Low savings rate leaves Americans vulnerable By Christopher Swann Published: June 22 2005 20:06 / Last updated: June 22 2005 20:06
Since 1974 US lawmakers have created about 20 separate tax breaks to encourage Americans to squirrel away more of their money. Yet over this time Americans have gone from saving about 10 per cent of their disposable income to saving less than 1 per cent.
According to the latest data, Americans save as little as 40 cents for every $100 of disposable income.
For libertarians, these figures provide a heartening reminder that governments often fail to control human behaviour. The trend is discouraging, however, for the panel of experts that has been charged by the president with finding new ways of encouraging Americans to save more. The panel is expected to offer its findings in September. But some tax specialists believe the administration is searching in vain for a policy that will lift the savings rate.
So how big a problem is the low savings rate, and can policymakers do anything about it?
On the surface, the decision of Americans not to save is perfectly rational. The appreciation of their houses and stock portfolios has been doing all the work for them, powering a $9,400bn increase in net household wealth over the past two years to $48,800bn. Net wealth is now 550 per cent of annual disposable income, comfortably above its average of 478 per cent since 1952.
The worry for some economists, however, is that households may have placed too much faith in capital gains. “It seems that consumers have lost sight of the fact that past capital gains could easily turn into future capital losses,” says Paul Ashworth, an analyst at Capital Economics. “With house prices more overvalued this time than in the housing booms of the 1970s and 1980s we might expect outright falls at some point.”
Some economists are concerned that Americans could increase their savings and cut back spending with alarming speed if house prices stop rising. The US savings rate has been on a declining trend, says Mike Dicks, an international economist at Lehman Brothers, but it is almost twice as volatile as the European savings rate.
Few economists believe that the savings rate will bounce back to its long-term average of 7.4 per cent. But even if Americans save at just half this rate they would need to set aside an additional $291bn a year which Capital Economics estimates might lead to a 1 per cent reduction in consumption growth for three years running.
The absence of thrift in America has also led to another vulnerability: US companies are being forced to look outside the US for the funds needed to invest. The ballooning current account deficit raises the risks of a sharp fall in the dollar and a rise in inflation and interest rates.
Small wonder the administration would like to see a gradual increase in savings.
Jim Saxton, chairman of Congress's joint economics committee, remains undeterred by the apparent lack of success of previous savings incentives. “We have tried hard to get people to save more but there are things we have not yet done,” he says.
“I believe that the less we tax savings, the more people will save.” He argues that Americans will save more if they know that the cuts in dividend and capital gains tax introduced by President George W. Bush are made permanent. “A lot of savings are still effectively taxed twice once when they are earned and again when they yield a return.”
Many experts, however, believe that adding still more generous incentives to save could paradoxically lower the national savings rate.
Eugene Steurele, an analyst at the Urban Institute, a Washington think-tank, thinks the extra tax breaks are unlikely to do more than lower government revenues. The institute's research has suggested that savings incentives merely encourage people to shift savings that would have been made anyway into tax-free vehicles.
“What we have at the moment are incentives to deposit, not to save,” Mr Steurele argues. “Americans have certainly been putting a lot of money into IRAs and 401Ks and getting tax breaks for doing so. But they have then been borrowing money on their homes or in other ways, cancelling out the savings they have been doing.”
Under this logic, further savings incentives will cost more in lost government revenues than they contribute to extra savings, thereby exacerbating the current account deficit.
Many economists believe that only a radical shift towards a consumption tax, which would completely exclude any saved income from tax, would encourage more thrift. Such a move, however, would be vigorously opposed by Democrats.
The evidence of the past 30 years is that the impact of tax incentives is dwarfed by larger economic forces, such as interest rates and the housing market. “The incentive to save is largely determined by how wealthy you feel and the interest rate,” says Alan Ruskin, director of research at 4Cast, the consultancy. “It's not much consolation to be saving on tax if you are barely earning any interest on your money. Ultimately the Federal Reserve, by putting up rates, is in a much better position to encourage saving than the Bush administration.”
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