Saving Perversity

November 29th, 2009

For over 20 years, beginning in the late 1980s, Americans were told that they weren’t saving enough. The advice came from a coalition of economists and business leaders. It culminated in a series of radio ads that lectured the listener on the profligacy of Americans’ spending habits. Our future prosperity was endangered by our addiction to spending. If we could only increase our saving, this dire fate could be averted.

The ads ceased in early 2008. By this time, something strange was happening. On the same station carrying the ads, network newscasts interviewed an expert on the then-current state of the economy. The expert would warn that current economic welfare was threatened by Americans’ stubborn insistence on saving money, which would precipitate a recession if one was not already underway. If we could only decrease our saving, this dire fate could be averted.

The strange thing is that the people demanding more saving and the people demanding less saving were, to a considerable degree, the same people.

Damned If We Do, Damned If We Don’t

First, we weren’t saving enough. For over 20 years, liberal economists moaned and groaned that we were throwing a party, an orgy of overconsumption. The 80s were the Decade of Greed. The 90s put out a Contract on America. Fire and brimstone awaited us.

In 2008, recession began. But there was a silver lining. At last, Americans began to save. What a relief! At least something good was happening.

No, it seems that saving has now become bad. The content of the economic lecture changed. We are now thwarted by the Paradox of Thrift. When a few people save, that’s good. When everybody saves at the same time, the reduction in spending – or “aggregate demand” – causes a reduction in income and employment. Paradoxically, the attempt to save more actually leads to less saving, since saving is a function of income and income has fallen.

It seems that people just can’t be trusted to do the right thing.  Left to their own devices, they are perverse. When they should save, they overconsume. When we need them to spend, they become cautious, conservative, risk-averse – at just the wrong moment. According to liberal economists like Paul Krugman, Nobel Prize-winner, reducing taxes would be exactly the wrong thing to do, since if we give people their money back, we can’t trust them to do the right thing with it.

You Can’t Be Trusted to Spend Your Own Money

English economist John Maynard Keynes claimed that economies can get stuck in an “unemployment equilibrium,” in which high levels of unemployment persist for years, even indefinitely. Today, his followers swear fealty to two different systems of economic logic – one during periods of full employment and a different one when unemployment is high.

When full employment prevails, saving is useful because the money saved is channeled into productive investment through the financial intermediation of banks and other financial institutions. During recessions, saving is bad because it reduces aggregate demand, making the recession worse. Government must “manage” aggregate demand in order restore prosperity.

Government increases aggregate demand by spending more than it receives in tax revenue. To do this, government is forced to borrow money to cover the deficit. Originally, government borrowed and spent the savings of the public. Over time, Keynesians came to prefer money creation by government as the financing mechanism for government deficit spending.

The Saving Saviors

If Keynesians think we can’t be trusted to spend money during bad times, what will their attitude be in good times? Right! We can’t be trusted to save enough! The same economists warning us about oversaving now have been warning us about undersaving for decades. No matter what we do, the federal government must step in and save us from ourselves – no pun intended.

Sure enough, a proposal is under discussion in Congress to do just that. Economist Teresa Ghilarducci of the New School for Social Research advocates abolishing all tax preferences for IRA, 401(k) and 403(b) accounts. Workers who agreed to set aside 5% into a Social Security account that would invest in stocks worldwide would be guaranteed a 3% annual return, indexed for inflation.

The prospect of a revenue bonanza has fanned sentiment in favor of removing all tax advantages of retirement plans. Ending the tax-deferred status of annuities and cash-value insurance and the tax-free status of life-insurance benefits is also under consideration. At least one bill has already been introduced that would confiscate the proceeds of all current retirement accounts and turn them over to the federal government.


The notion that two completely different and antithetical economic models are a valid basis for economic policy may sound workable. In practice, it is not. The concept of full employment is a useful theoretical tool, but it cannot actually be observed. If nobody knows what constitutes full employment, how will we know when to shift policy gears from one paradigm to the other?

In the 1960s, an attempt was made to “fine tune” economic policy in order to remain continually at full employment. It turned out that full employment was an ever-receding goal, a pretext for perpetual increases in federal government spending and for centralizing power in Washington, D.C. Not only was the attempt at fine tuning unsuccessful, but it produced over a decade of high inflation to accompany the unemployment.

What Is the Right Amount of Saving?

There is no magic formula for calculating the optimal amount of saving for any group of people to do. Individual saving depends on the time preference of the saver – the relative value placed on current consumption compared to future consumption. Since that relative value depends on individual tastes and circumstances, no outside observer can ascertain it. The right volume of aggregate saving is simply the sum of all the individual optima.

During the recent financial crisis, the Paradox of Thrift was offered as justification for overturning individual preferences. Yet the financial crisis cannot be an example of the Paradox of Thrift in operation – assuming it operates at all. The Paradox of Thrift says that the attempt to increase saving actually reduces the volume of saving by reducing income to the point where the attempt to save actually produces less income. Yet U.S. households actually succeeded in increasing saving recently – that is what caused all the warnings about oversaving. This result does nothing to inspire confidence in the Keynesian economic model.


Complaints about private saving behavior call to mind the old shell game, in which the sucker has no chance of picking the shell with the pea under it because the con man has palmed the pea. It was preordained that the administration would find flaws in the voluntary actions of consumers. The ostensible perversity of U.S. consumer behavior is a pretense for the assumption of power by the federal government. Keynesian economic policies were adopted because they provided that pretext. Keynesian economists regain the power and prestige that they crave and government officials get the excuse they need to expropriate income.

There is no reason to believe that consumer saving behavior is perverse. There is every reason to believe that the motivations of the administration and its minions are perverted.

Category: Annuities, Economic Analysis, Economic News

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