On loans, the nature of banks, and trust.

Would you borrow money from a friend, or lend money to a friend in need? How much? For how long? Would the amount or duration change if they were family instead of a friend?

What factors do you use to make those descisions? I don't know about you, but when someone wants to borrow some money from me, I don't bust out the spreadsheet and do a cost-benefits analysis.... It would seem kind of cold, given that they are a friend.

On the other hand, if they asked me for a large sum of money, I just might have to break out the Excel-fu...

That points to an interesting reality about the nature of money and trust. We put a lot of emphasis on money in our culture. We also put a lot of stock in relationships with other people. When we start crossing the two, things can get a little sketchy. Here's a thought-experiment:

Imagine how you would feel loaning $10 to a friend.
Now imagine $100.
Now $1000...

I don't know about you, but at ten bucks, I wouldn't even ask for it back. It's not a sum large enough to make me want to be a debt collector, and weaken our freindship over it. Some would argue that you have to ask for it back, or the act of letting it go will strain the relationship, but I'm not getting into that right now. Let's just say that those aren't the kinds of friends I keep.

But everyone has their throw-away number. Weather its $10, 10 cents, or $10,000; everyone has a number that they can just let go of and not worry about anymore. It's the basis of "impulse buys". That's why candy bars are only a dollar, and why they are in the check-out lane. You can let go of a $1 without having to worry about it, so why not buy the Snickers? Why not hand it over to a friend, and then forget all about it.

We also have a number that we are willing to part with, but only with the promise of getting it back later. That's like the $100 for me. I can happily give that to a friend in need, but I do expect it back at some time. I'n not going to set a schedule or anything, but I will expect to be repaid at some future point.

Then there are the numbers that you just aren't willing or able to part with, regardless of who they are.

Banks have the same dillema. They don't deal with numbers small enough for them to just let go of. Banks don't give out loans below, usually, $3,000 specifically so that they can chop off the bottom category. There are no friends in banking, and every dollar is an important one. If they give you $10, and you don't pay them back, are they really going to spend hundreds trying to track you down and get their ten-spot? Hell no. So they don't bother giving the $10 to start with.

They also don't hand out numbers that they aren't willing to part with. Go to your local bank branch and tell them that you need to take out a loan for 10 million. They won't even give you the forms to fill out. Granted, they may direct you to another bank that deals in numbers that large for loans, but those banks have their scales set differently (although, on a funny side-bar, if you take out 10 million over the course of multiple $10,000 loans they are just fine with that, as long as you show good payment history). If you take out that much money from your local bank branch, it could take away enough liquidity that they will be in violation of SEC and banking regulations. They just can't do it.

But banks have a card up their sleeve. They have a metric that tells them how much to trust you. It's called your credit score, and based on it they alter the amount of money they are willing to give you, and how much interest they charge. It's a funny artifact of how banking works that people they trust less get put on the hook for more money...

The point is that they can alter their expectations and behaviour up front based on a (relatively) simple formula. It's good for them because they avoid getting their pants in a twist later. It's good for their investors because they have a sense up front on the likely returns on their investments. It's good for you because it shortcuts having to make friends with bank managers. Despite all the problems with our current credit tracking and lending system, the idea behind it actually makes a lot of sense.

So, what score (from 1% to 100%, just for discussions sake), would you give a friend? If you said 100%, does that mean that you would be willing to give them any amount of money at any time? Did the score just go down a little? ;-)

How about from the othe way? Would you take a loan from a friend if they required that you payed interest on it? How large would the loan have to be for that to make sense to you? From which friends? What about from your mom?

I'm not sure there are easy answers to this (though I have an idea that I will be testing out a little later. I'll keep you informed), but it's a fun thought-experiment. It really helps to clarify what money and economy means to you as an individual. Think it over. Pass this post on to your friends and discuss it with them. There's nothing really to do with it, but I would assert that this kind of thinking is generally healthy for people who are interested in money and finance.

What are your thoughts? Can I borrow some money? :-)