In the previous posting in this series we examined how a commercial bank can legitimately create money to finance the formation of capital when there is insufficient or non-existent savings in the system. We discovered that a commercial bank can create money in concert with a borrower. Money can be created out of the bank's ability to have its promises accepted everywhere in combination with the borrower's ability to produce marketable goods and services.
This power of commercial banks in combination with borrowers sets up a seeming paradox. A bank of deposit shouldn't be used to finance capital projects. By doing so, as Dr. Harold Moulton proved, consumption must be cut to the extent that the new capital is no longer financially feasible. On the other hand, only by lending its deposits for capital investment is it legitimate for a bank of deposit to charge interest. Profit sharing is a right of private property, and "interest" is nothing more than a saver's rightful share of what his or her savings helped produce.
A bank of issue — a commercial bank — is designed to create money to finance capital investment without the necessity of existing accumulations of savings. This presents a problem, because there is no saver with whom the borrower needs to share the profits. The money — the savings — didn't exist before the borrower and the bank got together and, through joint action, created the money. No one, therefore, has a right to interest, because no one is putting up something that he or she owns, that is, in which he or she has private property.
Having private property in something (that is, having ownership of something) confers the right to enjoy the fruits of ownership (the usufruct thereof). Usury consists of enjoying the fruits of ownership — taking a profit — from something that does not generate a profit, or in taking more than the owner is entitled to. Usury is like demanding apples from a pine tree, or in taking two bushels of apples from a tree that only produced one bushel.
The less obvious aspect of usury is that it also involves taking a profit from something that you don't own, regardless how much profit it generates. The problem with the "Real Bills" doctrine, then, is that nobody owned the money that was lent before the loan was made that brought the money into existence. To charge interest on such a "pure credit" loan, then, is illegitimate, and constitutes usury, for (again) you can't take a profit from something you don't own.
This is because the bank doesn't own the money it created, the borrower does. What the bank owns is a claim on future income expected to be generated by the capital financed by the loan, and a lien on the capital — not the money that was created. All interest (the word comes from "ownership interest"), that is, all the profits generated from the capital in which he or she invested, thus belongs by right of private property to the borrower.
Does this mean that the lender — the bank — legitimately gets nothing? By no means. Because it provided a service, the bank is due a fee. The fee should be enough to cover the bank's costs and provide a market-determined just profit. The bank also took a risk that the loan would not be repaid. It has a right to be compensated for that risk. This "risk premium" is usually built into the "interest rate," although it is not, strictly speaking, "interest." (The risk premium can generally be determined by subtracting the "risk free" interest rate paid on government debt from the rate actually charged to the borrower.)
Thus, it is possible to finance capital formation in a modern industrial economy without the necessity of usury. Admittedly, the superabundance of consumer credit and government borrowing will always be usurious and thus a serious problem until it can be eliminated as a usual thing. Consumer borrowing at interest is clearly contrary to the prohibition against usury.
Interest on consumer loans can be "allowed" not because paying or taking interest on loans of money for consumption purposes is somehow no longer wrong, but because requiring someone to do what is impossible is wrong. Interest can be taken and paid today because the system works that way, and it is beyond the power of a single individual to change the system. The problem then becomes what to do when the system forces you to do what is wrong.