JEREMY BENTHAM AND THE MORALITY OF PAY DAY LOANS

 

Jeremy Bentham - Someone who could run Wonga?

 

Jeremy Bentham (1748-1832) the great utilitarian English philosopher may have more in common with pay day loans companies than you think. In his writings he treated money just like any other good, whereas other writers saw things rather differently. They argued that money had four functions which differentiated it from normal goods namely that it was a; medium of exchange, measure of value, standard of deferred payments and a store of wealth for the future. These reasons were meant to underpin the argument that money just isn't like other goods and should be subject to different rules. The price of money, its rate of interest, is determined by many complex factors and there is in reality, a term structure of interest rates reflecting how the market for money might behave at different points in the future. All this is fine however in several cases some market rates for borrowing certain sums of money are so excessively higher than most other market rates of interest, that we begin to worry and wonder why that is.

Jeremy Bentham's arguments need to be restated to assist us in our deliberations. Adam Smith initially argued that people who borrowed money were often poor and needed help and therefore he was in favour of ceilings on interest rates. Jeremy Bentham argued that if someone lends his money to someone else he needs to be compensated for foregoing his right to that money for himself. Any laws that were designed as ceilings on interest rates would discourage lending and would mean that there was less lending for poorer people and innovative businessmen alike. This would hurt the standard of living of both the rich and the poor. If the poor could not borrow money they would turn to other ways of getting it namely crime and there would also be a burgeoning black market in loans to the poor which would be unregulated and uncontrolled. In time, Adam Smith was persuaded by Bentham's arguments and changed his stance on interest rate ceilings.

Attempts to control the market are very difficult to achieve and often prove to be unsuccessful. Higher interest rates for certain borrowers reflect the attached risk premium attached to them. The lender wishes to be compensated more because he is lending to someone who is less likely to pay everything back.

Will poor people who are trapped by high interest rates benefit more from interest rate ceilings or a larger number of ethical lenders entering the market? Although imposing an interest rate ceiling looks initially attractive -- poorer people will benefit much more from a higher number of ethical lenders who will hopefully help educate them in financial matters and lend at more reasonable rates.

The lenders who charge excessive rates can be identified and encouraged to reform themselves by being subject to public pressure ( The Starbucks Effect) but the negative aspects of an interest ceiling policy should be brought out in the open. It is not necessarily a quick fix for the poor - we need a better way.
 

 

 

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ADAM SMITH AND THE KEY PRINCIPLES OF PUBLIC FINANCE

 

Adam Smith also had strong views on public finance

 

Adam Smith (1723-1790) wasn't only the father of laissez faire capitalism, he also had a profound influence on the principles of sound public finance especially as it referred to the revenue raising powers and activities of central government. He was an enemy of monopoly and distorted competition in markets and an advocate of free trade as long as the UK's military position was unharmed. He also had a lot to say regarding the public finances of the state and these are issues we will consider below.

In respect of taxation of he wrote in an era where taxation of the population was characterised as being regressive meaning that larger shares of the income of poorer people were taken as revenue by the state than the shares of richer people's income. He proposed that there should be a proportional tax -- where everyone should pay the same proportion of their income to the state. In modern parlance this would be deemed a flat tax where the average rate of taxation would equal the marginal rate. In Smith's time this was viewed as a radical way of helping the poorer people in society. He did not appear to advance support for a progressive tax system (where richer people pay a higher share of their income to the state than poorer people) -- It is not wholly clear why he did not openly support a progressive approach but it can be surmised that if marginal tax rates were constantly escalating and especially at lower levels of income, this would act as a disincentive for workers to offer more hours of work to their employer. In modern times the effects of such a flat tax would be considerable in terms of its impact on society as a whole -- with those in the middle of the income distribution taking a bigger tax hit than now. Nevertheless Smith's implied focus on the cliff edge dis-incentive effects of high marginal tax rates and applying those high marginal tax rates lower down the income distribution are still important to-day.

He was also a firm believer that tax payers should be kept up to date with the facts of the tax regime which applies to them. Tax payers should know in advance how much they owe and when they are required to pay it. Tax laws should not be changed frequently because this would lead to confusion with uncertain tax flows coming into the state's coffers each year, thus making the state's financial planning process arbitrary and uncertain.This would not bode well for the country's welfare.

Taxes should be levied at a time and in a way that would make it as easy as possible for people to pay them. Taxing capital gains on assets only when the gains  are realised is a good example of this approach. Taxes should be easy and cheap to collect. There should be no need for huge armies of tax collectors and taxes should not undermine taxpayers' economic incentives nor should they create a pervasive climate of tax evasion. In Smith's time the main tax evaders were smugglers but in modern times this has widened a lot to huge multi -national corporations named after fruit and South American rivers. Taxes should be at a level whereby taxpayers will be in a position to pay them,albeit reluctantly. They should not be at a level where taxpayers will move mountains to evade tax payments.

Finally the state should not impose penalties on tax evaders that are so severe that the tax evaders will be financially ruined. The level of penalties should be adequate to ensure that evaders change their behaviours but the medicine applied should not kill the patient. Can this be achieved in the modern era? Many public campaigns have forced companies,like Starbucks, to pay more in UK tax and there are moves to implement general anti avoidance tax rules (GAAR) in the UK.

All these principles are designed to ensure that taxes raise as much as possible for the state whilst minimising the financial blockers to a country's economic growth and to workers' incentives. We need to ensure that governments do not ignore these important principles when they set their tax policies.