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If the financial system were a software system, it would be in dire need of a refactoring. Complexity makes systems brittle and exploitable. Also, most of the

If the financial system were a software system, it would be in dire need of a refactoring. Complexity makes systems brittle and exploitable. Also, most of the complexity adds no value. For example, do we still need debt? Wouldn't it be better for a company to just create and sell shares if they wanted to raise funding? In a healthy economic environment, loaning money doesn't make any sense. When you make a loan, you limit your upside potential but you're still exposed to the full downside risk (e.g. if the debtor goes bankrupt). The only real use case for debt is to create speculative bubbles... You manipulate markets to inflate asset prices so that people need to borrow more money so that the interest payment on the loan taken for that asset is more profitable than any real investment return that the asset could have generated organically.

tvanantwerp 7y ago
If you make a loan, you're still entitled to repayment plus interest--equity can just go to zero. Creditors get repaid out of bankruptcy before shareholders do. Not to mention, a business might not want to hand over ownership if it can get money by other means. There are reasons on both sides why debt might be preferable to equity.
- jondubois 7y ago
  If being the first in line to collect the proceeds of liquidation in case of bankruptcy is the only advantage of loaning vs investing, then it still doesn't seem like a very strong case to me. >> a business might not want to hand over ownership In terms of not wanting to hand over control; a business could achieve this by issuing non-voting shares. In terms of actual ownership, I don't think it makes sense for an economic entity to give or loan money to a venture unless they understand or at least believe in the venture - Ownership is the best way to demonstrate that belief. Debt may be a way to commoditize the funding process but this doesn't make sense begin with - Money loaned by bankers on the basis of broad statistical probabilities cannot outperform money invested by investors on the basis of deep understanding of the market and business domain. If the economy ran more on debt, we'd end up with fewer well informed investors and more poorly informed bankers. The economy would be much less efficient.
voldacar 7y ago
>In a healthy economic environment, loaning money doesn't make any sense. Given how healthy the economy is right now, and how low interest rates are right now, the market clearly disagrees
- dd36 7y ago
  How healthy is it? Not healthy enough for the Fed to increase rates.
  - voldacar 7y ago
    Oh I agree that current rates are totally artificial, but it's silly to say that in a healthy economy, people just won't want to loan money.
- jondubois 7y ago
  Only about 10 years ago, the entire banking system was on the brink or collapse and had to be bailed out - This was followed by a decade of cutting interest rates and quantitative easing which served to pump free money into the economy; most of this money ended up directly in the hands of corporations and tech startups (and the Consumer Price Index was only kept artificially low due to increased centralization of wealth). The economy that we have today is the result of a decade of artificial manipulation by government entities - There is little real value behind the growth. All the numbers look bigger but they're more brittle than ever.
ellius 7y ago
Your first paragraphs are entirely correct. "Shadow banking," for example, has created a notoriously complex and opaque credit market. Your last paragraph, though, is completely at odds with basic financial and economic theory. Loans make mathematical sense because you don't make just one of them; you aggregate capital and take calculated risks on a broad variety of prospects. Many of them are low-risk (e.g. loans backed by substantial assets), others are high-risk, and you adjust the interest charged so that to take on high-risk investments you must be compensated with high interest rates. Maybe you take the full downside on one or two investments (e.g. you invest in two outright frauds), but if you have fifty other loans that offset those losses by paying high rates of interest, then you still make a profit. Also to your point in the second paragraph: equity is a bad tradeoff in many cases. If I'm starting a business that I expect to be hugely profitable, but I need $100,000 in startup costs, would I rather give up a big chunk of my company and pay out dividends for decades (or in perpetuity), or borrow the money and pay it back with a comparably small amount of interest quickly?
Nasrudith 7y ago
That second conclusion really doesn't follow - asset inflation is but one abuse or side effect of loans. Debts save larger expenses and consequences of not having the capital available. Even if less was available for buyers doesn't mean prices would drop - mass production depends upon large upfront prices for much lower per unit production costs - and even things which aren't scaleable like houses depend upon manufacturered commodities.

tvanantwerp 7y ago

If you make a loan, you're still entitled to repayment plus interest--equity can just go to zero. Creditors get repaid out of bankruptcy before shareholders do. Not to mention, a business might not want to hand over ownership if it can get money by other means. There are reasons on both sides why debt might be preferable to equity.

jondubois 7y ago
If being the first in line to collect the proceeds of liquidation in case of bankruptcy is the only advantage of loaning vs investing, then it still doesn't seem like a very strong case to me. >> a business might not want to hand over ownership In terms of not wanting to hand over control; a business could achieve this by issuing non-voting shares. In terms of actual ownership, I don't think it makes sense for an economic entity to give or loan money to a venture unless they understand or at least believe in the venture - Ownership is the best way to demonstrate that belief. Debt may be a way to commoditize the funding process but this doesn't make sense begin with - Money loaned by bankers on the basis of broad statistical probabilities cannot outperform money invested by investors on the basis of deep understanding of the market and business domain. If the economy ran more on debt, we'd end up with fewer well informed investors and more poorly informed bankers. The economy would be much less efficient.

voldacar 7y ago

>In a healthy economic environment, loaning money doesn't make any sense. Given how healthy the economy is right now, and how low interest rates are right now, the market clearly disagrees

dd36 7y ago
How healthy is it? Not healthy enough for the Fed to increase rates.
- voldacar 7y ago
  Oh I agree that current rates are totally artificial, but it's silly to say that in a healthy economy, people just won't want to loan money.
jondubois 7y ago
Only about 10 years ago, the entire banking system was on the brink or collapse and had to be bailed out - This was followed by a decade of cutting interest rates and quantitative easing which served to pump free money into the economy; most of this money ended up directly in the hands of corporations and tech startups (and the Consumer Price Index was only kept artificially low due to increased centralization of wealth). The economy that we have today is the result of a decade of artificial manipulation by government entities - There is little real value behind the growth. All the numbers look bigger but they're more brittle than ever.

ellius 7y ago

Your first paragraphs are entirely correct. "Shadow banking," for example, has created a notoriously complex and opaque credit market. Your last paragraph, though, is completely at odds with basic financial and economic theory. Loans make mathematical sense because you don't make just one of them; you aggregate capital and take calculated risks on a broad variety of prospects. Many of them are low-risk (e.g. loans backed by substantial assets), others are high-risk, and you adjust the interest charged so that to take on high-risk investments you must be compensated with high interest rates. Maybe you take the full downside on one or two investments (e.g. you invest in two outright frauds), but if you have fifty other loans that offset those losses by paying high rates of interest, then you still make a profit. Also to your point in the second paragraph: equity is a bad tradeoff in many cases. If I'm starting a business that I expect to be hugely profitable, but I need $100,000 in startup costs, would I rather give up a big chunk of my company and pay out dividends for decades (or in perpetuity), or borrow the money and pay it back with a comparably small amount of interest quickly?

Nasrudith 7y ago

That second conclusion really doesn't follow - asset inflation is but one abuse or side effect of loans. Debts save larger expenses and consequences of not having the capital available. Even if less was available for buyers doesn't mean prices would drop - mass production depends upon large upfront prices for much lower per unit production costs - and even things which aren't scaleable like houses depend upon manufacturered commodities.