👋 Hey there! Welcome to a new edition of The Sunday Wisdom! My name is Abhishek. I read a lot of books, think a lot of things, and this is where I dump my notes and (so called) learnings.
I mostly write to educate myself, this is kind of my Feynman Technique in action. But if you like my writing, I would say this little hobby of mine just became a bit more purposeful. Now… time for the mandatory plug!
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Enough talk! On to this week’s essay. It’s about 2,700 words.
Q: Is it possible to have a stable economy?
Okay, I’m gonna make an attempt to use the synopses of two classics to illustrate few very important tenets of capitalism.
The first Faust is a two-part tragic play written by German author Johann Wolfgang von Goethe. The story revolves around a scholar named Faust, who is dissatisfied with his life and makes a deal with the devil named Mephistopheles. Faust agrees to give his soul to the devil in exchange for unlimited knowledge and worldly pleasures all his life.
But when the time comes to repay his ‘debt’, he instead achieves redemption through good deeds and wholesome intentions. Realising his mistake before his time is up, Faust performs acts of public service and so, when Mephistopheles arrives to claim him, God’s angels intervene. Singing, ‘He who strives on and lives to strive / Can earn redemption still,’ they take Faust to heaven instead.
The second is A Christmas Carol, Charles Dickens’s famous morality tale, where the penny-pinching Ebenezer Scrooge accumulates and saves wealth for his entire life, collecting mountains of interest but spending only the bare minimum.
At the end of the story, when the Ghost of Christmas Yet to Come shows him his own death, how no one mourns for him and how a poor couple indebted to him rejoice at his demise, he sees the light, opens his coffers and begins to spend, spend, spend, enjoying his life for the first time by spreading happiness to everyone around him.
If you think about it, Faust is the exact opposite of Scrooge. Instead of accumulating wealth and rejecting the pleasures of life, he enjoys life to its fullest, agreeing to pay a sizeable amount of interest to Mephistopheles in return.
But my question is this: Which of the two, Scrooge or Faust, do you think is more in step with the needs of capitalism?
Well… it’s Faust, of course! Why? Because if we were all Scrooges — misers who saved all our wealth without borrowing or spending — the economy would come to a complete standstill.
Long story short, the goal of capitalism is to help you earn more… yes… but only so that you can spend more. In other words, the ultimate goal of capitalism is to increase overall spending — your spending to be exact!
Every plan, every scheme, every action that is taken by the economy has only one goal in mind: make people spend more. The economy wants all of us to become Fausts, not Scrooges. Period!
Spending is what really drives the economy and… once you understand this, understanding capitalism becomes very very very easy.
Here’s how spending works: Suppose I spend my money to buy something from you (say, I really like that car of yours that’s been sitting in your garage for a while), your income rises. This exchange of money for goods or services is called a transaction. Transaction is the unit of an economy; the more the merrier.
Now, with this extra cash at hand, you are in a better position to spend more, and the amount you spend would be someone else’s income, which would help them spend more, and so on and on and on.
This self-reinforcing pattern leads to what we call an economic growth. More spending means more earning, which means more spending, and which in turn means a thriving economy. All well and dandy!
Alright! But I cannot really spend without having any income, right? Let’s say, instead of driving it around, I choose to build a car rental service with that car of yours I just bought. I put in my time and effort, and after a couple of months, I have a small business that’s doing fairly well.
But here’s a problem. Even though I have regular customers, I don’t have a lot of spending power (another word for income). I’ve hit a ceiling since I’m limited by the number of cars I have (which is only one as of now). And with the little income I have, looks like it’s gonna be a while before I can afford to buy another car to grow my income.
Now… since my spending is someone else’s income, and their spending is someone else’s income, and so on… my lack of spending is therefore breaking this self-reinforcing pattern and in fact hurting the economy.
But the only way I can increase my income and my spending is by increasing my economic productivity. But increase in productivity is a slow process by nature. It doesn’t happen overnight, and capitalism cannot have that! Capitalism wants to increase my spending power now, not in the future.
So… what if I told you there was a creative process that can put additional funding into one’s hands whenever they want, out of thin air, without any extra effort?
Introducing the voodoo concept of borrowing.
Borrowing is the dark magic shortcut to obtain things you want but cannot afford to have right now. Remember, Faust borrowed knowledge and pleasure from Mephistopheles.
Borrowing, as opposed to saving, kind of solves all the immediate problems, but at the same time, can create massive problems in the future if we aren’t careful. But… who cares about the problems we might face in the future, why not live in the present and try to enjoy it to the fullest instead?!
That’s in fact the beauty of capitalism: I don’t have to solely depend upon my ‘productivity’ and ‘hard work’ to grow my income. I can take a shortcut. In fact, I’m encouraged by the economy to take this shortcut.
Borrowing is nothing but a longterm transaction. Whenever you spend money in exchange for something, it’s a short-term transaction between the buyer and seller. Short-term transactions are created and settled then and there.
But when you borrow something, you don’t pay for it right away. Instead you make a promise to pay in future, thereby creating a longterm transaction (between the borrower and the lender). This transaction is created now, but will be settled later, and in return you would have to pay a little more, commonly referred to as interest. All sorts of havoc ensues when you don’t keep this promise.
Now, back to business! Borrowing increases your income, and this increased income allows increased spending, and since one person’s spending is another person’s income, the self-reinforcing pattern continues.
Let me give you an example: Suppose you have an income of $50,000, and you decide to borrow $10,000 more. Now, you can spend $60,000 even though you only earn $50,000. Interesting, isn’t it?
And since your spending is another person’s income, if you decide to spend all that money at the alter of capitalism, someone is earning $60,000 from you. Now, this person earning $60,000 can borrow $11,000, so they can spend $71,000 even though they only have $60,000. Again, since their spending is another person’s income, by following this pattern we can begin to see how borrowing increases the overall spending power of people and thus grows the economy.
Now comes the problem! However, this problem has nothing to do with borrowing and everything do with human nature.
With the funds I had put together via the voodoo act of borrowing, I thankfully now have a thriving car rental business. I’m liking this! Easy money whenever I want. And the lenders (banks mostly) don’t hesitate to lend me whatever I want because my income is constantly rising; they are confident that I would be able to repay them. And even if my business fails, I do have a house I own which they can seize as repayment. Either way I’m happy as long as I’m getting all this ‘free’ money.
Now, here’s the thing about borrowing. Even though it feels like I’ve borrowed all that money from a lender (which is usually a bank, the modern incarnation of Mephistopheles), I’ve actually borrowed it from my future self. I’ve made a bet that I’ll be doing far far better in future than what I’m doing now, and I’ll be able to repay everything with interest pretty smoothly.
In the same way as what Faust owed to Mephistopheles, what I owe to the lender is the most cursed object of all — debt.
Interestingly, this means that there would be a time in future when I would use my income to focus more on repaying my debt instead of spending. This is true for an individual as well as an economy. Since my spending is another person’s income, economic growth would most probably slow down sometime in the future. But we’ll cross that bridge when we get to it. For now, let’s borrow some more!
When we push it, borrowing — although it creates more spending — allows income to rise faster than economic productivity, and this isn’t good for obvious reasons.
You see… the economy wants us to spend more, yes, but then, there should also be goods and services to spend money on. If economic productivity (the only way to create goods and services) slows down due to excess borrowing, we might soon run out of things to spend money on.
Suppose I don’t put all of that money I borrowed back into my car rental business. Instead, let’s say I use a major chunk of that to buy stuff for myself — maybe a home theatre, a sports car, and all kinds of expensive accessories I don’t even need. After all, I’ve worked so hard on the business, I feel I have earned the right to spend a bit on myself as well, don’t you think?
But all these stuff that I bought with the borrowed money don’t generate any income for me. Unlike my business, they are dead assets or ‘liabilities’. Had I put a major chunk of that money into my business, I could have grown my income, paid back my debts, and probably improved my living standards with the income from my business. But… instead of slow money (income) I chose fast money (debt) to buy liabilities, and soon it’s gonna come back to bite me in the ass.
Since I’m more focussed on borrowing and spending, and not much on growing my business, economic productivity would slow down. But… and here’s the interesting part… since my spending is another person’s income, everybody is still left with a lot of spending power. But the problem is… due to a slowdown of economic productivity… there aren’t many places or things to actually spend all that money on. This is the classic demand v supply problem — lot of demand but not much supply.
I had moved to Bangalore towards the end of 2021 after living in Mumbai for about nine years. It was right after the pandemic had kind of ended and things weren’t a hundred-percent back to normal yet. Folks who had moved back to their native places from metros such as Mumbai, Delhi, Hyderabad, Bangalore, etc. during the pandemic were yet to return, so there naturally were a lot of unoccupied apartments with all-time low rents. It was a great time to move to Bangalore (or any other metro in India, except Mumbai, because… pandemic or not Mumbai only has skyhigh rents and matchbox-sized apartments, kind of like Paris).
Fast forward mid-2022: WFH is a thing of the past; people are returning back to metro cities in hoards; flight fare has doubled; and rents of Bangalore apartments have shot up by 2–3x.
Uber and Ola do the same during peak hours when demand for cabs is skyhigh but there aren’t many cabs available. They call it price surge. But when the same happens in an economy — when the amount of spending and income grows faster than the production of goods and services leading to a rise in prices — it’s called an ‘inflation’. This is the beginning of bad times.
Now enters a key player in the economy: the central bank.
Generally every government has two important parts: a central government (that collects taxes and spends money) and a central bank. For example, the central bank of India is called the Reserve Bank of India (RBI). You can think of RBI as the big bank of all banks in India.
Like all central banks, RBI has one and only one major responsibility: maintaining a balance between greed and fear of the public. It does this in two ways: influencing interest rates and printing new money.
Let’s talk about managing greed and fear for now. Greed is what drove people to borrow more and more (and focus more on spending instead of increasing economic productivity). And now, due to inflation, fear has set in. The money has become less valuable; what costed $10 now cost $50; people aren’t as wealthy as they thought they were; and since there’s so much uncertainty about what the future holds, it might be a good idea to save as much as possible. The Fausts have started to act like Scrooges.
See, too much inflation causes lots of problems and the central bank doesn’t want that. Seeing prices rise, it raises interest rates.
With higher interest rates, not only fewer people can afford to borrow money, but also the interest on the existing debt have risen. This means, if you had to pay back $100,000, now you might have to pay back $120,000. Not good!
The Reserve Bank of India (RBI) increased interest rates in August 2018 as a measure to control inflationary pressures in the Indian economy. The RBI noted that there were risks to inflation from rising oil prices, uncertain monsoon, fiscal slippages at the state level, and volatile global financial markets.
By increasing interest rates, the RBI aimed to reduce the availability of ‘free money’ and increase borrowing costs, which could help to moderate demand and inflation.
High interest rates force people to spend less and focus more on debt repayment. This means less and less people would rent my car and focus more and more on paying their existing debts. Naturally, when people spend less, incomes go down, economic productivity decreases, and we officially enter a recession. Times were already bad, now they’ve worsened!
A recession is a significant decline in economic activity that lasts for a prolonged period of time (sometimes upto one-and-half-years), typically characterised by a decrease in economic productivity, employment, industrial production, sales, etc.
But again, the central bank would never want a severe recession. As soon as inflation is no longer a major problem, the central bank lowers interest rates to cause things to pick up again.
With low interest rates, greed and optimism come back in action, and this time with a revenge. This means debt repayments are reduced, borrowing and spending pick up, much much more this time, and we see another expansion.
The European Central Bank (ECB) lowered its interest rates to zero in March 2016 and kept it there until 2019. This move was part of a broader set of monetary policy measures designed to boost lending and investment in the economy. By lowering the cost of borrowing for commercial banks, the ECB aimed to encourage them to lend more to businesses and households, which would in turn boost spending and investment. And like many countries, they also lowered interest rates again in March 2020 in response to the COVID-19 pandemic.
In short, when borrowing is easily available, there’s an economic expansion. When borrowing isn’t easily available, there’s a recession. As you can see, the economy works like a machine — driven mostly by greed, fear, optimism, and pessimism. It either grows or slows; it’s never stable.
Spending, even though it’s good for the economy, isn’t good for an individual. In fact, I’m gonna go ahead and declare that anything that’s good for the economy isn’t generally good for an individual, especially debt.
But expansion and recession are smaller forces at play, usually happening over a span of 8–10 years. There are larger forces at play as well — happening over a span of 80–100 years — that have massive massive repercussions.
Today I Learned
Next time you’re playing with a baby, try taking a toy and hiding it under a blanket in front of them. If they’re less than about six months old, they won’t pull the blanket away to get the toy back — no matter how much they were enjoying playing with it beforehand.
That’s not because they lack the skill to grab and move the cloth — it’s because, unlike you, they simply don’t realise the toy still exists. To their tiny mind, it simply poofed out of existence the moment it vanished.
This is why babies find the game of peekaboo such fun. It’s why peekaboo is played by every culture, by all humans all around the world. When you place your hands in front of your face, a very young and immature mind assumes that you have literally disappeared, and possibly ceased to exist. The joy in discovering that your existence hasn’t been erased from the universe shines out in the baby’s giggles when you take your hands away.
Peekaboo exemplifies quite how badly equipped humans are for comprehending the universe, and everything in it. We’re not born with an innate understanding of the world around us. We have to learn that stuff — including people — don’t just vanish when we are not looking at it.
In babies, it’s an important milestone in development known as object permanence — something that many other animals never quite manage to grasp. A crocodile, regardless of age — can be subdued by covering its eyes. Some birds can be calmed by placing a cover over their cage. It’s not just that they find the darkness soothing, they don’t realise the pesky human bothering them is still there, on the other side of the cloth.
Timeless Insight
Happiness is not something that happens. Happiness is not the result of good fortune or random chance. It is not something that money can buy or power command. It does not depend on outside events, but, rather, on how we interpret them.
Happiness, in fact, is a condition that must be prepared for, cultivated, and defended privately by each person. People who learn to control inner experience will be able to determine the quality of their lives, which is as close as any of us can come to being happy.
Contrary to what we usually believe the best moments in our lives are not the passive, receptive, relaxing times (although such experiences can also be enjoyable, especially if we have worked hard to attain them).
The best moments usually occur when a person’s body or mind is stretched to its limits in a voluntary effort to accomplish something difficult and worthwhile.
For a child, it could be placing with trembling fingers the last block on a tower they have built, higher than any they have built so far; for a swimmer, it could be trying to beat their own record; for a violinist, mastering an intricate musical passage. For each person there are thousands of opportunities, challenges to expand ourselves.
Such experiences are not necessarily pleasant at the time they occur. The swimmer’s muscles might have ached during their most memorable race, their lungs might have felt like exploding, and they might have been dizzy with fatigue — yet these could have been the best moments of their life.
Getting control of life is never easy, and sometimes it can be definitely painful. But in the long run optimal experiences add up to a sense of mastery — or perhaps better, a sense of participation in determining the content of life — that comes as close to what is usually meant by happiness as anything else we can conceivably imagine.
What I’m Reading
The alphabet was a founding technology of information. The telephone, the fax machine, the calculator, and, ultimately, the computer are only the latest innovations devised for saving, manipulating, and communicating knowledge. Our culture has absorbed a working vocabulary for these useful inventions. We speak of compressing data, aware that this is quite different from compressing a gas. We know about streaming information, parsing it, sorting it, matching it, and filtering it. Our furniture includes iPods and plasma displays, our skills include texting and Googling, we are endowed, we are expert, so we see information in the foreground. But it has always been there. It pervaded our ancestors’ world, too, taking forms from solid to ethereal, granite gravestones and the whispers of courtiers. The punched card, the cash register, the nineteenth-century Difference Engine, the wires of telegraphy all played their parts in weaving the spiderweb of information to which we cling. Each new information technology, in its own time, set off blooms in storage and transmission.
— James Gleick, The Information
Tiny Thought
We take every precaution to safeguard our material possessions because we know what they cost, but we neglect things which are much more precious because they don’t come with price tags attached.
Before You Go…
Thanks so much for reading! Send me ideas, questions, reading recs. You can write to abhishek@coffeeandjunk.com, reply to this email, or use the comments. And… if you feel like I’ve done a great job writing this piece, be generous and buy me a few cups. ☕️
Until next Sunday,
Abhishek 👋