The wrong kind of savings
The economic equivalent of St Augustine’s plea
NEGATIVE interest rates are surely a sign that something is wrong with an economy.
Normally, people have to be rewarded if they are to be induced to postpone consumption.
Penalising them for doing so seems perverse.
Admittedly, negative nominal rates apply mostly to commercial-bank reserves held at the central bank. But many savers in the developed world are suffering negative returns in real, after-tax, terms. Larry Fink, the chairman of BlackRock, a fund-management group, recently argued that low rates may not work as central bankers intend: those planning for retirement will need to save more, not less, to generate a given income. By the same token, low rates explain why lots of companies’ pension funds are in deficit.
Many economists argue that low interest rates are the result of too much saving, rather than too little. A “savings glut” means that the returns from investing have inevitably fallen.
Unfortunately, the savings aren’t really accumulating in the right places. The ageing citizens of the rich world should be putting lots of money aside for their old age, but personal savings rates are generally low.
Britain’s household-savings ratio perked up after the 2008 crisis, without ever reaching the 16.5% recorded in the last quarter of 1992. In the fourth quarter of 2015 it was 3.8%, well below the average level since 1963, of 10%. The American savings ratio is 5.4%; between 1963 and 1985, it often exceeded 10% (see chart).
In economic textbooks, companies use the savings of households to finance their expansion. But for much of this century companies in the developed world have been net savers. In Japan this has been going on even longer.
Given the ultra-low interest rates available on cash, and with investment-grade corporate bonds yielding just 3%, you might think there would be lots of profitable projects for companies to invest in. Although corporate investment has picked up since the 2008 crisis, it is hardly booming. Perhaps companies are cautious about the outlook for demand; perhaps competitive pressures are not what they were; perhaps they are simply using their cash to buy back shares. Whatever the reason, their behaviour has changed.
In theory, a financially strong corporate sector is good news for workers. Their employers could be putting aside a lot of money to meet their future pension commitments. In practice, however, the switch from final-salary pension schemes to defined-contribution (DC) plans means that employers’ pension contributions are lower than before. The average American employer ponied up just 4.5% of pay in 2013. Many people are going to depend on the state in their old age. As it is, more than a third of retired Americans get more than 90% of their income from Social Security.
If a country’s private sector has net savings, then mathematically the government must be running a deficit or the country must be exporting the excess, generating a current-account surplus. Deficit financing by governments makes sense as a way of stimulating demand in the short term. But it could be argued that rich countries with ageing populations should be running current-account surpluses and investing in faster-growing emerging markets. The euro area, in aggregate, does follow this approach (although Germany, its biggest economy, is often criticised for doing so), but Britain and America run persistent current-account deficits.
Instead many countries in the emerging world, including China and Taiwan, are investing huge surpluses abroad. Although very low or negative rates in the developed world should discourage this, they seem to be having little effect.
Meanwhile, governments in the developed world face big long-term financial challenges. A recent report from Moody’s detailed the unfunded liabilities facing the American taxpayer: 75% of GDP for Social Security, 18% for Medicare, 20% for the cost of pensions for federal employees and another 20% for pensions in state and local government. Britain has unfunded pension liabilities (for government employees) of around 66% of GDP.
Perhaps governments will deal with those challenges by cutting benefits or raising taxes. But if workers think that will happen, they should be saving more now in order to compensate for that future hit to their incomes. There is no sign that they are doing so. Indeed, governments don’t want to see a huge rise in household saving in the short term because of the impact on demand. It’s the equivalent of St Augustine’s plea, “Lord, make me chaste, but not yet”. And it is another sign that economies are in a mess.