Have We Forgotten That Savings Is a Good Thing?

Saturday I saw a few headlines telling me that markets are down due to the US savings rate hitting its highest level in fifteen years. And beyond the usual we-need-to-attribute-every-market-movement-to-something problem with financial media (do we really know markets fell/rose/were mixed because of the one piece of news highlighted as the cause), I've actually come across a few different places where the jump in US savings is being reported as a negative piece of news.

U.S. stocks fell, giving the Standard & Poor’s 500 Index the first two-week decline since March, after the highest American savings rate in 15 years spurred concern that consumer spending will slow... “The magnitude of that savings rate may have gotten some folks by surprise,” said Philip Orlando, who helps manage $409 billion as chief equity market strategist at Federated Investors Inc. in New York. Economic and earnings growth is “potentially not going to be as robust as some were thinking. That’s weighing on stocks.”

And another:

Stocks ended mixed today after the Commerce Department reported that personal spending, incomes and savings all rose in May. What troubled investors was that the savings rate soared to 6.9 percent, a 15-year high, while spending rose by a more modest 0.3 percent. The trend suggests consumers are being extremely careful with their money. That’s good for the individual, but not great for the overall economy in the short-term.

Have some people forgotten that savings is actually a good thing? (US government included.) When people speak of higher savings and lower spending in a negative light, because it means less demand in the near term, they forget a key point: higher savings implies smarter spending decisions today and fuel for more spending tomorrow.

Spending in general doesn't sustainably grow an economy, smart spending does. It is unfortunate that many people have conflated wasteful spending with smart spending into a single broad concept of spending in general. While it is surely hard to differentiate smart spending from wasteful spending, especially in the many gray areas of modern life (is buying an iPhone smart or wasteful... depends on what effect it has on the buyer and how they use it), at the very least we should be aware that there are two major kinds of spending. The kind where you spend $1 and get less than a dollar in value back (wasteful), and the kind where you spend $1 and get more than a $1 back (smart). I'm not adding cost of capital to my $1 example for the sake of simplicity. Americans, the US government, and US corporations made a lot of $1 outlays in recent years which ultimately (even if not initially) resulted in less than a dollar back. We can do with less of this.

Given that savings actually implies a more rigorous analysis of spending by the consumer, one would imagine that the ratio of smart spending to wasteful spending is likely to increase. Theoretically, if everyone could somehow cut out all of their wasteful spending, but maintain their smart spending, they could increase their savings rate while destroying less value (less $1 outlays getting less than $1 in return). In this sense, no rational person should shun higher savings, especially after the US is coming off of a spending binge. If the US suffered from years of high savings rates, one could argue that people are missing out on smart spending decisions, but given we've come off of a binge, the most likely casualty of lower US consumer spending (or higher savings) is wasteful spending.

So just a reminder: coming off of a spending binge, higher savings means that the US consumer is using their capital more efficiently and is setting the stage for future, smarter spending, which is a positive. Also, markets doubtfully rose/fell/were mixed because of this one data point cherry picked by a journalist.

Comments

[Chandragupta:]

You have touched upon a very important subject – savings. You are right in that “…….higher savings implies ………….fuel for more spending tomorrow…….” Those who believe savings are bad for the US economy have completely failed to understand the root cause of the current problems. The problems in the US have been caused by too much debt, both at the individual and national level.

What is ‘smart spending’ and what is ‘wasteful spending’ is, however, open to debate and subjective. What is value for one may not be value for another.

You have missed an important point though - the financial position of the spender, and whether the money spent is her own or borrowed. To the extent that one spends from one’s past savings, spending can cause no harm. The moment debt comes into play, spending can become excessive (as it has), cause a binge and generate a never ending spiral of disaster – borrow again to pay past borrowings.

Jun 28 10:09 AM

[Vincent Fer...:]

Yes good point, in terms of the difference between spending money you have saved vs. spending borrowed money. And yes differentiating smart spending from wasteful is pretty tough, i don't think anyone really could do so for others, and even in our own lives it can be hard to tell when our own spending is worthwhile. I don't think anyone should be allowed to judge whether another's spending decisions are smart or wasteful.

Still, despite the difficulty in separating the two, my point was to simply make the distinction between the two types of spending because it makes us realize that not all spending is good for the economy. Going further than this, and trying to judge which spending is smart or wasteful, is not something i try to do here.

Jun 28 06:12 PM

[Nathaniel C:]

I completley agree that saving money is a good thing. Savings provide the capital in capitalism as opposed to using debt.

Jun 29 12:55 AM

[Moon Kil Woong:]

Our biggest failure is government spending and some companies (some banks insurance companies, etc.) spent a lot of $1 and get very little in return even if they pretend to get a lot more for a short period of time (usually we call this accounting lies).

Our solution is to give them money so they can keep getting less output for each $1 they spend and to increase the amount the government gets when we know they are a lot less efficient than the average citizen. The sad thing is, our solution continues to take money out of smart spenders and give it to wasteful spenders at an increasing rate. And now they wonder, why are we staring inflation in the face as consumers have cut back on smart spending. Geee.... it's the wasteful spenders. Not you not me.

We can't save enough ever to afford a government blowing 12 pecent of GDP and growing or banks, insurance companies, and bankrupt companies that can loose 2% of all US assets every year for eternity it seems. Reporters should also try to give people their money's worth and report the real problems rather than continue to spew the Fed and Treasury's brainless illogic.

Jun 29 03:36 AM

[ATLBob:]

Some interesting observations. I do find it amusing that for several years, the media seemed filled with stories lamenting the low savings rate in the U.S., compared to the rest of the world. Now these same myopic media outlets proclaim that our increased savings rate is in someway 'hurting' the economy, wall street, the recovery, etc.

Certainly,( in the short term) the opportunity cost of increased savings has been a reduction in the rate of discretionary spending; however, I think that in the long term, increased personal savings helps form a much more solid foundation for the economy, vs. an economy supported by unsustainable HELOC and credit card spending.

In time, we'll see that those who always saved will spend once they've determined that they are in need of a particular good or service.

Those who are new to saving will likely be paying-down debt, perhaps establishing an emergency fund, and will start to give serious thought about what they need vs. what they want before they run out to buy that new toy.

Those who fail to learn the lessons from personal deficit spending via HELOC's and credit cards will find it more and more difficult to fund their purchasing whims, but some will find a way.

In any case, the economy will eventually win.

Jun 29 10:37 AM

[Anti-Fool:]

While I agree with your sentiment, the savings rate is somewhat of a flawed measurement. The "savings rate" does not include money invested in businesses and other capital. For example, Bill Gates probably has a very low savings rate.

Jun 29 12:06 PM

[Dave Dorgan:]

Two thoughts:
1) Is paying down credit card debt considered smart spending or saving (reducing future interest payments)? I'm curious to know what catagory that gets put in. The US has $1trillion of credit card debt and it's being defaulted on at a rate of 10% per month. Paying that down could also be called atoning for a mistake.

2) In the olden days, we were taught that saving was a good thing (at least until we stopped producing a good product at a reasonable price). You gave your money to the bank and they payed you interest. They loaned out the money to businiess to grow and the putblic to buy homes. And, the bank make money by paying you less interest on your deposit than they charged to load out the money. It was called the multiplier effect.
In today's world, the interest rate payed to you for depositing your money is virtually nil, they banks are not loaning out money because they can't figure out how to do it right. And, the banks make money by trading with their bailout money (TARP, etc...). Your are left with a reverse multiplier effect, because of the taxes you pay for the bank bailouts plus the higher prices for goods (inflation) that will eventually occur due to all the money the government printed. All of which will far out way the negligiable interest made on your savings.

Jun 29 01:41 PM

[Gregman2:]

How is it tha people are really saving if their home equity is flat or falling? How is it that people are really saving if for most they're simply breaking even?

Jun 29 02:21 PM

[Vincent Fer...:]

Paying down credit card debt I believe classifies as saving, in terms of how they calculate it, but if anyone knows otherwise feel free to chime in. Either way they actually calculate it, it effectively is saving. What matters is that you are changing your net creditor/debtor position positively.

In terms of home equity falling, i think you may be confusing the savings rate with total wealth. The savings rate is a measure of how much people earn vs. spend in a given period. Total wealth, which includes the value of homes, is not a rate of change, it's simply an aggregate number. So you could have the savings rate increasing, but total wealth still falling if say losses on home values outpace any additional savings each period.

As per the savings rate being a flawed metric, in regards to a commentor above, yes I see what you are saying. I agree some of the long-term down trend in the savings rate may have been illusory, ie. due to people socking their wealth away in different ways not captured in the math. The near term shifts in savings rate are still useful though I feel.

Jun 29 06:59 PM

[Ted Hurlbut:]

Excellent post. An increase in the savings rate obviously reduces short-term demand, but creates a pool of capital for longer term innovation and investment.

Jul 01 03:07 PM