information:classification, stylistic:tone
Economics

In economics, the rate of interest is the price of credit, and it plays the role of the cost of capital. In a free market economy, interest rates are subject to the law of supply and demand of the money supply, and one explanation of the tendency of interest rates to be generally greater than zero is the scarcity of loanable funds.

Over centuries, various schools of thought have developed explanations of interest and interest rates. The School of Salamanca justified paying interest in terms of the benefit to the borrower, and interest received by the lender in terms of a premium for the risk of default. In the sixteenth century, Martín de Azpilcueta applied a time preference argument: it is preferable to receive a given good now rather than in the future. Accordingly, interest is compensation for the time the lender forgoes the benefit of spending the money.

On the question of why interest rates are normally greater than zero, in 1770, French economist Anne-Robert-Jacques Turgot, Baron de Laune proposed the theory of fructification. By applying an opportunity cost argument, comparing the loan rate with the rate of return on agricultural land, and a mathematical argument, applying the formula for the value of a perpetuity to a plantation, he argued that the land value would rise without limit, as the interest rate approached zero. For the land value to remain positive and finite keeps the interest rate above zero.

Adam Smith, Carl Menger, and Frédéric Bastiat also propounded theories of interest rates. In the late 19th century, Swedish economist Knut Wicksell in his 1898 Interest and Prices elaborated a comprehensive theory of economic crises based upon a distinction between natural and nominal interest rates. In the 1930s, Wicksell's approach was refined by Bertil Ohlin and Dennis Robertson and became known as the loanable funds theory. Other notable interest rate theories of the period are those of Irving Fisher and John Maynard Keynes.