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A Short Introduction to Natural Money


4 November 2008 (latest revision: 10 May 2024)


Author: Bart klein Ikink



The problem of interest


In the past, when borrowers could not pay their debts with interest, they became the serfs of money lenders. That is why interest was often forbidden and called usury. Most people have forgotten about that. Nowadays, most money is a debt on which debtors pay interest. That is why debt levels increase, there is inflation, the financial system is unstable, and we have central banks to manage these problems.

Incomes often fluctuate, but borrowers pay fixed interest charges. That can get them into trouble. And interest is a reward for taking risks. So the less a debtor can afford to pay interest, the higher the interest rate will be. The lender demands a higher interest rate to take that risk. That makes the financial system unstable. And interest is unsustainable. An example shows why.

Suppose Jesus' mother had opened a retirement account for Jesus just after he was born in the year 1 AD at a bank next to the Temple in Jerusalem. Suppose she had put a small gold coin weighing 3 grammes in Jesus' retirement account at 4% interest. Jesus never retired, but he promised to return. Suppose now that the bank held the money for this eventuality. How much gold would there be in the account in the year 2020?

The answer is an amount of gold weighing 12 million times as much as the Earth. If Jesus returns, the gold is not there. You do not need to be a genius to see something is profoundly wrong with charging interest. People already knew this for over 3,000 years. Today, we have built the world economy on interest. Those who borrow must pay for it. And that causes trouble. Interest charges push people into poverty.

Interest charges require growth. To pay for the interest, you must work harder and produce more. If the economy had grown 4% per year between 1 AD and 2020, Jesus might not be able to get the gold, but he could have bought many other things. Only 4% growth for over 2,000 years is also impossible. The planet would be a wasteland long before that. A sustainable economy probably requires ending interest.

There is not enough gold to pay our debts, so our money is not gold anymore. If the economy runs into trouble because of interest charges, central banks print new money to cope with the shortfall and prevent the scheme from collapsing. As a result, debts continue to increase. Inflation reduces the debt burden by lowering the value of money and debts. That is why central banks aim for some inflation.



How the financial system operates


Today, most money is someone's debt. When you go to a bank and take out a loan, for instance, a mortgage or a car loan, the bank creates new money. If you pay back the loan, the money disappears. Money is loaned into existence and repaid with interest. So, if the interest rate is 5% and there is € 100 circulating in the economy, borrowers must return € 105 within a year. Only where does the extra € 5 come from? Here are the options:
  • Borrowers borrow more.
  • Depositors spend some of their balance so borrowers can pay interest.
  • Some borrowers default, so a part of the balance does not return.
  • The government borrows more.
  • The central bank prints the money.

  • We usually borrow money to buy a house or a car, not to pay interest. When we borrow, the bank creates new money, and we spend it so it ends up in circulation. Someone else will use that money to make an interest payment on a mortgage or a car loan. So, debtors as a group borrow money to pay interest on existing debts. If Jesus does not come back to spend the money in his retirement account, the debtors of the bank can only borrow more to pay for the interest or default on their loans.

    That is why we have financial crises. When debtors do not borrow more and depositors do not spend, there soon is a shortage of money because of interest charges. If some borrowers default, that is not a problem because banks have capital to cushion some losses, but usually borrowers get into trouble in droves, for instance, when the economy is doing poorly and corporations lay off workers. And if banks go bankrupt, money disappears, and if people have no money, the economy collapses.

     
    Figure 1: Interest versus total income
    Figure 1: Interest
    versus total income
     
    When banks are in trouble, they stop lending, which makes matters worse because they stop creating new money to pay the interest on existing loans. And so, more banks run into trouble, and it gets even worse. That is why governments and central bank try to prevent that at all cost. Governments can borrow money and bring it into circulation, for instance, via unemployment benefits, so the unemployed can pay interest. And central banks can lower interest rates and print money to cope with the shortfall.

    Interest charges pose problems and are always usurious. You will not learn this from an economics course or the financial media. The issue of interest is hard to solve because without interest, there would have been no lending and borrowing, and we would not have a modern economy. We have interest on money and debts because:
  • When you lend out money, you cannot use it yourself. That is inconvenient. And so, you desire a compensation for the use of your money.
  • The borrower may not repay, so lending is risky. You desire a compensation for that risk otherwise you will not lend.
  • You can use your money to invest and make a return. To lend, the interest rate must be attractive compared to other investments.

  • Lending and borrowing are essential for the functioning of a modern capitalist economy. But there is good news. Changes in the economy and financial system may make it possible to end interest on money and debts.



    The end of usury


    A few things have changed over the years. You can lend money to a bank and still use it when you want. That is convenient. Banks check the financial condition of their borrowers and lend money to many different people and businesses. So if a few debtors run into trouble, the bank can stil fulfil its obligations. This reduced risk. Central banks can help out banks if needed. And governments guarantee bank deposits. That reduced the risk of lending money so bank deposits are often safer than cash.

    So what about the returns on investments? In the past, returns on investments on average have been higher than the rate of economic growth. Investors have reinvested most of those returns, so the amount of capital has grown faster than the economy, and a growing share of total income was not for wage earners but investors. That cannot go on forever because who will buy the things the corporations make if wages keep on lagging?

    Figure 1 shows how total income, wages and capital income develop with an economic growth rate of 2% and an interest rate of 5% when capital revenues start as 10% of total income and investors reinvest all their capital income. After 25 years, the economic pie has grown more than capital revenues, and wages have risen. At some point, capital income starts to increase more than total income, and wage income goes down. After 80 years, there is nothing left for wages. That will not happen because the economy would have collapsed long before that.

    In the short run, it was possible to prop up business profits by lowering interest rates to let people go into debt to buy what corporations produce. In the long run, capital cannot grow faster than the economy. When Thomas Piketty demonstrated that returns on capital often were higher than economic growth, it sent a shockwave through the world of economics because investors reinvest most of the returns on their investments. The same applies to debts. They cannot grow faster than the economy forever.

    When interest rates are negative, there is no usury. Debtors do not return more than they borrow. There had been negative interest rates in Europe for six years, but a financial system with only negative interest rates has never existed. But it seems possible. So can it indeed be done? And how? Two examples from history can show us what the solution might look like. These are the local currency in Wörgl and the grain giro that existed in ancient Egypt during the time of the Pharaohs.

     
    Monetary Revolution
     


    The miracle of Wörgl


    In 1932, during the Great Depression, the Austrian town of Wörgl was in trouble and prepared to try anything. Of its population of 4,500, a total of 1,500 people were without a job, and 200 families were penniless. The mayor, Michael Unterguggenberger, had a long list of projects he wanted to accomplish, but there was hardly any money to carry them out. These projects included paving roads, streetlights, extending water distribution across the whole town, and planting trees along the streets. The mayor came up with a cunning plan.

    Rather than spending the 40,000 Austrian schillings in the town’s coffers to start these projects off, he deposited them in a local savings bank as a guarantee to back the issue of a type of complementary currency known as stamp scrip. The Wörgl money required a monthly stamp to be stuck on all the circulating notes for them to remain valid, amounting to 1% of each note’s value. The money raised was used to run a soup kitchen that fed 220 families.

    Nobody wanted to pay for the monthly stamps, so everyone receiving the notes would spend them. The 40,000 schilling deposit allowed anyone to exchange scrip for 98 per cent of its value in schillings, but hardly anyone took this offer as the note was worth one schilling again after buying a stamp.

     
    Wörgl stamp scrip
    Wörgl stamp scrip with some stamps
     
    Of all the businesses in town, only the railway station and the post office refused to accept the money. The project ran for thirteen months. The council carried out the intended works and built new houses, a reservoir, a ski jump and a bridge.

    The key to this success was the fast circulation of the scrip money within the local economy, fourteen times higher than the Schilling. This increased trade and employment. At the time of the project, unemployment in Wörgl dropped while it rose in the rest of Austria. Six neighbouring villages copied the system successfully. The French Prime Minister, Édouard Daladier, made a special visit to witness the 'miracle of Wörgl'.

    In January 1933, the neighbouring city of Kitzbühel copied the project. In June 1933, Unterguggenberger addressed a meeting with representatives from 170 different towns and villages. Two hundred Austrian townships were interested in adopting the idea. At this point, the central bank asserted its monopoly rights on issuing money by banning complementary currencies.1 One can only imagine what had happened if communities all over the world had copied the idea. The Great Depression may have ended quickly, and World War II may never have taken place.



    Joseph in Egypt

     
    Joseph and the Pharaoh
    Joseph and the Pharaoh
    Source: Doré English Bible
     

    The Bible contains a story about a Pharaoh who had some bad dreams that his advisors couldn't explain. He dreamt about seven fat cows being eaten by seven lean cows and seven full ears of grain being devoured by seven thin and blasted ears of grain. A guy named Joseph explained those dreams. He told the Pharaoh that seven years with good harvests would come, followed by seven years of crop failures. He advised the Egyptians to store food. They followed his advice and built storehouses for grain. In this way, Egypt survived the seven years of scarcity.

    The food storage resulted in a financial system. The historian Friedrich Preisigke discovered that the Egyptians used grain receipts for money.2 Farmers bringing in grain received vouchers. And bakers who wanted to make bread exchanged these vouchers for grain. According to the Bible, Joseph took all the money from the Egyptians. That may have made the Egyptians look for another form of money.

    As a consequence, the grain receipts may have become money instead. There were storage costs so the vouchers lost value over time. Paying a storage fee is similar to buying stamps to keep the money valid, as happened in Wörgl. The actions of Joseph may have created this money as he allegedly proposed the grain storage and took all the money from the Egyptians.

    During the reign of Ramesses the Great, Egypt became a leading power again.3 Some historians have suggested that grain money was a source of Egypt's wealth during the reign of Ramesses.4 The money remained in circulation after the introduction of coins around 400 BC until the Romans conquered Egypt. The grain money was stable and survived for more than a thousand years. Probably there were no financial crises caused by interest payments.



    Natural Money


    The miracle of Wörgl shows that money with a holding fee might have ended the Great Depression. The Egyptian financial system based on grain storage shows that money with a holding fee can be stable for over 1,000 years, even when there is no economic growth. These examples may hold the key to our future. And because interest is such a problem, it should not be allowed to charge interest on money and debts.

    Natural Money is interest-free money with a holding fee. The maximum interest rate is zero, so negative interest rates are possible. The holding fee on central bank money ranges from 0.5% to 1% per month. In the present situation, this is cash and accounts held at the central bank by commercial banks. The holding fee doesn't apply to money lent, including bank accounts. In this way, it can be attractive to put money in bank accounts at negative interest rates.

    The Wörgl currency came with a holding fee of 1% per month. A holding fee makes cash unattractive to hold. Such a steep penalty is not needed to stop people from hoarding banknotes. An interest rate just below that of bank accounts suffices. Natural Money, therefore, features a cash currency backed by short-term government loans. This cash is a loan to the government, so the interest rate relates to short-term government loans. That rate may be around -3% per year instead of -12%.

    The maximum interest rate on debt promotes deleverage, thus replacing debt with equity. However, with low margins, banking may be challenging. Therefore, the interest rate on cash becomes a political question, as the government sets it rather than the central bank. The government may apply a 1-2% surcharge to lower the cash interest rate and increase the banks' profitability. In this case, it is not a central bank decision but a matter discussed in Parliament.

    Cash and digital money will be different currencies with an exchange rate between them. Cash will depreciate in terms of digital money. There will probably be no price inflation, and there might even be price deflation, so the value of cash is likely to remain as stable as it is now. It may be possible to have cash bank accounts. Banks are not allowed to lend out money in this account. If a bank goes bankrupt, this money is safe, like banknotes in your wallet.

    The German businessman Silvio Gesell was the first to propose a holding fee on money in his book The Natural Economic Order.5 The idea is named Natural Money to honour his legacy. The following points summarise Natural Money:
  • Natural Money doesn't change the nature of banks. Banks borrow money from depositors at a lower rate to lend it out at a higher rate. They may borrow money at -2% to lend it at 0% instead of borrowing it at 2% to lend it at 4%.
  • Cash and digital money will be separate currencies, for example, digital euro and cash euro. Holders of cash pay the negative interest rate on short-term government loans. The exchange rate of cash relative to digital money gradually decreases.
  • Investors seeking higher yields can achieve this by providing equity. That lowers systemic risk. The maximum interest rate can make investments in debt less attractive and cause a deleveraging of balance sheets.
  • A maximum interest rate limits the risks lenders are willing to take so people and businesses in financial trouble need to reorganise their finances. The maximum interest rate also prevents financial problems from escalating because of interest payments.
  • To have negative interest rates, investors should trust the currency, which means that government finances need to be in order. That doesn't mean austerity because governments can receive interest on their debts.

  • Natural Money has the following benefits:
  • Interest rates can go as low as needed to clear the supply and demand for funds in financial markets.
  • With lower interest rates, the financial value of future income increases, which can help to make the economy sustainable.
  • When interest rates are lower, more capital remains economical (houses and factories), so we can be wealthier, so it can help to reduce poverty.
  • Most people pay interest to the wealthiest, so with lower interest rates, income inequality can reduce.
  • Products and services can be cheaper because of lower interest costs.
  • Natural Money can curb reckless lending because there is no reward for taking excessive risks in the form of interest.
  • Debts can't grow out of control because of interest payments.
  • Natural money promotes fiscal discipline with governments because negative interest rates require trust in the currency.
  • Fiscal discipline is not austerity because governments receive interest on their debts.
  • If the economy slows down, then the holding fee allows interest rates to go as low as needed to provide the required stimulus.
  • If economic activity picks up, interest rates rise, and credit diminishes because of the maximum interest rate of zero, so the economy will not overheat in a debt-fuelled boom.

  • Natural Money can improve the economy, so returns on investments can be better, so real interest rates can rise. With Natural Money, interest rates cannot exceed zero, so digital money could increase in value, perhaps at such a pace that interest-free money provides better yields than interest-bearing money.

    Natural Money might improve economic efficiency. The higher yields on Natural Money could cause a capital flight to the interest-free economies at the expense of economies allowing interest on money. That is why Natural Money can become the money of the future.


    It was the reason to start this website in 2008. A lack of awareness appears to be the main obstacle standing in the way of Natural Money becoming the money of the future. Perhaps the next financial crisis is going to change that. People may need to become desperate and ready to try anything, just like in Wörgl during the Great Depression. Natural Money may be the best solution. Nowadays relevant queries on the subject in search engines show Natural Money on the first page so Natural Money is easy to find for researchers of interest-free money with a holding fee.



    Research


    More recent local currencies with a holding fee weren't as successful as the local currency of Wörgl. And the success of Wörgl was inflated by the payment of taxes in arrears. That generated additional revenues for the town. The council could spend this money, which provided a stimulus that probably would have petered out if the experiment had continued.6 Maybe it is too good to be true after all, but there are good reasons to think otherwise. If interest rates are near zero, the markets for money and capital cease to operate. A holding fee can make these markets functional again.

     
    US real interest rate versus natural interest rate
    US real interest rate versus natural interest rate
    Source: FED
     

    Economists and central bankers believe that low and negative interest rates will be temporary, but the graph above tells a different story. It shows the interest rates in the United States between 1961 and 2016. The green line is the real interest rate, which is the inflation-free interest rate. So if the interest rate of your mortgage is 5% and the inflation rate is 2%, the real interest rate on the mortgage is 3%.

    The red line represents the natural interest rate, which is the ideal interest rate for optimal economic growth. It is not an interest rate that we can observe in a market. It is estimated by economists using models. Central banks use the natural interest rate to set the interest rate. If the central bank believes that the economy is overheating, it sets the interest rate above this rate. If the central bank thinks that the economy is slumping, it sets the interest rate below this rate.

    The trend is clear but most economists and central bankers expect that interest rates will go up again. The developments that drove interest rates down may persist so interest rates may remain low and go even lower. Economists find it difficult to deal with this. Negative interest rates go against the assumption of scarcity upon which traditional economics is based.

    Scarcity means that we never have enough and need savings to finance investments to have more in the future. For that, we need to reward saving with interest. Yet, we should question this assumption because our excessive consumption is destroying the planet. And the wealthy top 1% of people who own most capital do not experience scarcity. They can't spend all their money and are desperately looking for investments.

     
    Questions?
     
    It isn't possible to bring interest rates down by force. Savers must accept these rates. A holding fee only allows interest rates to go lower when market conditions justify this. If supply and demand of funds clear at interest rates above zero, a maximum interest rate of zero may cause problems, and the economy may suffer. A maximum interest rate can be beneficial if it mainly affects dubious or usurious lending such as sub-prime credit and credit card debt.

    It is better to implement the holding fee when interest rates are already near zero. It would have little effect otherwise. A maximum interest rate of zero can only be beneficial when most interest rates in the financial markets are already negative, as such a measure would cause financial distress otherwise.

    Once interest rates are negative and charging interest is not allowed, the economy may do well by itself. Governments and central banks may not have to act to ensure financial and economic stability. That may be the end of fiscal and monetary policies. Without usury, economic cycles may flatten, and the economy may quickly recover from shocks.

    At the 2017 IV International Conference on Social and Complementary Currencies: Money, Consciousness and Values for Social Change in Barcelona, I have presented two papers about Natural Money. The first paper, The End of Usury, explains why interest rates are likely to go lower and become negative and that this may remain so for the foreseeable future. The second paper, Feasibility Of Interest-Free Demurrage Currency, clarifies how to implement Natural Money in the global financial system and what the consequences are likely to be.

    Natural Money is a theory about money, the financial system, including banks and central banks, and interest. It describes how the financial system and the economy might operate with negative interest rates and the prerequisites for negative interest rates to work. Little consideration is given to subjects beyond the area Natural Money covers unless they are relevant. Natural Money is a design for the financial system, not the economy itself. Presumably, it can work in a developed economy. Natural Money comes with benefits and drawbacks. I have tried to describe and address them if possible.

    This website is frequently updated and reflects the current state of the Natural Money project. The research is still in progress. If you have limited knowledge of the economy and the financial system, you could read Natural Money For Dummies. It explains what money is, what the role of banks is, why the financial system is the way it is, what the problem of interest is, and why Natural Money can solve it. It is easy to understand, and I made some effort to make it entertaining. If you know about economics, you could read Natural Money Theory. The Natural Money Blog highlights several individual aspects of the idea.



    References


    1. The Future of Money: Creating New Wealth, Work and a Wiser World, pp. 153-155, Bernhard Lietaer, Random House, 2001
    2. A Strategy for a Convertible Currency, Bernard A. Lietaer, ICIS Forum, Vol. 20, No.3, 1990: http://www.itk.ntnu.no/...; backup copy: https://www.naturalmoney.org/convertiblecurrency.html
    3. Ramesses II - Wikipedia (as on September 3, 2013): https://www.naturalmoney.org/ramesses2.html; current version: http://en.wikipedia.org/wiki/Ramesses_II
    4. This was mentioned on Discovery Channel or National Geographic but I was unable to recover the source
    5. The Natural Economic Order, Silvio Gesell, Translated by Philip Pye, Peter Owen Ltd, 1958: https://www.naturalmoney.org/ NaturalEconomicOrder.pdf
    6. A Free Money Miracle?, Jonathan Goodwin, Mises.org, 2013: http://www.mises.org/daily/6336/A-Free-Money-Miracle; backup copy: https://www.naturalmoney.org/freemoneymiracle.html