Resilience, Community Development, and the Problem with Charging Interest
Posted by Miriam Axel-Lute on April 9, 2013
"'Resilience' made #6 on The Chronicle of Philanthropy’s Top 10 list of buzzwords for 2012 because it is quickly replacing 'sustainability.' The Chronicle article notes that with all the changes affecting nonprofits in the world, focusing on adaptability and bouncing back is a good idea."
It's a pretty good summary of why something that might sound a little heady is directly relevant to the work that community developers do.
The fundamental question that The Resilience Imperative poses is one that the authors credit to ecological economist, Hazel Henderson: Growth for whom and for what? This question has been asked consistently throughout the history of community development here in the United States.
Lewis and Conaty advocate an economic strategy that “values diversity, is decentralized, additionally broadens, localizes and democratizes ownership in the economy and in turn widens the distribution of benefits, including the extension of democratic control over the commons of land, the corporation and finance." (Read the full review.)
But parts of the book might be particularly interesting—and challenging—for community bankers and CDFIs (and, well, everyone who uses them), since the authors, Michael Lewis and Pat Conaty, actually challenge the very idea of compounding interest as a basis for financing resilient communities. We asked them to tell us a little bit more about their reasons, and the alternatives, and here's what they said:
We live in a debt-based monetary system in which compound interest ensures we will never achieve either a more equitable sharing of wealth or a transition to a non-growth steady-state economy. Usury laws for centuries prohibited charging interest above legal maximums.
Henry VIII legalized interest charging but set a legal ceiling of 10 percent. This level was maintained for centuries. Oliver Cromwell reduced it to 6 percent and Adam Smith wanted it reduced to 5 percent. Smith felt that interest on loans above this level was anathema to enterprise development and the need to retain earnings for reinvestment and success.
Since the 1970s and banking deregulation, legal controls on interest ceilings have been lifted in country after country. Payday lenders now legally charge 4000 percent or more in many countries, but banks operate also this way. A 2012 investigation by the BBC has found banks often charging well above the level of payday lenders on overdrawn checking accounts. These extremely high charges and their effective interest rate costs are invisible as this popular form of borrowing from banks does not have to indicate an Annual Percentage Rate (APR).
The Rule of 72 is a bankers’ rule of thumb. This indicates how fast a lender can flip the principal of the loan by increasing the compound rate of interest. Dividing the interest rate into 72 reveals how soon the loan can be doubled or flipped. A 2 percent loan will take 36 years to flip but a 36 percent loan on a credit card only 2 years.
The research of Margrit Kennedy and others in Germany report that the embedded cost of compound interest in the German economy is 35 percent. Put simply, 35 cents of every Euro spent on goods and services was found to be the result of compound interest across all supply chains and consumption. Second, in terms of transfer of inequality, 600 million Euros every day were found to be transferred from the bottom 80 percent of the population to the richest 10 percent of the population via interest payments.
The JAK Co-operative Bank in Sweden rejects compound interest as common usury that feeds social inequality and ecology destroying growth. They charge instead only a service fee and small risk premium. When you compare their administrative fees with the average compound interest of 8 percent (Canada) over the last 30 years, the impact is enormous. On a 25-year mortgage of $333,000, the saving is $307,000.
JAK as a co-operative bank appears unusual but in the nineteenth century there were a diverse and growing range of European mutual lending organizations that did not charge interest at all. Working class communities started hundreds of terminating building societies and Starr-Bowett societies across Great Britain and Ireland. Members saved together at no interest and provided loans to each member to buy a plot of land and to secure an interest free mortgage from the mutual. Once members of the society received a loan for their home, the mutual was voluntarily wound up as its social and economic mission had been accomplished.
These mutual savings and local investment societies spread to New Zealand and Australia and continued to operate well into the twentieth century. In Brazil, Coophab operates this way to provide homes to the local groups it organizes into societies of 1000 mutual saving members. Each of the members saves jointly over ten years at no interest and is guaranteed a loan if they abide by the solidarity system’s rules. Every year 100 Coophab members in each group are provided interest-free loans from the mutual savings funds established in their district. By year 10 every one of the 1000 members will be secured a home locally.
If the German data shows that 80 percent of Germans households lose out in a compound interest rate system and the poor lose out the most, the Coophab and JAK Bank system is a practical alternative that should not be any longer well below the community development radar screen. But what about an example closer to home?
Habitat for Humanity developed the ‘Funds for Humanity’ system in the late 1970s. These are locally administered revolving funds that in the USA and other countries provide interest-free funds to self-builder housing groups. While the latter invest their ‘sweat equity’, the social investors gift their interest return in solidarity. Over decades these local ‘Funds for Humanity’ have financed this way a large proportion of the more than 600,000 Habitat for Humanity homes built so far and the 3 million plus people housed internationally.
From an overall sustainability stand point, given that economic growth and increased carbon emissions continue to increase in tandem, debt-based money creation and compound interest contributes to the problem. Economic growth is required more and more to pay back escalating levels of debt, which has skyrocketed over the last four decades. Growth continues to be dependent on fossil fuels. Thus, financial debt is a major contributor to our ecological crisis and socially, contributes significantly to increasing inequality and poverty.
Financial services deregulation since the 1970s has removed the caps on interest and marginalized usury laws that historically provided legally enforceable and transparent speed limits on creditors. Tragically it has been forgotten that these laws restricted the extraction of value from small businesses, household borrowers and local communities.
Community development lenders should revisit and seek to replicate these successful interest-free and fee-based lending practices that either charge low rates of interest or replace interest entirely with fees for service and risk cost premiums.
What do you think? How would your work change if we moved away from a debt and interest based economic model?
About the author more »
Miriam Axel-Lute is editor of Shelterforce and associate director of the National Housing Institute. Her email is miriam at nhi dot org.