Balancing the ballooning US savings rate
United States household savings grew to a record 33 per cent of personal disposable income in April, producing yet another of these “wow” charts caused by the pandemic. The US has been hit with a rapid rise in unemployment, coupled with the closure of many businesses, travel at a standstill and major events such as sports, conferences and festivals all cancelled.
With less to spend money on – consumer spending fell a record 13.6 per cent – and stimulus cheques boosting disposable income, the result is unsurprising. However, this becomes a national problem if Americans maintain their newfound propensity to save once restrictions are eased. Consumer spending drives 70 per cent of US GDP, and one person’s spending is another’s income.
Source: Bureau of Economic Analysis; CNBC
Borrowing from Michael Pettis, we go back to economic first principles – the components of aggregate demand dictate that total national investment must equal the total savings of governments, businesses and households plus net foreign savings. As such, if the economy is to absorb a rise in household savings, it must be balanced out elsewhere in the equation. So we require either (a) balanced total savings; (b) a reduced current account deficit; or (c) increased US investment. Inherently, a goal is to avoid balancing household savings by adding to the newly unemployed, who continue to consume their savings while producing nothing.
How could total savings be balanced? The government could encourage certain households to take on new debt (negative savings) and ultimately spend more. This would be a reversal of the current trend; Visa announced this month that debit card spending grew 12 per cent in May, meanwhile credit declined 21 per cent year-over-year. This strategy would likely require allowing riskier households to borrow who otherwise would not been able to. Absorbing part of the country’s savings with credit-fuelled spending from riskier households may create more problems than it solves.
Alternately, the government could enact policies to balance national savings. Governments can reduce their own savings by spending more on social programs such healthcare and education. To avoid more fiscal spending than is already bolstering the US economy, this would ideally be paid for by higher taxes to redistribute wealth to poorer Americans. Harvard-based research shows that the highest quartile of income earners is responsible for the vast majority of household savings (chart below). As such, this policy combination can work twofold: redistributing the savings of the wealthy lowers the overall household savings rate, meanwhile any social spending from the government above the increased tax revenue will push government savings down.
Source: Opportunity Insights Economic Tracker
If total savings cannot balance themselves, the US could balance them with lower net foreign savings, or a reduced current account deficit. Unfortunately, the United States is unusual in that it is primarily not in control of its current account. The US financial markets and reserve currency status mean that it absorbs the rest of the world’s excess savings. Unfortunately, if US households are saving more due to the pandemic it is more than likely other countries are too, which would in fact push the US current account deficit up.
Finally, with increased household savings and a possibly higher current account deficit, our aggregate demand equation must be balanced by investment to avoid curtailing GDP. Businesses are faced with reduced demand when households choose to spend less. Although some have thrived through the pandemic due to the acceleration of the longer-term enterprise digitisation trend, many have suffered. Thus, it is hard to imagine businesses increasing investment to balance the overall economy. As such, the burden would fall on the government to significantly increase infrastructure investment against a budget deficit already around US$1 trillion.
Theoretically, there are a variety of ways the US savings rate could be balanced; however, it is difficult to imagine any of them completely solving the problem of longer-term reduced consumer spending. Each alternative has its own repercussions. And as Michael Pettis concluded, “the country has no other practical options.”