With apologies to Jane Austen, it is a truth universally acknowledged, that anyone in possession of a good business, must be in want of savings. As we saw in the previous posting on this subject, savings are essential to the process of new capital formation. The only question is the source of the savings. Is it to come from past reductions in consumption, or from future increases in production?
To recap briefly, if the
source of capital financing is limited to “past savings” (past reductions in
consumption) instead of including “future savings” (future increases in
production), then as a rule (with a few exceptions) ownership of virtually all
new capital will be concentrated in the hands of the already wealthy who have
the capacity to save and finance, or the State, which through manipulation of
the money supply has the capacity to redistribute productive and consumptive
The real source of capital financing.
That’s a bit oversimplified, because the rich aren’t in general using their past savings to purchase new capital — directly. Their wealth isn’t in piles of cash like Uncle Scrooge McDuck’s Money Bin. Rather, their savings are already invested in capital assets or expended on consumption. What the rich have is not past savings for (re)investment, but past savings used as collateral to obtain financing for new capital investment.
People who reinvest their
earnings on capital directly can accumulate somewhat faster than those who
merely save without reinvesting, but that is really only a matter of
degree. The real financial power is not
in the ability to save, but in the ability to obtain credit — which is enhanced
by the ability to save, not determined by it.
The already-wealthy are “creditworthy” (able to obtain credit) because
they can borrow and use future savings, not because they necessarily have past
This was made evident (albeit
inadvertently) by a recent article in the Wall Street Journal, “Lifting
Lockdowns Won’t Fully Restore the Economy” (08/17/20, A-17). Now, before you read the
brief-but-significant quote, keep in mind that for years, decades even,
Americans have been harshly criticized for not saving enough, usually framed as
not saving enough for retirement, but also for investment, e.g.,
Savings are good and bad at the same time.
In 2003, the U.S. net national saving rate was 1.6 percent compared to 38.6 percent in China, 25.3 percent in Saudi Arabia, and 19.2 percent in South Korea (the top three net national saving rates in the G-20). (Johnson, Mensah, and Steuerle, Savings in America: Building Opportunities for All. Goldman Sachs, Global Markets Institute, Spring, 2006, 4.)
Keeping that in mind — and noting that the source is Goldman Sachs — we see in the recent Wall Street Journal article the following statement:
Economists at Goldman Sachs estimate that consumer spending is at 94% of its previous level. That’s progress — but an economy with a 6-point hole in consumer spending is devastated.
Now, also keep in mind that by “savings” Goldman Sachs means only past reductions in consumption. Evidently, when people are not saving, it is bad for the economy, and when people are saving, it is bad for the economy!
We won’t look today at what
the vast differential in savings rates actually means; that’s a topic for
another day. Note, however, that the
three countries to which Goldman Sachs compared to the U.S. are all three
focused almost to the point of obsession on producing for export, not domestic
Jean-Baptiste Say said otherwise.
Consistent with Say’s Law of Markets, by exporting much of what is produced, China, Saudi Arabia, and South Korea cannot spend all their income and thus save it. At the same time, the U.S. is importing from those countries and is dissaving, that is, spending savings on consumption of imported goods and services. The difference in savings rates results from producers who do not consume, and consumers who do not produce.
The main point here, however, is that a 1.6% savings rate (a 1.6 point “hole” in consumer spending) is a “bad thing” compared to the 38.6% of China, 25.3% of Saudi Arabia, or the 19.2% of South Korea. Yet suddenly, a 6% savings rate is “devastating” to the economy . . . compared to 38.6%, 25.3%, or 19.2%??????????
Obviously, something is being left out of the equation — and that “something” is the future savings that Keynes ridiculed and today’s politicians and economists ignore. The focus on past savings as the only source for capital financing is the real problem, not the savings rate, per se.
To explain, the past savings
assumption (that past savings are the only source of financing new capital)
leads to what Dr. Harold Glenn Moulton of the Brookings Institution called an
“economic dilemma.” As he explained the
Dr. Harold Glenn Moulton
The dilemma may be summarily stated as follows: In order to accumulate money savings, we must decrease our expenditures for consumption; but in order to expand capital goods profitably, we must increase our expenditures for consumption. (Harold G. Moulton, The Formation of Capital. Washington, DC: The Brookings Institution, 1935, 28.)
In other words, if you save in order to finance new capital, there is a drop in demand and thus no need to finance new capital. If, however, there is demand that is not being met, you don’t have the savings to finance new capital. . . .
Moulton then noted what would happen to an economy if people saved just 10% of their consumption income instead of spending it. As he noted, the precipitous drop in consumer demand would cause the economy to go into a tailspin — and recall above that Goldman Sachs claimed the a 6% drop in consumer demand is “disastrous” . . . right after praising China, Saudi Arabia, and South Korea for double-digit rates of saving!
Obviously, something is wrong if a low savings rate is as bad as a high savings rate. And within the past savings framework, there is no way out of this surreal predicament. The only thing to do is to reexamine the basic assumptions and see how well they correlate with our observations and known facts — and that is what we will do in the next posting on this subject.#30#