Why Does Saving Jeopardize the Recovery?

[skeptic2]

Currently there are news reports that the public's rate of saving has risen faster than its rate of spending thus jeopardizing the recovery. I'm not an economist and fail to understand to understand why saving would jeopardize the recovery.

If a bank's reserve requirement is 10% and I deposit $1000 in my bank, won't the bank then be able to lend $9000 and stimulate the economy much more than had I spent the $1000?

 

[Ivan Seeking]

Currently there are news reports that the public's rate of saving has risen faster than its rate of spending thus jeopardizing the recovery. I'm not an economist and fail to understand to understand why saving would jeopardize the recovery.

If a bank's reserve requirement is 10% and I deposit $1000 in my bank, won't the bank then be able to lend $9000 and stimulate the economy much more than had I spent the $1000?

It is called the paradox of thrift.

The paradox of thrift (or Paradox of Saving) is a paradox of economics propounded by John Maynard Keynes. The paradox states that if everyone saves more money during times of recession, then aggregate demand will fall and will in turn lower total savings in the population because of the decrease in consumption and economic growth.

http://en.wikipedia.org/wiki/Paradox_of_thrift

 

[skeptic2]

Thanks

 

[Ivan Seeking]

Note also that right now banks are hoarding their money due to a lack of capitalization - the credit crisis. So putting money into savings is no guarantee that the bank will loan money as a result. This is the lesson learned from the first distribution of bailout money.

 

[mheslep]

That's just passing the buck (hah, haha). Who's the bank to lend to if all their possible borrowers are, like you, saving and not spending/borrowing? Or, worse, the bank takes your deposit, believes that for the moment all the world's full of deadbeats, and buys US Govt. bonds instead of loaning it to consumers.

Of course savings is a good thing too; the US savings rate has been far too low. The problem is in the timing: correcting that imbalance in a recession tends to prolong the recession. Edit: originally per Keynes as IvanS pointed out.

 

[skeptic2]

I've also heard that it is difficult to get car loans or business loans, so there must be people out there who are trying to get loans but can't.

 

[skeptic2]

Also from the reference to the "Paradox of Thrift"

Second, and perhaps more important, "savings" represent loanable funds; an increase in the supply of loanable funds tends to lower interest rates and stimulate borrowing, and so a decline in consumable goods with a short time horizon is offset by an increase in production in sectors with longer time horizons. The demand for personal electronics, as an example, may decline, but the demand for such things as real estate may be stimulated by favorable borrowing conditions.

 

[Proton Soup]

people should be saving money. truth is, they should have been saving all along, then we might not be having this crisis. the call to SPEND! SPEND! SPEND! is only great if you're one of the cockroaches feeding on the public. but now that people have put two and three mortgages on their homes to pay off credit cards that they used to buy worthless crap that has mostly ended up in some landfill by now... they're totally SPENT.

people need to save. leave them alone.

 

[Astronuc]

The consumer economy is adjusting.

Americans' saving more, spending less
http://news.yahoo.com/s/ap/20090201/ap_on_bi_ge/savings_frugal_society

WASHINGTON – Americans are hunkering down and saving more. For a recession-battered economy, it couldn't be happening at a worse time.

Economists call it the "paradox of thrift." What's good for individuals — spending less, saving more — is bad for the economy when everyone does it.

On Friday, the government reported Americans' savings rate, as a percentage of after-tax incomes, rose to 2.9 percent in the last three months of 2008. That's up sharply from 1.2 percent in the third quarter and less than 1 percent a year ago.

Like a teeter-totter, when the savings rate rises, spending falls. The latter accounts for about 70 percent of economic activity. When consumers refuse to spend, companies cut back, layoffs rise, people pinch pennies even more and the recession deepens.

The downward spiral has hammered the retail and manufacturing industries. For years, stores enjoyed boom times as shoppers splurged on TVs, fancy kitchen decor and clothes. Suddenly, frugality is in style.

Grace Case, 38, of Syracuse, N.Y., is a self-described recovering creditaholic. For 13 years, she charged it all — cars, clothes, repairs, vacations. She'd make only the minimum card payments to sustain her buying spree for her and her family, which includes her husband and two children.

But after being laid off 2 1/2 years ago from her job as an accountant, she landed another accounting job that cut her salary from $60,000 to $40,000. It was impossible to meet minimum payments on her card balances.
. . . .

If one maximizes the credit line and persistently makes minimum payments, the interest rate is usually raised to maximum, which means one pays a large amount of interest. Case's situation may be all too typical these days.

I have to wonder how many people pay more in interest than taxes.

If the US economy were really prosperous, would taxes or the tax rate be such a big deal?

 

[BobG]

Timing is everything.

When the economy is going good and everyone's making lots of money, you should be saving some of that money for the bad times.

Then, when the economy is going bad and no one's making much money, you still have some money saved that you can spend.

Unfortunately, the average person does just the opposite.

Of course, that's based on the idea of personal responsibility. You take care of yourself by how you save, how you borrow, how you buy insurance, etc.



If you believe in community responsibility instead, you don't save - your friends will help you when you have tough times (just as you help your friends in their tough times); you don't buy insurance - your friends will help you rebuild your barn if it burns down (just as you help your friends when their barn burns down).

 

[mheslep]

...

If the US economy were really prosperous, would taxes or the tax rate be such a big deal?

http://en.wikipedia.org/wiki/File:Laffer-Curve.svg

 

[Ivan Seeking]

That's just passing the buck (hah, haha). Who's the bank to lend to if all their possible borrowers are, like you, saving and not spending/borrowing? Or, worse, the bank takes your deposit, believes that for the moment all the world's full of deadbeats, and buys US Govt. bonds instead of loaning it to consumers.

I don't think there is any disagreement that both are happening. Banks are even afraid to loan to each other; hence the coming "Bad Bank", which is intended to relieve banks of bad paper and reestablish the flow of credit between institutions as well as to consumers.

 

[Proton Soup]

I don't think there is any disagreement that both are happening. Banks are even afraid to loan to each other; hence the coming "Bad Bank", which is intended to relieve banks of bad paper and reestablish the flow of credit between institutions as well as to consumers.

do we have to call it Bad Bank? why not something more happy, like Forfeitures Clearinghouse?

 

[Ivan Seeking]

do we have to call it Bad Bank? why not something more happy, like Forfeitures Clearinghouse?

LOL, I like it!