Do people save money? - By Frank Shostak

Do People Save Money?

Is it true that individuals are saving a portion of their money income? Do people save money?

Out of a given money income, an individual can do the following: he can exchange part of the money for consumer goods; he can invest; he can lend out the money (i.e., transfer his money to another party in return for interest); he can also keep some of the money (i.e., exercise a demand for money).

At no stage, however, do individuals actually save money.

In its capacity as the medium of exchange, money facilitates the flow of real savings. The baker can now exchange his saved bread for money and then exchange the money for final or intermediary goods and services.

What is commonly called "saving" is nothing more than exercising demand for the medium of exchange (i.e., money). This means that people don't actually save money but rather exercise demand for it. And, when an individual likewise exchanges his real savings for money, he in fact only increases demand for money. The money he receives is not income; it is a medium of exchange that enables the individual to secure goods. In the absence of final consumer goods, all of the money in the world would be of little help to anyone.

Consider the so-called helicopter money case: the Fed sends every individual a check for one thousand dollars. According to the NIPA accounting, this would be classified as a tremendous increase in personal income. It is commonly held that, for a given consumption expenditure, this would also increase personal savings.

However, we maintain that this has nothing to do with real income and thus with saving. The new money didn't increase total real income.

What the new money has done is set in motion the diversion of real income from wealth generators to the holders of new money. The new money that the Fed has created out of thin air prompts exchanges of nothing for something. Consequently, wealth generators have less real wealth at their disposal — which means that the process of real wealth and savings formation has weakened.

In the helicopter example we have a situation in which, for a given pool of real savings, an increase in nonproductive consumption took place. (By nonproductive consumption we mean consumption that is not backed up by the production of real wealth.) This means that the real savings of wealth generators, rather than being employed in wealth generation, is now being squandered by nonproductive consumption.

From this, we can also infer that the policies aimed at boosting consumer spending do not produce real economic growth, but in fact weaken the bottom line of the economy.

In the NIPA framework, which is designed according to Keynesian economics, the more money people spend, all else being equal, the greater total income will be. Conversely, the less money is spent (which is labeled as savings), the lower the income is going to be. This means that savings is bad news for an economy.

We have, however, seen that it is precisely real savings that pays — i.e., that which supports the production of real wealth. Hence, the greater the real savings in an economy, the more are the activities that can be supported.

What keeps the real economic growth going, then, is not merely more money, but wealth generators — those who invest a part of their wealth in the expansion and the maintenance of the production structure. It is this that permits the increase in the production of consumer goods, which in turn makes it possible to increase the consumption of these goods.

Only out of a greater production can more be consumed.

Can the State of Savings be Quantified?

What matters for economic growth is the amount of total real savings. However, it is not possible to quantify this total.

To calculate a total, several data sets must be added together. This requires that the data sets have some unit in common. There is no unit of measurement common to refrigerators, cars, and shirts that makes it possible to derive a unified "total output."

The statisticians' technique of employing total monetary expenditure adjusted for prices simply won't do. Why not? To answer this, we must ask: what is a price? A price is the amount of money asked per unit of a given good.

Suppose two transactions were conducted. In the first transaction, one TV set is exchanged for $1,000. In the second transaction, one shirt is exchanged for $40. The price, or the rate of exchange, in the first transaction is $1,000 per TV set. The price in the second transaction is $40 per shirt. In order to calculate the average price, we must add these two ratios and divide them by 2. However, it is conceptually meaningless to add $1,000 per TV set to $40 per shirt. The thought experiment fails.

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Conclusions

According to latest US government data, the personal saving rate jumped to 4.6% in June this year after settling at 0.4% in June last year. We suggest that on account of an erroneous methodology, the so-called "saving rate" that the government presents has nothing to do with true savings.

Since early 1980s, the ever-rising money supply and government outlays have severely undermined the process of real savings formation. As a result, it will not surprise us if the US pool of real savings is in serious trouble. If what we are saying is valid then it will be very hard for the US economy to grow, for it is a growing pool of real savings that makes economic growth possible.

Furthermore, the growing pool of real savings is the reason that loose monetary and fiscal policies appear to be working. In reality, however, all that these loose policies achieve is a further depletion of the pool of real savings — thus reducing prospects for a genuine economic recovery.

- Frank Shostak, What is the Condition of U.S. Savings? 8/20/2009