Despite Cyclical Momentum, U.S. Consuming Its Capital Base

by: Sean Maher

The long-term downward trend in aggregate U.S. savings, even allowing for business cycle volatility, has been striking over the last 10-15 years. Total U.S. savings (corporate, government and household) rose from an unprecedented 10.2% of GDP in Q3 2009 (or half typical historical levels) to 11.8% in Q2 2010, but has since stalled at well under the official rate of depreciation.

U.S. net domestic savings, i.e. gross domestic savings minus capital consumption, has been negative as shown in the chart below, for almost a year now. A defining feature of the 2008/2009 recession was a dramatic fall in investment; without a sharp recovery in fixed investment, which in turn must be financed by savings; sustained growth at trend rates of 2.5-3% seems impossible.

If U.S. domestic savings remain depressed, then either U.S. fixed investment will remain low, which caps the U.S. economic upturn, or the U.S. must finance a new higher level of investment from abroad, and with this there must be a new widening of the U.S. balance of payments deficit as the counterparty of increasing foreign capital flows to fund the "depreciation gap." To make matters worse, despite the lowest contribution of private sector investment to GDP growth over the last decade, since the 1930s over half that depressed level of fixed investment was largely squandered in residential real estate.

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Click to enlarge
Source: Author from BEA data
A major rise in U.S. savings, which would permit an increase in U.S. fixed investment simultaneously with a narrowing of the U.S. balance of payments deficit, would provide the basis for relatively rapid U.S. economic growth. In its current structure, the U.S. economy can't accelerate without the U.S. balance of payments deficit. The current trend of U.S. savings therefore continues to point to relatively slow U.S. growth unless the U.S. is prepared to permit a significant deterioration of its balance of payments position or the opposite of the much discussed "rebalancing." Cyclical momentum into 2011 (and I consistently dismissed double dip fears through 2010 and called for new equity market highs by year end) must therefore be weighed against this structurally bearish strategic background.
Any prospect of rebalancing the U.S. economy toward higher investment and production over the next decade depends on raising investment in R&D and productive capacity and that investment requires ongoing sources of capital, which the U.S. economy remains unable to provide. Depending on the kindness of strangers isn't a sustainable economic strategy, particularly when many of those "strangers" currently funding the U.S. savings deficit are arch competitors on the economic and geopolitical stages.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.