DEBT BY DEFAULT

The Problem

Every day around the world, billions of people go to work. They deliver their value, then go home. Usually empty-handed. Most wait for up to a month to be paid. They are creditors to their employers.  With families to feed and pay the bills, most rely on high-cost debt to survive. Many never escape the embedded credit debt trap.

Small and medium enterprises are caught in the same vicious debt cycle. Entrepreneurs sell their goods and services to large companies and governments. Most won't receive payment for 30 to 180 days. Needing to pay employees and bills, the majority rely on high-cost debt. Many SMEs never escape the embedded credit debt trap.  The prevalent practice of delayed payments contributes to widespread financial instability and perpetuates economic inequality.

Embedded credit is toxic

Capital efficiency is the foundation of competitive advantage. It sits at the heart of company pay, product, pricing, growth, profitability, and sustainability. It touches every part of the business. Yet few understand it, and fewer use it to their advantage. From a human perspective, embedded credit demands the highest financial sacrifice from the weak, compounding social inequality and creating an enormous barrier to social mobility.  Embedded credit undermines capital efficiency and responsible finance, creating economic and social disparities.

Embedded credit is the antithesis of Responsible Finance

From an ecosystem perspective, embedded credit is toxic. Embedded credit is factored into wages, products, and pricing, invisibly compounding across supply chains and economies, inflating costs, suppressing demand, and destroying capital. Embedded credit is the antithesis of capital efficiency.

Capital inefficiency is hard coded in our economic source code

If a President or Prime Minister mandated a compulsory scheme forcing employees to lend their pay to their employers for a month, free of charge, you can imagine the social outrage and, with it, the chances of winning the next election. Ironically, it is our current labor market operating model.  We accept it without complaint because it is the convention we are familiar with. 

Employees are forced into debt from their very first day at work

The prevailing practice of delayed salary disbursement in labor markets can be likened to a mandatory, interest-free loan imposed on employees by their employers. While historically accepted, this deeply ingrained convention starkly contradicts governments' and central banks' consumer protection, financial stability, and economic growth mandates. The legacy of embedded credit comes at a high cost. Families and society are at the breaking point.

Structurally embedded high-cost debt systematically displaces low-cost debt

Global debt is surging, posing serious risks to economies and social stability. Headlines reveal deepening concerns about financial instability and public trust. Governments face mounting national debts while consumers struggle with excessive debt, high living costs, and stagnant wages. To prevent economic collapse and social unrest, leaders must act swiftly. Adopting policies that ensure sustainable growth, responsible borrowing, and fair wealth distribution is crucial.

The social divide has never been wider

The global economy is built on a foundation of imbalanced credit relationships. Employees extend credit to employers, and small businesses extend credit to governments and multinational corporations. This widespread practice is fundamentally unfair and unsustainable. More than irresponsible, this paper proposes it is not only illogical, but capital-destructive to the detriment of all market participants. 

In a modern, digitally enabled world, embedded credit makes no sense

Identifying illogics empowers us to ask better questions to create solutions.  What are the implications of a higher cost of capital on risk and pricing?  If an SME can’t recover its cost of capital, it will fail, so how is this inflated cost of capital recovered?  Who pays and how much?  As we explore these questions through first-principles thinking, it leads to broader questions. Why does Japan, with the lowest cost of capital, generate such poor returns on capital?  Why do countries and companies with tremendous capital resources fail?

Quality questions lead us to better answers

As the world embraces digital transformation, we have a unique opportunity to question these illogics.  To address legacy constraints rather than perpetuate them. To rewrite the source code.  Our objective is to create a capital-efficient and equitable foundation for real-time economies as an enabler of Central Bank Digital Currencies and Realtime Taxation with the potential to de-leveraging USD 2.7 Trillion in capital-inefficient debt.  A leaner, more competitive economic framework to power sustainable growth.

How did we get here?

Historical Perspective

To create the future, we must understand the past

- Unknown

Extremely Abbreviated History of Credit, Interest, and Cashflow

In ancient Mesopotamia (circa 3000 BCE), herders would come to market on the lunar cycle to trade livestock.  The observable moon cycle is 29.5 days[1].  A month later, when the traders financially settled, they observed that the herd had grown.  Mash, the word for goat, became the word for interest.  In ancient Greece, Tokos referred to offspring, which became the word for interest.

The monthly business cycle was born.

Code of Hammurabi[1] (circa 1754 BCE) documented the terms of debt and repayment, creating the first documented credit structure. The Romans, in Lex Poetelia Papiria (circa 326 BCE), inscribed the law of debt repayment into the “Twelve Tables,” enshrining the 30-day cycle for credit that persists until today (Table III).  Thankfully, we have evolved the credit default punishment.

The monthly business cycle was enshrined in law

Fig 1:  Lex Poetelia Papiria[1] Refer to Table 3, Judgement on Debt

The Medici Bank (1397) introduced double-entry bookkeeping, enhancing the accuracy and accountability of financial records. It also created bills of exchange to reduce friction in international trade finance and, perhaps most importantly, was the first bank to formalize interest rates.

The Bank of St. George (1407) introduced the concept of government-backed securities, creating the capability for governments to fund their operations without direct taxation.  It essentially became the first bank to function as a Central Bank and pioneered the joint-stock company structure, enabling the formation of stock markets.Riksbank Sweden (1668)[1] is recognized as the first Central Bank to issue credit notes (bank notes) and focus on financial stability as an objective.

The Bank of England (1694)[2] is considered the first modern Central Bank. Founded to ‘promote the public Good and Benefit of our People’, it pioneered the policy focus on Monetary Stability, Interest Rate control, and its role as a Lender of Last Resort. The Bank of England became the first bank to denominate banknotes and, importantly, facilitated the development of Government Debt Markets via bond issuance.

Diners Club (1950)[3] introduced the first universal card, enabling consumers to use one credit card across multiple vendors. Amex, Visa, Mastercard, and others followed suit to scale consumer credit.[4]

Credit cycles embedded in corporate, consumer, and government operations

Fig 2:  US Federal Reserve Total Consumer Credit (owned and securitized)

Extremely Abbreviated Fintech History

 ‘Financial technology’ throughout history has affected the constraint of calculation.

• Abacus 2500 BC.[1] Capable of a few calculations per minute. 

• Pascal’s Pascaline 1642 AD. A mechanical calculator capable of several calculations per minute

• IBM 608 1955. A cabinet-sized transistor calculator capable of 4,500 calculations per second. 

• Intel 4004 1971. The microprocessor enabled 92,000 calculations per second. 

In 2024, the latest mobile phones can perform 500,000,000,000 calculations per second, while the fastest supercomputer can achieve more than 1,000,000,000,000,000,000 (quintillion) calculations per second.

The constraint of calculation has exponentially diminished

Banking and Financial Services

The business model of Modern Fintech has primarily focused on transactional process efficiency and evolved by rapidly deploying calculation capacity to create cost efficiency.  Technology has transformed customer expectations to instant gratification, simplicity of operation, and ease of access. 

Fintech has also responded by enhancing customer experiences in financial services: Payments are increasingly instant, credit approvals are increasingly fast, access is increasingly pervasive, and customer experiences are increasingly simple. While Fintech has largely focused on financial service facilitation (cost and friction reduction), there has been little focus on optimization (value creation).

The quantum of efficiency in cost improvement is becoming increasingly marginal.

Fintech has made transacting faster, easier, and cheaper

Illogic

Throughout financial history, credit and settlement cycles have become enshrined in convention. Employees are paid monthly, bi-weekly, or weekly. Companies conventionally issue invoices for 30 Days Net, recently distorted by excessive settlement forced upon the weak, with SMEs being forced to wait up to 180 Days for settlement. If employees or SMEs can’t recover their inflated cost of capital, what happens? Over time, most will transfer their inflated capital costs back to the buyers via pricing. Those that don’t will become insolvent. Both cases result in escalated risk and cost for the buyers.

Credit is intrinsic to the majority of transactions

Why is the world drowning in debt? Despite advances in technology and efficiency, we remain subservient to ancient conventions rather than sound mathematical reasoning. We are creatures of habit, rarely questioning the rationale behind our actions, much less its mathematics. The weight of five millennia of tradition and convention is difficult to shed. The physical movement of money is no longer a constraint. Realtime payment systems are increasingly pervasive. While we refer to non-realtime payment systems as ‘legacy systems,’ we fail to see how our legacy credit system structurally perpetuates inefficiency.

It is time to rewrite our credit source code

Join us in building a financially stronger and more equitable world

Human AI