High U.S. savings rate has an upside and a downside

By Money Matters Editors

In financial/business circles, a discussion of the U.S. savings rate is little like what writer Mark Twain said about the weather: 'Everyone talks about it, but no one ever seems to be able to do anything about it.'

Well, here’s what investors need to know about the U.S. savings rate: according to the latest U.S. Commerce Department data, the savings rate in July remained high at 4.2 percent, and long-term that’s good for the U.S. economy. The reason? It’s part of a process where Americans - who’ve seen their 401k and home values decline with the recession - begin to rebuild their nest eggs. The increased savings rate also will provide a larger pool of capital for investment- something that will keep interest rates lower than where they would be with a low savings rate, and that will make it easier for businesses to access capital to expand operations and investment in equipment.

'Frugal consumer': long-term trend?

Short-term, however, there’s a downside for the U.S. economy. Americans’ new ‘frugal consumer’ trend will result in dampened consumption, and this unwillingness of the consumer to spend will put a cap on GDP growth, again, at least short-term. In a frugal consumer era, it’s highly unlikely that U.S. GDP will increase as much as it historically has done at the start of an economic recovery. And that 'new normal' will also likely result in fewer new jobs, and also weigh on corporate revenue and earnings, particularly in the retail sector.

Further, it remains to be seen whether the high savings rate represents an enduring trend, or just a short-term phenomenon compelled by a decade of U.S. overconsumption caused by excessive debt (primarily home refinancings and home equity loans). If it’s a long-term trend - if Americans continue to saving more than roughly 5 percent of their disposable income annually - that would suggest that the U.S. will have to undergo another structural change, in addition to the structural changes already being prompted by globalization.

What would that additional structural change be? Undoubtedly it would mean that millions of jobs in the retail sector, as well as in other sectors (such as manufacturing, financial services) will be shed as the U.S. economy becomes  more-focused on production, quality of life, and infrastructure concerns, and less on consumer goods. That transition will take at least a decade and will not be without pain, but ultimately it will lead to a more-productive, more-capital-rich, and balanced U.S. economy - one capable of sustainable economic growth.