the natural rate..........................

 

"That which they obtain too cheap they demand in too great quantity," lamented the prudent banker.  In so many words Thornton was suggesting that providing paper credit at below the natural rate of interest created the conditions for an unstable financial boom.

In Locke's day, at least, money was backed by rare metals.  In the modern world, however, money is created whenever a bank makes a loan and the link between acts of saving and lending has become more tenuous.

Even though it cannot be known with certainty, it is useful to hold in mind how the world would look if the natural rate held sway; a rate that was set, as Locke imagined, by individuals freely lending and borrowing money in the market, like any other commodity; a rate that accurately reflects society's time preference; which ensures that we neither borrow too much nor save too little; which ensures capital is used efficiently, and puts an accurate value on land and other assets; a rate which provides saver with a fair return and is not so low as to subsize bankers and their financial friends, nor so high as to bite borrowers.

-all excerpts from Edward Chancellor's The Price of Time: The Real Story of Interest