I posted a reader query awhile back asking people what they thought would happen if everyone in the nation started saving 10% of their income. I wanted to repost my question and then post some of the comments I’ve received and also link to an article in the WSJ (thanks Khyron) that talks a bit about how it might impact the economy. Here is the original question:
You’ve all heard it before. “Everyone should save 10% of their income”. Here’s the question:
What would happen if all of a sudden, starting tomorrow, every single wage earner in America saved 10% of their income?
Think big.
What would happen to the economy?
What would happen to different industries over time?
What would happen to people?
Now here are ALL of the comments that I’ve received so far on the subject. Khyron contributes in depth:
NCNblog said:
When you say “save” are you talking about mutual funds, or savings accounts. I think that there would be dramatically different results for the economy, depending on “where” the money was saved. If it were saved in mutual funds, the economy would boom. If it were tucked away under a mattress, or in cd’s or basic savings, I think that the economy would recess.
ncnblog…
Dawn said:
I don’t know much about economies, but I think the general population would become more wise with their money
Hazzard said:
My take on this is that, if everyone was consuming 10% less, our economy would head south. Our economy is based on growth, and if everyone stopped consuming 10% as much as they do today, we’d probably see a recession. Of course, I don’t REALLY know what I’m talking about, but that’s my theory. My general theory is that, for all of us that are already investing and saving, it would be a bad thing for everyone else to do it too.
Any economics PRO’s out there want to pipe in?
Madame X said:
Great question. If the money was fed into banks, stocks, etc, would it feed the economy, or at least balance out some of that decrease in consumption? I’m no econ pro either but wouldn’t this also effect the value of the dollar vs. other currencies?
Karen said:
I have no idea what I’m talking about, but here’s my stab:
I would agree with you Hazzard. I would tend to think if so many people were saving 10% of their income, they’d be buying less, and who knows, it might inspire them to save even more than 10%…it would hurt numerous industries. Assuming that saving 10% would also lead to the ability to manage your money better, there would be less debt overall, which would hurt lending companies (and think of the credit counseling agencies!) Would financial planners be as widely needed as they are today? It is like a domino effect, or could be, I would think.
Hazzard said:
Here are a few industries that I think would feel an impact of all this saving:
-Credit card industry (negative)
-Payday loan companies (negative)
-Retail businesses (negative)
-Investment firms (positive)
-Banks (negative? Who would they loan all those deposits to?)
I’m sure there are a ton more.
Anonymous said:
assuming it wasn’t stuffed in mattresses, but rather went into financial instituations of some sort, wouldn’t we see interest rates drop as the banks competed to get some sort of return on all that extra cash they had laying around?
if people weren’t waiting in line to take out the loans, i’d expect businesses (since you didn’t say anything about them) to take them out, to invest in cost-reducing measures so that they could continue making a profit despite lower sales volumes (since people are buying less).
– not an economist.
Hazzard said:
Good point. I think you are right. Companies would have to further seek ways to lower their costs in order to increase their margins on the sales that they are making.
Vinod Kurup said:
Interesting question. Basically, we’re talking about a transfer of wealth from sellers of luxury items to financial institutions. In order for everyone to save, they’d have to reduce their expenses, and most likely those reductions are going to come at the luxury end of the scale. Those products would then eventually come down in price.
Let’s say everyone puts their savings into their local bank. These banks would then rush to lend that money out in order to be able to pay us our interest (and pocket a little profit). This would eventually make it easier for corporations to get loans, thus making it more attractive for them to invest.
So, the net effect, I think, would be to create an investment boom throughout corporate America. Can you say “Roaring 90’s” all over again? Of course, that’s making all kinds of assumptions, but on the whole I think increased savings is a good thing for an economy becauses it transfers money to more efficient users (eventually).
A great readable book that discusses how to think through these kind of economic issues is Henry Hazlitt’s Economics in One Lesson. It’s been a long time since I read it, so don’t take my shotty analysis as a sign of the book’s value :-)
Khyron said:
If every US citizen saved 10% of their income, it would be a boon for the economy in several ways (I think):
1. Bank deposits (and other financial institutions, like credit unions) would soar. This would give banks lots of capital to lend to businesses. This type of lending
is good for the economy b/c the cost of capital is lower. The capital that drives the economy currently can be described as “vendor financing” by Asian nations producing inexpensive goods which they sell back to US consumers. In exchange, they purchase lots of dollars, in the form of US Treasury securities, which keeps interest rates low by driving down yields and driving up prices (supply/demand). With assets on the books in US financial institutions, capital would be very plentiful but w/o the need for external financing. You can consider this “funding from cash flows” or, even better “internal
funding” since the funds are coming from within the US economy (bank deposits by the people who contribute directly to GDP) instead of external funding.
2. With the banks awash in capital, they would have capital to put to work in myriad ways to drive up their yields (they have to pay the interest rates on those deposits,
after all). So lending to companies would increase (could be bad if there is too much capital chasing too few ideas, but banks are generally a little better about that than some more modern financial market participants, and banks are better regulated). The amount of cash available should drive down lending rates for companies, which they should then deploy via investments, business growth, and hiring (ideally).
3. The reduced need for external financing for the economy would drive long term rates up a little, but there should be a trade since the economy is now awash in cash from within. So the long term rate situation might not change dramatically. I would think short term rates would fall a little bit too, to the dismay of anyone counting on those rates. But bonds would soar, as would the dollar. Debasing one’s currency is never good, and a little dollar strength would be nice (it would serve to drive down rates as well).
4. The problem with all of this cash chasing investments/yield would be that we could probably expect to see overheating in certain markets, like housing/real estate and possibly small business formations (think dot com or even the last 5 years). But again, banking is regulated by the OCC, the FDIC, and about 2 or 3 other federal agencies, so it might not get as carried away and thus last a little longer w/o the volatility that we’ve seen in the recent past. However, there is
always the chance for bubbles.
5. More bank deposits for collateral for small businesses (which employ the largest number of people in this country). Bankers like collateral. More assets to be employed for lending to those small businesses. And large ones. Hopefully, some of those businesses will actually be good ideas – more cash chasing more ideas is always positive.
6. Stuff like this (a good example of internal funding and putting cash to work):
http://www.forbes.com (Link shortened to keep the site formatting from getting out of whack)
Quote: “For Bank of America, the deal represents another chance to add loans to an asset-starved balance sheet. The Charlotte-based bank has been buying consumer loan operations so it has a place to put the deposits it gathers to work.”
Quote: “Credit card and auto loans are attractive for their high interest rates, which create wide spreads against consumer deposits, reaping profits for the bank, says Punk Ziegel analyst Richard Bove.”
7. Financial companies might actually benefit. Consumer staples, healthcare, etc. would do about the same. Consumer cyclicals, retail, autos/airlines, and service companies might take a hit. Technology might benefit – more cash for investments in technology (maybe some of it would be done right, even *sigh*). Of course, this is all in the short term. Longer term, I think this could benefit most facets of the US economy positively.
8. Buy bonds. And the ones you hold should be non-callable. Companies can refinance debt. People can refinance mortgages. As I said, I think rates would stay level or drop. Capital can be redeployed from debt service to other projects/needs.
9. Pensions would still be underfunded. Look for “creative” ways of driving these returns up again. But the potential (and I say potential because this is all speculation) stock market bonanza might help offset some of this. Not much, but some. Hopefully, people will be accurate with the accounting this time (but not likely).
10. Sales tax revenues drop. But this hits jurisdictions, not the Feds. Income tax revenues stay the same. Doubt there would be much effect on the tax situation.
These are just my ideas, but I am not a professional economist (like any of them know anything). Work your asset allocation. Go for the weaker places. Inflation would still be a bitch (and might get worse, eventually causing rates to increase). Spread the money around in an intelligent fashion. But this is what I think would happen if everyone in the US started saving 10% of their income. And of course, the other important pieces besides corporate America is what else starts happening with that money – does it get applied to things where the US is lagging. Education, etc., the places that the Asian nations excel, should get addressed. Lots of money floating around now, hopefully it doesn’t all get soaked up by private school and college tuition increases. And hopefully, it doesn’t get too scared, like in Japan. Talk about a country that could use some consumer spending (among other things).
Khyron said:
Don’t forget that a lot of this capital would go to expanding international operations as well (for companies). That could take the form of pure business investment or even purchases of foreign assets (companies, resources, etc.) as well as investments in securities in foreign countries. All that money would end up chasing yield around the world. But it would end up flowing (indirectly) back to the US consumer, and if that money goes into investments (IRAs of various flavors, 401(k)s and 403(b)s, trading accounts, etc.) as opposed to pure bank deposits, it could flow back to consumers more directly, if they make good investment choices. Look at what’s been happening in the transatlantic bandwidth market recently with VSNL (basically, the national ISP of India) purchasing 2 major networks in the last few months and their domestic competitor Reliance buying FLAG Telecom, another big submarine cable operator. (I was reading LighReading which made me think of this investment angle.) And don’t forget China investment in the US, which is following the tradition of Japanese purchases of US assets in the late 80s and early 90s (although the parallel is not exact since the Japanese investments were driven by all their savings+cash flows from businesses while the Chinese investments are veiled acquisitions by the government, since most major companies have the Chinese government as a large shareholder.)
Capital will seek out the place where it is treated best. So if all this capital is sitting in bank accounts (and/or investment accounts), it will start moving around to find the best returns.
Khyron said: