Savings Down, Spending Up but What Does it Mean?
| May 28, 2010 | Posted by Roshawn Watson under Uncategorized |
By: Roshawn Watson
New data suggests that Americans are saving less and spending more, as the vicious economic cycle repeats itself once again. In the last quarter, the savings rate was approximately 3.1%, a steep decline from last year’s 12-year high of 5.4% during the same quarter. Moreover, our expenditures increased and is outpacing our personal income. It appears that despite proclamations that our newly-embraced frugality reflected a permanent change in behavior, frugality, for many, was a passing fad induced by momentary fear, not a substantive shift in consumer spending.
Earlier Than Expected
We certainly hyped the newly-found frugality to obnoxious levels. Nearly, eighteen months ago, I recall reading an article in Business Week that made the case that our “new found austerity could…rewire Americans as savers rather than spenders.” One economics professor from the University of Wisconsin suggested “consumers won’t be in a position to spend freely for five years.” Business Week certainly wasn’t alone in this perspective. Barbara Dafoe Whitehead of the Institute for American Values and co-author of For a New Thrift: Confronting the Debt Culture said
“a turn to savings and wiser spending may persist for a long time… Like the young who came of age during the Great Depression, today’s young people may be deeply imprinted by the experience of the economic collapse. This formative memory is likely to foster more careful spending and saving in years to come — as it did for the Depression generation.”
Sure, we did temporarily embrace a more heightened sense of fiscal responsibility. For example, we rediscovered the art of saving. We even went from record high debt-to-income ratios in 2007 to the American debt load shrinking in 2008, which is the first time American debt has shrunk since 1952. However, a knee-jerk reaction causing us to briefly pull our purse strings isn’t of the same magnitude as the generational imprinting that Dafoe had hoped for; alas the sustainability of the recession-induced frugality has been in question for some time.
It’s Just Like Food
Just as with food, total abstinence from spending is not a viable option. Thus, it was expected that spending would resume once we got over the shock and awe from the precipitous declines in net worth (26% decline in most Americans), prompted by job losses, home value declines, and paper asset value declines. With our spending up and savings down, it appears that our financial temperance may also be abating.
Spending certainly benefits the economy, as consumer spending makes up 60% of the economy. Accordingly, if you want to fund our economic recovery with the contents of your wallet, be my guest. The problem arises when we rely on the destructive habits of financial excess and self-indulgence to fuel the economy because such behavior simply cannot persists long-term without a crash. Of course, wise spending is good, just like appropriate eating. Remember, there is no direct conflict with frugality and capitalism. Frugal people are consumers too but would rather just spend their money wisely instead of being wasteful, even if it means purchasing something that has greater total costs but also has greater value. My friend over at Eliminate The Muda is the perfect example. Earlier this week, he wrote of buying the more expensive Kodak printer ink because it reduced their overall printing costs per page. That epitomizes the thought process most frugal people go through, and such spending not only stimulates the economy but ALSO will persist during boom AND bust cycles. Indeed, if we were all more frugal, I submit to you that we would eliminate so much of the volatility associated with our economy. Frugality would drive innovation and prove to be a more stable long-term economic model.
How Well Is the Economy Doing Anyway?
We have been hearing mummers of a possible double-dip recession for several months now, even from prominent economists such as Dr. Nouriel Roubini. Unemployment is still in the double digits. Interest rates are still ridiculously low (good if you are a borrower but bad if you are a saver). We really don’t know what the real estate market looks like because it has been propped up so much by the stimulus. While I certainly don’t mean to promote doom and gloom, I just want to echo the admonishment to be cautious and don’t just blindly accept the sound bites that the economy is doing well. While it is certainly doing better than it was prior to March 9th, 2009, consider the comparison. It’s easy to do better than last year when asset values dropped off a cliff between October 2008 and March 2009, so such comparisons are not saying that much in most cases.
Lastly, I know that because the savings rates are so low, the obvious interest income incentive is gone. I have accounts that were earning over 5% APR now at 1%. However, consider another benefit of saving: economic stability. As the last market correction appears to have shaved off between 6-9% of the Dow, such stability is a welcome change.
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Copyright 2012, Roshawn Watson, Pharm.D., Ph.D. All Rights Reserved.
You covered a lot of interesting ground here. I tend to agree with you on the stability factor with savings. I would rather earn 1% than risk losing 10% or more. If you're willing to do a little leg work and you have the time horizon, you can achieve higher rates with longer dated CDs (GICs here in Canada).
@Balance JunkieSome savings is essential for a plan for financial security. I guess I don't use CDs because of the whole liquidity issue. However, if you do a little CD laddering, even the liquidity issue can be overcome. GICs (I never heard of those), it's good to learn about financial vehicles from other countries. Thanks for the comment and RT.
Indeed…although an increase in savings might hurt the US economy in the short term, one can't help but think the deleveraging is an absolute must for the long term health of the world economy.
Shawn, Really interesting commentary. It's kind of a sociological, psychological, and economic question. I think balance is the answer to most questions! Best regards, Barb Friedberg
At the end of 2009 a lot of people were really afraid as the financial system seemed to be going off a cliff and therefore saving shot up. Now the economic data is much better and the economy is even adding jobs so people are more comfortable spending. Two points: first I would never worry about the American consumer because there are many great goods and services to buy and advertisers are geniuses at getting people to buy things. Secondly, the end game of indiscriminantly using credit that we witnessed in 2008/2009 will have some long-term effect – it just won't be as great as economists predict.
@JiggyJigsDeleveraging is certainly a must for the long-term fiscal health. Otherwise, we keep on going through these cycles of booms and busts. The product of these busts is often horrible for everyday people. To lose roughly 26% of your net worth over the course of a few months after you have worked hard and wisely for decades is tough for anyone to swallow and is preventable. I do believe we would have much greater prosperity if we moved away from the debt.@Barb Friedberg I agree that a healthy balance is necessary. My biggest concern is that sometimes a temporary imbalance is warranted depending on your goals. All too often people use balance as an excuse to be sloppy when what they really need is temporary discipline to get their lives in order.@DIY Investor People do feel more comfortable spending more and saving less now, but I guess my real question is should they? If your finances are great, then by all means spend. However, if you don't have a solid foundation, then your first priority should be to build one. Yes clever advertisers really are in a class by themselves. Additionally, it takes people a while to get the lessons, so the continuation of the credit card spending cycle is likely inevitable.
One observation: we (unfortunately) make our financial decisions based on emotion and not principle. When in a recession, we save because of fear, but the slightest good news of recovery eases the fears and we start spending. If we could exhibit more character, the yo-yo economy might stabilize.
Is it really fear though when you increase your financial reserves based on reading the writing on the wall? The storm did happen, and your family was safer because of it. I consider that wise adaptation personally. Small disclaimer, I did increase my liquidity (tremendously) and almost completely got out of stocks in January 2008. In short, I'm very biased.
Yes, it is fear, but in the case of reading the writing on the wall, I would call that a healthy fear. If I am driving down the highway and another vehicle swerves toward my lane, I will have some healthy fear! But you still acted out of principle. My concern is people spending what they can't afford when the fear subsides. That is lack of principle. For years before the recession our national savings rate hovered around 0%. That too is lack of principle. How can people develop the character to save when not motivated by fear?
I really don't distinguish between healthy and unhealthy fear; however, I get your point. In my case, I liquidated stocks because I didn't want to risk losing money that I designated to pay off my student loans. Our increase in liquidity makes sense with respect to our lives because our careers are both in transition. However, I could have done these same things out of healthy (reading the writing on the wall) or unhealthy fear, as you suggest. Perhaps the problem is this type of fear is temporal, so when the threat is gone, so is the behavioral modification.I would rather people operate in faith to reach those important goals. Pay off my house, generate monthly passive and portfolio income, build a small business with 30 employees, etc. These goals require character and don't have to be based in fear.
Roshawn:You cover some good points.Reiterating the economic outlook, there's too many mixed signals and indicators moving in opposite directions.There's no incentive to save. Like you point out in the end, it's almost a better bet to become debt-laden with cheap credit and hope for another price-appreciation boom vs. saving diligently and earning meager returns.Whether it's dieting, emotions, global aide, political policy, or saving – we're too "knee jerk" and reactionary. Near-sighted in our horizon and short-stacked in our projections…If you're ever looking to guest post – please let me know, I'm enjoying your posts.
I hate that the incentive to save is lacking nowadays. The credit crunch is the blame, so debt is cheap IF you qualify. We are too reactionary, but herd mentality is just so common. I think one of my favorite sayings is that if you hear a lot of people are doing something financially, then they are typically wrong because most people are broke. Case and point, during the dot-com & real estate bubbles, right around the time everyone started getting into these businesses was when the professional investors were getting out.Thanks for GP offer. I like your blog. If I can think of something that fits, I'll gladly offer it.
With Canada being the first G7 nation to start to raise interest rates, there's some hope on the horizon for savers to get a better return. The market craziness will scare some people into building up cash position, But the interest rate environment right provides more incentive to borrow and consume than to save.
That's encouraging news for savers, but discouraging news for borrowers (i.e. people looking to buy that next home). I guess you can't expect for mortgage rates to stay at a historical low for too long. I personally don't have a problem with a good cash position from a risk management standpoint as long as you are doing the other necessary steps (investing, eliminating and avoiding debt, etc).In terms of the borrow and consume mentality, that's how the world got into this trouble in the first place. Unfortunately, learning a lesson from all of this may be too much to ask.All the best,Shawn
Interesting that spending is up and saving is down. I think we should see what the numbers are in the next report before we declare a definite trend.I do think a double dip recession is in the cards, Shawn.Best,LenLen Penzo dot Com
With some of the economic indicators improving(some job growth & housing stabilizing), I am hoping that we can avoid a double dip recession. Heck, even new car sales are increasing even if the price per unit isn't as high. It's too early to tell, which is at the core of your comment. Thanks for the comment
Anecdotally, I have talked to enough folks who have been really hit by the economic troubles of late, who are operating much differently with their finances than in the past. It has almost become "cool" to be frugal.I suspect that some of these folks will stay that way, but many others have pent up demand for materialistic pursuits that will be unleashed once their individual economic situations improve.There's that saying that basically says the definition of insanity is doing the same thing over and over again and hoping for a different result. Apparently, using that viewpoint, sanity as prevalent as it would seem!
It's interesting that you mention lasting frugality because just last week we discussed how savings is down and spending is up despite 26% of people believing that their frugality would be long-term. As soon as the economy showed a glimmer of sunshine, there were plenty who were lined up to spend.I am glad for your friends & hope that they have mended their ways. I hope that frugality has indeed enriched our culture, but only time will tell if fiscal responsibility has made a lasting cultural imprint.Many Regards,Shawn