are simply saying that interest owed is calculated 120 times over the course of the loan instead of one then yup. Actually, my calculation was based on a monthly compounding period, over 10 years. Anyway, why don't you give me an example of true compound interest so we can see an example of this elusive beast. "true compounding" as you put it. Is where you would take the interest that accrued during the first month add it to the principal and then calculate the interest due the second month and then add that to the principal then calculate the interest due the third month then add that to the principal then calculate the interest due...... etc. What occurs on your typical loan is that interest is calculated on the pricipal balance then added to accrued interest, next month interest is calculated on principal then added to accured interest, next month interest is calculated on principal.... etc. But what, exactly, is the agreement? That's the point. Being "held to terms of agreement" is, as Rothbard notes in EoL, an anti-liberal conception of what a contract is. A contract is, at root, a conditional property title. "Terms of the agreement" is a squishy and ill-defined concept... and, ultimately, it leads to unlimited liability. Any agreement, however tiny - even if such an agreement was never actually made! - can balloon into astronomical liability.
No. Compound interest loans operate on precisely the same principle as compound interest in a savings account or other financial instrument. Interest is calculated on principal plus accrued interest. The fact that the calculation is done stepwise during each billing period is irrelevant.
Nope. 10% simple interest calculated for one year would still be $110,000 - payments would be $9,166.66 per month. As for "10% per year"... well, that's again compounding
Actually, my calculation was based on a monthly compounding period, over 10 years. Anyway, why don't you give me an example of true compound interest so we can see an example of this elusive beast.
But that's my point... the private entities imitate the public entity... they are little models of the big tyrant.
But what, exactly, is the agreement? That's the point. Being "held to terms of agreement" is, as Rothbard notes in EoL, an anti-liberal conception of what a contract is. A contract is, at root, a conditional property title. "Terms of the agreement" is a squishy and ill-defined concept... and, ultimately, it leads to unlimited liability. Any agreement, however tiny - even if such an agreement was never actually made! - can balloon into astronomical liability.
Overall I think we are moving in the right direction. After all it was not long ago you could be thrown in jail for bad debt.
I think this is the illusion we are being sold and I think it is precisely the opposite... we already have debtor's prison again, did you know that? If you are a divroced father and you fall behind on your child support payments - perhaps due to debt, perhaps due to unemployment, doesn't matter - you can go to jail, and many men do. That's what all this "deadbeat dad" crap is about. Nevermind that, in most States, child support is directly garnished from the paycheck... that doesn't matter... all that matters is that the State's attorney can declare you in arrears of child support and you are on your way to prison. Please explain the logic behind that. "You're not supporting your children.... so we're gonna make sure you can't." It's like that meme: "We're the government and we're here to save your life even if we have to kill you to do it."
http://www.mtgprofessor.com/a%20-%20simple%20interest%20mortgages/simple_interest_nomenclature.htm
http://www.washingtonpost.com/wp-dyn/content/article/2008/01/25/AR2008012501739.html
http://www.ehow.com/about_7407422_simple-vs_-compound-mortgage-interest.html
Just a couple of links might help clear up our understanding.
Overall I think we are moving in the right direction. After all it was not long ago you could be thrown in jail for bad debt. I think this is the illusion we are being sold and I think it is precisely the opposite... we already have debtor's prison again, did you know that? If you are a divroced father and you fall behind on your child support payments - perhaps due to debt, perhaps due to unemployment, doesn't matter - you can go to jail, and many men do. That's what all this "deadbeat dad" crap is about. Nevermind that, in most States, child support is directly garnished from the paycheck... that doesn't matter... all that matters is that the State's attorney can declare you in arrears of child support and you are on your way to prison. Please explain the logic behind that. "You're not supporting your children.... so we're gonna make sure you can't." It's like that meme: "We're the government and we're here to save your life even if we have to kill you to do it." Clayton -
I agree specifically with the insanity of imprisoning people for being bad fathers and not supporting your children, or simply being someone who cant live up the dictates of the court.
But this is not "debtors prison" as you describe. They are not going to jail because they owe child support they are going to jail because they have dared to defy the court. I do draw a distinction between this issue and contractual debt, where generally the only thing at risk is your reputation or property you have specifically put up as collateral.
Once again if you mean you are paying interest on the interest that accrued during the first year in addition to the pricipal then you are incorrect. If you are simply saying that interest owed is calculated 120 times over the course of the loan instead of one then yup.
I guess what I'm trying to say is that it's mathematically identical. A mortgage is "an annuity in reverse." You just take the same formula and instead of getting monthly checks drawn from the annuity account, you are making payments on the loan. As the length of a loan increases and the compounding time reduces (I understand many lending houses use a daily compounding rate), the closer it approximates a continually-compounded interest loan.
What you're saying is that unless the payment is less than the accruing interest, then it's not compounding but this is not true because the accrued interest is taken out of the payment and only the remainder of the payment is applied to the principal. The way to see my point is as follows. Imagine you have $100,000. You can invest it in an annuity for 20 years at 5% interest, or you can start a bank and loan it out for a mortgage at 5% interest. Either way, you will be receiving a montly check for $660 for 20 years, for a total profit of $58,400 (58.4%). You can't deny that an annuity is earning interest on interest, it's just that all the interest (plus a little more) is being drained from the account as it is being earned.
Also, to reiterate my earlier point, I also think it continues compounding through the late fees which are actually larger than the interest. And, furthermore, once the debt goes into default, the entire amount is calculated as principal+fees, not just the principal and will be refinanced as an interest-bearing loan (thus, interest on interest) and this can happen arbitrarily many times. In practice, it may not happen frequently, but it's the fact that it can happen and does happen to some unfortunate people, that is really my point. It's like the effect of the possibility of a cop can give you a ticket for not stopping a full three seconds at a stop sign. It forces everyone to comply with a certain order.
I understand that the mortgage market is heavily regulated and probably a lot of these regulations are actually good things as far as they go. But my point is more to the overal social/financial order, of which the loan market is just a piece.
I see what you are saying and maybe theoretically it could, but in practice it does not. Bank policy is this.... When a loan is a certain period past due it is put on "nonaccrual" which means the bank stops charging interest. Late fees are a one time deal based on missed payments, if you agreed to make 120 payments and lates fees of $30 per payment then your liabiltiy for late payments is $3600 maximum. It would never happen though the bank would write the debt off long before that. So things are not quite as undefined and open ended as you are making them out to be.
No doubt the "government as creditor" is the worst of all possible worlds, far worse than private creditors who must at least stop when collection costs exceed the assets they are trying to recover. But I'm going more to the principle of the matter - it's not just about car loans and mortgages, it's about any kind of claim or obligation. For example, let's say you get a letter in the mail. "You owe $1,500. Please contact xxx-xxxx immediately to avoid further legal action." etc. Now, there's no legal way to make this stop. Anyone can legally make a claim - and keep repeating that claim - indefinitely. There is no legal action whereby you can tell someone "put up or shut up." But the reverse is not true... if you believe someone owes you money, you may file a legal action to force that person to prove they don't owe you... it's completely one-sided. And what have we gotten as a result? A collection culture.
"No doubt the "government as creditor" is the worst of all possible worlds, far worse than private creditors who must at least stop when collection costs exceed the assets they are trying to recover. But I'm going more to the principle of the matter - it's not just about car loans and mortgages, it's about any kind of claim or obligation. For example, let's say you get a letter in the mail. "You owe $1,500. Please contact xxx-xxxx immediately to avoid further legal action." etc. Now, there's no legal way to make this stop. Anyone can legally make a claim - and keep repeating that claim - indefinitely. There is no legal action whereby you can tell someone "put up or shut up." But the reverse is not true... if you believe someone owes you money, you may file a legal action to force that person to prove they don't owe you... it's completely one-sided. And what have we gotten as a result? A collection culture."
Can you elaborate on this please?
Schools are labour camps.