We Can’t Keep Spending Like This

The chart below should make you nervous. Updated with data released on Thursday by the Bureau of Economic Analysis, it shows that the U.S. personal saving rate dropped in October to 2.3 percent. How low is that? Since 1959 there has been only one month when the saving rate was that low or lower. (That was July 2005, when the housing bubble had people feeling flush and the rate dipped to 2.1 percent.)

I’m not here to get moralistic about profligacy, especially with the holiday shopping season in full swing. Instead I’ll just explain why the chart matters: The decline in the saving rate — and the mirror increase in the spending rate — has been pumping up business profits. Americans have been taking the wages they get paid by business and pumping almost all of them right back into the business sector by buying cars, food and Baby Spelling Bee One-Pieces.

When companies are profitable they hire, invest and produce more and the economy chugs merrily along. The lower the saving rate, the higher profits are, other things being equal, this primer by the Jerome Levy Forecasting Center explains.

But the saving rate can’t keep falling forever. October may in fact have been the nadir, or close to it. The saving rate — defined as the percentage of disposable (after-tax) personal income that is saved — is likely to rebound to at least 5 percent by the end of 2023, according to a Nov. 22 report by the Levy Center, an economic consulting company, titled “U.S. Consumer Time Bomb Ticking Down.”

One reason that consumers have been able to get away with spending rather than saving is that they built up a cushion of savings during the pandemic. They spent less while stuck at home, and they got $1.5 trillion in stimulus checks and other aid. But that cushion is shrinking, according to a recent analysis by staff economists at the Federal Reserve. This chart is drawn from the Fed report:

“Excess savings” in this context doesn’t mean “excessive”; it just means above the historical trend. The good news from the chart is that Americans still do have excess savings, which are a buffer against rising prices and the risk of job loss. But the Fed authors — Aditya Aladangady, David Cho, Laura Feiveson and Eugenio Pinto — write, “we expect savings to continue dwindling rapidly as fiscal support is now in the rearview and households return to relying on labor earnings and any remaining savings to finance spending.”

You can imagine two opposite reasons for the low saving rate. The sunny explanation is that people are feeling so flush that they don’t feel the need to save as much as usual. The darker explanation is that people are struggling to maintain a standard of living that they can no longer afford. In reality, there are probably both kinds of people in the mix. Those who have felt flush will be feeling less so. Those who reduced saving to maintain spending won’t be able to keep that game going forever.

An October report by Bank of America Institute, which studies anonymized data of the bank’s own customers, concluded that the drawdown of excess savings was happening faster among lower-income households. But there’s been no big jump (yet) in the share of households whose income is substantially below their outgo, the report found. If the current rate of drawdown doesn’t change, sums in checking and savings accounts will be back to normal in about a year for lower-income households and two or three years for upper-income households, David Tinsley, a senior economist at Bank of America Institute, told me.

For upper-income households, the bull market in stocks through the end of 2021 was far more important than stimulus checks, according to Michael Englund, chief economist of Action Economics in Boulder, Colo. Stocks have fallen this year at the same time as fiscal stimulus has waned and interest rates have risen. Given all those factors, “I’m assuming we’re near bottom for consumers’ willingness to spend more than they earn,” Englund told me.

David Levy, the chairman of the Levy Center, wrote in his organization’s November report that it’s “misguided” to think that the savings built up during the pandemic will be available to support spending if the economy deteriorates. Much of the money has been absorbed into long-term savings or used to pay down debt and is therefore no longer available as “extra spending money with a hair trigger,” Levy wrote. He wrote that the savings rate could get as high as 7 percent next year, which would be roughly the average of the decade ending in 2019. A spending retreat of that magnitude would cause “serious-to-severe recessionary profit declines,” he wrote.

Concluded Levy: “The reality is that the economy is in a bind without a plausible means of escape.”

The Readers Write

I very much enjoyed the Nov. 18 edition of the newsletter discussing spatial inequality. One way the U.S. might support sluggish regions is through its tax system — an approach Germany, Australia, Canada and India have used to great effect. Lawmakers could, for example, declare that corporations won’t pay federal taxes on profits made in underresourced areas, using a formula which also accounts for wages paid in those areas. While the tax code might not be the first tool people think of when considering regional inequality, it’s a potentially vital one.

Reuven Avi-Yonah
Ann Arbor, Mich.

The writer is a law professor at the University of Michigan specializing in taxation.

Quote of the Day

“In a theater, it happened that a fire started offstage. The clown came out to tell the audience. They thought it was a joke and applauded. He told them again, and they became still more hilarious. This is the way, I suppose, that the world will be destroyed — amid the universal hilarity of wits and wags who think it is all a joke.”

— Soren Kierkegaard, “Either/Or” (1843; edited and translated by Howard V. Hong and Edna H. Hong, 1987)

Have feedback? Send a note to [email protected].