Today's edition of The Economist has a special feature on the economics of saving, or the shift away from thrift, as they put it. This looks at why "in much of the rich world thrift has become unfashionable". Savings rates are in decline:
Household saving rates in many OECD countries have fallen sharply in recent years. Anglo-Saxon countries—America, Canada, Britain, Australia and New Zealand—have the lowest rates of household saving. Americans on average, save less than 1% of their after-tax income today compared with 7% at the beginning of the 1990s. In Australia and New Zealand personal saving rates are negative as people borrow to consume more than they earn.
Other countries with rapidly greying populations—especially Japan and Italy—have also seen their personal saving rates plummet, though from a higher level. The Japanese today save 5% of their household income, compared with 15% in the early 1990s. A few rich countries, notably France and Germany, have bucked the trend away from thrift. Germans saved around 11% of their after-tax income in 2004, up slightly from the mid-1980s.
But does this really matter? After all, "low long-term interest rates do imply that, for now, global savings are more than adequate relative to investment opportunities."
But is this sustainable? Even in a more global capital market, there are limits to foreign borrowing. The debts incurred must be serviced, capping how big the current-account deficit can become.
...To maintain high productivity growth, investment rates probably need to rise. Add together the need for greater investment and the likelihood of less easy access to foreign borrowing, and the conclusion is clear: Anglo-Saxon economies with low national saving rates, particularly America, need to save more.
How best to boost savings then?
Economists agree about the surest way to do this: focus on the government's finances. Alan Greenspan recently called greater fiscal discipline “the most significant vehicle we have” to raise national saving. However, some budgetary prudence may be offset by lower private saving. A theory called “Ricardian equivalence” holds that increases in public saving are cancelled out by falls in private saving as individuals anticipate future tax cuts.
A recent OECD study of 16 rich countries between 1970 and 2002 finds that, on average, around half of any improvement in public finances is offset by lower private saving in the short term, and around two-thirds in the long term. But the most extreme case of low national saving (America) had the weakest offset. A change in America's fiscal stance had no statistically significant impact on private saving, suggesting fiscal discipline will be particularly effective. But even in other low-saving economies, budgetary prudence is the surest route to higher national saving.
That does not mean private saving rates are irrelevant. Encouraging higher private saving would clearly help raise national saving. Moreover, the adequacy of personal saving is important from the perspective of individual welfare. Even if a country overall is saving adequately to fund future economic growth, savings might be distributed in a way that leaves certain groups with insufficient wealth. But the concept of “adequate” saving is tricky.
Much also much depends on assumptions about the rate of return on savings.
In recent years, the biggest difference between high-saving and low-saving OECD countries has been the return on assets. As a recent report from the McKinsey Global Institute points out, between 1975 and 2003 asset appreciation was responsible for almost 30% of the increase in the value of household financial assets in America, whereas in Japan high saving rates made up for negative returns on assets. Based on current rates of return and saving patterns in big industrial economies, the McKinsey study takes a dim view of the adequacy of global wealth accumulation. But it notes that more saving is an unhelpful prescription for countries that already save a lot, such as Germany. The answer there is to raise returns on saving, through financial and corporate restructuring, greater competition and so forth. In other words, these economies need to become more Anglo-Saxon.
In low-saving Anglo-Saxon economies, by contrast, raising people's saving rate must be part of the mix. But how, if at all, can governments encourage people to save? Monetary policy is one tool, albeit a blunt one. In recent years, unusually low interest rates have encouraged borrowing and caused asset bubbles, particularly in Anglo-Saxon economies. While this consumption in the short term supported the global economy, it has accelerated the saving decline. A return to more normal levels of interest rates ought to boost saving.
But there are other possible approaches:
Another approach is simply to force people to save more, for instance by introducing compulsory contributions to new pension accounts. Australia and Switzerland have both done this. ...While compulsion may be an important possibility for extreme low-savers, it is decidedly illiberal and most countries have tried to encourage rather than compel more saving. Their main route has been the tax code. Income-tax systems deter saving by taxing the returns twice (first when the company makes a profit and again when an individual receives the investment income).
From the perspective of maximising the incentive to save, the best policy would be a wholesale shift to a consumption-based tax system. But no OECD country has done this, although many raise some revenue from consumption taxes. Instead, policymakers create incentives for saving within the income-tax system.
Most industrial countries offer some tax-sheltered retirement-saving accounts. ...These subsidies make sense only if they are encouraging saving that would not otherwise take place. The evidence for this is mixed, at best. Studies suggest tax-favoured retirement accounts essentially divert existing saving or encourage only modest new saving.
Rather than focusing on tax incentives, recent economic research suggests politicians ought to look harder at what stops people saving. A slew of studies by behavioural economists suggest people are deterred from thrift by the decision-making involved.
Poorer people, for instance, are more likely to be enrolled in private retirement plans if that is the employer's default option than if workers have to elect to enrol. In one study by Brigitte Madrian of the Wharton School, University of Pennsylvania and Dennis Shea of the United Health Group, shifting to automatic enrolment raised participation among poorer workers from just over 10% to 80%. ...Behavioural economics suggest many intriguing policy ideas, such as encouraging employers to make membership the default option for pension plans.
None of these changes will dramatically increase household saving rates. But they will make it easier and more attractive for those who are saving least to put aside some money, while at the same time reducing the fiscal burden of misplaced tax subsidies to the rich. Poorer people, government budgets and national saving rates would all see some benefit.