Sunday, 17 May 2009

The failure of the US savings rate to rise shows the tough decisions in the financial crisis still lie ahead

It is widely recognised that the low level of savings in the US is one of the prime causes of the present international financial crisis. Figure 1 shows the way in which the US savings rate, which was already low in terms of international comparisons, began to fall sharply from the beginning of the 1980s onwards. The date of this shift is significant as it indicates that it was policies inaugurated by the Reagan administration which commenced the undermining of the macro-economic position of the US.

Figure 1

09 05 17 US Savings

Given that the inadequate level of US savings is a major cause of the international financial crisis knowing whether it is increasing is therefore of major significance from the point of view of understanding whether the causes of this crisis are being overcome.

Media publicity has, therefore, recently been given to the fact that US household savings have started to rise significantly – increasing from 0.6% of household income for the whole of 2007 to 4.2% of household income in the first quarter of 2009. This, it is suggested, indicates the required and desirable increase in the US savings rate is already occurring.

Unfortunately such reports are based on elementary economic misunderstanding. A country’s total savings, that is the finance available for investment, are not equivalent to household savings. Nor, in the case of the US, are household savings even the largest part of total savings. A country's total savings are the sum of household, corporate and government savings (or dis-saving).

To allow estimation of the most recent trends in the US savings rate Figure 1 therefore shows two different ways of calculating this. The first is direct measurement. The second is calculation from macro-economic variables.[1] As would be expected in practice the two measures do not absolutely coincide but the discrepancy is small and the overall trend is the same. Given that there is a significant delay in the publication of measured US savings rates, due to practical difficulties in compiling these, the data in Figure 1 shows that it is reasonable to use calculation of the US savings rate from macro-economic variables to estimate changes in this. This has the advantage that macro-economic data is available for a more recent period.

As may be seen from Figure 1 there has been no increase in the share of total savings in US GDP. The increase in household savings is merely being offset by the increase in the government budget deficit and by the decline in corporate earnings under the impact of the financial crisis.

This data shows clearly that no improvement in the structural position of US savings has taken place. So far a cooling bandage has been applied to the patient, that is the US financial system, through bank bailouts and other means but the savings figures indicate clearly that the underlying disease is still there. All the tough decisions on how to resolve the crisis lie ahead.

Notes

[1] By a national accounting identity, domestic investment (gross fixed capital formation plus formation of inventories) is equal to domestic savings plus the current account of the balance of payments.

No comments: