The politicians, pundits and media gurus seem to be in a contest to outdo each other with hyperbole these days.  I have heard the financial crisis unfolding before our eyes descried as “catastrophic” “Armageddon” “nuclear” and other colorful phrases.  What are we to make of it all?  We need look no further than the Catholic Church for the answers.

St. Thomas Aquinas predicted such a collapse of an economic system like the one under which we have been toiling.  In Lecture IX on the Ethics of Aristotle, he commented that eventually all exchange transactions will cease in a society which continually violates the principles of commutative justice in economic exchange transactions.

The economic philosophy which our society has embraced is permeated with habitual violations of Catholic principles of economic morality.  In this article we will only dwell on the major aspects which have led directly to the financial “Armageddon” which has politicians and bankers in a state of apoplexy.   

First, the system for allocating housing resources in this country is based on a violation of the divine and natural law against the taking of usury.  Now, usury is a complex subject which I do not intend to address in full in this article.  I will limit my analysis to aspects of the usury doctrine applicable to the housing market.  My comments should not be misconstrued to mean that every transaction referred to as a loan by modern finance parlance implicates usury.  The Catholic doctrine looks to the substance of things not their current nomenclature.    

In summary, the charging of a profit or gain in consideration for the making of a loan of money (as distinguished from the investment of capital in a business) is a violation of natural justice.  Since money in and of itself is barren (it can produce nothing) to merely lend it to someone for a time and to require more than lent plus compensation for expenses is to charge for something one does not own—time. 

Even non-Catholic philosophers such as Aristotle and Islamic thinkers can observe this truth in the natural order.  At the root of the current financial crisis is the systemic trend developed from WWI onward of having to borrow large sums of money and repay even larger sums in order to procure one of the most basic necessities of life— housing. 

The following chart exemplifies the extent of illicit profit (turpe lucrum) made on a home mortgage at various rates which are all well below the higher end sub prime rates that have been charged (often after a short period of a lower deceptive teaser rate).  I treat all amounts as profit as the lenders also typically require the consumers to reimburse the lender for all the costs of making the loan.  I have also included a 1% origination fee which is typical for mortgage transactions.  All calculations are for a $100,000 loan.

Clearly many loans have been extracting a profit for the loan.  This practice violates the natural and divine law. 

The Catholic doctrine of the just price is another moral lens through which to view these transactions. In summary, it is a violation of justice to sell something for more than (or buy something for less than) its just price.  For our purposes the definition of just price can be summarized as the general estimation of the value of human needs satisfied by the thing sold.  Although in a particular case this may be difficult to calculate, it is an objective standard not based on the particular needs of a transaction participant.  Just because I am very hungry, does not mean you can charge more than the common estimation of the price of a sandwich merely because I am in greater need of it.  Let us apply the just price theory to the housing market.

Although Americans have been indoctrinated to think that they own their homes, such a belief is a mere delusion. A simple definition of ownership encompasses the ability to retain the possession and use of a thing.  All one needs to do is fail to make a mortgage payment and he will learn that he does not own the house where he lives, as millions of Americans have been realizing daily. 

It takes only a modicum of common sense to realize that if I do not pay for something I do not own it (unless it has been given to me as a gift).  When a bank has paid 85%, 90% or even over 100% of the purchase price (as in negative equity mortgages) of a house how can we with a straight face claim that the consumer “owns’ that house?  In substance the bank has bought the house at one price (the purchase price paid to the seller) and is reselling it over time to the borrower at a higher price. 

Given the staggering amounts of money repaid over a loan’s life as seen in the chart above, can we really claim that the bank is reselling the house at its just price?  This is especially true when we compare the rates of residential home appreciation over long periods of time (excluding the recent artificial bubble of value growth which has popped). 

U.S. house prices increased a total of only 10 percent from 1975 to 1995.[1]  From 1975 to 2004 housing prices appreciated annually at a more rapid annual rate of 2.23 percent (still significantly below annual mortgage interest rates) or cumulatively around 42 percent for the entire 19 year period.[2]  Following further rapid appreciation, the current decline in housing prices seems to have begun in 2007 with an initial decrease in prices of 1.3 percent.[3]  Such simple calculations suggest in general that many mortgages are priced at a level in excess of what just price theory would consider morally just for a sale of the house. 

Yet, there is an even more outrageous violation of justice at work in our financial system.  Not only have banks been charging usury for lending money.  As the pre-eminent theologian and economist, Father Bernard Dempsey pointed out in the mid twentieth century, these banks are worse than the usurers of the past so clearly condemned by the likes of St. Thomas Aquinas and St. Bernardino of Sienna.  For at least in the Middle Ages, the usurers did really lend actual real money.

In the fiat money system of fractional reserve banking of modern times, the banks lend money that doesn’t even exist.  That is right, they charge interest for the use of money by consumers that the bank does not even possess.  We all know the child’s fairy tale of the emperor’s new clothes.  This would be like charging someone for borrowing imaginary clothes.  This is because bank’s can lend 9 times the amount of deposits they place in a federal reserve bank.  So if a bank has only $1,000 of money, it can lend $9,000.  Where does the extra $8,000 come from?  The bank just invents it out of thin air by typing the numbers in a computer and saying the money is now in the borrower’s bank account. 

This led Father Dempsey to observe in the 1930s that the individual sin of usury had become a societal institutional sin of usury.  If it is unjust to charge a profit for the use of real money; it is obviously unjust to charge for the use of money that people do not even own.

Now many may respond that the risks the banks take in lending money justify the profit.  In raising such an objection I would like to hear someone explain how one is at risk of loss if someone fails to repay money that did not even exist before the loan was made?  Put another way, but for the loan itself the funds would not even exist.  How can one claim to have lost something that did not ever exist in reality? 

We need look no further than such a shell game to find a central cause of the current crisis.  Hard working Americans have been losing their homes because they could not pay enough of the wages they earned from doing real work to repay loans made by banks that never had the money to lend in the first place.

The other major cause of the current crisis lies in the speculative derivatives and credit default swaps that permeated the real estate finance markets.  To understand the problem we need to know how the mortgage financing market worked (or more accurately didn’t). 

Contrary to what many Americans believe, they do not repay their mortgage to the bank which lent them the (invented out of thin air) money they borrowed. For decades almost all mortgages originated in America were immediately sold by the bank and then repackaged and spliced and combined with other mortgages and then placed in a new entity which sold securities to the capital markets.  These indirect purchases of pools of mortgages were then traded for profit.  Beyond this trading of interests in pools of mortgages, many institutions entered into credit default swaps.  These contracts were in substance no different than placing a bet at a virtual horse track.  They were promises to pay the counterparty in the event that identified mortgage securities declined in value. 

Now, it is possible that a similar type of transaction could be morally licit as a form of insurance. For example, to enter into an insurance contract whereby the insurer agrees to pay you a specified amount if your car is destroyed (assuming the pricing of the premium charged is just) is morally licit.  But these credit default swap transactions were routinely entered into by parties that owned no mortgage securities. 

In other words they were not insuring against existing risks but the contracts themselves were actually creating new financial risks.  Here is a simple illustration of why this is so. 

If I own a car worth $10,000 I face a risk that I will loose the value of $10,000 if my car is destroyed.  I can transfer that risk to an insurer for a premium. Now there is still only a $10,000 risk that exists.  The only difference is that risk is born by the insurer and not me.  Now if the insurer sells a contract with five different people whereby those people agree to pay the insurer $10,000 if my car is destroyed, there is now a risk of $50,000 related to the same $10,000 car.  (Five different people might have to pay $10,000 each.) 

This is exactly what happens when parties who do not actually face risk of loss from mortgages entered into credit default swaps.  Rather than just transferring pre-existing risks to different people, the transactions themselves create financial risk.  This fact answers the question many people are asking: if only about 1.0-2.0% of all mortgages in the country are defaulting why is the financial crisis so large?  For every $1 of mortgage loans there are multiple dollars at risk through the creation of additional risk by these contracts which are no better than mere gambling contracts. 

Now, aside from the practical effect of exacerbating an economic crisis, this financial system is immoral.  The Church has long taught that although it is morally licit to be in business, to be an artisan or a merchant, it is illicit to be a mere speculator.  St. Thomas Aquinas explains in question 77 of the second part of the second part of the Summa that one who makes a profit from trading but in no way creates or adds value to the thing traded makes an illicit profit.  Someone who buys wood and carves it into tools is justified in making a profit because he has improved the value of the wood by his labor. 

One who buys goods manufactured in another city and transports them is justified in making a profit as he has added the value of bringing the goods to where they are needed.  A mere speculator, one who buys and sells without adding value and merely seeks to make a gain on trading is violating natural justice. 

Gratian includes a similar condemnation of mere speculation by Pope Julius in his Decretum (Causa 14 q. 4 C. IX.)  Thus, on top of the unjust usury and unjust prices being charged in the housing finance market, financial institutions have been multiplying risks by engaging in speculative (as opposed to true risk shifting) financial bets. 

Now that this mountain of unjust economic activity is erupting volcano like, the state claims to be riding in on a white horse to save the day.  The federal government and the shadow governmental entities, the Federal Reserve Banks and the Federal Deposit Insurance Corporation, have two solutions.  First, bail out the system with $700 billion (or more) of newly created fictitious money (through the sale of treasury bills to the Federal Reserve Banks who will invent the money to buy them with).  Second, “facilitate” the purchase of troubled banks by other banks. 

We are witnessing proof of the apt description of the spirit of capitalism by Amintore Fanfani in his seminal work Catholicism, Protestantism and Capitalism, a book all Catholics should read to make sense of current events.  Fanfani explains that the spirit of Capitalism is concerned only with advancing its two fundamental principles, increasing wealth and decreasing the cost of attaining that wealth, both of which are to be attained through the use of all possible means.  The sprit of Capitalism, says Fanfani, “regards wealth as the best means for an ever more complete satisfaction of every conceivable need.”  This ever increasing wealth is to be sought “with whatever means seem best.” 

This utilitarian spirit of Capitalism views politics and the state in a completely opportunistic and utilitarian fashion.  It adopts whatever political philosophy serves these two goals. Thus, in the age of Mercantilism (sixteenth through the middle of the eighteenth century) when Capitalism saw the ability to profit through state intervention in and intense regulation of the economy it favored an interventionist state.  When capitalism estimated that more gain was to be had from a non interfering state, it advocated laissez-faire policies (mid-eighteenth century through the twentieth century). 

Now capitalism sees that it can again prosper through an alliance with the state, so financiers cajoled the state into becoming their insurers of profit.  The formerly laissez-faire government is now to be the partner of finance capitalists, buying all their failed investments from them (the Bailout). 

The second part of the plan is a use of state power to effect the longed for consolidation of the financial industry into the hands of a small elite. The dream of the Rothschilds, Rockefellers and Morgans for centuries has been to own the entire banking system.  Witness this comment of Mayer A. Rothschild: “Permit me to issue and control the money of a nation and I care not who makes its laws.”  

They are now using the coercive power of the state to achieve their goal at bargain prices.  Take for example the purchase of Washington Mutual Bank by JP Morgan.  For years, JP Morgan had publicly made it known it needed to acquire a network of branches in the lucrative Florida market.  Now it has done so at a bargain basement price thanks to the exercise of the power of the state.  This was not a “free market” sale of the Washington Mutual Bank at an arms length negotiated price. 

On one night the state acting through the FDIC seized control of Washington Mutual and then forced it to sell all of its $307 billion of assets (not its liabilities) to JP Morgan for $1.9 billion.  That’s right, the Office of Thrift Supervision of the FDIC seized control and sold over $300 billion of assets without an auction, without free market negotiating with other candidates, without a vote of the shareholders and apparently without even the knowledge of its board of directors, for $1.9 billion. 

Now to be fair, that $307 billion of assets includes an estimated $34 billion in bad loans.  JP Morgan need not worry about those, however, because a few days after this shotgun sale the Congress voted to buy those bad loans in the Bailout. 

So just as Fanfani observed over sixty years ago, when Capitalism can do well without the government it is for “free market lasissez-faire” government action. Yet, when finance capitalists see that they can use the government to make a great deal, “laissez-faire” is jettisoned for a massive coerced fire sale and a free give away of $700 billion at public expense.     

This phenomenon is understandable because as great Catholic economic thinkers like Fanfani and Father Dempsey knew, Capitalism as a philosophical system is immoral.  It places the quest for gain and profit as its only moral ends.  It rejects the moral constraints of the natural law as preserved and taught by the Church as limits on unbridled profiteering and unrestrained means.  As Fanfani stated, “But at bottom the true and deep-seated reason for the conflict between Catholic and capitalistic ethics, lies – let us repeat – in the diverse manner of correlating human actions in general and economic action in particular to God.  The Catholic, as we have said, appraised the legality of every action by the criteria of Revelation.  The capitalist does not doubt the lawfulness of any act that fully corresponds to what he considers the exigencies of the human reason.  The Catholic order is a supernatural order, the capitalistic order is a rational order in the sense of the Enlightenment.” 

It is important to note that Fanfani is talking about the philosophical system of capitalism not the freedom of individuals to pursue their own economic welfare through morally licit means. 

Thus this expensive bailout passed by the Congress, will not bail out anything.  Its entire goal is to prop up and preserve the very economic spirit that produced this crisis.  It is just another rational means to keep making illicit usury and unjust profits. 

Where will we find a real bailout?   Where will we find the answers to all questions? The Church.  The details of this real bailout, letting the ship of capitalism sink and jumping in the lifeboat of Catholic economic teaching is right there before us.  Where do we find it?  Fanfani tells us: “The Catholic ideal of economic life finds condensed expression in the principles of the Gospels, which were elaborated successively by St. Paul, the Fathers and the Doctors till, in the age of the Summae and of Scholasticism, St. Thomas Aquinas, prince of Catholic philosophers, grafted Catholic principles on to the old, all but forgotten, trunk of Aristotelianism, scattering through his works a series of maxims, which taken as a whole, enable us to attain an accurate and complete vision of economic life according to Catholic ideals.” 

As St. Augustine was prompted to conversion by the children’s words “tolle legit” (take and read), so too let us be converted by reading the principles for the true bailout from our Catholic forbearers.  

St. Thomas Aquinas pray for us in this hour of need!