SOCIAL IMPORTANCE OF INTEREST
Every society. socialist or capitalist. is faced with the problem of using its scarce resources in an optimum manner. Capital resources are scarce everywhere even in a socialist society. Its Allmatic Function. In all types of societies, therefore, all projects have to go through a screening process to find their place in the order of priorities. Even in a socialist society interest cannot be abolished, though it may not be paid to private individuals. Even there. through its instrumentality. priorities regarding the use of scarce capital resources for various possible employments will be determined. The order of priorities in a socialist society will probably be different from the one in a capitalist society, but the rate of interest will perform its function all the same. It has the same function as the function of price, viz., it adjusts demand to the supply available. It enables capital to be apportioned between competing demands of alternative uses. It is through the rate of interest that those uses which promise the highest future returns receive the first consideration. Of course, the criterion of the highest future returns will differ in a capitalist society from that in a socialist society. In the former, expectations of profits for private entrepreneurs and in the latter the conception of welfare of the planning authority, will determine the priorities in investment. Interest cannot be abolished; it can be socialised, if capital is socialised. Even if capital is socialised, the rate of interest will still be needed as an accounting device to give expression to the prevailing scarcity or abundance of capital for the guidance of the managers of public enterprises in a socialist economy. Whatever the type of economic system. interest acts as a rationing device or performs an allocative function. Since capital is a scarce commodity. only those projects can be undertaken where the return on capital invested is greater than. or equal to. the rate of interest. Those projects whose prospective yield is lower than the rate of interest have to be dropped. Thus. the rate of interest directs the use of capital and the growth of productive capacity. The interest rate is socially important because it determines both the level and composition of investment. According to Keynes’ theory of investment. the level of investment is determined by marginal efficiency of capital and the rate of interest. The lower the rate of interest. the greater is the investment. and vice avers. However. the influence of the rate of interest depends on the interest-elasticity of investment. It may. therefore, be understood that raising interest rates as an anti-inflationary device will curb the rate of growth y reducing investment, As Pointed out above interest rate affects the composition of investment through its price-rationing function.Whether investment goes into consumer goods industries or the producing goods industries or into long-term or short-term in encystment depends on the rate of return in these investments. There are. however, some limitations in its performance as an evocative mechanism. because government allocates a substantial portion of available capital to projects which it considers in public interest and monopolistic firms can obtain capital on more favourable terms.