Americans Saving More, Investing Less

We've mentioned before the marked increase in personal savings before.  This is, of course, a very good thing.  Low personal savings are unhealthy in the long term, so it's only natural that this trend reverse.  Usually though, there are opportunities for investment and that's eventually what brings economies out from under recession.  People start businesses, buy equipment, or otherwise develop the infrastructure necessary for making money.  Otherwise they supply capital in the form of stocks or bonds so that others can do so on their behalf.

Unfortunately, that does not appear to be happening now.  Paul Krugman notes:

That saving ought to be translated into investment, but the investment demand is not there. Housing is flat on its back because it was overbuilt; housing bubbles collapsed not only in the United States, but across much of Europe. Many businesses cannot get access to capital because of the breakdown of the financial system. But even those that do have access to capital don't want to invest because consumer demand is not there. Between the housing bust and the sudden decision of consumers to save, after all, we have a world with lots of excess capacity. The GDP report that just came out says that business-fixed investment, non-residential fixed investment, essentially business investment, is falling at a 40 percent annual rate.

So where do people park their money?  Well that's the good news... it's financing our public debt.  The massive deficits the government is having to take on through bailouts and stimulus appears to have more than enough interested investors.  So much so that we've barely noticed that China has stopped buying American bonds.This, in a nutshell, is how Keynesian economic response to recessions is supposed to work.  When business and consumers are unwilling to buy things that spur economic activity, there is only one other potential investor.  The government.  So with this glut of savings without a home, the government should build infrastructure, invest in technology, provide retraining to industries that will grow and so on.  Not only does this leave a foundation for the future, but it also stimulates immediate growth by providing demand where there is none.

Unfortunately the conservatives are convinced that tax-cuts are the answer.  A question they should ask themselves is if people are willing to invest their savings now, what would giving them additional cash do?  People are afraid and hanging onto excess cash.  This is why most economists regard tax cuts as the least stimulative response to a recession.  The government becomes the source of investment replacing businesses and consumers.

Here's the analysis from Moody's on the Stimulus bill.  Notice the significantly larger return for spending versus tax cuts:

However, this can't last forever.  Though Keynesian theory clearly demands government intervention in a recession, the second part of the equation has proven much more difficult for Democrats and Republicans alike.  Paying it off.  Rather than using surpluses in the good times to pay off debt Democrats tend to spend it on new programs while Republicans favor tax cuts.  The result is out of control debt and entitlement accounts that are edging the country towards bankruptcy.

How close are we now?  You've probably heard that the national debt is obscenely large.  The truth is that it isn't, unless you add in Medicare, Social Security, and other future federal obligations.  That number is closer to $59 Trillion and increasing $2 Trillion a year.  This graph by the Peter G. Peterson Foundation, an organization committed to entitlement reform and public debt reduction.   

So while I agree with the President's strategy thus far, when the recovery begins American cannot return to its old ways of continuing to accumulate debt during the good times.  That means demanding of our leaders a new kind of accountability.  No more promising something for nothing, whether it's new programs or tax cuts without actually paying for them.

Dick Cheney once famously noted that "deficits don't matter."  Of course we can see that they do, but the point is that when you're in a deep recession they become secondary concerns.  However, we have to set the stage for their prioritization once the recovery begins.  That means dealing with stick issues like entitlement reform.