According the Bureau of Economic Analysis, US household saving was 0.0 per cent of income in June. I was going to boast that we in Australia were going one better, having had negative savings for several years now, but a check over at General Glut’s Globblog informs me that the ABS figure deducts depreciation of privately owned housing (correctly in my view) while the US does not. Both measures omit capital gains, and the validity or otherwise of doing so is central to any assessment of the sustainability of the present economic trajectory.
Regardless of this, the collapse of household saving in the English countries suggests to me that, with deregulated capital markets, the low real interest rates that have prevailed recently, particularly in the US, are not consistent with any significantly positive savings rate. It follows that such low interest rates can be sustained only so long as someone else is saving: either households without easy access to credit or foreign governments. Business may save some of the time, but low interest rates make borrowing for speculative investment quite attractive I can’t see this lasting too long, and therefore conclude that real interest rates have to rise.
{ 16 comments }
Michael Mouse 08.03.05 at 5:07 am
It follows that such low interest rates can be sustained only so long as someone else is saving
How so?
Darren 08.03.05 at 5:42 am
I thought that borrowing created more money in a fractional reserve system. Creating more money means that the price of money decreases. So, “it follows that low interest rates can be sustained only so long as someone else is
saving[borrowing]”.Try Mish for his ‘flation debate.
a 08.03.05 at 6:14 am
Which interest rates? Short-term rates in the US and in the UK have already risen, and are telegraphed to continue to rise in the US.
Or is it long-term rates?
Also such a prediction without fixing a time period is pretty vacuous. It’s very probable, indeed almost certain, that there will be at least one day in the future where a particular interest rate is higher than it is today. The event becomes much less likely – and the prediction more valuable – if a maturity is fixed. Will interest rates be higher in one year from now? Two years? Average over five years?
Mark Koyama 08.03.05 at 8:48 am
This chimes with a recent article in the Economist which also predicts that the historically low interest rates currently observed in America, Europe, Japan, Austrialia and the UK are unsustainable. http://www.economist.com/printedition/displayStory.cfm?Story_ID=4221685
Central banks are holding down interest rates well below the natural rate (the price that clears the market for loanable funds) in order to achieve their inflation targets. The implication is that higher interest rate will of course mean lower inflation and create the possibility of deflation.
BigMacAttack 08.03.05 at 9:06 am
1 Why does this matter? Why are household savings vs re-invested profits more important to an economy?
2 Are savings low because interest rates are low? How sensitive are savings to real interest rates and what is the equilibrium point?
Atrios 08.03.05 at 9:21 am
Long term rates need to rise, the dollar needs to fall, the trade deficit is unsustainable…still, the economy marches on.
James Kroeger 08.03.05 at 3:21 pm
It is mystifying why liberal economists complain about a “collapse of household savings” when they [should] know that any increase in aggregate savings can only occur if there is a reduction in spending. Why should they think this might be a bad development? Because all jobs are dependent upon the spending of households, firms, or governments.
When there is any unemployment in an economy, it is because too much saving and too little spending in the aggregate is taking place. Why, then, do we hear economists who profess to be “liberals” calling for increased levels of unemployment? From this very fundamental understanding of the economy, liberal economists should be able to see that the National Savings Rate is a statistic so flawed, it is able to provide almost no useful information whatsoever.
How do you account for this, John?
Savings & Investment
John Quiggin 08.03.05 at 4:05 pm
To a (and to some extent atrios), the economy can stay irrational longer than I can stay solvent. Of course, if I could pick the timing exactly, this post would be coming to you from the new CT headquarters on my private island.
James Kroeger, I don’t profess to be a “liberal” with or without quotes, and I don’t agree that demand deficiency is the only possible cause of unemployment. But what’s needed as part of the resolution of all this is an expansion in demand outside the US (and Anglosphere) to allow a rebalancing of domestic demand and supply.
James Kroeger 08.03.05 at 5:25 pm
John:”I don’t profess to be a “liberal†with or without quotes”
I apologize for suggesting that you might have such an identity. I hope you did not take offense. Please consider yourself excluded from my generalization.
“I don’t agree that demand deficiency is the only possible cause of unemployment”
Please note that I did not say that the only cause of unemployment is “demand deficiency”, but only that insufficient spending by households, governments, or firms is responsible. If there is another cause I’m unaware of that you know about (aside from foreign demand), I would appreciate it if you could enlighten me.
You have suggested that real domestic interest rates will rise, in part due to insufficient domestic savings, but yet you hope that increased domestic savings could occur without damaging domestic Anglo economies. Your hope is apparently that a weakening of Asian currencies will lead to improved terms-of-trade for Anglosphere.
But what possible reason—outside of threatened political sanctions—would Asian central bankers have to strengthen their countries’ currencies? They have no market incentive whatsoever to do so and their ability to maintain a very weak currency is virtually unlimited.
Tracy W 08.03.05 at 9:50 pm
Another group can be saving – foreign households.
Incidentally, I thought the effect of a higher interest rate on the amount people save is famously ambiguous – the “I get more paid in interest” is offset by “I can reach my savings goal sooner” and which dominates over a whole population is indeterminate.
Incidentally Darren – the bank lending process may create extra money, but as far as I can figure it, it doesn’t create inflationary pressure. E.g. you lend $100,000 to the bank on a term deposit. The bank keeps $10,000 in reserves and lends $90,000 to me. I spend $90,000 on household improvements which means that the builder gets it (and I have $90,000 in debt). While it looks like you have $100,000, and the builder has $90,000, for a total of $190,000, you are not actually spending the $100,000, consequently it is not competing for goods and services.
Eventually, hopefully, I pay back my $90,000 debt which means that I have to refrain from $90,000 + interest worth of goods and services, and you now have $100,000 + somewhat smaller interest to spend on your choice of goods and services.
Am I missing something here?
Darren 08.04.05 at 3:40 am
“Am I missing something here?”
It would more likely be my understanding that is wrong, rather than yours, tracy w. My point was about interest rates, rather than inflation. My argument, using your figures, was that the initial deposit ($100,0000) would create more money (you stopped at $190,000; taken to the limit the figure is $1,000,000 on a 10 % fractional reserve). The greater the amount of money the lower the price (for price read interest rates) but not necessarily the value (for value read inflation rate). I would argue that the new money is being spent because the people who borrow the money borrow it to spend it and the ‘inflation’ seen is initially limited to some class of goods eg tech stocks, housing before (if indeed it does) feeding into general inflation.
Of course, economics is not my metier: I only post to be corrected.
James Kroeger 08.04.05 at 5:48 am
tracy w: “Am I missing something here?”
You are correct to point out that the practice of saving money is anything but inflationary. When money is saved, it is removed from the economy; only 90% of it can find its way back into the is involved in inflation is because not all of the money that banks lend is money that households have saved.
For example, when the Fed decides to become a net buyer of financial assets like bonds, it pays for them with money that is created out of thin air with a keystroke. That newly created money rather quickly becomes a part of the loanable reserves of the banking system. When it does, banks are then able to lend money that was not saved by any saver.
The borrowers of that newly created money will spend it. The extra dollars become a part of expanded dollar-expressed aggregate demand. As sellers discover that they are selling off their inventories, they realize that they can charge more for their limited supply. As long as the extra “inflation dollars” continue to circulate and sustain inflated incomes, the higher prices that firms charge will hold.
All of this to say that, if the price hikes are truly a reflection of inflation, then they will hold because the incomes of consumers have risen enough to sustain the higher prices that are being charged. Inflation is essentially harmless.
James Kroeger 08.04.05 at 5:53 am
First paragraph above should read:
“You are correct to point out that the practice of saving money is anything but inflationary. When money is saved, it is removed from the economy; only 90% of it can find its way back into the economy. The reason why the banking system process is involved in inflation is because not all of the money that banks lend is money that households have saved.”
Anthony 08.04.05 at 11:29 pm
James Kroger sums up the fatuity of Keynsian economics in ten words: “When money is saved, it is removed from the economy”. As if banks weren’t part of the economy.
“Savings” is just another word for small loans to large institutions. When I deposit money in my savings account, I’m making a loan on certain terms to my bank. They turn around and use that money to make loans to other people.
Savings are necessary for investment in capital goods, which is necessary to keeping the economy running. A low amount of savings in an economy will lead to low investment in productive capacity, and ultimately, a slow decline in the productive capacity of a society.
To put it in more Keynsian terms, my savings enable someone else to spend money now, in exchange for me spending a little more later. The “reserve” requirement for banks (in the US, at least) is just a different sort of spending, as the reserves are held in US Treasury obligations, which enable government spending.
Anthony 08.04.05 at 11:37 pm
The savings rate, and particularly, the relationship of housing expenditures to savings, should be looked at from a micro level as well as a macro level. Houses are, for the most part, consumer goods, and thus money spent on them is not an investment.
To an individual, appreciation of a house is reasonably equivalent to a savings, as that money is recoverable, and thus spending money on a house rather than saving it elsewhere is rational behavior. From the macro perspective, however, only the money spent in paying off the loan is directly equivalent to savings, as that money is released back to the bank to re-lend elsewhere. The appreciation does not affect the economy until the house is sold, and the homeowner then spends or saves the gain somewhere else.
James Kroeger 08.05.05 at 5:32 am
anthony said: “James Kroger sums up the fatuity of Keynesian economics in ten words: ‘When money is saved, it is removed from the economy’. As if banks weren’t part of the economy.”
Keynes actually had far too much respect for the role of savings in the economy. The actual truth is that excessive aggregate savings can be extremely damaging to an economy. Insufficient spending, after all, was the efficient cause of the Great Depression. Those who who had money that they could have spent, chose to save it instead. Those who would have spent the money if they had had it in their possession, did not have it in their possession.
It is not the saving of the money that produces any kind of economic benefit; it is the lending of the saved money that does so. We should conceptually isolate these two transactions for the same reason that we separate the contractionary effect of taxation from the expansionary effect of government spending. They are separate and distinct economic events.
What makes the practice of saving money a contractionary economic event in the US is the fact that commercial banks are required by the Fed to hold roughly 10% of the money they receive from savers in reserve. I suppose your ignorance of these facts explains the fatuity of your efforts to equate savings with investment. It is a mathematical impossibility. There is always a net loss/leakage of money out of the economy whenever there is a net increase in aggregate savings, all else equal.
“Savings are necessary for investment in capital goods…”
In the aggregate, investment in capital goods actually depends very little on savings. Between 1988 & 1997, an average of nearly 85% of the money that corporations in the US spent on investment came from retained earnings or other internally generated funds. This empirical fact strongly refutes your implicit claim that firms are desperately dependent upon borrowed money (and therefore upon savings) when they want to make investments.
What is the ultimate source of the internally generated funds? It would be the SPENDING of consumers and firms and government, not savings.
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