By Jeffrey Snider
In 1967, the US Personal Savings Rate averaged just a little more than 12%. That was pretty consistent with consumer behavior observed throughout the decades before, and the one that followed. What that meant, in terms of economic theory, was that if you as a central bank intended to accelerate the economy via the manipulation of expectations you at least had some sufficient margin to do so without income growth.
Which comes first, income or spending? It’s actually an unsettled question in the orthodox canon devoted to the concept of aggregate demand. For a long time, it has been believed that the latter can under the right circumstances. Consumers spend a little more of what they make today compared to yesterday, and that burst of spending creates the virtuous circle of recovery. Businesses hire more workers to meet the increase in “aggregate demand” therefore incomes eventually rise to support an overall economic boom.
The catalyst, at least so far as the theory goes, is inflation expectations. Why would you want to spend more of your income, meaning less savings, today versus yesterday? If you think prices are about to rise, that would be one big reason. Monetary policymakers, in particular, have spent a lot of time and QE’s on inflation expectations to get this piece of recovery started.
During the worst of the Great “Recession”, however, the Personal Savings Rate never got higher than 8.1% in May 2009 – and that was a one-month outlier. For all of 2009, the rate averaged 6.1%, including May. After the eurodollar crisis in 2011, the savings rate would actually rise slightly.
We have to ask the question, even if the theory was sound, setting aside any objections to its 1970’s Great Inflation basis, would it have worked with a savings rate starting from such a low level? Or, asking the question another way, even if Americans believed QE1 and QE2 were going to be effective at creating even rapidly rising consumer prices, could they have increased their spending by more than a trivial amount?
It seems they were constrained by the low savings level in addition to incomes that refused to grow in the manner consistent with past recovery. Through four QE’s and years of monetary policy accommodation, all intended to stoke inflation expectations, it seemed destined to its dead end. There was no virtue in this intended virtuous circle.
Among other factors, this is what doomed the economy in 2014. Then, as now, optimism was at its highest. The domestic and global economy was on an upswing, to be sure, but people were making far too much of it given the constraint on income therefore savings. I wrote in December 2014, just as commentary was taking on some of its silliest proportions:
Continue reading The Doubleplusgood Boom