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I have many reservations and am very critical of the financial system. But the concept of interest on loans is not a "scam'. The interest in it's simplest form

I have many reservations and am very critical of the financial system. But the concept of interest on loans is not a "scam'. The interest in it's simplest form is just a value appreciation of the time value of money [1]. Would you rather have $100 today, or $100 next month? How about $100 today vs $102 next month? Still rather in the today camp? How about $105 next month? That is the interest. It is the value derivative of having the money 'now' vs having the money 'later'. Where things can get scammy is in the complex type of credit products on offer (tying in all sorts of opaque references to things presented as neutral which are far from), and how things are communicated to the borrower. Tip: If you are considering a loan, always ask for a full repayment plan showing you which payments are due each month, and the resulting reduction in the amount due (your payment first covers the interest accrued in that month, and only after that covers principal reduction). If there are variables in the loans formula, ask for simulations that cover the most likely evolution scenario, as well as the extremes. Every financial institution has such a payment plan calculator. Long ago I have written one which afaik is still in use today in a non-trivial financial services company. [1] https://www.investopedia.com/terms/t/timevalueofmoney.asp https://www.investopedia.com/terms/t/timevalueofmoney.asp

javajosh 7y ago
Good comment. I sometimes describe borrowing as renting money, where interest is the rent. Its a mathematically interesting construct because, for one thing, the value of the thing you rented goes down with cumulative rent paid. It's kind of a degenerate money cycle if you loan money to someone who uses it to pay you interest on the loan. I suppose only taxes (serving as friction, removing energy) prevent this from being a kind of economic perpetual motion machine! I'd be stunned if this trick wasn't a) very old, and b) have about 1000 modern variations.
majortennis 7y ago
I didn't say interest on a loan was a scam I think compound interest on mortgages is. A fixed price interest would make sense like you borrow £100 , you pay back £110. 10% interest. But my understanding on a compound interest mortgage is the bank says something like 2% interest. and they take the £100 and x by 1.02 and just spam ='s on the calculator until the actual interest percentage is like 180%. You shouldn't have to spend an hour learning how the bank are gnna screw you.
- gbear605 7y ago
  The thing about loans is that they should also be cheaper if you pay them off sooner. I could believe that they should be simple interest instead of compound, but that’ll get to 200% in only a bit longer (50 periods of 2% interest instead of 35), and banks would want higher interest rates on simple interest anyway, making it equal out. Plus, there are many great loan calculators online to use too.
- PeterStuer 7y ago
  While I appreciate your concern, the problem with what you call 'actual' interest percentage is not what reflects the financial transaction. As stated above, money has a 'time value'. Getting $100 today has a different value to you than getting $100 somewhere in the future. So to know whether a deal is interesting, I do not just have to know how much I will be getting back in return for my investment, but when. Getting back $180 as a single lump sum payment in a year is different than getting 12 monthly payments of $15 each month for the next year, even though in both cases you will have payed me back $180 looking back. The interest rate the bank quotes, in your example 2%, is the percentage amount by which your outstanding IOU to them will be increased at the end of the month, before you make your monthly payment. Now this was an example of a simple fixed interest rate. In practice there are unlimited kinds of formulas that can have variable interest rates over time tied too other things, capped or uncapped, and even then that is just one of the things that goes into a payments plan. So unless you have nailed down all the other factors, comparing just interest percentage A with interest percentage B, typically in the final haggle, tells you little. This is why I advice always looking at the series of monthly payments that you will have to make over the duration of the loan repayment, and compare these with the series of monthly payments due under a competing proposal. Banks will screw you over in more ways than you can imagine, but quoting a compound interest rate as opposed to a total amount repaid at the end of contract (which btw is often much longer than the repayment period or even unlimited in time but that is another story) isn't where it is at.
  - majortennis 7y ago
    The point that you don't pay the total back at the end resonated with me. I agree holding the money has time value

javajosh 7y ago

Good comment. I sometimes describe borrowing as renting money, where interest is the rent. Its a mathematically interesting construct because, for one thing, the value of the thing you rented goes down with cumulative rent paid. It's kind of a degenerate money cycle if you loan money to someone who uses it to pay you interest on the loan. I suppose only taxes (serving as friction, removing energy) prevent this from being a kind of economic perpetual motion machine! I'd be stunned if this trick wasn't a) very old, and b) have about 1000 modern variations.

majortennis 7y ago

I didn't say interest on a loan was a scam I think compound interest on mortgages is. A fixed price interest would make sense like you borrow £100 , you pay back £110. 10% interest. But my understanding on a compound interest mortgage is the bank says something like 2% interest. and they take the £100 and x by 1.02 and just spam ='s on the calculator until the actual interest percentage is like 180%. You shouldn't have to spend an hour learning how the bank are gnna screw you.

gbear605 7y ago
The thing about loans is that they should also be cheaper if you pay them off sooner. I could believe that they should be simple interest instead of compound, but that’ll get to 200% in only a bit longer (50 periods of 2% interest instead of 35), and banks would want higher interest rates on simple interest anyway, making it equal out. Plus, there are many great loan calculators online to use too.
PeterStuer 7y ago
While I appreciate your concern, the problem with what you call 'actual' interest percentage is not what reflects the financial transaction. As stated above, money has a 'time value'. Getting $100 today has a different value to you than getting $100 somewhere in the future. So to know whether a deal is interesting, I do not just have to know how much I will be getting back in return for my investment, but when. Getting back $180 as a single lump sum payment in a year is different than getting 12 monthly payments of $15 each month for the next year, even though in both cases you will have payed me back $180 looking back. The interest rate the bank quotes, in your example 2%, is the percentage amount by which your outstanding IOU to them will be increased at the end of the month, before you make your monthly payment. Now this was an example of a simple fixed interest rate. In practice there are unlimited kinds of formulas that can have variable interest rates over time tied too other things, capped or uncapped, and even then that is just one of the things that goes into a payments plan. So unless you have nailed down all the other factors, comparing just interest percentage A with interest percentage B, typically in the final haggle, tells you little. This is why I advice always looking at the series of monthly payments that you will have to make over the duration of the loan repayment, and compare these with the series of monthly payments due under a competing proposal. Banks will screw you over in more ways than you can imagine, but quoting a compound interest rate as opposed to a total amount repaid at the end of contract (which btw is often much longer than the repayment period or even unlimited in time but that is another story) isn't where it is at.
- majortennis 7y ago
  The point that you don't pay the total back at the end resonated with me. I agree holding the money has time value