Saturday, March 28, 2009

Whatever Happened to Usury?

Repealing Usury Laws
During Reagan Years Created
Current Debacle

Columnist Joe Galloway has it pinned down in this recent column:

Road To Ruin: Usury, greed And The Paper

In Edna Ferber's 1925 Pulitzer Prize-winning novel "So Big," a cultured woman spends her life doing hard physical labor on a rural Illinois farm so that her son can go to college and land in a fulfilling profession.

But when her son abandons a career in architecture due to its low pay and joins the soulless but lucrative world of bond trading, his mother asks with disappointment and contempt: "What is this you sell in that mahogany office of yours?"

This could be the question for America. What have we been selling for the last 30 years?

We've built trillion-dollar enterprises on nothing more than huckstering newer and more esoteric financial products. Ephemera, as it turned out. Beyond that, we don't make much anymore.

There are a multitude of reasons for this, including the one that everyone instantly points to: globalization. But as Chicago labor lawyer Thomas Geoghegan writes in April's Harper's magazine, there is one factor that has rarely been mentioned but looms larger than most of the others: the legalization of usury.

In 1978, a U.S. Supreme Court ruling effectively released banks from state interest rate caps. In Marquette National Bank vs. First of Omaha Service Corp., the court said that Minnesota could not enforce its usury law against a credit card issued by a Nebraska bank. The National Banking Act of 1864, the court said, allowed banks to lend at interest rates set by the state where the bank is chartered, not where the loan is made.

This meant those reasonable state limits of 9 percent or thereabouts went out the window as states repealed and loosened usury laws in order to give their banks competitive advantages. Interest rates on credit cards soon spiked.

As profits for these companies soared, there was a corresponding shift in the way capital flowed. Manufacturing, with its modest returns, was thrown over for the more robust returns of the financial sector.

All that capital flooding into financial institutions led to new ways to package investments; and so were born ever more exotic securities, derivatives such as credit default swaps, and even bets on the future of futures. According to Geoghegan, the "notional" value of these bets in 2007 was $516 trillion.

This great diversion of wealth meant that rather than invest in American businesses that might make something the rest of the world would want to buy, diversifying our wealth and providing good middle-class jobs, capital went into buying paper.

At the same time, without interest-rate caps, lenders had incentives to offer people more credit than they could reasonably afford. No longer was a credit-worthy borrower the best customer. The bigger profits were made when credit card companies could charge 25 or 35 percent interest on an account that was only intermittently paid off.

For payday lenders, interest rates could reach annual levels of 500 percent or higher, as long as the borrower was kept in a cycle of perpetual indebtedness.

Unhinged consumerism with its corresponding dark temperament of irresponsible borrowing was encouraged, since it added to the financial sector's healthy bottom line.

But with our withered manufacturing base, the American buying spree wasn't going for domestically made goods. We were buying from China and the rest of the world. Not only were we not investing in our own workforce, we were taking on personal debt as well as national debt in the form of a ballooning trade deficit.

We see where this tragic trajectory has led. Our economy has been hollowed out by a financial sector that helped to stifle manufacturing. Honest pursuits, as Geoghegan calls the production of goods, could not compete with the profits of finance once legal constraints on usury were dismantled.

Now we sit among the piles of nearly worthless paper and discover that there is nothing real undergirding our economy. We invested in electron-swaps rather than in people, good jobs and innovation.

Usury has been a known evil since Babylonian times, yet we allowed it to revive and flourish. And so paved our path to ruin.

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