They think like bankers, that's the problem

I focus on cost, the cost of credit versus the cost of money. If you want to use credit, you're gonna have to pay interest on the money you borrow. If you want to use money, you may have to work to get it, but once you have it, you have it and you don't have to pay interest on it.

I distinguish credit from money by whether or not you have to pay interest on it. Some people reject this idea, but there is no thought more important in our economy: Credit is money we have borrowed.

And what is debt? Debt is the money we pay interest on. Debt is the amount of money we have borrowed and not yet repaid. Debt is the measure of credit in use.

Suppose the interest rate is 3%.

Suppose credit-in-use in the US is about 3¾ times the size of the quantity of money. That means, for every dollar of money, we're paying about 11 cents in interest charges. This was the situation in 1946.

Suppose credit in use in the US is about 38 times the size of the quantity of money. At an interest rate of 3%, for every dollar of money, we're paying about $1.14 in interest charges. This was the situation in 2007 (except the interest rate was like 5% in 2007).

The average cost of interest per dollar in 1946 was 11 cents. The average cost of interest per dollar in 2007 was more than a dollar more than 11 cents. (And that's assuming an interest rate of 3%.)

That's why I distinguish between money and credit: So I can see this cost.

If you say "this is the result of economic policy" then I say yes, you are absolutely right. But I will also say policymakers have it wrong. I don't think they look at "the average cost of interest per dollar of money" at all. How else could they let interest cost increase so much? How else could they fail to notice that the high cost of interest is a problem?

They think like bankers, that's how. For them, more borrowing means more business. That kind of thinking creates problems for the economy.

Policymakers think using credit is good for economic growth. It is. But debt's a killer. Using credit creates debt, and the debt's a killer.

By the way, using money does not create debt. But you knew that.

Policymakers think using credit is good for economic growth. So they create policies that make it easier for us to use credit. Okay, but using credit creates debt. Our debt increases because of their policies. And policymakers don't create policies to help us reduce our debt. 

Take the tax deduction for mortgage interest, for example. You don't pay tax on the interest you pay. This is to encourage people to get mortgages. And wouldn't you know it, when the financial crisis arose, 2007-2008, mortgage debt was the big part of the problem.

We should scrap the tax deduction for mortgage interest, and replace it with a different policy that creates an equivalent tax break for homeowners. Instead of getting a tax break for paying interest, we should be getting a tax break for making extra payments on the mortgage. Instead of getting a tax break for having a mortgage, you'd be getting a tax break for paying it off early.

When you take out a loan, you get the money along with an obligation to pay it back, with interest. That's what credit is: money, plus the obligation to pay it back. 

If I borrow a dollar and spend it, I'm spending credit. But only the "money" part of the credit changes hands. The obligation to pay it back stays with me. The "debt" part of credit stays with the borrower. The "money" part of credit is the part that changes hands when we spend it. And the person who receives it receives money, not credit, because she didn't borrow it. I did. (Read that again.)

There is a problem with paying debt back early. If policymakers change the tax deduction so it encourages us to pay off our debt early, by making those payments we will be reducing the quantity of money in the economy. This undermines the whole concept of using credit: Using credit doesn't help the economy grow if we pay back the money too soon. When we pay it back, it's not in the economy anymore, being spent. That's the problem with paying debt back early.

There is a simple solution. Let the Fed keep an eye on the "average cost of interest per dollar". Let them increase the quantity of money -- that's money, not credit -- in the economy, increase it enough to offset the effect of us paying back our debt early. One way to do it? Let our paychecks grow a little faster. It's not rocket science.

By the way, the money I'm talking about is the money that changes hands. M1 money. That's the money we receive as income, the money we spend, the money that's "readily accessible for spending".

But maybe you don't like the idea of letting our paychecks grow a little faster. I admire your altruism. And you are right: We have to prevent the inflation that might be induced by rising pay. No problem.

Instead of suppressing the increase of money, policy should be suppressing the increase of credit. We went over this already. Tax breaks for home mortgages have to change. Tax breaks for business use of credit have to change. The "bankers' mindset" of policymakers has to change: Stop encouraging the growth of finance!

If we do it right, the increased growth of money is offset by decreased growth of credit-use, so our improving paychecks create no inflationary pressure. At the same time, the increase of money and the decrease of credit-use reduces the average cost of interest per dollar. It reduces the cost of finance. It relieves the cost pressure created by the rising cost of finance.

And you know what? Relieving the cost pressure created by finance improves living standards, lifts profits and improves economic growth.

Let us begin.