Hifz ur Rab

Efficiency is the name of conforming to laws of nature. Ideal performance of interest driven system requires the investment to produce nearly same rate of return so that interest rate may be considered a means of sharing of profit between financier and entrepreneurs and investment may not suffer adversely, but that being grossly contrary to nature, the system is inefficient. 

Average global annual rate of population growth is around 0.85% and rate of growth of gross domestic product is 3.47% (for the period from 1960 to 2022).

Considering that entrepreneurs plan, set up and manage businesses and bear the risk, the entrepreneurs should get capital for investment at or below 1.75% interest rate. If banking and financial institutions are required to provide capital for investment to entrepreneurs at less than 1.75% when the spread is targeted at 2%, the rate of interest on deposits comes out to be 1.75 – 2 = -0.25%. Clearly it will not be possible to mobilize savings for investment.

To ensure availability of most of the capital for investment, governments are under intense pressure to allow high rate of interest to maintain employment and avoid flight of capital. Furthermore, governments are required to allow practices that allow entrepreneurs to ensure rate of return around or above twice the rate of interest. This results in forced reduction of wages and increase in the prices of products of the organized sector.

When wages are attempted to be lowered and prices increase, the purchasing power of economy falls. It lowers the rate of return and exert high downward pressure on interest rate, investment and employment and these factors lead to economic crisis.

Clearly these problems are caused due to gross conflict between conditions required for efficient working of system of interest and the nature. Furthermore, in trying to maintain employment and to keep economy growing under capitalism, governments are known to indulge in gross violation of human rights and growing disparity of income and wealth produced by currency depreciation in capitalism, a tragedy that is well known.

The under developed and developing countries are compelled to deny basic amenities to the people due to massive burden of interest produced by the inflationary capitalism. The governments of these countries are compelled to initiate and follow such antihuman policies by the mighty lenders and their agents that claim to be the champions of the human rights.

Following World War 2, interest based loans grew massively and caused massive destabilization of national economies. When a major component of total investment comes from the capital borrowed on interest, then maintaining employment becomes a major challenge. 

Massive shortage of enterprises arises at prevailing rate of interest.  Businesses find it hard to survive. Crisis may lead to massive bankruptcies and depression and economy becomes unsustainable.

Instead of eliminating interest—the real cause of the economic crises—governments, influenced by powerful, self-seeking capitalists and their agents, agreed to freely depreciate currency and were freed from maintaining the currency stability required by the gold standard.

In 1971, USA refused to honour its promise to exchange its dollar for gold that may be considered biggest thuggery in the world. Thus, the world was forced to accept free floating fiat money that is undefined and consistently falling quantity of wealth as measure of value and the fiat money was used as unit of account as well based on fraudulent measuring principle. 

While free floats allow governments to create money from thin air and finance part of their expenditure without generating revenue, it allows banking institutions to raise spread without causing loss to business owners as inflation created by interest based loans created by double entry book keeping system raises money supply that allows perpetual price increase.

With most prices rising, people do not understand the reality, fail to produce appropriate reaction to guard their interests. Thus, savings of the commoners are confiscated and prices and wages in organized sector rise more than unorganized sector and systemic interest and monetary fraud continues to transfer most of the return from economic activities to bankers and owners of big businesses at the cost of the masses.

Considering that system of interest provides for a fixed reward for capital provider (rate of interest), it is clear that it will be most efficient if all the investments in the economy produce same rate of return.

However, natural distribution of investment with respect to average relative real profitability of investment has natural shape like Gaussian distribution function. Not only that the system of interest does not have any mechanism to maintain vital economic balances and sustain growth, it is very inefficient even in distributing profit of the enterprise between entrepreneur and creditor. Profitability of investment is spread over a wide range. Author has shown that Investment (dI_P) in the real profitability in the range between P and P+dp.

Where is the average real profitability* for the economy and ‘C’ is normalisation constant. This leads to following result for Percentage of Investment up to given Relative Real Profitability.

Labour employed must be paid even if enterprise employing them does not make any profit. Hifzur Rab (1994, 1996) has concluded that even if an investment has zero profitability for owners, profitability for labour is 0.025 (or 2.5%).

Suppose average real rate of return is 7.5% per annum and rate of interest is 2.5%. Then, if all the invested capital was borrowed on interest and if all the loss making units were to shut down, unemployment rate comes out to be 19%. For comparison with empirical data, it has to be corrected for reduction in unemployment due to unorganized sector and due to subsidies and relaxation in monetary supply. Considering that computed figures include disguised as well as voluntary unemployment, the figure seems to be in good agreement with available data on unemployment. 

Employment is maximised when rate of interest is such that availability of capital for investment equals availability of enterprises where it could be invested. The former is determined by income to the rich and the latter by income of the poor that determine purchasing power and therefore price level and average real profitability for the economy.  Lowest possible level of unemployment for given average aggregate rate of return in absence of inflation is tabulated as inflationary pressure.

Minimum Level of Unemployment in a non-Inflationary Environment

Inflationary pressure arises when the over-utilization of economic resources causes a shortage in supply, which in turn leads to a rise in prices. This pressure often compels governments to pursue policies aimed at raising investment.

The pressure on governments forces them to engage in the cost-free creation of money—often through a double-entry bookkeeping system—which leads to monetary depreciation, or else to borrow from external sources.

For comparison, data for the Islamic economic system, which is driven by Zakah (an obligatory form of charity), has been included. It should be noted that the Islamic system’s performance is consistently superior. For instance, when the average aggregate real rate of return falls to 10%, the unemployment rate in the interest-driven capitalist system stands at 17%, whereas in the Zakah-driven Islamic system, it is around 7%.

In the Islamic system, the rate of unemployment is not a major problem, which allows labour and the masses to receive their due share of the economic surplus. This ensures that the purchasing power of the economy remains in equilibrium with its productive capacity. Consequently, the Islamic economic system tends to remain free from disruptive trade cycles.

Even when average profitability is strong and the prevailing interest rate is balanced, a significant number of enterprises—particularly those employing a higher proportion of labour—fail to generate enough surplus to even cover the interest payments at that rate. The economy cannot afford to shut down these businesses, nor can they secure financing based on market principles.

Therefore, the manipulation (depreciation) of currency becomes a perpetual need for the economy. The current economic system, which uses interest alongside freely floating fiat money, relies heavily on this monetary manipulation. While this manipulation is purely artificial, economies driven by interest tend to collapse if it is abandoned. Consequently, no country is willing to stop monetary manipulation.

Theoretical and empirical evidence confirms that freely floating fiat money is constantly manipulated to keep the interest-based system alive. The inherent perversity of interest is clear: it requires monetary manipulation—which constitutes one of the worst frauds against humanity—just to survive. To illustrate this point, if only 25% of the world’s total resources were invested at a 12% yearly compounded interest rate, the overall growth of the entire global economy would be entirely consumed by interest payments. Consequently, there would be no overall gain left for all other factors of production. Therefore, interest acts as a killer, particularly for the economies of indebted nations.