Why Is Saving Bad?

2/28/14

Why is it that for individuals, saving money is bad for the economy?  I understand that something like 70% of GDP is consumer spending, but isn’t saving really just indirect spending?

This “saving is bad” theory leads to all kinds of harm, mainly (obviously) to savers.  Which includes lots of retirees, as well as pension funds, and the industries that fund those groups, like insurance companies.

Here’s Eric Horowitz (ht Dish):

Even if individuals draw some emotional benefit by saving inheritance money, from a social standpoint it’s better if people—and wealthy people in particular—spend their money on durable goods or semi-risky investments. Buying a blender or funding a start-up does more to stimulate the economy than leaving your money in a low-risk mutual fund.

It seems that the tendency to save inheritance money is another reason to support a higher estate tax. If mental accounting is preventing inheritance money from being spent in the most efficient way, that strengthens the case for raising estate tax revenues to fund welfare programs (and if you lean right and cringe at that word choice, just replace “welfare programs” with “other tax breaks for the wealthy that are more stimulative.”)

The relationship between tax policy and mental accounting is nothing new. The Obama administration famously designed tax cuts in the stimulus bill to be dispersed by withholding less money in regularly scheduled paychecks rather than by mailing out supplementary checks. The belief was that people would be less likely to save the money if they didn’t see it as something separate. We’ll never know exactly how effective it was, but even if it did increase consumer spending it was considered a political disaster because it kept citizens from learning how they benefitted from the stimulus.

But is that true, that saving is bad for the economy, while spending it on a blender is good?  What happens if you put your money in a “low risk mutual fund”?  Here’s where that money would go, using the example of 4 low risk mutual funds recommended by Kiplinger:

Vanguard Wellesley Income (symbol VWINX) is one of the most conservative stock-owning funds you can buy from Vanguard, which specializes in conservative, low-cost investing. Expenses are just 0.31% annually, and the fund yields 2.8%. Wellington Management has run Wellesley since its inception in 1970. The managers keep roughly 60% of assets in high-quality corporate bonds. Michael Reckmeyer, who runs the fund’s stock portion, invests the rest primarily in high-yielding blue chips. Over the past ten years through December 3, the fund returned an annualized 6.7%. By comparison, Standard & Poor’s 500-stock index retuned an annualized 1.2% over the same period. Wellesley is less than half as volatile as the S&P 500, and in 2008 it lost just 9.8% when the S&P 500 plunged 37%.

Of the funds on this list, FPA Crescent (FPACX) is my favorite (and a member of the Kiplinger 25). It’s more eclectic than the others, and much more flexible. Steven Romick, who has managed Crescent since 1993, adjusts its holdings based on his views on the economy and individual securities. He occasionally sells stocks short, betting on them to fall in value. He’s worried about global economic weakness and so had 33% of the fund in cash and 14% in bonds at last report. The rest is mostly in defensive stocks, such as health care and consumer staples. The fund returned an annualized 12.2% over the past ten years — tops among the funds mentioned here. Yet it’s almost 40% less volatile than the S&P 500. Crescent lost 20.6% in 2008. The expense ratio is 1.17%. This is not a fund you buy for income; the yield is a puny 1.2%.

Vanguard Wellington (VWELX) is Wellesley’s slightly feistier twin. Wellington Management has run this classic balanced fund since — get this — July 1, 1929. The fund gained an annualized 6.4% over the past ten years, including a 22.3% tumble in 2008’s collapse. It invests about two-thirds of assets in stocks and one-third in bonds. Expenses are 0.34% annually. Like Wellesley, it sticks to mostly high-quality bonds. Ed Bousa, who picks the stocks, focuses on large companies that pay dividends (the fund yields 2.9%). The fund is one-third less volatile than the S&P.

Its name is misleading, but T. Rowe Price Capital Appreciation (PRWCX) is nonetheless a fine fund. This is Price’s most conservative stock fund, typically with about 60% to 70% of assets in stocks. Unlike Wellesley and Wellington, manager David Giroux buys a wide variety of high-yielding securities, including junk bonds, convertible securities and leveraged bank loans. With the stock portion of the fund, he leans toward out-of-favor, dividend-paying stocks. The fund, which dropped 27.2% in 2008, is about 20% less volatile than the S&P. It has returned an annualized 8.9% over the past ten years. Capital Appreciation yields 2.0%, and annual expenses are 0.74%.

So, if you buy a low risk mutual fund, you are buying corporate bonds and stocks.  And some cash.  If you buy corporate bonds, you are giving corporations your money to spend as they see fit.  Presumably in ways that will positively affect their bottom line, thus, the economy in general.  On this graph (from ZH), wouldn’t we see any decrease in the personal consumption offset by an increase in fixed investments?

https://i2.wp.com/www.zerohedge.com/sites/default/files/images/user5/imageroot/2014/02/Q4%20GDP%20revised.jpg

If you buy stocks, you must by definition buy them from someone else (or from the issuing company, same effect as buying bonds).  The seller will then buy something else with that money, right?  What about the cash?  That’s the only part of this equation, to me, that is genuinely not productive (today).  Banks are currently holding large reserves (beyond required reserves).  But there’s an argument to be made there that this is due to Fed policies, so if the government wanted more money circulating in the economy, there are ways the Fed could encourage banks to loan out some of that moldy money.  Then even putting money right into the bank, saving it the old fashioned way, would be the same as spending it.  More so, in fact, due to fractional banking.  A dollar saved would be worth $10 spent, right?

Confounding this question is the impact of credit.  There have been a lot of articles lately on how there is a rise in consumer debt, and this is a good thing, and America has started shopping again.  I’m not sure how this all fits in, but this post by Sober Look is really interesting, and related:

One could argue that student debt is in effect “crowding out” private credit.

Not seasonally adjusted (source: FRB)

Even the ex-student loan measure does not tell the whole story. The overall US economy (and the population) has grown since the financial crisis and in order to make a fair comparison one needs look at the trend relative to the nation’s GDP. A very different picture emerges – one of significant consumer deleveraging that is only now beginning to stabilize.

Not seasonally adjusted (source: FRB)

While the absolute level of consumer credit indeed had a nice pop in December, one needs to look beyond the headline numbers to see the full picture.

It’s also interesting to compare this data to the personal savings rate, and let’s see it back to 1970:

fredgraph

So even though the savings rate has gone up recently, it really isn’t close to historical norms.  And even though consumer credit has decreased (although not when you include student loans, yikes!), it is also still outside historical norms.

Maybe the whole consumer credit/student loan debate belongs outside of the “savings is bad” question, but I think they are kind of related.

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