Chapter 34 The Public-Debt Problem
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(An article of Alain Pilote, first published in the July-August, 1986 issue of the Michael Journal.)
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To understand this, let us divide the economic system into two parts: the producing system and the financial system. The example is taken from Louis Even's parable, The Money Myth Exploded: On the one side, there are five shipwrecked people on an island, who produce all the necessities of life, and on the other side, a banker, who lends them money. To simplify this example, let us say there is only one borrower on behalf of the community; we'll call him Paul.
Paul decides, on behalf of the community, to borrow a certain amount of money from the banker, an amount sufficient for business in the little community, say $100, at 6% interest. At the end of the year, Paul must pay the bank an interest of 6%, that is to say, $6. 100 minus 6 = 94, so there is $94 left in circulation on the island. But the $100-debt remains. The $100-loan is therefore renewed for another year, and another $6 of interest is due at the end of the second year. 94 minus 6, leaves $88 in circulation. If Paul continues to pay $6 in interest each year, by the seventeenth year there will be no more money left in circulation on the island. But the debt will still be $100, and the banker will be authorized to seize all the properties of the island's inhabitants.
Production has increased on the island, but not the money supply. It is not products that the banker wants, but money. The island's inhabitants were making products, but not money. Only the banker has the right to create money. So, it seems that Paul wasn't wise to pay the interest yearly.
Let us go back to the beginning of our example. At the end of the first year, Paul chooses not to pay the interest, but to borrow it from the banker, thereby increasing the loan principal to $106. No problem, says the banker, the interest on the additional $6 is only 36 cents; it is peanuts in comparison with the $106 loan! So the debt at the end of the second year is: $106 plus the interest at 6% of $106, $6.36, for a total debt of $112.36 after two years. At the end of the fifth year, the debt is $133.82 and the interest is $7.57. It is not so bad, thinks Paul, the interest has only increased by $1.57 in five years. We can handle that. But what will the situation be like after 50 years?
The debt increase is moderate in the early years, but the debt increases very fast with time to unbelievably big numbers. And note, the debt increases each year, but the original borrowed principal (amount of money in circulation) always remains the same. At no time can the debt be paid off with the money that exists in circulation, not even at the end of the first year: there is only $100 in circulation, and a debt of $106 remains. And at the end of the fiftieth year, all the money in circulation ($100) won't even pay the interest due on the debt: $104.26.