Savers are Just Collateral Damage


by Keith Wiener, Gold Telegraph:

A reader asked us this week about the personal savings rate. Most people can sense that something is wrong if the rate is in a long-term falling trend, or if it falls too low (whatever level that may be). We argue that falling savings is part of the larger process of capital destruction. And unfortunately, one should expect falling savings rates when there is falling yield purchasing power.

The personal savings rate is defined as the ratio of personal saving to disposable personal income. Income excludes capital gains (as it should!) It is a measure of how much is left. This savings will pay for the saver’s own future, and in the meantime it is (presumably) invested to finance the production of new goods and services (and the government’s ever-growing welfare expense).

The personal savings rate is in a secular decline. As with other trends we have examined (e.g. marginal productivity of debt), the decline has a high correlation with the falling interest rate. Here is a graph.

This graph has three phases that must be addressed. One is the rising interest rate period following WWII. We see no particular correlation between the savings and interest rates. One could argue that the savings rate was in a sideways trend around 11% until just after the interest rate spiked in 1981.

Even though one need not explain why two data series are not correlated, we want to address it, because they become correlated later. So why weren’t they correlated until after 1981? During the period of rising rates and consumer prices, yield purchasing power was almost constant. Prices were rising—but so was the rate earned by savers. Below is a chart we have previously published.

During the rising rates environment, there was no crisis of savings.

Poorer Savers Panic

Back to the graph of the savings rate, the crisis period of 2008-2012 is the second phase that we need to address. The interest rate drops to near zero, but the saving rate spikes. We believe that the cause is simple. With the massive drop in asset prices, people felt much poorer and therefore panicked. Most felt a need to increase their savings to try to get back on track to their retirement goals.

However, since then asset prices have recovered. With rising asset prices, people feel comfortable once again. The urgency of saving subsided.

We address 1981 through the global financial crisis last, because we want to focus on it. And we believe that the post-2012 period should be viewed as part of this trend.

The correlation of falling interest and falling savings is pretty obvious. Normally, we’re pretty suspicious of any claim that correlation proves causality. However, this is a long period of time. It beggars believe that two falling trends for 27 years have no relationship. These are no small data sets, either. The T Bill market is the most liquid market in the world, and the savings rate of the largest economy in the world is taken from a population of hundreds of millions of people. Also it should be noted, savings fell from a range of around 11-12%, to under 2%. This is significant, no matter what.

A facile explanation  comes from asking: why should people bother to save, if the rate they earn on savings is so low? Of course, some people will respond to the perverse incentive of low rates by not saving. However, most people want to accumulate wealth and prepare for retirement. So this explanation is lacking.

There are three parts to our explanation of why the falling interest rate pushes down the savings rate. This relationship is no figment of the imagination, conceived in an armchair in an ivory tower (fueled with booze). It is a fact that both interest and saving fell together for decades. We are explaining this fact.

The first part of the explanation is a subtler point than the argument above about incentives. Income includes interest earned on savings. As the rate falls, the interest earned on all extant savings also falls. If Clarence had $100,000 in 3-month T Bills in 1979, he earned about $10,700. By 1994, that same $100,000 earned only $4,300. Indeed, Clarence would have had to increase his savings to $250,000 to earn the same interest in 1994 that he got in 1979.

Liquidating Assets to Cover Expenses

The second factor is, with less interest earned, people are forced to liquidate assets in order to cover expenses. These expenses would have been covered by earning interest, back when interest rates were higher. But now, they have no choice but to sell (and capital gains are not including in income). This is a picture of the economy in liquidation mode, as we have described in other terms.

If John has $100,000, earning under 0.1% until the Fed began its current hiking cycle, then that gives him under $100 of interest. Assuming 2.5% is normal, which would have paid $2,500, John has a $2,400 shortfall to make up somehow. For many people, somehow means selling assets.

The drop in interest reduces John’s savings as measured in the statistic two ways. One, he earns less income. Two, he reduces his net assets. As the Bureau of Economic Analysis explains:

“Personal saving may also be viewed as the net acquisition of financial assets (such as cash and deposits, securities, and the change in life insurance and pension fund reserves), plus the net investment in produced assets (such as residential housing, less depreciation), less the net increase in financial liabilities (such as mortgage debt, consumer credit, and security credit), less net capital transfers received.”

Note the bit about “less the net increases in financial liabilities”. That means if John takes out a mortgage on his house, rather than selling it, that also counts against his saving rate.

As we have said many times, a falling interest rate acts as a continually-increasing perverse incentive. At the same time, that the falling rate is squeezing John’s income, it is doing something else too. The market says to John, “hey would you like to borrow at 8% today?” John says no. A while later “hey would you like to borrow at 7%?” Then 6%, and so on. The rate has kept falling for nearly four decades (with correction along the way). This is the last third of the explanation of the falling savings rate.

John (A) earns less income, (B) must sell assets to make up the shortfall, and (C) has both motive (falling rates) and need (shortfall) to borrow more.

After writing the first draft of this article we saw a commercial, with Tom Selleck, selling reverse mortgages. We don’t know whether this septuagenarian makes a good spokesman for the home-consumption demographic. However, we see this as one more way for retirees to borrow to pay living expenses. One more way for the personal savings rate to drop. And to tie it into our explanation of the period 2009-2012 when the personal savings rate rose in a countertrend move, we would bet that these loans (along with many others) were not offered from 2008 through around 2012. Credit was harder to get, then. But we’re back to “normal” now…

The next time some economist-type recites the standard canard about purchasing power, GDP, and unemployment, as the justification for increasing the quantity of dollars please tell him that these increases are not causing rising prices. They are causing falling interest rates. And the collateral damage of falling interest is unacceptable.

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