Profits on Capital

The rise and fall in the profits of stock depend upon the same causes with the rise and fall in the wages of labour, the increasing or declining state of the wealth of the society; but those causes affect the one and the other very differently.

Profits on capital and wages rise and fall for the same reasons: society’s wealth increases or declines. But these changes affect profits and wages very differently.

The increase of stock, which raises wages, tends to lower profit. When the stocks of many rich merchants are turned into the same trade, their mutual competition naturally tends to lower its profit; and when there is a like increase of stock in all the different trades carried on in the same society, the same competition must produce the same effect in them all.

An increase in capital raises wages, but tends to lower profits. When many rich merchants invest their capital in the same trade, competition among them naturally tends to lower profits in that trade. Likewise, when capital increases across all trades in the same society, competition must have the same effect on profits in all of them.

It is not easy, it has already been observed, to ascertain what are the average wages of labour, even in a particular place, and at a particular time. We can, even in this case, seldom determine more than what are the most usual wages. But even this can seldom be done with regard to the profits of stock. Profit is so very fluctuating, that the person who carries on a particular trade, cannot always tell you himself what is the average of his annual profit. It is affected, not only by every variation of price in the commodities which he deals in, but by the good or bad fortune both of his rivals and of his customers, and by a thousand other accidents, to which goods, when carried either by sea or by land, or even when stored in a warehouse, are liable. It varies, therefore, not only from year to year, but from day to day, and almost from hour to hour. To ascertain what is the average profit of all the different trades carried on in a great kingdom, must be much more difficult; and to judge of what it may have been formerly, or in remote periods of time, with any degree of precision, must be altogether impossible.

As already noted, it is not easy to determine average wages, even in one place at one time. Even then, we can seldom determine more than the most common wages. But we can seldom determine even that much about profits on capital. Profits fluctuate so much that a person in a particular trade cannot always say what his average annual profit is. His profit is affected by every change in the prices of the goods he trades. It is also affected by the good or bad fortune of his rivals and customers. A thousand other accidents can also affect goods carried by sea or land, or even stored in a warehouse. Profits therefore vary not only from year to year, but from day to day and almost from hour to hour. It must be much harder to determine the average profit across all the different trades in a great kingdom. And it must be altogether impossible to judge with any precision what that average was in the past, or in remote times.

But though it may be impossible to determine, with any degree of precision, what are or were the average profits of stock, either in the present or in ancient times, some notion may be formed of them from the interest of money. It may be laid down as a maxim, that wherever a great deal can be made by the use of money, a great deal will commonly be given for the use of it; and that, wherever little can be made by it, less will commonly he given for it. Accordingly, therefore, as the usual market rate of interest varies in any country, we may be assured that the ordinary profits of stock must vary with it, must sink as it sinks, and rise as it rises. The progress of interest, therefore, may lead us to form some notion of the progress of profit.

Although it may be impossible to determine average profits on invested capital with any precision, we can get some idea of them from interest rates. This applies to both present and past times. As a rule, when people can make a great deal by using money, they will usually pay a great deal to borrow it. When they can make little, they will usually pay less. Therefore, as the usual market interest rate varies in any country, we can be sure that ordinary profits on invested capital vary with it. Profits must fall when the interest rate falls and rise when it rises. Changes in interest rates may therefore give us some idea of changes in profits.

By the 37th of Henry VIII. all interest above ten per cent. was declared unlawful. More, it seems, had sometimes been taken before that. In the reign of Edward VI. religious zeal prohibited all interest. This prohibition, however, like all others of the same kind, is said to have produced no effect, and probably rather increased than diminished the evil of usury. The statute of Henry VIII. was revived by the 13th of Elizabeth, cap. 8. and ten per cent. continued to be the legal rate of interest till the 21st of James I. when it was restricted to eight per cent. It was reduced to six per cent. soon after the Restoration, and by the 12th of Queen Anne, to five per cent. All these different statutory regulations seem to have been made with great propriety. They seem to have followed, and not to have gone before, the market rate of interest, or the rate at which people of good credit usually borrowed. Since the time of Queen Anne, five per cent. seems to have been rather above than below the market rate. Before the late war, the government borrowed at three per cent.; and people of good credit in the capital, and in many other parts of the kingdom, at three and a-half, four, and four and a-half per cent.

In the 37th year of Henry VIII’s reign, all interest above 10 percent was declared unlawful. It seems that higher rates had sometimes been charged before then. During Edward VI’s reign, religious zeal led to a ban on all interest. But this ban, like all others of its kind, is said to have had no effect. It probably increased rather than reduced the evil of usury. Henry VIII’s law was restored in the 13th year of Elizabeth’s reign, chapter 8. The legal interest rate remained at 10 percent until the 21st year of James I’s reign. It was then reduced to 8 percent. Soon after the Restoration, it was reduced to 6 percent. In the 12th year of Queen Anne’s reign, it was reduced to 5 percent. All these legal changes seem to have been made with great good sense. They seem to have followed the market interest rate, not preceded it. The market rate was the rate at which people with good credit usually borrowed. Since Queen Anne’s time, 5 percent seems to have been above rather than below the market rate. Before the late war, the government borrowed at 3 percent. People with good credit in the capital and many other parts of the kingdom borrowed at 3.5, 4, and 4.5 percent.

Since the time of Henry VIII. the wealth and revenue of the country have been continually advancing, and in the course of their progress, their pace seems rather to have been gradually accelerated than retarded. They seem not only to have been going on, but to have been going on faster and faster. The wages of labour have been continually increasing during the same period, and, in the greater part of the different branches of trade and manufactures, the profits of stock have been diminishing.

Since the time of Henry VIII, the country’s wealth and income have steadily increased. The pace of this growth seems to have gradually sped up rather than slowed down. Wealth and income seem not only to have grown, but to have grown faster and faster. Wages have also steadily increased during this period. Meanwhile, profits on invested capital have fallen in most branches of trade and manufacturing.

It generally requires a greater stock to carry on any sort of trade in a great town than in a country village. The great stocks employed in every branch of trade, and the number of rich competitors, generally reduce the rate of profit in the former below what it is in the latter. But the wages of labour are generally higher in a great town than in a country village. In a thriving town, the people who have great stocks to employ, frequently cannot get the number of workmen they want, and therefore bid against one another, in order to get as many as they can, which raises the wages of labour, and lowers the profits of stock. In the remote parts of the country, there is frequently not stock sufficient to employ all the people, who therefore bid against one another, in order to get employment, which lowers the wages of labour, and raises the profits of stock.

Running any kind of business generally requires more capital in a large town than in a country village. In a large town, every branch of trade uses large amounts of capital and has many wealthy competitors. These generally reduce the rate of profit below what it is in a village. But wages are generally higher in a large town than in a country village. In a thriving town, people with large amounts of capital to invest often cannot find enough workers. So they compete with one another to hire as many as they can. This raises wages and lowers profits on capital. In remote country areas, there is often not enough capital to employ everyone. So people compete with one another for work, which lowers wages and raises profits on capital.

In Scotland, though the legal rate of interest is the same as in England, the market rate is rather higher. People of the best credit there seldom borrow under five per cent. Even private bankers in Edinburgh give four per cent. upon their promissory-notes, of which payment, either in whole or in part may be demanded at pleasure. Private bankers in London give no interest for the money which is deposited with them. There are few trades which cannot be carried on with a smaller stock in Scotland than in England. The common rate of profit, therefore, must be somewhat greater. The wages of labour, it has already been observed, are lower in Scotland than in England. The country, too, is not only much poorer, but the steps by which it advances to a better condition, for it is evidently advancing, seem to be much slower and more tardy. The legal rate of interest in France has not during the course of the present century, been always regulated by the market rate {See Denisart, Article Taux des Interests, tom. iii, p.13}. In 1720, interest was reduced from the twentieth to the fiftieth penny, or from five to two per cent. In 1724, it was raised to the thirtieth penny, or to three and a third per cent. In 1725, it was again raised to the twentieth penny, or to five per cent. In 1766, during the administration of Mr Laverdy, it was reduced to the twenty-fifth penny, or to four per cent. The Abbé Terray raised it afterwards to the old rate of five per cent. The supposed purpose of many of those violent reductions of interest was to prepare the way for reducing that of the public debts; a purpose which has sometimes been executed. France is, perhaps, in the present times, not so rich a country as England; and though the legal rate of interest has in France frequently been lower than in England, the market rate has generally been higher; for there, as in other countries, they have several very safe and easy methods of evading the law. The profits of trade, I have been assured by British merchants who had traded in both countries, are higher in France than in England; and it is no doubt upon this account, that many British subjects chuse rather to employ their capitals in a country where trade is in disgrace, than in one where it is highly respected. The wages of labour are lower in France than in England. When you go from Scotland to England, the difference which you may remark between the dress and countenance of the common people in the one country and in the other, sufficiently indicates the difference in their condition. The contrast is still greater when you return from France. France, though no doubt a richer country than Scotland, seems not to be going forward so fast. It is a common and even a popular opinion in the country, that it is going backwards; an opinion which I apprehend, is ill-founded, even with regard to France, but which nobody can possibly entertain with regard to Scotland, who sees the country now, and who saw it twenty or thirty years ago.

In Scotland, the legal interest rate is the same as in England, but the market rate is somewhat higher. Even people with the best credit there seldom borrow at less than five percent. Private bankers in Edinburgh even pay four percent interest on their promissory notes. Payment of these notes, in whole or in part, can be demanded at any time. Private bankers in London pay no interest on money deposited with them. Few trades require as much capital in Scotland as in England. The usual rate of profit, therefore, must be somewhat higher. As noted earlier, wages are lower in Scotland than in England. Scotland is also much poorer. Although it is clearly advancing toward a better condition, its progress seems much slower. In France, the legal interest rate has not always followed the market rate during the present century {See Denisart, Article Taux des Interests, tom. iii, p.13}. In 1720, interest was reduced from one twentieth to one fiftieth of the amount borrowed, or from five to two percent. In 1724, it was raised to one thirtieth, or three and one third percent. In 1725, it was raised again to one twentieth, or five percent. In 1766, during Mr Laverdy's administration, it was reduced to one twenty-fifth, or four percent. The Abbé Terray later raised it to the old rate of five percent. Many of these drastic reductions were supposedly intended to prepare the way for reducing interest on the public debt. This has sometimes been done. France is perhaps not as rich as England at present. Although its legal interest rate has often been lower than England's, its market rate has generally been higher. In France, as in other countries, there are several safe and easy ways to evade the law. British merchants who have traded in both countries have assured me that profits are higher in France than in England. No doubt this is why many British subjects prefer to invest their capital in a country where trade is held in low regard, rather than in one where it is highly respected. Wages are lower in France than in England. When you travel from Scotland to England, the difference in ordinary people's clothing and appearance shows how differently they live. The contrast is even greater when you return from France. France is no doubt richer than Scotland, but it does not seem to be progressing as fast. Many people in France believe that the country is going backwards. I think this opinion is unfounded, even in France. But no one could possibly hold it about Scotland who sees the country now and saw it twenty or thirty years ago.

The province of Holland, on the other hand, in proportion to the extent of its territory and the number of its people, is a richer country than England. The government there borrow at two per cent. and private people of good credit at three. The wages of labour are said to be higher in Holland than in England, and the Dutch, it is well known, trade upon lower profits than any people in Europe. The trade of Holland, it has been pretended by some people, is decaying, and it may perhaps be true that some particular branches of it are so; but these symptoms seem to indicate sufficiently that there is no general decay. When profit diminishes, merchants are very apt to complain that trade decays, though the diminution of profit is the natural effect of its prosperity, or of a greater stock being employed in it than before. During the late war, the Dutch gained the whole carrying trade of France, of which they still retain a very large share. The great property which they possess both in French and English funds, about forty millions, it is said in the latter (in which, I suspect, however, there is a considerable exaggeration ), the great sums which they lend to private people, in countries where the rate of interest is higher than in their own, are circumstances which no doubt demonstrate the redundancy of their stock, or that it has increased beyond what they can employ with tolerable profit in the proper business of their own country; but they do not demonstrate that that business has decreased. As the capital of a private man, though acquired by a particular trade, may increase beyond what he can employ in it, and yet that trade continue to increase too, so may likewise the capital of a great nation.

The province of Holland, on the other hand, is richer than England in proportion to its territory and population. Its government borrows at two percent, and private people with good credit borrow at three percent. Wages are said to be higher in Holland than in England. The Dutch, as is well known, trade at lower profits than any people in Europe. Some people have claimed that Holland’s trade is declining. Perhaps some particular branches of it are. But these signs seem to show clearly enough that there is no general decline. When profits fall, merchants are very likely to complain that trade is declining. Yet falling profits are the natural effect of prosperity, or of more capital being invested in trade than before. During the late war, the Dutch gained all of France’s carrying trade. They still retain a very large share of it. They also own a great deal of French and English government securities. Their holdings in English securities are said to amount to about forty million, though I suspect this figure is considerably exaggerated. They lend large sums to private people in countries where interest rates are higher than in Holland. These facts no doubt show that they have excess capital. Their capital has grown beyond what they can invest at a reasonable profit in their own country’s business. But these facts do not show that business has declined. A private person’s capital, though earned in a particular trade, may grow beyond what he can invest in it. Yet his trade may continue to grow too. The same may be true of the capital of a great nation.

In our North American and West Indian colonies, not only the wages of labour, but the interest of money, and consequently the profits of stock, are higher than in England. In the different colonies, both the legal and the market rate of interest run from six to eight percent. High wages of labour and high profits of stock, however, are things, perhaps, which scarce ever go together, except in the peculiar circumstances of new colonies. A new colony must always, for some time, be more understocked in proportion to the extent of its territory, and more underpeopled in proportion to the extent of its stock, than the greater part of other countries. They have more land than they have stock to cultivate. What they have, therefore, is applied to the cultivation only of what is most fertile and most favourably situated, the land near the sea-shore, and along the banks of navigable rivers. Such land, too, is frequently purchased at a price below the value even of its natural produce. Stock employed in the purchase and improvement of such lands, must yield a very large profit, and, consequently, afford to pay a very large interest. Its rapid accumulation in so profitable an employment enables the planter to increase the number of his hands faster than he can find them in a new settlement. Those whom he can find, therefore, are very liberally rewarded. As the colony increases, the profits of stock gradually diminish. When the most fertile and best situated lands have been all occupied, less profit can be made by the cultivation of what is inferior both in soil and situation, and less interest can be afforded for the stock which is so employed. In the greater part of our colonies, accordingly, both the legal and the market rate of interest have been considerably reduced during the course of the present century. As riches, improvement, and population, have increased, interest has declined. The wages of labour do not sink with the profits of stock. The demand for labour increases with the increase of stock, whatever be its profits; and after these are diminished, stock may not only continue to increase, but to increase much faster than before. It is with industrious nations, who are advancing in the acquisition of riches, as with industrious individuals. A great stock, though with small profits, generally increases faster than a small stock with great profits. Money, says the proverb, makes money. When you have got a little, it is often easy to get more. The great difficulty is to get that little. The connection between the increase of stock and that of industry, or of the demand for useful labour, has partly been explained already, but will be explained more fully hereafter, in treating of the accumulation of stock.

In our North American and West Indian colonies, wages, interest rates, and therefore profits on capital are higher than in England. In the different colonies, both legal and market interest rates range from six to eight percent. High wages and high profits on capital, however, perhaps hardly ever occur together, except in the peculiar circumstances of new colonies. For some time, a new colony must always have less capital in proportion to its land than most other countries. It must also have fewer people in proportion to its capital. The colonies have more land than they have capital to cultivate. Their capital is therefore used to cultivate only the most fertile and best situated land, near the seashore and along navigable rivers. Such land is also often bought for less than the value of what it produces naturally. Capital used to buy and improve such land must yield a very large profit. It can therefore afford to pay very high interest. Capital invested so profitably grows rapidly, enabling the planter to increase his workforce faster than he can find workers in a new settlement. Those he can find are therefore paid very generously. As the colony grows, profits on capital gradually decline. Once all the most fertile and best situated land has been occupied, less profit can be made from cultivating poorer or less conveniently situated land. So less interest can be paid on the capital invested in it. Accordingly, both legal and market interest rates have fallen considerably in most of our colonies during this century. As wealth, improvement, and population have increased, interest rates have declined. Wages do not fall along with profits on capital. The demand for labor grows as capital increases, whatever its profits. Even after profits have declined, capital may not only continue to increase, but increase much faster than before. Industrious nations growing wealthier are like industrious individuals. A large amount of capital, though it earns small profits, generally grows faster than a small amount earning large profits. Money, as the proverb says, makes money. Once you have a little, it is often easy to get more. The great difficulty is getting that little. The connection between the growth of capital and the growth of industry, or the demand for useful labor, has already been partly explained. It will be explained more fully later, in discussing the accumulation of capital.

The acquisition of new territory, or of new branches of trade, may sometimes raise the profits of stock, and with them the interest of money, even in a country which is fast advancing in the acquisition of riches. The stock of the country, not being sufficient for the whole accession of business which such acquisitions present to the different people among whom it is divided, is applied to those particular branches only which afford the greatest profit. Part of what had before been employed in other trades, is necessarily withdrawn from them, and turned into some of the new and more profitable ones. In all those old trades, therefore, the competition comes to be less than before. The market comes to be less fully supplied with many different sorts of goods. Their price necessarily rises more or less, and yields a greater profit to those who deal in them, who can, therefore, afford to borrow at a higher interest. For some time after the conclusion of the late war, not only private people of the best credit, but some of the greatest companies in London, commonly borrowed at five per cent. who, before that, had not been used to pay more than four, and four and a half per cent. The great accession both of territory and trade by our acquisitions in North America and the West Indies, will sufficiently account for this, without supposing any diminution in the capital stock of the society. So great an accession of new business to be carried on by the old stock, must necessarily have diminished the quantity employed in a great number of particular branches, in which the competition being less, the profits must have been greater. I shall hereafter have occasion to mention the reasons which dispose me to believe that the capital stock of Great Britain was not diminished, even by the enormous expense of the late war.

Acquiring new territory or new branches of trade may sometimes raise profits on capital, and with them interest rates. This can happen even in a country that is rapidly growing richer. The country’s capital is divided among different people, and there is not enough to cover all the new business these acquisitions offer. It is therefore invested only in the branches that offer the greatest profit. Some capital previously used in other trades is necessarily withdrawn and turned to the new, more profitable ones. Competition in all the old trades therefore becomes weaker than before. The market becomes less fully supplied with many kinds of goods. Their prices necessarily rise to some degree, yielding greater profits to those who sell them. These dealers can therefore afford to borrow at higher interest rates. For some time after the end of the recent war, borrowers commonly paid five percent interest. These borrowers included not only private individuals with the best credit, but also some of the largest companies in London. Before the war, they had not been used to paying more than four or four and a half percent. The great increase in territory and trade from our acquisitions in North America and the West Indies sufficiently explains this rise. There is no need to suppose that the society’s capital had diminished. So much new business had to be carried on with the existing capital. This must have reduced the amount invested in many particular branches. With less competition in those branches, profits must have been greater. Later, I shall have occasion to explain why I believe Great Britain’s capital was not diminished, even by the enormous expense of the recent war.

The diminution of the capital stock of the society, or of the funds destined for the maintenance of industry, however, as it lowers the wages of labour, so it raises the profits of stock, and consequently the interest of money. By the wages of labour being lowered, the owners of what stock remains in the society can bring their goods at less expense to market than before; and less stock being employed in supplying the market than before, they can sell them dearer. Their goods cost them less, and they get more for them. Their profits, therefore, being augmented at both ends, can well afford a large interest. The great fortunes so suddenly and so easily acquired in Bengal and the other British settlements in the East Indies, may satisfy us, that as the wages of labour are very low, so the profits of stock are very high in those ruined countries. The interest of money is proportionably so. In Bengal, money is frequently lent to the farmers at forty, fifty, and sixty per cent. and the succeeding crop is mortgaged for the payment. As the profits which can afford such an interest must eat up almost the whole rent of the landlord, so such enormous usury must in its turn eat up the greater part of those profits. Before the fall of the Roman republic, a usury of the same kind seems to have been common in the provinces, under the ruinous administration of their proconsuls. The virtuous Brutus lent money in Cyprus at eight-and-forty per cent. as we learn from the letters of Cicero.

A decline in society’s capital, or in the funds used to support industry, lowers wages. But it also raises profits on capital and, consequently, interest rates. With lower wages, the owners of the remaining capital can bring their goods to market at a lower cost than before. And because less capital is being used to supply the market, they can sell their goods at higher prices. Their goods cost them less, and they get more for them. Their profits increase at both ends, so they can easily afford to pay high interest. The great fortunes made so quickly and easily in Bengal and the other British settlements in the East Indies may convince us that wages are very low and profits on capital very high in those ruined countries. Interest rates are proportionately high. In Bengal, money is frequently lent to farmers at forty, fifty, or sixty percent interest, with the next crop pledged as security for repayment. The profits needed to pay such interest must consume almost all the landlord’s rent. In turn, such enormous interest charges must consume most of those profits. Before the fall of the Roman republic, similar lending at high interest seems to have been common in the provinces, under the ruinous rule of their proconsuls. As we learn from Cicero’s letters, the virtuous Brutus lent money in Cyprus at forty-eight percent interest.

In a country which had acquired that full complement of riches which the nature of its soil and climate, and its situation with respect to other countries, allowed it to acquire, which could, therefore, advance no further, and which was not going backwards, both the wages of labour and the profits of stock would probably be very low. In a country fully peopled in proportion to what either its territory could maintain, or its stock employ, the competition for employment would necessarily be so great as to reduce the wages of labour to what was barely sufficient to keep up the number of labourers, and the country being already fully peopled, that number could never be augmented. In a country fully stocked in proportion to all the business it had to transact, as great a quantity of stock would be employed in every particular branch as the nature and extent of the trade would admit. The competition, therefore, would everywhere be as great, and, consequently, the ordinary profit as low as possible.

Suppose a country had acquired all the wealth its soil, climate, and position relative to other countries allowed. It could grow no richer, but it was not growing poorer. Both wages and profits on capital would probably be very low. The country’s population would be as large as its land could support or its capital could employ. Competition for jobs would therefore be so great that wages would fall to barely enough to maintain the number of workers. Since the country was already fully populated, that number could never increase. The country would also have enough capital for all its business. Every branch of business would use as much capital as the nature and extent of its trade allowed. Competition would therefore be as great as possible everywhere, and ordinary profits would consequently be as low as possible.

But, perhaps, no country has ever yet arrived at this degree of opulence. China seems to have been long stationary, and had, probably, long ago acquired that full complement of riches which is consistent with the nature of its laws and institutions. But this complement may be much inferior to what, with other laws and institutions, the nature of its soil, climate, and situation, might admit of. A country which neglects or despises foreign commerce, and which admits the vessel of foreign nations into one or two of its ports only, cannot transact the same quantity of business which it might do with different laws and institutions. In a country, too, where, though the rich, or the owners of large capitals, enjoy a good deal of security, the poor, or the owners of small capitals, enjoy scarce any, but are liable, under the pretence of justice, to be pillaged and plundered at any time by the inferior mandarins, the quantity of stock employed in all the different branches of business transacted within it, can never be equal to what the nature and extent of that business might admit. In every different branch, the oppression of the poor must establish the monopoly of the rich, who, by engrossing the whole trade to themselves, will be able to make very large profits. Twelve per cent. accordingly, is said to be the common interest of money in China, and the ordinary profits of stock must be sufficient to afford this large interest.

But perhaps no country has ever reached this level of wealth. China seems to have remained unchanged for a long time. It probably reached the full extent of wealth possible under its laws and institutions long ago. But that limit may be much lower than its soil, climate, and location would allow under different laws and institutions. A country that neglects or despises foreign trade cannot do as much business as it could under different laws and institutions. Nor can it do so if it allows foreign ships into only one or two of its ports. In China, the rich, or those who own large amounts of capital, enjoy a good deal of security. But the poor, or those who own small amounts of capital, have hardly any. Lower-ranking mandarins can rob and plunder them at any time under the pretense of justice. In such a country, the capital invested in every branch of business can never equal the amount those businesses could support. In every branch, oppression of the poor must give the rich a monopoly. By taking over all the trade for themselves, the rich can make very large profits. Accordingly, the usual interest rate in China is said to be twelve percent. Ordinary profits on capital must be enough to pay this high rate of interest.

A defect in the law may sometimes raise the rate of interest considerably above what the condition of the country, as to wealth or poverty, would require. When the law does not enforce the performance of contracts, it puts all borrowers nearly upon the same footing with bankrupts, or people of doubtful credit, in better regulated countries. The uncertainty of recovering his money makes the lender exact the same usurious interest which is usually required from bankrupts. Among the barbarous nations who overran the western provinces of the Roman empire, the performance of contracts was left for many ages to the faith of the contracting parties. The courts of justice of their kings seldom intermeddled in it. The high rate of interest which took place in those ancient times, may, perhaps, be partly accounted for from this cause.

A flaw in the law can sometimes raise interest rates considerably above what a country’s wealth or poverty would otherwise require. When the law does not enforce contracts, it puts all borrowers nearly on the same footing as bankrupts or people with doubtful credit in better regulated countries. Because lenders are uncertain whether they will recover their money, they charge the same excessively high interest usually demanded from bankrupts. Among the barbarous nations that overran the western provinces of the Roman empire, contracts were left for many ages to the good faith of the parties who made them. Their kings’ courts of justice rarely intervened. This may perhaps partly explain the high interest rates of those ancient times.

When the law prohibits interest altogether, it does not prevent it. Many people must borrow, and nobody will lend without such a consideration for the use of their money as is suitable, not only to what can be made by the use of it, but to the difficulty and danger of evading the law. The high rate of interest among all Mahometan nations is accounted for by M. Montesquieu, not from their poverty, but partly from this, and partly from the difficulty of recovering the money.

When the law bans interest altogether, it does not stop people from charging it. Many people must borrow, and nobody will lend money without payment for its use. That payment must reflect not only what the borrower can earn with the money, but also the difficulty and danger of evading the law. M. Montesquieu explains the high interest rates in all Mahometan nations not by their poverty, but partly by this ban and partly by the difficulty of recovering the money.

The lowest ordinary rate of profit must always be something more than what is sufficient to compensate the occasional losses to which every employment of stock is exposed. It is this surplus only which is neat or clear profit. What is called gross profit, comprehends frequently not only this surplus, but what is retained for compensating such extraordinary losses. The interest which the borrower can afford to pay is in proportion to the clear profit only. The lowest ordinary rate of interest must, in the same manner, be something more than sufficient to compensate the occasional losses to which lending, even with tolerable prudence, is exposed. Were it not, mere charity or friendship could be the only motives for lending.

The lowest ordinary rate of profit must always be more than enough to cover the occasional losses involved in every use of capital. Only the amount above those losses is net profit. What is called gross profit often includes not only net profit, but also the amount set aside to cover such unusual losses. The interest a borrower can afford to pay depends only on the net profit. In the same way, the lowest ordinary rate of interest must be more than enough to cover the occasional losses involved in lending, even when done with reasonable care. Otherwise, only charity or friendship could motivate anyone to lend.

In a country which had acquired its full complement of riches, where, in every particular branch of business, there was the greatest quantity of stock that could be employed in it, as the ordinary rate of clear profit would be very small, so the usual market rate of interest which could be afforded out of it would be so low as to render it impossible for any but the very wealthiest people to live upon the interest of their money. All people of small or middling fortunes would be obliged to superintend themselves the employment of their own stocks. It would be necessary that almost every man should be a man of business, or engage in some sort of trade. The province of Holland seems to be approaching near to this state. It is there unfashionable not to be a man of business. Necessity makes it usual for almost every man to be so, and custom everywhere regulates fashion. As it is ridiculous not to dress, so is it, in some measure, not to be employed like other people. As a man of a civil profession seems awkward in a camp or a garrison, and is even in some danger of being despised there, so does an idle man among men of business.

Consider a country that has reached the full extent of its wealth. In every branch of business, the greatest possible amount of capital is already in use. The ordinary rate of net profit would be very small. As a result, the usual market interest rate that borrowers could afford to pay from those profits would be very low. Only the very wealthiest people could live on the interest from their money. Everyone with a small or moderate fortune would have to oversee the use of their own capital. Almost every man would have to go into business or engage in some kind of trade. The province of Holland seems to be approaching this state. There, it is unfashionable not to be a businessman. Necessity makes it common for almost every man to be one, and custom everywhere determines fashion. Just as it is ridiculous not to dress like other people, it is somewhat ridiculous not to work like them. A man with a civilian profession seems out of place in a camp or a garrison. He is even in some danger of being looked down on there. In the same way, an idle man seems out of place among businessmen and risks their contempt.

The highest ordinary rate of profit may be such as, in the price of the greater part of commodities, eats up the whole of what should go to the rent of the land, and leaves only what is sufficient to pay the labour of preparing and bringing them to market, according to the lowest rate at which labour can anywhere be paid, the bare subsistence of the labourer. The workman must always have been fed in some way or other while he was about the work, but the landlord may not always have been paid. The profits of the trade which the servants of the East India Company carry on in Bengal may not, perhaps, be very far from this rate.

The highest ordinary rate of profit may be so high that it consumes all the land rent in most goods’ prices. It may leave only enough to pay for the labor of preparing the goods and bringing them to market. That labor would be paid at the lowest rate possible anywhere, just enough for the worker to survive. The worker must always have been fed somehow while doing the work, but the landlord may not always have been paid. The profits from trade carried on in Bengal by the servants of the East India Company may perhaps be close to this rate.

The proportion which the usual market rate of interest ought to bear to the ordinary rate of clear profit, necessarily varies as profit rises or falls. Double interest is in Great Britain reckoned what the merchants call a good, moderate, reasonable profit; terms which, I apprehend, mean no more than a common and usual profit. In a country where the ordinary rate of clear profit is eight or ten per cent. it may be reasonable that one half of it should go to interest, wherever business is carried on with borrowed money. The stock is at the risk of the borrower, who, as it were, insures it to the lender; and four or five per cent. may, in the greater part of trades, be both a sufficient profit upon the risk of this insurance, and a sufficient recompence for the trouble of employing the stock. But the proportion between interest and clear profit might not be the same in countries where the ordinary rate of profit was either a good deal lower, or a good deal higher. If it were a good deal lower, one half of it, perhaps, could not be afforded for interest; and more might be afforded if it were a good deal higher.

The relationship between the usual market interest rate and the ordinary rate of net profit necessarily changes as profits rise or fall. In Great Britain, merchants consider a profit of twice the interest rate to be good, moderate, and reasonable. I take these terms to mean no more than a common and usual profit. In a country where the ordinary rate of net profit is eight or ten percent, it may be reasonable to pay half of it in interest when a business uses borrowed money. The borrower takes the risk of losing the capital and, in effect, insures it for the lender. In most trades, four or five percent may be enough profit for taking that risk. It may also be enough compensation for the trouble of putting the capital to use. But the relationship between interest and net profit might differ in countries where the ordinary profit rate was much lower or much higher. If the profit rate were much lower, perhaps half of it could not be paid in interest. If it were much higher, more could be paid.

In countries which are fast advancing to riches, the low rate of profit may, in the price of many commodities, compensate the high wages of labour, and enable those countries to sell as cheap as their less thriving neighbours, among whom the wages of labour may be lower.

In countries rapidly growing richer, low profit rates may offset high wages in the prices of many goods. This may allow those countries to sell goods as cheaply as their less prosperous neighbors, where wages may be lower.

In reality, high profits tend much more to raise the price of work than high wages. If, in the linen manufacture, for example, the wages of the different working people, the flax-dressers, the spinners, the weavers, etc. should all of them be advanced twopence a-day, it would be necessary to heighten the price of a piece of linen only by a number of twopences equal to the number of people that had been employed about it, multiplied by the number of days during which they had been so employed. That part of the price of the commodity which resolved itself into the wages, would, through all the different stages of the manufacture, rise only in arithmetical proportion to this rise of wages. But if the profits of all the different employers of those working people should be raised five per cent. that part of the price of the commodity which resolved itself into profit would, through all the different stages of the manufacture, rise in geometrical proportion to this rise of profit. The employer of the flax dressers would, in selling his flax, require an additional five per cent. upon the whole value of the materials and wages which he advanced to his workmen. The employer of the spinners would require an additional five per cent. both upon the advanced price of the flax, and upon the wages of the spinners. And the employer of the weavers would require alike five per cent. both upon the advanced price of the linen-yarn, and upon the wages of the weavers. In raising the price of commodities, the rise of wages operates in the same manner as simple interest does in the accumulation of debt. The rise of profit operates like compound interest. Our merchants and master manufacturers complain much of the bad effects of high wages in raising the price, and thereby lessening the sale of their goods, both at home and abroad. They say nothing concerning the bad effects of high profits; they are silent with regard to the pernicious effects of their own gains; they complain only of those of other people.

In reality, high profits tend to raise the price of goods much more than high wages do. Consider linen manufacturing, for example. Suppose the wages of all the workers rose by twopence a day. These workers include flax dressers, spinners, weavers, and others. The price of a piece of linen would then need to rise by only twopence per worker for each day spent making it. Throughout the stages of manufacture, the wage portion of the price would rise only in arithmetic proportion to the wage increase. But suppose the profits of all the employers of those workers rose by five percent. Then, throughout the stages of manufacture, the profit portion of the price would rise in geometric proportion to the profit increase. When selling his flax, the flax dressers' employer would require an extra five percent on the full value of the materials and wages he provided to his workers. The spinners' employer would require an extra five percent on both the increased price of the flax and the spinners' wages. And the weavers' employer would likewise require an extra five percent on both the increased price of the linen yarn and the weavers' wages. When wages rise, they raise the price of goods in the same way that simple interest adds to a debt. A rise in profits works like compound interest. Our merchants and master manufacturers complain a great deal about the harmful effects of high wages. They say high wages raise prices and therefore reduce sales of their goods, both at home and abroad. They say nothing about the harmful effects of high profits. They are silent about the damaging effects of their own gains. They complain only about other people's gains.