The Theory of Interest. Revision of the Austrian Approach. Annex 1: Remarks, Relations and Arguing over the Work of Pavel Potužák

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The article follows up the doctoral thesis of Pavel Potužák called Capital and the Monetary Business Cycle Theory[1], specifically the chapter 3: The Austrian Theory of the Natural Rate of Interest: A Neoclassical Critique and his article on interest rate he sent me.

My reaction is divided into three basic parts. In every part I will summarize arguments of Pavel Potužák, consequently I will make observations relating to them and show possible connections or arguments. In the first part I will focus on a perspective associated with assessment of the future. In the second part I will explain how interest is viewed in my work and I will refer to possible links with the work of Pavel Potužák. The third part includes several observations about negative interest.

Part I: The Problem of Assessing the Future

In his article Potužák writes the following: “Future assessment of future needs and goods does not exist. What only exists is present assessment of present goods and present assessment of future goods based on the needs felt today and the future needs expected today.” The quoted premise used in traditional interpretation of assessment in association with time preference seems to be correct. However, in my opinion it is not accurate.

Before explaining the reason of inaccuracy, it should be noted that a man knows something about the future. What a man knows about the future is e.g. the fact that if he lives, the future will arrive, and it could look as he imagines. He makes plans about it. He perceives himself in time continuum[2]. So, humans can implement some valuable assumptions about the future. At the same time a men value goods on the basis of satisfying any of their needs – i.e. we ascribe a use value to goods. The process of ascribing a value is the following: first there is a need followed by assessing whether economic good satisfies the need or not. On the basis of which a use value is or is not ascribed to the good.

However, time itself or assessment of needs and means over time, causes problems in explaining, which relates to the concept of time preferences. Of course, the main problem is how we approach assessment of future needs and means of their satisfaction, i.e. goods. As mentioned before a man knows something about the future. But it must be obvious to everyone that knowledge about the future is limited. Not only assessment itself of needs and means in the future but also their assessment vis-a-vis the present becomes problematic in the context of future.

Mises demonstrates successfully that we must prefer satisfaction of needs now rather than later on. With respect to his argumentation system it is a characteristic trait of human action. Otherwise, a man would not act. However, Potužák points out that the following is not apparent from what has been mentioned above: “goods with the same present value have superiority over the future goods[3].” Superiority of current goods over the future ones is however the basis for description of existence of interest according to Mises’s interpretation. In economic theory the problem contrary associated with possible superiority of future goods over current goods is illustrated using the example of ice in summer and in winter[4].

Mises reacted to the issue of ice in summer and in winter. He claimed that in the present case there were various types of goods (ice in summer and ice in winter are different goods) and they could not be assessed in the same way. Therefore, superiority of future goods (ice in summer) over current goods (ice in winter, if winter is now) does not apply. However, his reasons were quite pointless – he clung to diversity of production processes of ice in summer and in winter. But that is definitely contrary to subjective theory of value. Rothbard tried to “rescue” Mises. He explains that in the present case there are different needs at different times and the needs are satisfied by means of goods assessed in a different way, or as Rothbard says it deals of other goods with a different level of satisfaction of needs.

In his doctoral thesis Pavel Potužák[5] rightly points out that without assessing mutually identical needs in the context of identical goods over time we have difficulty in assessing present goods in the context of any prospect of a future. We have nothing to assess mutually. At the same time, we contest the validity of Menger’s law of marginal utility over time, which is based on “need – goods” causality, i.e. ascribing a value to an additional unit of goods is decreasing with the rate of satisfaction of the defined need. Menger’s law needs a causal relationship of satisfying needs by means (goods). It is inevitable that an additional unit of goods satisfies a need defined by a human later over time to a lesser extent than the previous unit. Well, if we do not assess over time identical needs with identical goods that should satisfy them, then the rule cannot be formulated.

Potužák in the context of the work of Rober Murphy, claims that Mises and Rothbard identified the problem concerning time preferences incorrectly. With respect to Menger’s law it is inevitable to assess over time (i.e. to ascribe a value to) something that identically satisfies a defined need, which also remains identical over time. Otherwise, it is impossible to carry out assessment; moreover, we face a problem of denying the law of marginal utility. Potužák comments it as follows:

Goods are means for the satisfaction of human wants. Moreover, Manger’s theory of marginal utility is based on this distinction because different units of the same good may satisfy different needs. In such a case, the given good cannot be considered as a different good once additional wants are gradually satisfied with additional units of the same good. It is still the same good that just acquires a lower marginal utility as it is used for the satisfaction of a lower need. Applying Rothbard’s idea to this analysis would make the theory of marginal utility completely senseless. this connection, Murphy (2003:119) clearly stated that both Mises’s and Rothbard’s points of view are inconsistent since they use a different typology of goods and wants for the inter-temporal and for the intra-temporal analysis. In the intra-temporal analysis, the same goods may be used to satisfy different needs. In the inter-temporal analysis, once the physically same good satisfies a different want, it is qualified as a different good[6]. “

Potužák states that Mises and Rothbard confused two types of time preferences. In order to put the reader up to speed let us mention Böhm-Bawerk who identified three types of time preferences as a cause of interest. The first type relates to the goods a man is equipped with now and in the future (TP1)[7], the second concerns underestimation of future needs, i.e. Mises’s pure time preference (TP2), and the third is linked with implementation of roundabout methods of production, i.e. technical superiority of present over future goods. Potužák explains in other words that being equipped with consumable goods now is more advantageous than being equipped with them later because only then people can allocate resources to roundabout methods of production.

In their work Mises and Rothbard confuse TP1 and TP2. Potužák illustrates that if we focus on the problem of time preferences in terms of present and future goods, then we must conclude that time preference as a reason of existence of interest may be negative sometimes, i.e. in some cases we tend to prefer future over present goods. Using examples Potužák claims[8] the following:

the marginal present good satisfies a want of much lower intensity compared with the marginal future good. As a result, the individual manifests negative time preference in sense one, even though he still possesses positive time preference in sense two

Change in assessment relates to change in assumption concerning the goods possessed now (ice in winter) and later (ice in summer). Potužák writes:

In the first place, man in winter has a large endowment of ice. At the same time, due to the typical weather conditions, ice in winter may satisfy only very low marginal needs. On the other hand, summer can be characterised as a season with much smaller endowment of ice. Moreover, due to high temperatures in the summertime, very urgent wants may be potentially satisfied with ice. Hence, owing to the very low endowment, the last unsatisfied want can be in very great need. In such a case, the future cube of ice can be preferred to the present one. Thus, the individual may be prepared to exchange much more present ice just for a small amount of future ice. There is no need to define cubes of ice in different seasons as different goods. It is still the same good, only the individual is differently endowed with the given good — ice. “

Solution to the problem of ascribing a value to future goods, which he suggests, is identical with the solution of Mises and Rothbard. But it is presented in the context of two types of time preference. However, the problem Potužák faces consists in the assumption that needs do not change[9]. In the example of ice Potužák describes change in viewing needs according to temperature conditions. The temperature conditions change a view of the need in question and move it to the top of urgency of being satisfied by means of goods (ice) in comparison with a potentially less urgent need. As mentioned above a need is inevitably first. That is why assessment of goods is carried out in the context of the need. This affects a use value of a good (a means), which absolutely cannot be constant over time according by definition (we will see later that it can be only relatively constant). The problem is that traditional viewing of assessment presented by Potužák refers to specific needs (ends) and subsequently to specific means. However, a specific character of a need may change over time, which implies that an ascribed use value of goods changes as well.

Furthermore, Potužák assumes a kind of equipment with goods (ice) in the future, in which case there is nothing like certainty of existence of future goods. Existence of a good in the future needs either storing (i.e. using a new and independent production process) or it will be produced in the context of changes in viewing satisfaction of a future need. This is probably what Mises was not very successful in explaining miscellaneous production processes when suggesting how to tackle the problem of viewing values of goods in various seasons.

Well, are we facing logical paradox? To what extent is therefore true that: “What only exists is present assessment of present goods and present assessment of future goods based on the needs felt today and the future needs expected today”? Which of the given explanations of assessing future needs and goods is more relevant and more accurate? Both Mises-Rothbard’s statement and Potužák’s claim based on Murphy’s and Böhm-Bawerk’s work is valid, however they contradict each other.

Before trying to resolve the given paradox, let us have a look at one more imperfect solution. Solution based on money. Part of representatives of the Austrian school “rescues” Mises’s concept of time preferences by means of money. Because money is the only good that is viewed identical over time. One of the reasons these representatives of the Austrian school apply in order to defend this statement is that money does not have a use value; it has only an exchange value[10] . So, assessment of money is independent of changes of use value over time, which is ascribed to a good on the basis of changes in needs and their urgency. On the contrary, an exchange value is general, thus applicable over time[11]. Simply we can say that by money we are able to overcome a problem of assessing changes in needs over time as well as changes in satisfying the needs over time.

Potužák draws a similar conclusion, even though based on different facts. He claims that Mises probably meant TP2 in the context of a good that is absolutely interchangeable over time. The figure shows that in the given example elasticity of substitution is infinite and marginal rate of substitution of a good (MRS) is purely defined by a subjective discount rate, i.e. TP2 exclusively.

Potužák writes:

„In this extreme case of perfect substitutes, in which the elasticity of substitution goes to infinity, the MRS will be determined only by parameter ρ not only at the diagonal line but also along the entire indifference curve (Figure No. 16). We can clearly see that indifference curves are linear and parallel. In this case and only in this case, the first sense of time preference will coincide with the second sense. Time preference would be solely determined by the Misesian postulate of the superiority of the earlier satisfaction, and no role would be played by the relative income endowment over time (income stream). An immediate question is whether Mises did not have this case in mind. “

Mises is not the only one who concludes that goods of an identical type and quality that a man should prefer more at present than in the future is money. Also, professor Guning[12] arrived at the same conclusion when defending Mises’s theory of preferences vis-à-vis professor Hülsmann´s Theory of Interest.

The reader can notice that money can eliminate the problem of specificity of both needs and preferences of goods over time. In terms of money we do not consider any changes in viewing needs of ice in winter or in summer. By means of money we react to current needs as well as we “secure” that the current good satisfies the current need – at a particular time at present or in the future and according to needs. It is irrelevant whether it deals of ice in winter or ice in summer because money flexibly satisfies an urgently perceived need. Basically, by means of money we avoid the necessity to anticipate our very particular and every changing needs and consequently to give preference to one specific good – money.

Certainly, “solution” in question is not solution to the given problem. On the one hand it does not apply to all people over time (or to their pre-historic communities), on the other hand it does not apply to a situation without the good – money[13]. However, it indicates a possible way of seeking solution to the above-mentioned paradox – partly, preserving variability of needs, partly preserving the necessity of “needs – goods” causality over time. Awareness of what money allows us (to avoid specificity or particularity of needs over time) may intuitively lead us (I have this experience) that assessment of needs and goods out of the monetary economy (our problem in question) in the context of the future should have been different.

As I have already mentioned I think that the above given logical problem results from the fact that when ascribing a value to a good we focus on present assessment of specific goods from a forward-looking perspective as well as from the perspective that the specific good should satisfy a specific anticipated need we satisfy by means of this good. However, as soon as we focus on specific needs and goods, in fact we do not know anything about them. The specificity in question is problematic due to excessive amount of possible particular alternatives.

The problem we face is the following: any need may be perceived equally as well as differently over time and the same applies to assigning a value to economic good. The given problem is the most visible in the context of the length of time. A perceived need, e.g. to quench thirst or to travel, will be viewed equally by an agent rather in a short time horizon (e.g. half a year) than in time horizon of 10 years. Everything depends on assessment of an agent. Someone can assess a specific need equally for the period of 10 years, someone else may assess it differently event within half a year. The same applies to goods satisfying perceived needs. Their value can be viewed equally or differently, whether due to economic context or the fact that assessment of goods goes on towards the future in the context of anticipation of further needs. All these problems arise from the particularity and specific assessment of needs and consequently goods.

On the one hand, there is inevitability of Menger’s interpretation of satisfaction of needs by means in the context of causal relationships, i.e. objective qualities of a good enable satisfaction of human needs, thanks to which we can characterize an object of reality as good (mean) in the context of a need (goal). Therefore, we can formulate a law of decreasing marginal utility. On the other hand, there is intuitively valid interpretation of Mises-Rothbard in the context of goods variously assessed at different times with emphasis on various time periods and inevitably different value-economic context.

Mises-Rothbard interpretation would “destroy” validity of Menger’s marginalism associated with economic good itself. However, Menger’s marginalism does not concern value movement over time. Menger’s causality implies that once a causal relationship to satisfy a need by the good is recognized, it is preserved (forever). What should be distracting at this type of causality interpretation is to what type of phenomena and knowledge we apply the causality.

Economy is not about Kant’s world[14]as it is” but the world “as it should be”, or about Engliš’s teleological[15] part of this world. Considering I incline to Hayek-Pavlík monism I should reformulate the previous sentence in the following way: “Economy is not about phenomena and empirical knowledge (i.e. “as it is”), but about teleological phenomena and knowledge about them (“as it should be”).

Application of causality at the level of teleological phenomena must have a different character compare the level of empirical knowledge. Assessment itself of goods (means) and formulation itself of needs has a value character, i.e. a human subject ascribes a value to means on the basis of viewing a value of goods in the context of formulation of a need. So, we are facing application of causality to two different types, or systems, of knowledge. Referring to causality only in the context of empirical knowledge (i.e. water quenches thirst) implies a consequent static character of viewing a value over time, whether it deals of needs or means of their satisfaction. Static (i.e. once recognized) causality works at the level of empirical knowledge, where causal link between the observed phenomena concludes that the phenomenon in question will remain identical under unchanged conditions. However, I think that at the level of teleological knowledge it is impossible to apply causality in the same way as in the field of natural phenomena; or more precisely, causality is applicable, but it is necessary to solve inevitability of value changes as well as to apply causality to something that is invariant to these changes. As I have already indicated, we face a paradox. We know that the law of marginal utility works, however, we need unchanged conditions for our assessment of needs and goods over time, while our intuition or logic suggests that Mises-Rothbard’s interpretation of inevitability to change our assessment of needs and goods is valid as well.

The problem is obviously solvable. For the first time it is really necessary to apply causality to objects of reality of which a man is part. The empirical layer of knowledge is substantial for the teleological one. Thirst will be quenched by water because objectively given characteristics of a human body as part of reality will in association with water eliminate thirst. Thirst will not be eliminated by stimulation of hearing via guitar (this causality will be used by a human subject for another type of assessment of satisfaction of needs). However, value perception of the given goods in the context of satisfaction of defined needs is already implied in the context of another layer of knowledge – teleological knowledge (“as it should be”). This is a new layer of perception and description of reality. Certainly, we assess objective qualities of a good (i.e. by including causal knowledge about quenching thirst with water) but in this context we inevitably grasp the phenomenon of reality defined as what should be first / fast / immediate and what should follow. So, causality is applied to another phenomenal layer of viewing reality. I am convinced that Menger’s causality associated with formulation of the law of marginal utility, which allows solution of the above-mentioned paradox, should be complemented with this layer.

That is why I suggested another procedure in my article about interest rate: Assessment based on a sum of needs and a sum of means. That eliminates the problem of future in its specificity or particularity. At the same time, it allows us to move at the layer of teleological phenomena (world “as it should be”). We use an abstract mathematical formulation that is part of teleological knowledge since it is a mathematical language intended also for description of other types of knowledge (both the world “as it is” and so-called normative knowledge being part of the world “as it should be”).

In my opinion this is in compliance with Hayek’s interpretation of viewing the future as a mental model – a man simply cannot define future in specificity in the form of particular goods, needs or economic context. Hayek explains that a mental model of a man simplifies viewing reality[16]. Viewing by means of a sum of preferences and a sum of means is this kind of simplification – this way we avoid exclusive particularity when interpreting the future.

So, we do not plan the future in the context of a specific need (e.g. quenching thirst by a glass of water). We define it more generally. This general definition of the future allows us to abstract specific goods and needs and to focus generally on the needs that we deal with by means of a sum of goods, not goods per se. This brings the following changes in formulation of needs over time and in perception of ascribing a value to goods:

A.    The given description is logically correct and usable over time without any problems. Because this is a mathematical construct. A sum of needs (today) is assessed vis-à-vis an assumed sum of needs (later) and their satisfaction in the context of a different assumed combination of sums of goods. Mathematical construct is invariant over time in terms of value; specific goods are variant over time in terms of value[17]. Mathematical concept of the sum is identical in both t, as well as t+1, whether in view of the concept itself or value changes. We know that some value changes in needs and goods per se will occur, however, we always consider a sum of needs and goods as the sum within which there are particular relations of needs or goods. So, we know how to work with the concept in question over time. If it is applicable over time, it is applicable also at present.

Since Menger’s marginalism is applicable only in the context of empirical knowledge, it implies satisfaction of a specific need by a specific economic good given that preservation of identical perception of needs and goods is inevitable. In the context of TP2 it is inevitable to anticipate earlier preference of satisfaction of the need X over satisfaction of the identical need X’ (in t+1) by economic good the value of which is equally viewed in t and v t+1. So, in the context of TP1 it is inevitable to distinguish division of value inter-temporally and intra-temporally, as Murphy explains. Potužák interprets Murphy’s theory by claiming that in the inter-temporal case the same goods can be used to satisfy different needs, while in the inter-temporal case as soon as a physically identical good satisfies different needs, it must be qualified as a different good[18].

The suggested concept allows causal explanation of the law of decreasing marginal utility both at present and over time based on the suggestion that value changes relate to needs as well as to goods. These value changes are inherent to teleological knowledge (the world “as it should be”). Thus, the law is applicable within the meaning of reducing the satisfaction of a perceived sum of needs by marginal unit of a suitable sum of goods.

From the point of view of the present satisfaction of a currently viewed sum of needs is carried out in the context of other needs, i.e. the relationship “need – good” impacts not only satisfaction of needs per se but also perception of another urgently perceived need within a given sum followed by subsequent satisfaction of another sum of needs. It means that the need to quench thirst is perceived e.g. within a composed need of acute survival (N1 = thirst and N2 = hunger), while after its elimination, i.e. first a human subject drinks water (good 1 = G1, from a glass = G2) and then eats meat (G3) roasted on fire (G4) and relaxes (N3 afterwards, which is a new sum of needs in the order). The concept of a sum of needs may be applied also to an explicit, i.e. individually perceived, not composed, need, in which case a particular need of something would be expressed (0; Ns)[19].

The need of acute survival remains comparable over time; however, it may be perceived in t as well as in the context of t+1 both variantly and invariantly since it is always a sum of needs. In terms of satisfaction of needs it is essential whether a man is sufficiently equipped with a portfolio of goods (means) which can be used in reaction to given change in viewing needs. Means (goods) for satisfaction of a given need are also viewed as a sum of some goods included in a sum of total goods focused on overall satisfaction of needs of human subject over time.

Subsequently a new sum of needs N3 is satisfied by another portfolio of goods, e.g. a guitar, family warmth, a dog and others. In this second case you can see that the need of relax does not have to be satisfied only by a guitar or listening to music, but also by other goods that might be used in the context of relax (home, a dog, a sofa), however, the given goods are applicable also in the context of other needs, e.g. a dog may belong to the portfolio of goods satisfying the need of hunt, or home is suitable in the portfolio of securing protection from cold, a sofa for accommodating guests, and others.

On the one hand, we can apply a necessary causality to the unchanged concept of the sum due to assessment over time (TP2), on the other hand, we can apply also value changes over time without the need to deny causality due to the law of marginal utility. At the same time, we can see that the given concept is applicable also to intra-temporal and inter-temporal assessment of goods (TP1). Sums of goods satisfying needs can be made intra-temporarily and inter-temporarily by individually perceived goods, which can be in the context of sums of needs combined in various ways.

B.    In terms of a man the suggested concept is practical, i.e. human subject avoids a problem of anticipating all potential specific futures; vice versa we have a general future ahead that we cover by means of a portfolio (sum) of goods; at the same time, we increase the likelihood of success of estimating the future that human subjects had to/have to face. In my point of view, it deals of a consistent claim in terms of Hayek’s Sensory Order; mental models suggest simplified grasping of reality and they simplify human subject’s view of reality.

C.    I think that the concept allows to explain application of the law of marginal utility to pre-historic communities where we can assume lower or very limited extent of grasping and anticipation of the future (provided there were not fully aware human beings), as well as in the context of activity itself (which might be unconscious), or application of a given assumption to the context of theory of cultural evolution (human subjects carry out something without understanding why – they follow a rule, or an evolutionary more successful model of future prediction).

The given phenomenon of assessing a sum of needs and satisfying them by sums of goods empirically reflects in e.g. building a portfolio of goods. At the same time the given concept reflects in various theories associated with a portfolio and risk, which is certainly at a different level of prediction, or at a different level of the issue in comparison with pre-historic and historic communities.

This way Menger’s marginalism, as well as a valid part of Mises-Rothbard’s argument about inevitability to view value changes is “rescued”. The value changes happen, however, thanks to their inclusion in sums, Menger’s marginalism is applicable here and now as well as over time.

Part 2: The Problem of Deriving Interest from Time Preference (TP1 and TP2) – Possible Interpretations of Merging of Pavel Potužák’s Work and my Work on Theory of Interest

In my article “Theory of Interest. Revision of the Austrian Approach[20]” I state that my description of interest is based on argumentation of professor Hülsmann vis-à-vis Mises. Hülsmann show that we cannot derive price of interest from time preference (TP2). I want to highlight that I do not deny the concept of time preferences (TP2). However, as well as Hülsmann I cannot see the possibility to derive interest from the concept itself. I feel that Pavel Potužák arrived at the same conclusion, even though he did not stress the knowledge explicitly, i.e. meaning that interest is an independent phenomenon which is not derived from TP2. In order to support my argument, we may use the following citation from his work[21]:

At this point, it should be stressed that it is the consumption goods that are traded on the intertemporal market, not utilities (or satisfactions). Hence, the MRS between present and future consumption goods (the time preference in the first sense), not the MRS between utilities (the time preference in the second sense), is crucial for the determination of the interest rate on the intertemporal market. “

Essentially, this statement is similar to the claim of professor Hülsmann. He indicates that interest is what we use to decide what will be going on at the level of goods. I am paraphrasing Hülsmann: 10% interest of production of steel does not mean that profitability of steel production is 10%, which implies motivation to defer consumption of any goods by human subjects. 10% interest means that unless steel produces 10% yield, owners of capital goods will not allocate it to this field but to other, maybe to producing of cookies. According to Potužák’s terminology 10% interest means that unless human subjects are equipped with 10% yield of steel production in the future, owners of capital goods will not allocate steel to the field of production.

At the same time, it should be pointed out that if making decision whether to produce steel or whether to produce iron under the condition of identical interest worth 10%, owners of capital goods decide to allocate it to such production that will yield faster returns (which is caused by TP2). Under the condition of identical yield (10%) and identical time preference (e.g. human subjects accept TP2 as one year), then human subjects will prefer this project providing lower level of risk, or better collateral, or better legal conditions (whether individual or defined by society) associated with decision-making. Thus, we suggest that time preference (TP2) is an associated phenomenon, as well as other associated phenomena (e.g. legal conditions of exchange).

We would probably agree with Pavel Potužák in terms of the fact that interest cannot be derived from TP2. Well, how about TP1? This is when disagreement concerning perception of interest is likely to occur. Potužák continues[22] to apply Böhm-Bawerk’s terminology concerning time preference associated with various levels of equipment with goods in the future. As he writes, according to Böhm-Bawerk’s point of view the reason why people prefer (or most people before their retirement age, or before the end of their life) based on TP1 is better equipment with goods in the future compared with the presence, which implies growing economy. In my opinion the given assumption is not correct. There is nothing like equipment with goods in the future, or there is no guarantee that the goods in question will exist. The goods must emerge. On the contrary, in my Theory of Interest I suggest calling the given phenomenon time projection (TPr), which is an apparent difference aimed at showing what is linked with the given phenomenon of different equipment with goods in the future.

Well, what are we dealing with? Potužák himself writes in the chapter 2.2 of his doctoral thesis[23] that there are two different time preferences: TP1 and TP2. They must be different. Inevitably. TP2 concerns needs, while TP1 means. Needs and means (goods) are significantly different concepts. Means (goods) are not sure in the context of the future or in terms of a level of income in the future, or how man will be equipped with them in the future. Needs are sure in the context of the future only as a fact that they will exist. Even if means, i.e. goods, do not exist (in an extreme situation). At the same time, interest may relate explicitly only to means, not needs. This is what Potužák himself states when claiming that interest is a real phenomenon[24].

Whereas TP1 and TP2 concern two significantly different matters that differ not only by their origin but also by character, I believe that it is necessary to give the phenomenon another name; the suggestion time projection in my Theory of Interest was based on two reasons: to distinguish the concept of Mises’s view of time preference and to project the future, i.e. how we will be equipped with goods, or what goods we will get[25].

In my opinion the problem we face when formulating theory of interest is to define it from the beginning in another way. What is interest based on? What is interest? It is evident that interest relates to time and the future (TP1, or TPr), as well as time preferences (TP2). It is evident that today time preferences refer primarily to exchange over time (i.e. capital goods are exchanged for future goods – whether capital or consumer ones). It is evident that there is a phenomenon that all people at all times must have been able to carry out, as well as time preference (TP2). At the same time, we may assume existence of a man in community both as a conscious and unconscious human being (our predecessor). Next, the phenomenon must relate to means of satisfying needs, not to our needs.

It is also inevitable to describe the phenomenon and to explain its possible origin, and it is inevitable to explain the phenomenon outside monetary economy, i.e. without money[26]. While the associated time preference (TP2) is considered as a fully subjective phenomenon, interest is considered as an inter-subjective phenomenon[27]. However, I have not found an explicit answer to the claim. But I think that more associated phenomena incite the given claim – money itself (interest appears as a monetary phenomenon), interest in the form of money, i,e, interest has its price expression; if price is an inter-subjective phenomenon, it cannot be derived from time preference (TP2) as a fully subjective phenomenon.

I think that professor Hülsmann’s attempt to explain the phenomenon as human action, as a spread between ends (needs) and means within action, as well as E. Braun’s attempt[28] shifting solution to the problem to mental assessment of needs (ends) and means, were unsuccessful. The last substantial point to support my argument is that interest concerns means to satisfy needs in time. We can satisfy needs either directly or indirectly (by exchange). Conditions for existence of interest exchange (indirect way) and direct way of satisfaction of needs are necessary ones.

As I explain in my Theory of Interest, an interest spread arises between assessment of two ways of satisfaction of needs – direct and indirect (exchange), which are equally real phenomena[29]. The real character of the assumption emphasizes that we are social beings, i.e. we consistently face two ways of satisfaction of needs – direct and indirect.

Assuming that we only create future means of satisfaction of needs and that TP1 (or TPr) concerns a man’s future equipment with means, and assuming that extension of roundabout methods of production is one of the consequences of their assessment by interest (roundabout methods are not the cause of interest, however, they increase equipment with goods), I arrive at the very same conclusion that interest is a value phenomenon, it is a determining phenomenon of the process of development of economic good X by debtor within the context of the whole sum of goods of creditor, by which creditor satisfies his anticipated sum of needs within the time, while giving preference to their earlier than later satisfaction. And from the position of debtor it is vice-versa. Interest is neither derived, nor derivable from assumptions about TP1 or TP2. Interest is an independent phenomenon that must be explained in the context of TP1 and TP2.

If interest is a real phenomenon, i.e. a phenomenon resulting from trading goods in the time market, then it must be a kind of spread. That is why we consider interest as a spread associated with the ways we approach satisfaction of needs when assessing how to reach a better portfolio of goods – we put in ratio A) a direct way of satisfaction of needs (by applying own capital goods to present production of future goods)[30] vis-à-vis B) indirect way (by applying exchange over time)[31]. An explicit idea of my work is that this is impossible (!) without assessing indirect satisfaction of needs; it is a prerequisite.

Interest is generated on the basis of comparing whether a direct way, i.e. production, accumulation of goods and their consumption (building a portfolio of savings – the result is an portfolio of savings PS1) or an indirect way (entry into the time market with goods partly saved by someone else, which results in enrichment of the owner’s savings portfolio in something received by later exchange and which is determined by fulfilling commitment in the future – the result is anticipated PS2) is more favourable for us. It means a creditor assesses whether PS1 or (suggested) PS2 is more suitable for satisfying an anticipated sum of needs. The debtor do it vice-versa.

A creditor applies time preference (TP2), i.e. earlier satisfaction of needs is preferred over later satisfaction, as well as TPr (designated TP1 in Potužák’s theory) when preference of a sum of future goods is assessed, however, in the context of how he can reach a PS1 in the best possible way. Thus, interest is assessment of the best way of reaching the most suitable PSx. It develops on the basis of assessment of favourability/unfavourability of a spread in question.

In terms of interest the supply question is “reverse” in the context of a traditional view. The offer of an interest spread (its extent) is made by those who request capital goods and demand (in the context of the extent of a spread) is made by those who offer capital goods. A prerequisite of a spread is an exchange, or a potential exchange over time, which allows men to assess/compare suitability and unsuitability of the way of satisfying their needs, which creates this type of phenomenon. It should be obvious in my Theory of Interest that time projection itself defines only the extent of the given spread, but it is not a prerequisite. A spread cannot be derived from time projection itself.

If we interpret the problem of interest by Robinson’s example, we must state that there is no way for him how to derive interest. Sure, he considers TP2 and regards his future also by means of TPr (TP1) in the context of various personal strategies of reaching a more or less preferred sum of goods, i.e. internal strategy of survival (to get income, to save his life). However, the difference between given internal “production” strategies and their selection does not generate a type of internal interest rate. There is no way how to do it. Comparison/assessment with an indirect way of satisfying needs is missing. For Robinson there is only Hülsmann-Braun’s assessment of ends and means in time continuum. This is not affected by preferring earlier over later satisfaction of needs, or projecting and planning economic activities, or possibly to apply roundabout method to production of goods, i.e. combining available resources over time in order to reach greater satisfaction of needs in the future (not by inevitably higher amount of goods). Until the coming of another person – Friday, the prospect of direct and indirect satisfaction of needs raises, which creates the opportunity to grasp the concept of interest with all consequences: assessment of earlier satisfaction of Robinson’s needs also in the context of indirect satisfaction of needs by means of Friday, Robinson’s time projection in the context of whether dedicating of saved resources to Friday is worthwhile, if in the future thanks to Friday Robinson can reach e.g. a more diversified portfolio of savings compared to what Robinson would get from Friday without exchange over time, which implies assessment of miscellaneous options of implementing roundabout methods of production and choice of the most effective ones in the context of Robinson’s needs.

Subsequently, conjectural history of interest is possible as well[32]. Presented interpretation of interest allows description of gradual awareness of the fact that human subjects use interest. Since interest is largely a social, not individual, phenomenon, it can be used by individuals unconsciously in the background of activities associated with exchange in community provided that time of exchange is prolonged; debt exchange is possible in a prehistoric group – human subjects know each other, debt is claimed on the basis of rules of the group[33]; as Hayek shows the rules develop spontaneously and unconsciously.

Experimenting with time relates to exchange: e.g. exchange of an apple for a pear today vis-à-vis exchange of an apple for two pears tomorrow motivates human subjects to accept these exchanges because they look more advantageous. This creates a basis for awareness of a difference between an exchange in “t” per se and an exchange when part of exchange is carried out in “t” and part in “t+1”. As Theory of an Inter-Subjectively Perceived Value of Money shows emergence of money makes the given differential more accurately depicted until it develops spontaneously in the context of being fully perceived by human subjects; human subjects identify it in the form of “wow – I am fully aware of using the given spread in association of time and the rate is some kind of percentage shown in money”.

Part 3: Problem of Negative Interest

In my opinion negative interest is possible only at a cardinal scale, i.e. thanks to money and monetarily expressed interest. Only monetary expression of economic relations enables to define a negative scope of spread. Negative interest does not exist when preferences are assessed ordinarily. Then human subjects prefer only one state over another one. It follows that when interpreting interest by means of MRS outside cash economy it is impossible to determine a negative as well as positive interest spread. There is only a spread. The question is why in some cases MRS (marginal rate of substitution) can be expressed as negative.

I admit that I adhere to Mises’s interpretation of natural interest rate (i.e. originary interest, natural rate), which is not correct in its reasons (wrongly described cause of existence), however, it is correct in its conclusion – natural rate of interest cannot be negative. However, it does not mean that the negative rate of interest cannot rise. As the reader can see, in the context of my interpretation of interest and associated phenomena it is not a logical paradox regardless of the fact that Potužák explicitly proves that MRS is negative in some cases.

Potužák illustrates that when Rothbard demonstrated “inevitability” of preference of present goods over the future ones (MRS cannot be less than 1), he confused two types of preferences according to Böhm-Bawerk interpretation. He claims that Rothbard stated that current goods were not valued less than the future ones, therefore the statement is incorrect regardless of the fact that present satisfaction is always given preference over later satisfaction of needs. He applies his analysis to quite an extensive example of preferences of Mr Smith and Robinson who are either equally or differently equipped with goods, and he concludes[34]:

„Although the initial endowment was chosen arbitrarily, increasing present consumption and decreasing future consumption should eventually reduce the MRS below one, regardless of the initial endowment. Due to the law of diminishing marginal utility, there must be a point on the indifference curve at which the time preference (in sense one) switches from positive to negative value and at which the marginal present good is subjectively valued less than the marginal future good.“

In his work Potužák presents that if MRS moves below the level 1, equilibrium in the market is reached only in case of a negative rate of interest. Next, Potužák demonstrates that a real rate of interest can be negative („a higher amount of present goods might be exchanged for a lower amount of future goods “). I will not criticize his arguments focused on a negative rate of interest (whether real or nominal) in the context of the given concept. The issue in question is based on various premises[35]. But what we are going to comment is his argumentation focused on the possibility of existence of a negative natural rate of interest[36]. In his point of view Fisher (1930) clearly demonstrates that in case of very patient people and very low investment opportunities and provided that goods cannot be stored, only thanks to a negative natural rate of interest the given economy can reach equilibrium[37].

Within our interpretation, we look at the presented problem in a different way, which results in another form of interpretation of the phenomenon. While the traditional (also led by Potužák) interpretation points out that in some cases we accept a negative rate of interest, in my point of view the interpretation is not entirely correct and accurate. Why? Preference of e.g. a lower income, or lesser equipment with goods in the future does not imply a negative rate of interest. It implies only the fact that this state is preferred over another one. Why is MRS negative? Because when interpreting the phenomenon, we preserve causality between satisfaction of a specific need by a specific good over time. Then Potužák’s argumentation is valid. However, as we showed before, interpretation is problematic.

So, as soon as we consider the given relationship in the context of sums of needs and means (we preserve both causality and possible value changes in viewing needs and means), there is nothing like negative utility. Sums of goods, which are preferred in the future, do not have to be higher in terms of a number of goods; assessment is ascribed to a sum of goods, which implies various types of possible combinations as well as their qualities (e.g. legal, risk, religious, cultural, and other ones) due to which a given sum of goods is preferred over another one. Regardless of the fact that in terms of the number of goods the expression is negative. However, a natural rate of interest remains intact; a given state is preferred over another one at the ordinary scale, while it looks negative at the cardinal scale just because we do not include other variables associated with a preferred sum of goods in the solution. A spread of exchange seems to us negative (due to the number of goods), however, it is compensated by another type of spread within a given sum of goods, as a result of which we prefer a state of a nominal negatively expressed rate of interest calculated through the number of goods before a state of nominal positively expressed rate of interest[38].

Matúš Pošvanc, Slovak version of the paper was published on 19.10.2018


[2] Hayek, F.A. (1963) Sensory Order. Interpretation of the work see in Potužák, P. (2013). Hayekova teorie lidské mysli. (Hayek theory of human mind) WWW DOCUMENT. <>

[3] Potužák, P. 2016., p. 106

[4] See in Ibid. p. 106: „It was even Carl Menger (2007:151) who said that future goods might be sometimes valued more than present goods — ice in summer as a future good compared with ice in winter, if present is winter — is a typical counterexample of the superiority of a future good because 10 cubes of present ice in winter might be readily exchanged for only one future cube of ice in the summer. This example is quite widespread as it appeared also in the writings of Böhm-Bawerk (1891:245), Fetter (1928:238), and Fisher (1930:41).“

[5] Ibid. p. 107 – 109

[6] Ibid. p. 107 – 108

[7] However, later in the text the reader will encounter a slight terminological error of the concerned time preference. In my view it is not preference but projection. We will see, what I agree with, that diversity of terminology is justified.

[8] Potužák, P. (2016)., p. 110

[9] On the contrary, Mises and Rothbrad explicitly include potential changes over time in their arguments, which, as we have already shown, causes other logical problems unfortunately.

[10] I am specifically no using the expression of “assigned” a use or exchange value due to the fact that Mises – Austrians once they describe exchange value of money ascribe it to the economic good per se. See in Pošvanc, M. Theory of Intersubjective Perception of Value of Money

[11] However, in my opinion the statement that money as a good does not have any use value interferes with explanation how money gets purchasing power. The authors using these arguments have an objective approach to money. See in Pošvanc, M. Kritika regresného teorému. Zlato a striebro ako optimálne a nerigidné peniaze. WWW DOCUMENT <>

[12] See in Guning, J.P. Interest: In defence of Mises. WWW DOCUMENT <>

[13] Mises-Rothbard interpretation of money leads also to problems of description how money gets purchasing power, i.e. why money does not have its use value, but an exchange value, which is accepted by those who use money as the economic good. I describe the problem in my criticism of regressive theorem.

In my work “Theory of a Perceived Value of Money” I defend a thesis that purchasing power of money is derived from mediation of an additional unit of exchange over time. In my approach I described that money acquire their universal exchange value which coincide with its use value based on the response to the interest, a phenomenon of debt exchange, i.e. money mediates a marginal unit of the given exchange.

In my approach money is economic good which we solve as a separate problem of exchange per se, i.e. it is the good we use as if in a new layer of economic relationships, which is above the layer of capital and consumable goods. It is a new phenomenal layer of grasping economic reality, which was developed by the very generalisation of the problem of exchange over time, and it is independently and abstractly grasped by human subjects, thus it is solution to a new teleological abstraction of mind (exchange in time per se). So, money layer originated spontaneously when human subjects faced the problem of expressing debt exchange of capital and consumable goods.

Thanks to discovery and use of this new abstract layer by means of which human subjects express relationships concerning exchange of capital and consumable goods several problems are eliminated at the same time: A) simplification of the problem of future anticipation of needs and means of their satisfaction, B) a practical problem of mutual values of goods, e.g. a community with 500 goods without money faces a problem of remembering 25 thousand values; see in Szabo, N.: Shelling Out: The Origins of Money. WWW DOCUMENT <>, C) a problem associated with exchange of goods in time continuum. see in Pošvanc, M. Teória intersubjektívne vnímanej hodnoty peňazí. WWW DOCUMENT <>)

This new layer “started to live as if its own life” and to develop through competition of various types of commodity money towards the fractional banking (the system of debts with a final eliminator of debt – meaning money reserves) and consequently to the present fiat money banking (the system of debts without the final eliminator of debt).

[14] Scruton, R. (1996). Kant. Argo.

[15] Engliš, K. (1929). Teleologická teorie hospodářská a normativní teorie právní. (Teleological theory of economic and normative theory of law). F.Topič.

[16] Hayek, F.A. (1963) Sensory Order. Interpretation of the work see in Potužák, P. (2013). Hayekova teorie lidské mysli. (Hayek theory of human mind) WWW DOCUMENT. <>

[17] If we consider the problem in the context of a sum of needs and a sum of goods, which are mathematical concepts invariant over time and invariant vis-à-vis changes in values, then we know how to use the solution over time.

[18] Potužák, P. 2016, p. 108; The suggested concept eliminates criticism of Murphy to the authors of Pure Preference Theory (PPT), i.e. that in some cases PPT cannot state nothing about the increase or decrease in demand in time for economic good in question. Goods are assigned by value and as the result is derived demand and supply in the context of sums of needs and their satisfaction by sum of means. This does not exclude the possibility to claim that in case of increased demand for the good X in t +1 vis-à-vis t. Thedemand for X is derived from relative relationship of X within the context of sum of means of man. We can imagine this in a way that while in t was demand for X perceived within the context of sum of goods of man associated with the sum of needs Y in t+1 is associated which sum of needs M. However, demand for particular X is still present in some economic context of other goods within the given portfolio given by the very fact what the sum of needs M constitute of; and consequently we are able to describe its increase or decrease. 

[19] It should be pointed out that thanks to the concept both exclusive and non-exclusive specificity in the context of the future is possible. If preserving specificity, whether a need or a good, is necessary for a human subject, a sum of needs and goods can be reduced to a specific need and a specific good.

[20] Pošvanc, M. Teória úrokovej miery. Revízia rakúskeho prístupu. WWW DOCUMENT <>

[21] Potužák, P. 2016., p.129

[22] Ibid., p.102

[23] Ibid, p. 108 – 109

[24] Pavel Potužák’s argument is in several places of his dissertation, e.g. from p. 154

[25] After distinguishing TP2 (time preference) and TP2 (time projection) we can mention the third Böhm -Bawerk´s condition for the existence of interest (TP3) are roundabout processes. However, we are not automatically equipped with means in the future, so the roundabout methods of production are an inevitable consequence of the given phenomena and they do not cause them.

[26] Here we can refer to various statements of authors of the Austrian school claiming that interest is not an exclusively monetary phenomenon and it must have existed before existence of monetary economy.

[27] As a kind of Human Cooperation Concept of Interest in contrast to Hülsmann´s and Braun´s Human Action Concept of Interest. The reader can compare it also with Böhm-Bawerk´s description by Potužák claiming that “cause of interest consists in people´s preference of present goods over the future ones”, or in other words “interest is expressed as a value difference between present consumption of goods and present factors of production, or as a value difference between present consumable goods and future consumable goods”. While Böhm-Bawerk emphasizes assessment of present goods vis-a-vis future goods, this presented concept is about assessment of two types of actions of a man, i.e. direct or indirect satisfaction of needs over time.

[28] Braun, E. The Rationale of Originary Interest. WWW DOCUMENT <>

[29] Compare e.g. to Braun´s claims when the spread has a psychic nature, or compare to Hülsmann´s one when the spread is applicable only to action in the meaning of labor;  Hülsmann, J.G. Theory of Interest. WWW DOCUMENT <>

[30] In reality it shows as e.g. an “internal interest” rate of economic projects;

[31] In reality interest reflects in exchange; however, it would not exist without comparison with application of own capital goods to production of future goods; it is no coincidence that market interest is usually lower than “internal interest”.

[32] Hülsmann-Braun´s interpretation of interest, which follows up the work of Mises et col. and his axiomatic system (a man acts) referring to the historical context of use of interest must inevitably fail and get into a logical circle. The reason consists in inevitable assumption of an acting man = conscious man (an argument used by Hoppe), which either prevents application to prehistoric communities or inevitably leads to the finding that before humans became fully conscious human subjects, they did not use the given concepts.

[33] See in Graeber, D. 2014. Debt – Updated and Expanded: The First 5,000 Years

[34] Potužák, P. 2016. p. 124; detail description of the problem see pp. 111 – 124

[35] We must agree with Potužák that PPT is part of more general theory of interest.

[36]Originary interest is the ratio of the value assigned to want-satisfaction in the immediate future and the value assigned to want-satisfaction in remote periods of the future. It manifests itself in the market economy in the discount of future goods as against present goods. It is a ratio of commodity prices, not a price in itself.“ See in v Mises, M. Human Action. str. 526. WWW DOCUMENT <>

[37] Potužák, P. 2016. pp. 169 – 191

[38] We witnessed a nominal negative rate of interest, e.g. in case of some securities (government bonds) in 2016; the real negative rate of interest was negative even for a longer period of time. The reason behind is from my point of view that it concerns IOUs having a higher rate of liquidity over time than money itself, which related either to some alternative costs of holding money, or associated conditions for holding securities (guarantees of state institutions, and others).

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