Reports of a dramatic increase in personal savings have received mixed reviews. While some point to the increase as an indication that we’re entering a new era of common sense spending and personal responsibility, others voice concern that increases in personal savings reflect a corresponding decrease in spending, a necessary ingredient for economic recovery.
The savings rate, which reached an all-time high of 25% during WWII, had declined to almost 0% by 2005. Many blame the decline, at least partially, upon the perceived wealth gained as home values increased to record levels. Many homeowners mentally tallied the value of their home’s equity into the overall total of their savings. And, as housing markets and home values collapsed and the values of 401k and other retirement funds declined, consumers cut back on spending in order to supplement their retirement savings.
Now, with consumers worried about the prospects of unemployment, declines in retirement savings, loss of home equity, and doubts about the government’s ability to restore prosperity, the savings rate has increased to the highest level in 10 years. The latest report on retail sales indicates that consumers are not yet ready to concede the end of this recession.
What this does is slow the recovery, as consumer spending makes up about ¾ of GDP. If consumers feel it is too risky to spend, the economy suffers. For the long term, however, a significant increase in consumer savings is a good thing, contributing to the overall health and strength of the economy; but in the short term, the economy will suffer as we transition into a period of very slow growth.
