How the Savings Rate Could Hobble the Economic Recovery

The decline in savings isn’t just bad news for consumers—it’s bad for the entire economy.

By SHARE

After years of saving more, Americans are saving less, which is bad news for recovery.

Wall Street's irresponsible investing practices—betting on subprime mortgages, exotic instruments designed to get rich quick, and a overly permissive regulatory environment that allowed investments without government oversight—were one of the primary drivers of the recent economic downturn. But the responsibility for the recession does not lie on the shoulders of bankers alone: American consumers also played a key role.

[See 10 Trends in 2011 We Don't Want to See in 2012.]

For years, consumers spent beyond their means. Americans racked up thousands in credit card debt. They bought houses that were overpriced, which they ultimately could not afford. At the same time, they saved less for a rainy day.

When the rain did come—in the form of high interest rates on credit cards or an interest rate adjusting higher on a home loan—many were unable to make ends meet. Houses were foreclosed, and the number of Americans declaring bankruptcy has increased 21 percent since 2006.

All of these factors played a key role in the downturn. But the news isn't entirely bad: In the years following the beginning of the crisis, experts claimed that consumers had reversed the trend of spending and were now focused on saving.

But just how much more are Americans saving? Recent news on the job front is good: According to the Labor Department, the U.S. economy added 200,000 jobs in December, dropping the unemployment rate to 8.5 percent, the lowest level in three years. This could mean more Americans have more income to set aside.

[See 8 Painless Ways to Save Money.]

Yet even with this growth, the U.S. economic recovery remains fragile. If the United States takes a turn for the worst, will the increase in savings be enough?

A detour from a long history of saving. Historically, the United States has been a frugal nation. According to the Commerce Department, in 1959, Americans were saving 8.3 percent of their income. In 1973, that rate reached 11 percent. In 1984, Americans saved 10 percent of what they earned.

To understand this in real terms, a person making $50,000 a year in 1959 saved $4,150, while this same person would save $5,500 in 1973 and $5,000 in 1984.

But 1984 marked a turning point. In subsequent years, until 2006, the savings rate steadily declined. At one point in 2005, Americans were putting aside just 1 percent of their income.

Without extra money on hand, Americans were caught flat-footed when the bottom fell out from the economy. Instead of putting away money or investing it, they spent it. People were buying houses they couldn't afford and used credit instead of cash to pay for purchases.

[See Breaking Down the Income Gap Into Real Terms.]

A proper knee-jerk reaction. Americans' initial reaction to the economic downturn was a sound one. In the summer of 2008, the savings rate as a percentage of income reached nearly 7 percent. It hit a peak of 8 percent in the spring of 2009. Before the crisis, in 2006, Americans were saving just 2 percent of their income.

However, Americans were unable to sustain this savings rate. The economy continued to lag at the end of 2010, and income growth was stagnant. At the same time, other costs, such as healthcare, continued to rise.

"The U.S. will be stuck between a rock and a hard place" if costs keep soaring, Michael Mandel, president of South Mountain Economics, told Bloomberg in 2010. "If health-care reform manages to restrain spending, then we'll see net national savings eventually head upwards."

The increase pushed the savings rate back down. At the beginning of 2010, Americans saved 5.3 percent of their salary. Today, the number is down to 3.5 percent.

A roadblock to recovery. The decline in the savings rate isn't just bad news for consumers—it's bad for the entire economy. For a recovery to be maintained, business and consumers have to spend money. Consumers are reluctant to spend because they have less of a financial cushion. Without consumer spending to help expansion, businesses wait before making sizable investments that could help sustain recovery. It's a vicious cycle and a major hurdle to the U.S. recovery.


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