Is Savings and Investment Part of the Solution or Part of the Problem? (Part 3)

8/8/2019 Is Savings and Investment Part of the Solution or Part of the Problem? (Part 3)

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David Collett 2010 ANCHORAGE INVESTMENTS

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Part III: The Dominant Causes of the Credit Crisis

Is Savings and Investments Part of the Solution or Partof the Problem?

September 2, 2010by David Collett

Over the last few months there seems to be a growing awareness that the worldeconomy has come up against an invisible wall. No matter how hard mainstreameconomists and other market commentators try to identify and explain what themissing piece of the puzzle is, the solution to the economic crisis seems to evadethem.

Many of them however, continue to stress the need for increased savings andmore investments, yet they are at pains to identify the source for further growthin demand that would be required to absorb any increase in production. Theaverred low savings of America and corporate Americas unwillingness tocommit its substantial cash resources to more investments are heavily criticized.The case for increased savings and investments was summarized as follow by aguest on one of the popular TV business channels: We should consume less andproduce more. Could this really be a sensible solution for an economy that has alack of demand and not of supply?

Growing debt and its impact on households balance sheets is also a popularsubject for discussion. A catch phrase that is often used to stir up American guilt,especially with regard to public debt, is that the debts we accumulate today willhave to be repaid by our children in future. In addition, a lot of emphasis isplaced on the demands of debt holders.

In our opinion, the search for the missing piece of the puzzle will be ineffectiveunless we pursue the dominant and originating causes of the Credit Crisis.Similarly, its important to put the issues related to savings, debt and investmentinto proper context. This blog is the third in a series of blogs where we try to

unravel the dominant and originating causes of theCredit Crisis.

Could a savings glut be one of the originating causes of

the Credit Crisis?

How do we measure or define savings? The measurement most commonlyreferred to is the personal savings rate (PSR). The PSR is calculated as the

difference between disposable (after tax) personal income and personal outlays
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(mostly consumption expenditure), expressed as a percentage of disposableincome.

The PSR charts are often used to demonstrate that the United States savingsrate has dropped precipitously from around the early 1980s. This decreasing

savings pattern was considered a huge problem for Americas economicwellbeing in the years preceding the Credit Crisis of 2008. These days, marketcommentators tend to blame the increase in PSR for the timid recovery of theeconomy. The chart below is typical of the charts which are used to demonstratethe decrease in the personal savings of Americans.

Courtesy ofSaschaMeinrath.com

There are many ways to measure savings but none of them are foolproof. Forexample, the data used to calculate PSR was changed several times as shown bythe graph below where the blue line represents the original measurement andthe red line the current measurement. Michael Mandel, who wrote the article AFun Fact About the Savings Rate (Bloomberg Businessweek), stresses thatsavings is a residual of disposable income and consumption and if any of these

items are subsequently revised, savings will automatically be affected. Accordingto him the savings rate has been changed since it was first published in the1980s. For example, in 1981 the savings rate was reported as 5.3% ( blue line)but it was subsequently adjusted to 10.9% (red line). Economists and journalistsat the time bemoaned the low savings rate, says Mandel, and emphasizes thatstatistics like savings rate are prone to large revisions.
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Courtesy of Bloomberg Businessweek

There are valid objections against the methods used to measure savings. Somemeasurements exclude capital gains (realized and/or unrealized); others countpension fund contributions as an expense instead of a saving; and some excludeinterest payable, durable consumer goods and housing purchases. However,none of the above criticisms make the measurement and reporting of savingsirrelevant, as long as the user knows that each method of calculating savings or

the savings rate has its shortcomings.

In Part I and Part II ofTheDominating Causes of the Credit Crisis,we stated thatgrowing wealth inequality led to the accumulation of savings (or capital) in thehands of a small percentage of households at the top of the wealth ladder. Wefurther argued that such accumulation of savings became excessive in the sensethat it exceeded the capital required for investment in production capacity tosatisfy the demand for goods and services or the amount of savings that could besafely channeled to the consumer by way of credit. Savings therefore had tocompete for limited investment opportunities, thereby forcing down the

expected rate of return on investment. Now how do we reconcile this argumentwith the case of a country where its savings, according to most reports,decreased so fast over the last three decades? As said before, some of the reportson savings rates have significant deficiencies, but to get to the heart of thematter, one must have a closer look at the distribution of savings betweenhouseholds.

Savings of Households by Income Group

Analyzing the Consumer Expenditure Surveys done by the US Department of

Labor from 1984 onwards, it is clear that the savings pattern in the United Statesvaries significantly between households from different income groups. Table A
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below reflects the annual income, spending and savings patterns of householdsaccording to income earnings. The households are divided in two groups; thefirst group represents the bottom 80% of income earning households and thesecond group represents the top 20% of income earning households.

The aggregate average income, expenditure, savings values and PCR for thebottom 80% is compared to the top 20% in the top part ofTable A. The data hasthe following characteristics: capital gains are not included in income; pensioncontributions are included as an expense and only net annual outlays on housingand transport vehicles are deducted as expenses.

Table A

Source: US Department of Labor

The above data reveals a number of important trends and patterns. Its clear thatthe top income groups increased their savings substantially from the early1980s, while the bottom 80% made ample use of their savings to keep up theirconsumption spending. If one would have included capital gains, which mainlyaccrued to the top 20% group, the difference in savings rates between the

bottom 80% and top 20% would have been even more pronounced. The chartbelow reflects the increasing savings rate of the top 20% and how it acceleratedfrom 1996 (19.5%) to 2008 (35.6%).

$ % $ % $ %

Income after tax top 20% 49,871 47 83,000 48 150,692 49

bottom 80% 56,203 53 91,152 52 158,015 51

Total after tax income 106,074 100 174,155 100 308,707 100

Expenditure top 20% 41,825 37 66,794 38 97,003 38

bottom 80% 70,838 63 111,062 62 155,346 62

Less Total expenditure 112,663 100 177,856 100 252,349 100

= Total savings of all households -6,589 -6.2 -3,701 -2.1 56,358 18.2

Savings per group top 20% 8,046 16.1 16,209 19.5 53,689 35.6

bottom 80% -14,635 -26.0 -19,910 -21.8 2,669 1.6

Estimate Savings for Households by Income Group

Survey year

I t e m 1984 1996 2008


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Source: US Department of Labor

Secondly, despite the fact that the 80% group shared in less than 54% of totalincome, they contributed to more than 61% of total expenditure. In order toachieve this, they had to draw upon their savings or make use of significantamounts of credit. Furthermore, although their share of total income dropped by2% from 53% to 51%, the bottom 80% hung tough by dropping only 1% on the

consumption side. In the fifties and sixties the bottom 80% received well inexcess of 55% of total income. Unfortunately, we could find no reliable data todetermine comparative ratios for consumption but based on a steady increase inPSR and relatively small growth in debt in the 1960s, the bottom 80%households share of consumption was probably lower than 61%. In False GodsFleece the Faithful, the significant influence of these changes on the economy isexplained by way of an economic model; showing why it leads to an imbalancebetween supply and demand and why the debt of the bottom 80% tends toincrease towards unserviceable levels.

Using Net Financial Investment as a Tool to Measure Savings

Some economists argue that one ought to use the item net financialinvestment (NFI) to measure PSR. This approach has considerable merit as itmeasures the extent to which households are net demanders of funds or to whatextent households supply funds to the rest of the economy. In simple terms; theincrease in liabilities of households that consist mainly of mortgage finance andconsumer credit, is deducted from the aggregate investments into financialassets (equity, deposits, pensions, corporate bonds etc.) to determine the NFI. A

positive NFI balance means that households are net suppliers of funds and anegative NFI means households are net users of funds.

0

5

10

15

20

25

30

35

40

Increasing Savings Rate for the Top 20%

1984

1996

2008
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Paul L. Kasriel, Director of Economic Research from The Northern TrustCompany wrote an insightful article on savings and other economic data forhouseholds in the United States. He points to the historical trends of NFI,showing that since World War II households generally contributed funds to the

economy and that this trend only changed in 1999 when households for the firsttime became net demanders of funds from the economy. This new trend, asshown by the chart below, continued until 2007 when households once againbecame suppliers of funds to the economy.

Courtesy ofSafehaven.com

One of the main reasons for households becoming users rather than suppliers offunds from the late nineties to 2006 was mainly due to the steep increase in theirdemand for mortgage finance. Not only did it contribute to the formation of ahousing bubble, but it also gave impetus to greater consumer spending byenabling consumers to extract cash from growth in home equity.

Other factors may have also played a role in the steep decline in NFI from 1999to 2000. Part of it could be attributed to higher personal taxes, higher spendingand bigger than usual discrepancies in the US Flow of Funds Account (FFA). Theabove chart is not inflation adjusted, but the graph below where the NFI is

reported as a percentage of disposable income, confirms the basic downwardtrend.
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Source: US Flow of Funds Account

Other limitations of the above NFI charts are that they neither reflect the annualcapital gains in the value of financial assets, nor do they distinguish between thevarious wealth groups (either by income or net worth) supply of or demand forfunds. However, they do demonstrate that US households as a whole were majorsuppliers of funds to the economy, especially from the 1970s and that this trendchanged abruptly from the late nineties to 2005. It raises the followingquestions:

1. Does this imply that US families overspent across the board from the latenineties through to 2007?

and/or

2. Does it refute the argument of a savings glut, over investment, overlending and lower return on investment?

The answer is no to both of these questions. The saving patterns for variouswealth groups were different over this time period and as shown inFalse Gods

Fleece the Faithful,the growing divide in income distribution tends to lead to asituation where the middle and lower income groups will borrow more while thetop income groups will save more. Over short periods of time, like during thehousing bonanza in the United States, the NFI (excluding unrealized capital gains)may turn negative, but in the longer term the NFI was bound to turn positiveagain.

We will now look at the growth of the nations (all households) balance sheetstarting from 1962 through to the 1st quarter of 2010. In addition to the balancesheet for all households, we will also analyze the balance sheets of the bottom80%, top 20% and top 1% by net worth separately.
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The Balance Sheets of US Households as an Indicator of Savings

In dissecting and evaluating the balance sheet of American households, it isimportant to grasp the concept that the vast majority of US assets, whetherfinancial or tangible, are directly or indirectly owned by American households.Americans held 84% of all corporate equities (directly or indirectly) in 2005,while foreigners held around 10%. The owners of the remaining 6% areunknown but the major share probably belonged to federal and stategovernments and government agencies. The implication of this ownership ofequity and other forms of financial assets is that US households have a majorityinterest (indirectly) in the assets of all American business institutions andcorporations. Insofar as households are not the owners of corporate bonds,deposits or other credit market instruments, they also have an indirect interestin these assets via their ownership of equity. As these institutions and businesses

prosper, US households will prosper in tandem. Also, the major portion of everyloan made by US banks, lending institutions or bondholders, is indirectlyowned by American households. If one assumes a theoretical situation, whereall these corporations and institutions liquidate their assets simultaneously, themajority of proceeds (after setting off liabilities) would ultimately be returned ordistributed to US households. The US households combined balance sheets aretherefore a good reflection of Americas total wealth.

In order to make a sensible judgment on the economic health of Americanhouseholds balance sheet (BS) and its savings, its necessary to look at how theBS of each wealth group (bottom 80%, top 20% and top 1%) has developed over

time. Of specific interest is each groups demand for funds or its supply of fundsto the economy. Insofar as capital gains on financial investments are not realizedby households, or corporate profits have not yet been distributed to householdsat BS date, one can assume that much of these gains or undistributed profitsare reflected on the asset side (at market value) of the household BS. Thus,increases or decreases in the value of households NFI are fairly comprehensiveindicators of overall savings of the United States as a nation.

Let us for the moment deviate from savings and balance sheets to touch on theissue of debt. The top households of most industrialized countries supply most of

the funds or savings via NFI to their economies and are therefore the owners orholders (mostly indirectly) of most debt. Although many of these top householdshave little say in how their savings are invested or to what extent it is convertedinto complex debt instruments, they profit or suffer in tandem with theperformance of these debt instruments. Most economists and economic journalsrefer to the owners of debt as banks, creditors, bondholders or investors, often ina way that creates the illusion that they are aliens or unidentifiable debt objects(UDOs). The UDOs prerequisites or demands for supplying new credit orrefinancing old debt are often used to push the public and governments tochange policies that mostly favor the debt holders whose interests are oftenaligned with those of the wealthier households. Add to that the sentimental

argument mentioned earlier that the debts we accumulate today will have to be


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repaid by our children, and you are bound to secure massive public support forany suggested solution to reduce debt.

Let us describe a typical scenario that leads to a debt trap. The wealthierhouseholds (WH) are the ultimate owners of most capital, savings and debt,

whether directly or indirectly. Via their UDOs the WH will lend to consumers tobuy the goods and services produced by the vehicles in which they invested theirsavings. The credit to consumers will continue until their ability (mainly wageincome) to service their debts is overextended and their collateral (mainly homeequity) becomes insufficient to secure their debt. Upon a slowdown in theeconomy the WH will prefer to lend to governments, which is a more secureinvestment, in order to stimulate the economy and to improve their chance forrecovery of existing consumer debt. When government debts, however, grow tounsustainable levels the WH sense the pressure for higher taxes to balance thebooks. Knowing that they will most likely have to service the biggest part of anynew tax bill, they exert pressure on governments from their positions as UDOsto implement austerity measures which would require most sacrifices from themiddle and lower income households. As the public are in awe of UDOs, theirdemands are used to influence public opinion, even to the point where the publicwill support such austerity measures with enthusiasm. In the process everyconceivable economic argument on the un-sustainability of growing debt will beaired to support such policy changes. Of course, many of these arguments haveconsiderable merit, but it often comes down to intellectual dishonesty, as theidentity of the beneficial owners of debt is disguised, the average consumerremains oblivious to the causes of its dilemma and the alternatives available tothem are not explained in proper context.

In plain English the situation can be explained as follows

Due to increased productivity, we (all households) produced more withless, but for various reasons our (WH) investment vehicles(manufacturers, service providers, etc.) did not increase your (lowerincome households) wages in step with the rise in productivity. Your badluck was our good fortune and we (WH) accumulated more profits,savings and capital, much of which we reinvested to produce more goodsand services. Over time you became less and less able to buy all the goodsand services we produced. But we did not let you down; because we gaveyou credit (via the UDOs) to buy things that you could never afford before.Simultaneously, our fortunes grew with the increase in your consumption,making both of us very happy. With a little encouragement ourgovernments lowered taxes from the early eighties that increased yourdisposable income. Due to big decreases in high marginal tax rates andespecially lower rates for capital gains, we benefitted even more than you.But we saved most of our gains and that enabled us to produce more andlend more to you so that you could buy more. Once again, that made all ofus happy.

Unfortunately it was also during this period that many governmentsstarted to accumulate debt. At the time, we didnt mind because it helped


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to stimulate the economy. But the party had to end some day as your debtreached unsustainable levels. Our UDOs said; Sorry chaps, no morecredit for you; but dont lose hope as we will now lend to governments sothey can help you and us by stimulating the economy. Unfortunately,government stimulus did not have the desired results it created few

jobs, your income has not increased much and most of you remainineligible for more credit. Furthermore, growing government debts havebecome unsustainable because the gap between revenue and expenseshas become too wide. Our UDOs cannot continue to finance that gap.Basically, you, the governments and we have three choices or acombination thereof:

(i) households have to pay more taxes, or

(ii) the governments have to lend more, or

(iii) the governments have to implement austerity measures.

Our lending to governments is now fronted by UDOs. They limit theextent of lending to governments, while demanding more financialdiscipline. If governments raise taxes, we (WH) will have to pay thegreater part of such a tax bill, because we earn a great deal more than you that would be unfair. In any event, nobody wants to pay more in taxes. Itleaves us with austerity measures as the only alternative, which meansthat governments will have to cut services, cut your entitlements,decrease aid to the unemployed and so forth. After all, we all had a great

time, but you guys borrowed too much so we suggest you tighten yourbelts to pay for the excesses. If we dont recover our investments fromyou now, we fear your children will not be able to repay ours in future.

Lets get back to savings and the balance sheets (BS) of American households.Below, we analyzed the balance sheet for the nation as a whole, the bottom 80%,top 20% and top 1% all measured in terms of net worth.


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Table 1

Sources: US Flow of Funds AccountsState of Working America

Table 1 shows that all categories of households supplied funds to the economyas the NFI (financial assets less liabilities) is positive for all groups. The above NFIhowever, is a cumulative total at a specific time. We will only be able todetermine Savings when we look at subsequent BSs as we calculate theincrease or decrease in the NFI figure over the relevant periods (e.g. 1962 -1983).

The item under the heading Savings Rate represents that portion of theincrease in households equity, that was saved over the relevant period asdefined under the NFI approach (Increase in NFI/increase in equity).

The item Increased Equity represents the percentage increase in equity fromone BS date to a subsequent one (e.g. 1962 1983).

Table 2 below shows the difference in the savings patterns between the bottom80% and top 20% households. While both groups equity grew by more than

400% over the 21 year period, the top 20% group saved 70% of the increase inequity, while the bottom 80% in effect dipped into its savings and used $62billion of funds.

Househo ld s 100% Bot t om 80% Top 20% Top 1%

Total Assets 2,262 588 1,674 672

- Residence 533 266 267 47

- Durable Goods 194 50 144 57

- Financial Assets 1,535 272 1,263 568

Less Debt/liabilities 256 176 80 19

= Owners equity 2,006 412 1,594 653

Debt/Asset Ratio 11.3% 30.0% 4.8% 2.8%

NFI 1,279 96 1,183 549

1962 Balance Sheet of Households ($billions)


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Table 2

Sources: US Flow of Funds AccountsState of Working AmericaWorking Paper no. 502: The Levy Economics Institute of Bard College

Table 3 below reflects the BS position as at end of 2004. When we compare the

second 21 year period (1983 2004) with the first 21 year period (1962 -1983),the divide in wealth accumulation between the bottom 80% and the top 20%becomes more pronounced. First, the growth in equity of the top 20% (377%) issubstantially higher than that of the bottom 80% (250%). Secondly, the top 20%still saved around 70% ($24 trillion) of the increase in the value of its equitywhile the bottom 80% had negative savings by taking $2 trillion from of theeconomy. Overall, however, households saved 55% ($22 trillion) of the increasein the value of their equity.

The bottom 80% groups debt to asset ratio also moved sharply higher from

30% in 1983 to 46.1% in 2004, while the top 20%s debt to asset ratio barelymoved from 8.0% to 8.7%. The best performer by far, however, was the top 1%group. Their debt to asset ratio actually declined from 5.3% to 3.9%.

When one compares the growth in equity values with the growth of theeconomy as measured by GDP (FFA) for the two periods of 21 years (1962 1983versus 1983 2004), two distinct trends are apparent. In the first 21 year period,the economy grew (503%) slightly faster than household equity (467%) but inthe second period household equity (353%) outpaced economic growth (218%)by a substantial margin. Why did the value of equity grow so much faster thanthe economy? One reason could be that the markets accepted a lower rate of

return. When savings compete for limited investment opportunities the rate ofreturn required by the market will tend to go lower, resulting in higher market


Total Assets 13,091 3,011 10,080 4,058

- Residence 3,606 1,803 1,803 320

- Durable Goods 1,175 270 905 364

- Financial Assets 8,309 938 7,371 3,374

Less Debt/liabilities 1,716 904 812 218

= Owners equity 11,375 2,107 9,268 3,840

Debt/Asset Ratio 13.1% 30.0% 8.0% 5.3%

NFI 6,593 34 6,559 3,156

Savings (62 83) 5,314 -62 5,376 2,607

Savings Rate 56.7% -3.6% 70.0% 81.8%

% Increased equity 467.0% 411.0% 481.0% 488.0%



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values for assets with the same income stream. Another reason could be thatmarkets anticipated higher growth. When the markets, however, come to theconclusion that it is unlikely that the expected growth will materialize, assetvalues may drop or even collapse.

Table 3

Sources: US Flow of Funds AccountsState of Working AmericaWorking Paper no. 502: The Levy Economics Institute of Bard College

Table 4 shows a huge divide between the fortunes of the bottom 80% and thetop 20%. The debt to asset ratio for the bottom 80% increased to anuncomfortable 53.6% while the top 20% and top 1% slightly improved theirdebt to asset ratios. Also, the top 20% increased their share of total equity of allUS households from 79.4% in 1962 to 88.2% in 2007. This trend continued asthe top 20% now (2010) owns more than 90% of all US household equity. The

top 1% also increased their share of household equity from 32% in 1962 to over38% in 2010. This concentration of wealth (measured by net worth or income)has increased at a faster pace in the last decade and is one of the importantfactors that have to be taken into account in determining thedominant causes ofthe Credit Crisis.

On the savings side the divide between the two groups could barely be morepronounced. The top 20% saved 85% of the growth in value of its equity and thetop 1% saved 92.5%. The top 20% group contributed more than $9 trillion to theeconomy in savings over the three year period. The top 20% households equityalso grew by a healthy 24.5%.


Total Assets 62,087 13,659 48,428 18,626

- Residence 18,982 8,542 10,440 2,030

- Durable Goods 3,883 854 3,029 1,165

- Financial Assets 39,222 4,263 34,959 15,431

Less Debt/liabilities 10,487 6,292 4,195 734

= Owners equity 51,600 7,367 44,233 17,892

Debt/Asset Ratio 16.8% 46.1% 8.7% 3.9%

NFI 28,735 -2,029 30,764 14,697

Savings (83 04) 22,142 -2,063 24,205 11,541

Savings Rate 55.0% -39.2% 69.2% 82.1%

% Increased equity 353.0% 250.0% 377.0% 365.0%

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The BS of the bottom 80% on the other hand shows no growth in equity. Thisgroup took another trillion dollars in funds from the economy to finance theiracquisition of assets (mainly residential property) and consumption spending.

Table 4


Table 5 shows how the Credit Crisis impacted on the two household groups. As anation it seems that US households BSs are still in good shape. The danger lightsare flashing because the position of the bottom 80% is deteriorating fast, whilethe top households have accumulated enormous amounts of savings, probablymuch more than can be absorbed by the slower growing economy.

Although the top 20% group lost 12% in equity one could hardly say their BSsare unhealthy as their debt to asset ratio deteriorated slightly from 8.6% to

9.4%.

The BS of the bottom 80% of households, however, is a story of continueddeterioration. Nearly 30% of their equity evaporated and their debt to asset ratiorose to 61%. If one were to stress test their balance sheet by applying a worstcase scenario (Japanese recession scenario), where US home prices were to fall by80% (21% decrease already accounted for in 2010 BS) from their 2007 values,the bottom 80% group will be decimated as their total liabilities would exceedtotal assets by more than $300 billion.

Applying a similar stress test to the BS of the top 20%, and especially the top

1%, would not raise too much concern as their debt to asset ratios would merelyrise to 11% and 4% respectively. Such a significant drop in home prices would


Total Assets 76,083 15,782 60,301 23,631

- Residence 20,978 9,438 11,540 2,243

- Durable Goods 4,437 973 3,464 1,328


Less Debt/liabilities 13,671 8,462 5,209 738

= Owners equity 62,414 7,320 55,092 22,893

Debt/Asset Ratio 18.0% 53.6% 8.6% 3.1%

NFI 36,997 -3,091 40,088 19,322

Savings (04 07) 8,262 -1,062 9,324 4,625

Savings Rate 76.4% N/A 85.8% 92.5%

% Increased equity 21.0% -0.1% 24.5% 28.0%



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probably also affect other asset prices negatively, such as share equities.However, one would have to assume Armageddon like economic conditionsbefore the top households BS would become a matter for serious concern.

Table 5


The fact is that there are two worlds when we look at savings and US householdBSs; the bottom 80% that used funds (in excess of $3 trillion) and the top 20%that supplied nearly $30 trillion in funds to the economy since 1983. The bottom80%, as a group, is highly leveraged (above 60%) while the top 20% group andespecially the top 1% have quite healthy BSs. When 80% of the households ofthe worlds greatest growth engine over the past century face possibleannihilation and there is no viable plan on the drawing board to prevent this orto enhance its recovery, the writing is on the wall.

The above method used for measuring savings does have its limitations though,as it measures total wealth and saving flows, which includes big chunks ofunrealized profits. However, it adds to the understanding of US householdssaving patterns, the composition of its assets and debt and the differencebetween the various wealth groups.

For the sake of clarity it must be said that the household groups referred to asthe bottom 80% or top 20% or even top 1%, measured and classified by networth (household equity), do not include exactly the same households asmeasured by earnings. However, some studies point to a high degree of

homogeneity between the abovementioned groups, irrespective whether theyare measured by earnings or net worth.


Total Assets 66,657 13,394 53,263 21,153

- Residence 16,507 7,427 9,080 1,765

- Durable Goods 4,633 1,015 3,618 1,386


Less Debt / Liabilities 13,218 8,183 5,035 713

= Owners Equity 53,439 5,211 48,228 20,440

Debt/Asset Ratio 19.8% 61.1% 9.4% 3.3%

NFI 32,299 -3,231 35,530 17,289

Savings (07 10) -4,698 -140 -4,558 -2,033

Savings Rate N/A N/A N/A N/A

% Drop in equity -14.4% -28.8% -12.5% -10.7%



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Furthermore, the BS of a group as a whole is not necessarily a reflection of thetypical BS of individual households in that group. For example, some householdsin a group may have BSs with much higher debt to asset ratios and for others theopposite might be true. There is also the factor of mobility as households maymove from one group to another over time. Young couples become more affluent

with time, while retirees with good BSs may move down the order whenmeasured by income.

But one can become too pedantic in trying to focus on every possible deficiencyin analyzing the overwhelmingly evidence that points to growing wealthconcentration. The focus of the debate in this article is not about the morality orfairness of wealth and income distribution, but on the threat which continuedwealth concentration holds for the US and world economy as a whole. When toomuch wealth, earnings and savings accumulate in the hands of too few, they areable to produce more goods and services (via investments) than what theconsumer can consume with its limited resources. While new investments willcreate more jobs, the real question is whether such new jobs could ever createsufficient demand to consume the extra production from such investments.

The answer must be no. In a world where wealth inequality is growing at anincreasing pace, new investments cannot even create sufficient demand toabsorb the additional supply of goods and services resulting from suchinvestment, not to mention the existing overcapacity. This is a catch-22 situationand may well be one of the missing pieces of the puzzle needed to bring visibilityto the so-called invisible wall.

Savings on a national level

The national savings rate (NSR) which measures savings on a national scale isanother way of looking at savings. It consists of personal savings, undistributedcorporate profits, net government savings and consumption of fixed capital.

The US NSR lingered around the 20% (as a percentage of GDP) mark in the fiftiesand sixties, then dropped a few percentage points in the seventies and eightiesbefore it settled around 15 16% in the nineties and early 2000. From 2007 thesavings rate dropped to around 10% in the 1stquarter of 2010, mainly due to theUS governments increasing budget deficit, which is a function of smallerrevenues and increased stimulus expenditure.

The opposite side of savings is private and government fixed investment. Thedifference between savings and the total sum of fixed investment is shown asnet borrowing in the US FFA. The trends in corporate fixed non-residentialinvestment (measured against GDP) and Government fixed investment arereflected in the chart below. The most notable trend is that corporate andgovernment fixed investments moved in opposite directions, which suggests that

corporate fixed investment gradually replaced government fixed investmentsince the early sixties. The significance of the above trends and the potential


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influence that government fixed investment may have on the balance betweensupply and demand, will be discussed in coming blogs.

Source: US Flow of Funds Account

China as a country is the biggest saver in the world even though its economy issubstantially smaller than that of the United States. According to areport by JohnRoss, China saved 54% of its GDP in 2008 which amounts to $2.3 trillion. As canbe seen from the graph below, the US was the second biggest saver in value in2008 and contributed $1.8 trillion followed by Japan and Germany with$1.3trillion and $1 trillion respectively.
http://ablog.typepad.com/keytrendsinglobalisation/china/http://ablog.typepad.com/keytrendsinglobalisation/china/http://ablog.typepad.com/keytrendsinglobalisation/china/http://ablog.typepad.com/keytrendsinglobalisation/china/http://ablog.typepad.com/keytrendsinglobalisation/china/http://ablog.typepad.com/keytrendsinglobalisation/china/


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Courtesy ofKey Trends in Globalization

The IMF estimated total global savings to be roughly $11 trillion in 2005. Thisfigure, which is probably much higher now, represents the excess of the worldscombined income over its combined consumption for 2005. We could not find areliable amount for the accumulated international savings as at 2010 but somesources estimate this figure at around $70 trillion. This estimate does not appearto be unreasonable in light of the above data and lends support to the view thatthe world has accumulated a savings glut over at least the last decade, withimportant consequences for the US and world economy.

Global markets have unlocked national savings in the sense that capital and

savings are capable of flowing from one country to another. A major portion ofcapital flowed from China, Japan and oil producing countries to the USA,especially over the last decade. In effect, they reinvested most of the benefitsderived from a favorable trade balance with the United States. The world as awhole invested nearly $7 trillion in US credit markets over the past 15 years,according to the US FFA.

A major portion of this investment was entrusted to the USs financial systemand credit markets. Much of this money found its way to the American consumerwho according to The Brookings Institute, accounted for more than one third of

global consumption between 2000 and 2007. The tool used by the financialsystem to get this money to the US consumer was mainly through mortgage
http://ablog.typepad.com/keytrendsinglobalisation/china/http://ablog.typepad.com/keytrendsinglobalisation/china/http://ablog.typepad.com/keytrendsinglobalisation/china/http://ablog.typepad.com/keytrendsinglobalisation/china/


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finance. One of the biggest targets was the American middle class. Its impact onthe BSs of the bottom 80% of US households is shown in tables 2 to 5 above.

It also led to overinvestment in industrial capacity. We havepreviouslyshown towhat extent the United States overinvested in production capacity and the

decreasing trend in capacity utilization over the last three decades. The UnitedStates, however, was not alone in creating too much capacity; manyindustrialized and developing countries were also guilty of creating excesscapacity. China especially is guilty of creating excess capacity by investingenormous amounts of money in industrial production facilities. The chart belowreflects the consequences of the investment boom, namely excess capacity.

Courtesy ofChina Bubble Watch

The savings glut also had a depressing influence on interest rates over the last

two decades as too much capital chased too few investment opportunities,forcing investors to accept lower rates of return. The chart below shows how the30 year mortgage rate has declined over the last three decades. The downwardtrend is still intact since it has dropped below 5% in 2010. Although highinflation in the early eighties exaggerated the downward trend, real interesttrended lower in the last two decades. Although central bank interest ratepolicies played an important role, this cannot fully explain the downward trendover such a prolonged period of time.
http://falsegodsfleece.wordpress.com/http://falsegodsfleece.wordpress.com/http://falsegodsfleece.wordpress.com/http://chinabubblewatch.com/?p=61http://chinabubblewatch.com/?p=61http://chinabubblewatch.com/?p=61http://chinabubblewatch.com/?p=61http://falsegodsfleece.wordpress.com/


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Courtesy of Straight Talk About Mortgages

Can high savings and investment become counterproductive, especially in timesof recession? Sure, it can. Investing in an environment of overcapacity withstagnating demand can be counterproductive. If investment over the last three

decades created overcapacity, it has the necessary implication that it failed tocreate sufficient jobs and income to keep supply and demand in balance. Whywould it be different this time? Future investments can only contribute to asustainable economic recovery if structural changes are made that will ensurethat demand increases sufficiently in order to absorb not only supply fromcurrent capacity, but also supply from future capacity. We will expand on thissubject in coming blogs.

David Collett is a chartered accountant with more than 25 years experience in the field offorensic investigation. He has acted as an expert on many subjects such as business,investment and share valuations; fair presentation in financial statements and prospectuses;lax credit standards, credit risks and professional liability.

Over the past decade he closely followed the financial markets. Through a series ofpresentations made to the finance and investment communities, he forecasted the collapse offinancial markets and the 2008 stock market crash.

For more information about David and his work, please visithttp://www.false-gods-fleece-the-faithful.com/.

Copyright David Collett 2010.

Whilst every effort was made to ensure the accuracy of this article, neither this document; nor itsauthor, David Collett; nor any publisher of this article; offer any warranties (whether express, implied or
http://au.linkedin.com/pub/david-collett/21/50a/260http://au.linkedin.com/pub/david-collett/21/50a/260http://www.false-gods-fleece-the-faithful.com/http://www.false-gods-fleece-the-faithful.com/http://www.false-gods-fleece-the-faithful.com/http://www.false-gods-fleece-the-faithful.com/http://www.false-gods-fleece-the-faithful.com/http://www.false-gods-fleece-the-faithful.com/http://au.linkedin.com/pub/david-collett/21/50a/260


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otherwise) as to the reliability, accuracy or completeness of the information appearing in this article.Neither do any of the above parties assume any liability for the consequences of any reliance placed onopinions expressed or any other information contained in the above article, or any omissions from it. Itscontent is subject to change without notice. Any information offered, is intended to be general in natureand does not represent any investment or business advice of any nature whatsoever. If you choose torely on such information you do so entirely at your own risk. Neither David Collett nor any third party

involved in publishing this article, assume any responsibility or liability for the outcome of such reliance.

Contact Us:[email protected]://false-gods-fleece-the-faithful.com
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Is Savings and Investment Part of the Solution or Part of the Problem? (Part 3)

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