The existence of interest has often been explained simply on the ground that capital is productive. An artisan who works with elaborate machinery can turn out a much larger product in a day or in a year than can the artisan who works with less equipment.

The larger product, say the productivity theorists, is the work of capital. The owner of the capital gets interest for its use because the capital has produced the interest. A further question which arises at this point is whether the source of interest is to be found in the excess of physical product produced by the better machinery, or whether it is to be found in the greater value of the increased product. Some productivity theorists hold to the first view, while others maintain the second.

As a brief refutation of the first of these views it may be said that as the use of these elaborate machines is extended the value of the physical products which they produce is decreased and the interest which can be secured from any one machine is lessened. Since the physical product of a machine is as great as before but the interest which can be received for it varies with the selling price of the product, it is evident that interest cannot be explained purely in terms of physical productivity of the machine. In answer to the second view that interest is the difference between the value of the increased product and the value of the capital which goes to make the increased product, it may be objected that this explanation does not explain the value of the capital. If, as we believe, the value of the capital is dependent upon the value of the product, neither of these explanations is entirely adequate. The productivity theory which we have here criticized must not be confused with the marginal productivity explanation of interest which will be reserved for later treatment.