The role of interest in the unsustainability of growth: analytical findings using an accounting model

Abstract

In the context of the long-standing debate on growth-versus-environment, notably the possibility that serious environmental policies will slow down growth, the question has been raised if interest can be compatible with zero growth. We develop a simple accounting model that describes the value added of the financial sector being positively associated with interest income. This allows us to derive formally that interest is compatible with zero growth for both simple and compound interest. The findings indicate that on its own, interest or compound interest does not add to the growth of gross domestic product (GDP). What matters instead is whether savings–be it from interest or other income–are invested productively or not. In other words, the condition for non-growth is that interest income is either directly spent by the creditor or indirectly by the debtor, rather than being invested in capital expansion, education, or innovation. Such investments would result in a more productive economy generating economic growth. These findings generalize, and add transparency to, previous studies which used more complicated models involving particular theoretical assumptions about the functioning of the macroeconomy.