Tuesday, June 23, 2009

Saving rates everywhere are rising - wealth effects are strong

Where will the US saving rate go? 4%, 5%, 7%, 10%? Nobody knows. To be sure, the personal saving rate is rising...quickly; likewise, the saving rate in the UK, Canada, and Germany have been growing since 2008.

The wealth effects have been smaller in Germany and Canada (second chart below), but the impact on household saving has been very similar. This suggests that the wealth effect is (likely) a dominant determinant of saving patterns. Deleveraging may only be secondary, suggesting that renewed economic growth and a stabilization of asset values may cap the US saving rate below a German-style saving rate, 10%-12%.

The chart illustrates the household saving rate in the US, UK, Canada, and Germany (household saving as a % of disposable income). As households save, global consumption falls (unless income is rising, which we know to be untrue). Why are households saving? Rising unemployment? Deleveraging (reducing debt burden)? Tight credit standards? Loss in wealth?

Across each economy, the answer to all, except for "deleveraging", is most surely yes. The chart to the left compares the wealth effects in Canada and the US as the ratio of net-worth (nominal wealth) to disposable income (Source: Statistics Canada). The wealth effect in the US dwarfs that in Canada.

However, the saving rate is surging in both Canada and the US (see chart above). Likely, there has been a similar wealth effect in Germany (to a much lesser degree) and the UK.

Canadian and German households did not experience the bubble in debt accumulation as did the US and UK households, yet saving rates are rising across the board. The jury is still out on the future of the US saving rate.

To be sure, US households need to unwind the unsustainable debt accumulation in recent years. However, it is not clear to me that the second the labor market starts to improve, and credit standards loosen up further, that US households will not start spending again. All that is needed is a little income growth to generate some consumption growth alongside constant debt payments.

Rebecca Wilder


  1. My feeling is that younger US households would splurge, but that older households looking at retirement will not. I'm not even seeing much of a current pullback in younger households with a bit of money saved and relatively low debt. They seem to me to be continuing spending quite consistently right up until the employment axe falls.

    I have the sense that older households have drawn back more sharply, and a return to growth will not immediately redress the blow to their retirement planning. A lot of sweet dreams have vanished in the dust.

    Because those are generally higher income households, the effect will likely be to restrain US future consumption well lower than recent heights. In other words, just as we reached an effective debt saturation point, we have probably reached a point at which asset inflation will also produce lower future returns than it has in the last two decades.

  2. Is this enough that we can stop worrying about whether the banking system as a whole is solvent?

    When will FDIC Chair Bair's homeowner bailout plans come to fruition?

  3. If you look at the post WW2 history of the personal saving rate in the US it never strayed below 5% before 1995, and after 1995 it never got back above 5% until very recently. My theory is that Americans stopped saving because the bubbles (dot-com and then housing) convinced them that there was no need to save anymore; asset price appreciation would provide for the future. In fact you can actually find at least one op-ed piece in the NY Times from that era where a pundit argued that a zero personal saving rate was nothing to worry about because asset price appreciation was swelling personal balance sheets. I think it will be a very long time before Americans believe again that asset price appreciation will provide for their retirement.

  4. Hi AndyfromTuscon,

    You say: “I think it will be a very long time before Americans believe again that asset price appreciation will provide for their retirement.”

    I think that is an interesting point – lags built into the wealth effect. I am not sure how persistent is the wealth effect, but all we need is for saving to stop rising and a little income growth to generate some consumption growth. I tend to think that people have a very short-term memory…will households “remember” these days and continue to save? My gut feeling is no, but we will wait to see.

    Thanks for commenting. Rebecca

    Hi MaxedOutMama,

    I agree – that those close to retirement are stuck between a rock and a hard place. But why would the recent past necessarily negate the positive effects coming from any future asset gains? I just don’t buy it. As I said to Andy above, I think that people have very short-term memories (i.e., the moral hazard) when it comes to these things. If left alone, they will buy cars, meals out, appliances, etc.

    I think that the saving/consumption motive is almost entirely dependent on the outlook of the labor market (the employment axe, as you put it). To be sure, the days of financing consumption through home-equity loans and debt accumulation are likely over. Income growth and a stabilization in wealth is the key to consumption. And with a little income growth, consumption will be back…and maybe even saving falls a bit! We will see, but credit markets are certainly “back to basics”.

    Thanks for visiting…Rebecca

  5. Not sure I fully understand the de-leveraging. If incomes don't rise but homes go down in price, it negates or masks the de-leveraging that's actually going on, right?

    If the homeowner has no intention to sell, then the "wealth" effect on the homeowner really won't be much.

    By comparison, an additional $40 per week for filling the gas tank will definintely impact consumption.

  6. Hi Beezer,

    It’s a little confusing because there is a fine line between the different effects on consumption. But as you state, they are all adverse effects in this economic environment.

    Deleveraging is households reducing their debt burden. They can do this one of two ways: default on the loans, or simply pay down the debt. For a level of income, part goes to consumption (95%) and part goes to saving (5%). If one increases the saving to pay down debt, then consumption falls.

    Higher gas prices reduce the level of income available for non-energy consumption. Therefore non-energy consumption may fall, which has nothing to do with deleveraging.

    In macroeconomics, the present-value model says that consumers modify consumption according to the present value of earned income plus wealth. If the value of wealth (assets net liabilities) declines, then consumers draw on consumption by saving more in order to stabilize lifetime consumption. Again, this is different from deleveraging and energy prices.