The War and Our Financial Fabric

If what is called the loanable fund were perfectly elastic and "promptly adjusted itself to the demands upon it," how is it that the value of money, called the rate of interest, is not more uniform? It certainly should be more uniform if it were a fund that automatically responded to the demands upon it, increasing as the output of wealth increased, decreasing when the output of wealth fell off. In a perfect system this would certainly happen; but sound as banking may be within its limitations, we must admit that it is far from being a system of perfection. The fact that the rate of interest is not uniform, that it rises and falls in a capricious and not uniform way, is further proof that the fund is not, as it should be in a perfect or improved system, elastic.

Experience shows us clearly that as demand grows the potential supply diminishes; therefore it cannot be a perennial, inexhaustible fund. If bankers find that the demand is growing, they advance their rates of interest. In other words, they demand a larger share of the profits of the community. They have two objects to serve in this. They desire to increase their own profits and they desire to check the demands upon them. From their point of view, it is better to lend a little at a high rate of interest than much at a low rate. In their annual or semi-annual speeches bank chairmen are pleased if they can show their shareholders that during a certain period the rate of interest has been high; for it is evidence to them that circumstances have been in their favour; that they have done good, profitable business. They lament times when interest has ruled low. And interest rules low when the fund is said to be overflowing, when the banks cannot lend as much as they would like. There are, however, as I have already pointed out, exceptions to this. It is no invariable rule, or law, or sequence, whatever we may please to call it, that interest is low when the fund is overflowing and high when the fund has fallen. Interest is governed by many causes extraneous to the power of banks to lend, and these causes often arise in an unforeseen, capricious way.