Wednesday, 26 November 2014

Thrift? Who Cares, The Show Must Go On.

Personal consumption (spending) and saving data for October has just been released. Dividing consumption by spending gives us the consumption/saving ratio. For an economy to prosper longer term and for sustainable economic growth to take place, savings is an all important input. In fact, it is an absolute necessity - without savings there simply can be no real economic growth. The more savings, the more resources are available for investment purposes. 

Based on data for the U.S. going back to 1973, consumption has steadily increased compared to savings (i.e. the C/S ratio has increased). Having said that, the ratio was fairly stable for the 30 year period spanning 1973 to 1993 (the horizontal axis crosses at the 1973 to 2014 average of 14.47):

But then, starting around 1993, things started to change and towards the end of 1990s the ratio surged as Americans started spending a significantly bigger proportion of their income (and hence saved less proportionally). This contributed to the artificial economic booms and very real busts we've seen ever since. The chart below is constructed on the same basis as the chart above, but depicts the 1993 to 2014 period instead.

For the 1973 to 2014 period as a whole, the chart looks like this. 

Though the ratio is today nowhere near the insane levels preceding the 2008 economic collapse, it remains substantially higher than it was during the 1973 to 1993 period and also substantially higher than the long term average.* In this respect, politicians and economists (including Fed officials) believing consumer spending is what drives the economy and that good old fashioned thrift is to be avoided, has succeeded. If only they were right. Unfortunately, the only thing easy money and credit seem capable of producing is a manic-depressive economy resulting in lower living standards for most. 

Meanwhile, the show goes on at Wall Street as the stock market thrives on artificially low interest rates and an expanding money supply. 

Until thrift once again becomes an absolute necessity for the saving-starved U.S. economy.

As of October 2014

* Improved clearing systems, increased use of credit cards and perhaps more frequent salary payments than before are factors that reduce the need to hold cash and hence help explain part of the increase in the C/S ratio.