This article was written as a response to the doom and gloom of Henry Thornton. Henry called for comments. http://www.henrythornton.com/article.asp?article_id=6064

I sent the following.

The human species is smart enough and resourceful enough to overcome most environmental problems including the husbanding of the earth’s finite resources. To do this we need to adjust our financial system to unleash our creative intelligence to make the best use of the planet’s resources. Unfortunately our current economic system fails to accommodate non financial goals and is tuned to optimise financial wealth through the rapid consumption of finite resources. Optimising financial wealth is a restricted sterile goal. Fortunately the financial system can be easily changed to accommodate non financial goals such as sustainable resource management, the preservation of species, or the cultural enrichment of humanity.

The existing financial system puts ownership of the new sources of wealth creation in the hands of those who already have wealth. This is achieved by credit ONLY being available to those who can monetize some form of asset. This leads to a concentration of wealth in the hands of the few. This inevitably leads to conflicts because the wealthy receive an unfair advantage in wealth creation.  Unfortunately the wealthy also become even wealthier by encouraging consumption and rapid exploitation of existing assets and resources over which they have control. There is no incentive to reduce consumption and there is every incentive to exploit resources as rapidly as possible.

This approach of giving the wealthy access to credit for new investments because they already control wealth, has lead to perverse outcomes. It means there is an incentive for more credit to be created than is needed for economic activity. When credit is created the receiver of credit gets the value of the funds plus the value of future earnings made possible through the use of credit. That is the credit is worth more than the face value of the money created when credit is given. This increase in value is shared between the owners of existing assets and the financial institutions who are allowed to create credit. This increase in value is unearned and so there are extraordinary pressures for excess credit to be created. This inevitably leads to the cycle of booms and busts with which we are familiar.
Because new credit is created with interest attached there is an imperative to exploit resources as rapidly as possible. If the interest rate on new credit is 7% then the financial return of immediate exploitation, that often only realises half the total value, is financially better than taking 10 years and obtaining the full value from the resource.  This is dramatically illustrated in the case of renewable energy where the capital costs are high but the total value obtained over the life of the investment is much greater than the total value obtained from an investment that burns fossil fuel.  We persist in burning fossil fuel because of the way we do our accounting of financial returns – not because the total real value of energy returned over the life of the investment is higher. The assumption made by those using discounted cash flow analysis to evaluate the value of investment is that financial earnings can be reinvested at the same rate.  While this may be true it ignores the fact that we do not get the greatest total return from our investments.
Another more subtle but equally damaging outcome is that basing credit upon the ownership of existing assets stifles innovation. The Innovator’s Dilemma by Christensen describes why existing market leaders find it difficult to innovate.  It is difficult – not because they cannot do it – but because of the financial imperatives of attempting to get the greatest financial return from investments rather than producing products and services of greatest value to customers. The resistance of Telstra to upgrade its investment in copper transmission wires is a recent example. Telstra has been able to put fibre to the home for the past fifteen years. It has resisted because it makes more financially in the short term from not innovating than it will make in the long term from innovation. If Telstra took the long term view then Australia would have had a National Broadband Network for the past decade and Telstra would now be a stronger more profitable company.
So what is the solution?
It is remarkably simple. We create interest free credit and we give it to the population in inverse proportion to their consumption of a finite resource.  We require the credit to be invested in ways to extend the life of the resource or to find other ways of satisfying the need that is satisfied by the use of the resource. For example, instead of emissions trading as a method of encouraging investment in Renewables we give people Rewards the less mains energy they consume and require them to invest their Rewards in a market place of Renewable investments.
What will be the outcomes of such a system?
Individuals will reduce their consumption of Energy to earn more Rewards.  The Rewards will fund the investment in Renewables and because it is equity investment there will be no interest cost on the investment funds. Because the return of capital can be over a long time frame almost all current Renewable forms of energy are immediately profitable.  This will mean that we will rapidly replace most fossil burning plants with Renewable Energy Plants without an increase in Energy price.
Those that consume the least tend to be less wealthy. This will mean that the distribution of credit will be to those who do not possess wealth and so will spread new wealth throughout the community. Instead of the rich having an advantage over new asset creation the less well off will have an advantage.
Because there is no imperative to get a quick return, the use of Rewards funds will tend towards investments that give the greatest value over the investment’s life. This is called encouraging sustainability.
Because an investment of Rewards is a lost opportunity cost rather than a loss of something a person already possesses then there will be a propensity for people to invest in innovation that has a greater future return.
Because the government can control how much money is introduced into the system by changing the amount of free credit the Reserve Bank can stop using interest rates to manipulate the money supply. Instead it can use interest rates to determine how much money to introduce into the system. This will turn the money market into a classic text book money market where interest rates are set by the market as the method of moderating demand.  This in turn will stop inflation and remove the business cycle.
Because Australia can take control of its own capital requirements there will be less need to import capital for equity investment. This will reduce our interest burden and reverse our terms of trade.

Because the approach can be used where-ever there is a market failure or an asset bubble the government has a method to adjust the economy. It can issuing interest free credit broadly throughout the community to address specific market failures.

It should be noted that this approach is well known and is called contingency loans.  The best known contingency loan is the Higher Education Contribution Scheme or HECS. This has worked well for the past few decades.

What is the outlook for humanity?

The outlook is positive.  There is a way to husband finite resources while at the same time growing the economy.  The method is to release creative forces by encouraging investment in new asset creation for other society goals by removing the cost of interest on some credit.
Will it happen?
It is inevitable because it will optimise long term financial wealth.

One thought on “Unleashing Creative Forces for a sustainable future

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