Monday, December 31, 2012

Creating your Next Enemy

Nations that rely on military power tend to create their next enemy. The United States has been doing this with Iran for a long time.

The scriptures teach that Iran (backed by a spiritual power called the Prince of Persia) will become a major stumbling block for the Western Empire (Dan 8). This seemed to be unbelievable, back in the 1960s, because Iran was tin pot nation of very little account. In every interaction with Iran since those times, the United States has taken actions that strengthened the hands of the Prince of Persia. Here are some examples.

  • In 1947 Iran became a democracy. However, the British and Americans did not like the policies of elected Prime Minister Mohammed Mosaddeq, so in 1953 the CIA and MI6 organised a coup to topple him.

  • The Shah of Iran put in place by the Americans and British proved to be a cruel dictator. The secret police (SAVAK) killed hundreds of people and far more were imprisoned and tortured. America support allowed the Shah to destroy all opposition political parties opening the way for the Islamic revolution.

  • The United States provide military equipment and trained the Iranian military forces, turning it in a significant military power.

  • When the Shah was finally kicked out, following a mass Islamic Revolution in 1978. The United States responded to the loss of their man, by freezing billions of Iranian assets. Some of these are still frozen, although the United States has given up any hoping of restoring the Shah.

  • In 1980, Saddam Hussein invaded Iran with US military and reconnaissance support. In those days, Saddam was an American client, so further sanctions were imposed against Iran.

  • When it looked like the Iraqis might be defeated, the United States applied further sanctions against Iran in 1984 and 1987

  • The sanctions against Iran were not removed when the war ended. Instead further trade sanctions were introduced during the 1990s. These harm the ordinary people far more than the people in power, which increases the hatred for the US.

  • In 1988, the United States missile cruiser Vincennes shot down a civilian airbus operated by Air Iran over the Strait of Hormuz. All 290 passengers and crew were killed, including 66 children, but the United States has never apologised.

  • In 2003, George Bush invaded Iraq as part of his War on Terror. This destroyed Sunni power in Iraq. This event more than other has strengthened the hand of Iran in the Middle East, as Iraq is now ruled by a government that is sympathetic to Iran.

  • The United States has imposed further sanctions against Iran to prevent it from building a nuclear power station and enriching uranium, even though it is entitled to do so under Nuclear Proliferation Treaty, a treaty that the US has refused to sign.

  • The United has parked a couple of carrier groups in the Indian ocean, just off the coast of Iran. If another nation, did this off the coast of the United States it would perceived as a threat.

  • American congressmen love passing resolutions condemning Iran. These votes have little to do with diplomatic negotiations and are purely a tool for congressmen to prove to their electors that they are tough on the ememies of America. It is almost as if they know that the Bible says that Iran will become their empire's stumbling block, and are trying to take preemptive action.

Each of these actions has increased the hostility and mistrust towards the American government. Most of them have strengthened the power of hard-line leaders in Iran. When a nation is being bullied by a powerful enemy, it is easy for unscrupulous leaders to keep their people under control.

In 1978, I wrote the following words in the Gore Ensign, a local newspaper.
Daniel saw a ruler in Iran, who would become great and do just as he pleases… More interesting still, Daniel says that no nation would be able to "rescue from his power"… He saw the ruler of expanding his power to the west, the north and the south. To the West of Iran is the nation of Iraq, and to the south is the state of Saudi Arabia. These nations could fall under Iranian power by an expansion of the Islamic revolution or by military conquest… This would give the ruler of Iran control of one third of the Western world’s oil supplies.
This seemed to be impossible way back then. However, the mistakes of successive American presidents seem to be making it a reality. Iran already has a strong influence to the north in Syria and Lebanon. That should not be possible, because they belong to the Sunni stream of Islam, but US policies have forced these traditional enemies together. Iran now has a strong influence in Iraq to the west.

Although Saudi Arabia has a significant Shiite minority, the US has armed it to the teeth. This huge stash of American weapons will be handy when the Saudi Arabian domino falls in the direction of Iran. Just like the weapons American had supplied to the Shah of Iran, because he was their man.

The United States policy on Iran will eventually backfire. It is assisting Iran by imposing sanctions that restrict exports of oil and gas. It is forcing Iran to retain its oil and gas, when other Middle Eastern nations are running down their reserves. This is doing them a favour, because it forcing Iran to save oil and gas for the future when it will be more valuable. When oil is a really scarce resource, Iran will be more powerful, because it will be holding greater reserves at a time when they are increasing in economic and strategic value.

Daniel saw the Prince of Persia (a spiritual entity) moving toward the west, the north and the south.
I watched the ram as it charged toward the west and the north and the south. No animal could stand against it, and none could rescue from its power. It did as it pleased and became great (Dan 8:4)
Iran has already had success in the North and West. It has won the struggle for Iraq. Syria is not that relevant, because it has no oil. The US and the UK are trying to make a big deal of Syria, and portray it as a defeat for Iran but that is because they are trying to make the best of bad job in Iraq.

The next big deal is the Prince of Persia pushing to the south towards the Gulf monarchies and Saudi Arabia. This is where we should be looking, if we want to understand events in the Middle East.

Wednesday, December 26, 2012

Authority Struggle

Jesus ministry from beginning to end was a struggle over authority. The good news of the kingdom of God upset the kings, governors, priests and nobles who exercised authority in Israel. These authorities understood the nature of kingdoms, so they knew what was going on. They realised that the appearance of this new kingdom would bring a shift in with authority in Israel. If the government of God gained authority, they would lose authority, power and privilege. The authorities understood that they had to oppose this new kingdom, so when Jesus was teaching, he was frequently challenged about his authority. His trial before Pilate, turned into an argument over authority.

When Jesus was born in Bethlehem, Herod recognised the threat, as soon as the wise men announced that a new king had been born. The threat to his authority was so serious that he massacred all the boys born in Bethlehem.

Herod was furious, and he gave orders to kill all the boys in Bethlehem and its vicinity who were two years old (Matt 2:16).
Jesus was just a baby, but he was dangerous to Herod, because he represented a challenge to his authority. Herod used ruthless power to eliminate him while he could, but he failed.

Jesus challenge to authority goes on, and those with authority still try to destroy it, sometimes with the sword, and often with word and beliefs.

Monday, December 24, 2012

Christmas King

Luke records the words of the angel Gabriel to Mary. He told her who Jesus would be and what he would do in Luke 1:29-37. Here are his key themes.

  • He will be great
  • He will be the Son of the Most High
  • God will give him the throne of his Father David
  • He will feign over the house of Jacob forever
  • His kingdom will never end.
  • He will be called the Son of God.
We tend to focus on his being the Son of God. That is important.
However king ship is equally important. If our understanding of Christmas to God becoming a baby, then we only have half the picture. God sent a new king to earth whose kingdom would grow and last forever.

King Herod understood the impact that a new king would have, and was afraid. That is why he took such murderous action.

The wise men understood the importance of the new king and travelled across the world to honour him.

Do we have the same understanding?

Sunday, December 23, 2012

Whose Shoulder?

For to us a child is born,
to us a son is given,
and the government will be on his shoulders.
Of the increase of his government and peace
there will be no end.
He will reign … over his kingdom,
establishing and upholding it
with justice and righteousness
from that time on and forever.
The zeal of the LORD Almighty
will accomplish this (Is 9:6-7).
This is simple. Jesus has been born. He will be the government
from that time forward and forever.

So why does Barack Obama think that he should be the government?
or David Cameron, or Vladimir Putin?

Herod understood this prophecy.
He knew that his government was a goner,
so he tried to kill Jesus.

Satan understood the threat.
That is why he came up with clever deception that
This prophecy is not for now,
but for later,
This is why he pretends that his government is for now;
Jesus government comes at the end of the age.
You could trust Satan to thrust his shoulder in.

The government is on Jesus shoulders
He will govern with justice and righteousness.
and his government will never stop increasing.
The Zeal of the Lord will do it.

Saturday, December 22, 2012

Grace to Works

The incarnation of Jesus is a wonderful gift from God to man.

I do not know the history of Christmas gift giving, but I am willing to concede that it began as a way of celebrating God gracious gift.

Unfortunately, celebrating the things that God has done, by doing what he has done can become a slippery slope, where we end up trying to be god. The best way to celebrate God’s grace is to graciously receive it.

Humans have an amazing ability to turn God’s grace in human works.

That seems to have happened with Christmas gift giving. Peer pressure and television advertising has turned Christmas giving into a massive obligation. Poor people feel obliged to buy lavish gifts that they cannot afford for their children, family and friends. Christmas adds to the burden of poverty.

For those who have plenty, Christmas giving becomes a time consuming chore that removes peace and robs us of the time to think about what Jesus has done.

This world does not need more giving as a twisted response to grace. It needs more receiving of what God has given.

It also needs more Zacchaeus giving that transfers unrighteous wealth from the rich to the poor.

Monday, December 17, 2012

Sandel and Value

A few months ago, I read What Money can’t Buy by Michael J Sandel. He is a good communicator and I have really enjoyed some of lectures on justice on TV. This book is worth reading, because it show western culture in a different light.

In this book, he argues that markets are valuable for organising productive activity, but his concerned that market are seeping into aspects of life, where they do not belong. He wants a debate about the role and reach of markets. He wants decisions about which goods should be bought and sold. The aim should be a market economy, not a market society.

The problem with this is that it is not clear who would make the decision about what can be bought and sold. I presume that he assumes that governments can do this, but this will not work. Decisions about what can be sold are made by the person who chooses to sell. Decisions about what will be bought are make the people doing the buying. Unless they are doing something immoral, it is hard to see how they can be prevented.

The examples that he give are interesting. I think they show how hollow western culture has become. The answer is not more laws, but better values and more virtue.

Sandel speaks about market values, and suggests that they corrupt some good things. He says that when some things are sold, their value is contaminated. The problem here is that he assumes a concept of objective value. He does not realise that values are subjective. This is a core principle of economics. Different people place different value on the same things. This is why trade is possible. A sale of a good takes place, because the person buying values it more than the person selling it.

The price at which a particular good is sold in a market does not tell us its value. It does not tell us how most people value it. It does not tell us what value the buyer and seller put on it. All we know is that the buyer valued it more than the price and the seller valued it less than the price. But we do not know by how much.

Human valuations are subjective. The only person who can express objective values is God, because he is the only one who is unchanging.

Saturday, December 15, 2012

Spirit Control

Some politicians are calling for gun-control, but tha tis not the core issue. Governor Dannel Malloy got closer to the mark, when he said, "Evil visited this community today". Gun-control is not the solution, because the problem is spirit-control.

A couple of weeks ago, Gene Redlin listed seven spirits that have come into the American house and made themselves at home. He was right about the spirits, but I believe that he missed the big one: the warring violent spirit. Although, it would be more correct to say that this one has been travelling and came back with seven warring violent friends.

This spirit permeates American life: from the federal government, to international relations, through culture and entertainment, and onto life on the street. It has been there a long time, but it is now more entrenched. Unfortunately, the American people are so familiar with this spirit that they do not notice it, except when it breaks out into a school or shopping mall.

Diminishing Marginal Utility

One of the core ideas of economics is diminishing marginal utility. The basic ideal is that the more you get of something the less pleasure you get from it.

The first car is marvellous. If you have two, it can be handy. Getting a third is not much advantage. A tenth auto would be almost a nuisance.

Sweets are another example. The first two or three are great. The next half dozen are nice. But the hundredth sweet does not give much pleasure.

The same applies to Christmas gifts. One gift is hugely better than no gift. Getting a second gift is great. After the fifth gift, the novelty wears off. When you receive the tenth gift, it is a bit boring.

Diminishing marginal utility says that the more that you purchase of a good, the less benefit you derive from purchasing more unit of it.

Concentrating all our gift giving on Christmas day diminishes the value of the gifts. When a child gets fifteen gifts on the same day, the pleasure from many of them is lost, because diminishing marginal utility sets in. If our gift giving was spread across the year, children would get more enjoyment from it.

Christmas is poor value for money.

Friday, December 14, 2012

Praying Sickness

If a Christian who is sick asks me to pray for them, I often wonder what they are requesting. There are several possibilities.

They think that I can persuade God heal them, because they cannot. This is odd. If the person who is sick cannot persuade God, why do they think that I can?
Maybe they think that God works on a democratic principle, and will only act when a significant number of people are making the request. That is odd, too.

They might consider that their sickness is an attack from something so big that they cannot handle it on their own. This makes sense. If they sickness is an attack from evil spiritual forces, the sick person may not some help to deal with it. The problem is that I do not have the power to deal with spiritual powers. Only the Holy Spirit can do that. What I can bring is spiritual authority. The Holy Spirit needs human authority to release his authority against evil.

This leaves another question hanging. Why would I have authority in this situation? I will only have authority in the sick person’s life, if they have given it to me. If they are a brother or sisters in the same body, and we have submitted to each other for spiritual protection and to encourage each other in the Lord, I will have some authority (see Power Pairs).

If the sick person is just a casual acquaintance, I will have no authority in their life, so I am not in a place to resist evil with them.

This why the Bible says that sick Christians should go to their elders (James 5). The sick person should have freely submitted to their elders, so the elders will have authority in the sick person’s life, that enables them to resist the evil powers causing the sickness. The elders cannot persuade God to do anything, but they can resist the evil thing that has intruded into the sick person’s life.

Submission and authority work together to produce spiritual protection (not control).

There is more on this theme in my book on healing.

Wednesday, December 12, 2012


When it comes to gifts a common saying says,

It's the thought that counts.
If that is true, and it is thought that counts, the gift must be unnecessary.

Saturday, December 08, 2012

Find Your Calling

Every Christians needs to know their calling. You calling may not be the same as your occupation. Your calling is what God created you to be and do. If you are uncertain about your calling, you will find this Q Ideas Talk by Pete Richardson helpful.

Pete summarises the challenge in this long sentence.

Calling is the intersection of talents and heart passion
being applied to a specific part of God’s broken world
to restore and bring visible signs of God’s very real kingdom
alive through his community and people
in different sectors of the earth.

The Kingdom is on the move. God needs hour calling full owned, surrendered, activated and applied. A calling is worth living for, and its worth dying for.

Friday, December 07, 2012

Cross Behaviour

When Jesus went to the cross, he was doing what his Father had done before him. He was making himself helpless in the hand of men who had the power to harm him. That is what the father did when he gave dominion and authority over the earth that he created to humans. He made himself vulnerable to humans who had the freedom to rebel against him. He was committing himself to sustaining the creation, even if his creatures shut him out of it. He made them free to be atheists, while living the life that he created. This was cross behaviour. The Father made him powerless before with the people he had created.

If we do not understand this, we will not understand how God is working to achieve his purposes on earth. See God’s Big Strategy.

Once humans had shut him out of the world, he could not return without their permission. He had to wait for a thousand years before he got his first chance with Enoch. The Holy Spirit was speaking to humans throughout that time, be they just ignored him.

Enoch was different. He listened to the Spirit and prophesied, which opened the way for Noah, who brought God back into the frame.

Thursday, December 06, 2012

Intergenerational Transfers

Earlier this week I published a couple of posts on the economic problems caused by short-term risk-averse capital. Intergenerational transfers are a related problem. They were easier in the past when life expectancy was much shorter. Death took care of the problem, because most cultures had inheritance laws, under which the family property passed to the oldest child, usually a son (youngest child in some cultures). The inheriting child was expected to look after his parents in their old age, and take care of other members their family. This process for transferring capital assets from one generation to the next has been broken down by heavy taxation and increasing life expectancies.

Young people no take out loans to pay for their education. They get deeply into debt at a very young age. They get further indebted when they purchase a house. They have very little real savings, so they purchase their house with a mortgage to the bank that is often ninety to a hundred percent of the value of the house. This worked very well for most of the last half century while governments were inflating their currencies and property rose rapidly and inexorably. With the mortgage fixed in nominal dollars and prices rising rapidly, the mortgage was wiped out by time.

At the same time, older people were expected to save for their retirement. Once their children have left home and their education and housing debts had been wiped out by inflation, they have to push money into the financial system to build up funds to support themselves during retirement. This has been hard work because, inflation fights against them. They receive interest on their capital, but it is quickly wiped away by inflation.

Although these processes take place independently, the financial system combines them into a massive international generational transfer machine. Young people need money to pay for their education and homes. The banking system lends them the money that they need. Older people need to save up money for the retirement. They hold their savings in the financial system. The financial system becomes a machine that takes the savings of the parent’s generation and recycles it to their children’s generation. Inflation assists the process by wiping out the debts of the younger indebted generation and eating away at the wealth of the parents.

The financiers make money at both ends of pipe. While young people are waiting for inflation to wipe away their debt, they pay a huge amount of interest, often more than the value of their house. The parents want high interest and low risk, so they save their money in the banks that fund house mortgages, or other financial institutions that buy mortgage-backed securities from banks. They get an interest rate that is sometimes less than the inflation rate, so they are paying at their end of the pipe too.

The big beneficiary of this flow from one generation to another is the financial system. It charges fees at every point on the pipe, and those on the inside grab huge salaries and bonuses.

The global financial crisis that struck in 2007 broke the pipe. At the parents end of the pipe, money that was saved for the future suddenly disappeared into a black hole of risk. People who thought their future was secure, suddenly found that it was scary. At the other end of the pipe, house prices that were supped to rise forever plummeted. Mortgages that were supposed to be withering away, suddenly grew to be worth more than the house.

We clearly need a better process for transferring capital from one generation to the next. Paying the banking system to make the transfer is costly and sometimes robs everyone, except those inside the system.

Deeper attitudinal problems are created by this approach. Young people learn to live with high levels of debt at a very young age. They were encouraged into property speculation as the best way to build up assets. This creates bad attitudes to work, debt and risk. Wealth comes by speculation, not be hard work, entrepreneurial risk-taking and thrift. The older generation are encouraged to live for the short-term. Put together enough short-term savings in low-risk investments to keep you going for a few more years, and you can consume everything you earn. There is no incentive to build for the long term.

God is concerned about families and households.

I am the God of your father, the God of Abraham, the God of Isaac and the God of Jacob (Ex 3:6).
Exodus is not saying that God likes these three guys. He saw them creating a spiritual and material inheritance that was passed on from one generation to the next. Jacob should have built on what Isaac had established, Isaac inherited spiritual gifts, wisdom and wealth from his father Abraham. This is not each generation looking out for itself. This is each generation building on what the previous generation has done to do greater things for God.

We must start thinking this way. Instead of children building their own wealth through speculation and leverage, they should be guarding and building their family inheritance. Instead of parents caring for themselves and consuming the rest, they should be building a spiritual and material inheritance that their family can build on in the future.

Christians should develop ways to make this intergenerational transfer that bypass the financial system, so that bankers cannot clip the ticket at every step along the way. When the banks manage the transfer of capital, the transfer of spiritual capital is weakened. The transfer should work the other way round. The transfer of spiritual capital is most important. The material transfer should follow the transfer of spritiual capital, so that the kingdom of God is built and God is glorified.

Tuesday, December 04, 2012

Short-term Risk-averse Capital - Solution

The solution to the glut of short-term risk-averse saving is matched lending and borrowing (see Sound Banking). If every bank has to match the terms of loans and deposits, behaviour would have to change. Demand for longer-term loans will continue to be large, whereas demand for shorter-term loans will decline. The supply of short-term deposits will be greater than the supply of long-term deposits. Borrowers will not be able to change their behaviour much, because the best capital investments are longer term, so interest rates will have to adjust to clear the market. Interest rates on long-term deposits will rise and rates on short-term deposits will fall.

Interest rates on deposits less than two years might drop to zero, as there would not be much demand for loans of these terms, except for consumer borrowing. However, as the Kingdom of God grows, contentment will increase, so the demand for consumer loans will decline too. The interest rate on deposits on call might be negative. The lender would have to pay a fee to buy the transactions services provided by the bank.

This change in interest rates would shift savers away from short-term deposits towards those with longer terms. To get acceptable interest rates, depositors would have to agree too much longer terms for their fixed deposits. Terms for five to ten years might become the norm, if the rates on short term deposits are close to zero.

Deposits will be pooled, so that the risk of an individual loan defaulting is shared across many depositors. However, some risk cannot be avoided. Pooling can cover the risk of failure by a few businesses, but it cannot deal with risk of widespread default during a serious collapse of the economy.

If lenders understand that loans always involve some risk, some might decide to purchase equity or shares instead. This will enable them to capture a greater share of the return on their contribution to businesses activity.

Equity is better for the business. It used to be argued that it does not matter whether a business is funded by equity or debt, but the GFC showed that is wrong. Debt has two serious problems for businesses. First a debt has a fixed date on which it is due. Even if it is not a convenient for the business, the debt has to be repaid on that date. Equity does not have a due date. It may decline in value during difficult times, but it does not have to be repaid by the owner at an inconvenient.

The other problem with debt is that it is fixed in nominal dollars. If the value of the assets purchased has declined in value, the borrower may have to put up extra security. The business would not be able sell the asset to repay the loan, so they will have to put other money to get out of debt. In contrast, the value of equity adjusts with the state of the business and the economy.

A shift from debt funding to equity funding would increase the stability of the economy.

Whether savers decide to buy equity or increase the terms of their bank deposits, their change in behaviour will create a much larger pool of long-term risk-informed capital to sustain productive investment in capital goods. That would be good for the economy.

Monday, December 03, 2012

Short-term Risk-averse Capital

The modern banking system allows unmatched lending and borrowing. The reason for this is that lenders and borrowers have different needs. Depositors want high returns with low risk and flexibility. They prefer to deposit on call or a short-term fixed deposit, so they can withdraw their funds, if their situation changes or the economy weakens.

Borrowers need low interest rates, continuity and certainty. They will be using the borrowed money to purchase productive assets or real estate, which cannot be sold quickly, so they will not be in a position to repay back a loan earlier than expected, if that is required. They will often want to roll over the loan when it is due, rather than repay it.

Banks manage these different needs by recording unmatched loans on their balance sheets, and charging a margin between the interest on short-term deposits and the rate on long-term loans. This margin compensates them for the capital they have to hold to cover the liquidity and default risks created by the mismatch between lenders and borrowers.

However, resolving this mismatch on the banks’ balance sheet makes the banking system unstable. I have explained how this solution is immoral in Deposits and Loans. However, the balance sheet solution creates another problem for the economy. Most of the savings by households end up in short-term deposits, because savers want low risk. This provides banks with a glut of short-term risk-averse capital, which is of very little use to the economy.

The growth and efficiency of an economy depends on investment in productive capital assets, such as information technology, plant, equipment and factories. These are long-term investments, which often take a number of years before they bring a return to the investor. A factory may need to operate for ten to fifteen years to be efficient. These investments can only be undertaken, if equivalent savings are made available elsewhere in the economy (ignoring overseas funding). Banks undertake an important role by intermediating between households and businesses to channel savings into investment in capital goods. see Capital.

The problem is that most of the deposits held by banks are short-term and risk-averse. The depositors want to be able to get their money back at any time, but that is not what the economy needs. Investment in capital goods that will make us more productive can be quite risky. Not all projects will succeed, and some will fail. They will mostly be long-term ventures. A large pool of short-term risk-averse capital does not support the type long-term investment in capital that an economy needs.

Economists assume that savings are available to fund investment in capital goods, but they are not. Most savings are locked up in short-term risk-averse deposits. Banks responded to depositors preference for short-term risk-averse by channelling these savings into mortgages and real estate, because they were considered to be low risk (as house prices always go up). This means that the glut of short-term savings tends to feed real estate price booms, which makes the economy unstable.

The risk adversity of lenders actually increases economic risk, if their savings are used to fund real estate speculation. Whereas the flexibility of short-term deposits makes lenders feel secure, it increases risk for the economy by encouraging real estate bubbles and creates liquidity risk that will eventually come back to bite those who want security.

The reality is that risk cannot be avoided. All economic activity is risky. Banks offering depositors high interest rates on short-term deposits (with government guarantees) create an illusion of low risk that is unreal. Depositors think their money is safe, but they are participating in an unstable system that is weakened the economy that they are trusting for their future security. A more realistic attitude to risk is essential.

Saturday, December 01, 2012

Savings and Investment

The Old Testament prohibits interest on loans to the poor, because they are a form of charity (Ex 22:24; Lev 25: 35-37). The poor person will have to use the money borrowed for consumption goods so there will be no profit, which can be used to pay interest. This prohibition on interest was erroneously extended by Christians to business loans (Matt 25:27). Interest on commercial loans for use in trade or business is not forbidden.

The legitimacy of interest is an important principle to establish because interest is essential to economic growth. Economic growth can only take place if the economy’s capital (stock of productive plant and equipment) is built up. This can only happen if someone in the economy saves, and interest is essential for saving to occur.

Consider a subsistence fisherman. He has no equipment, but he catches enough fish with his bare hands to survive, by working most of the day. He could improve his fishing by making some nets or a boat, but while he was doing this he would not have time to fish so he would go hungry. If he can save a little bit of fish each day, he can build up a stock of fish. Then he can live on saved fish while he builds a net and boat. With the net and boat (his capital) he can catch enough fish to live on in half a day. This means that he will only need to fish every second day. He can use the other day to make better equipment or other things that will improve his lifestyle. Or he could fish every day, and trade the surplus with other people for other things that he needs. Getting some capital equipment improves the quality of his life. However to obtain the capital equipment, he had to make some saving first. The reward for saving was the stream of extra income he was able to produce with his capital. This is the equivalent of interest.

The same principle applies in any economy. If all money is spent on consumption goods, there will be no money available to buy capital goods. For money to be available to buy capital goods some people have to forgo consumption. They can either buy capital goods themselves and start a business, or they can deposit the money in a bank. The bank can lend the money to a business to buy capital goods. The reward for forgoing consumption is the profit that the business makes, or the interest that will be earned on the savings account.

If it is not possible to pay interest on a loan, there will be no incentive to save. The only people who would save are those who can start business themselves. Most others would just consume all they earn. The resulting shortage of capital would limit the growth that takes place in the economy.

The price of capital goods will adjust so that their supply is equal to the value of savings available for purchasing them. For example if people decide to save more, some of the consumer goods being produced will no longer be required. The price of consumer goods will fall. This will encourage producers to produce capital goods. These can be purchased with loans that will be made available through the additional deposits in savings accounts.

The interest rate should also rise and fall to clear these markets.  When these markets are distorted, problems arise. See savings and investments.