Charting a Path to Renewed Frugality

January 27, 2009 by  
Filed under Economics, Retirement Planning

You are probably thinking:   “Enough with the facts and figures already, Mr. ToughMoneyLove.  We want to read how we can save and invest in this awful economy.”  

Hey – I feel your pain.  I’m asking those same questions.  I don’t have confidence that the government can provide the answers.  Instead, I’m looking for answers in the data that are available.   At least the government can provide data.

To that end, I have reproduced below a chart published by the Federal Reserve Bank of St. Louis.  This chart tracks the personal savings rate of U.S. consumers from 1957 through November 2008.  Gray areas overlayed on the chart represent periods during which the U.S. economy was in a recession (according to the National Bureau of Economic Research).

Note in particular that the savings rate peaked at over 12% during the last extended recession in the early 1980’s.  From that point, it has been on a path of general decline.  It actually went negative in 2005-2006 and hovered near 0% until the current recession began.  Now it has moved rather quickly back up to 2.8%.   I suppose you could call that “sudden onset frugality.”

Some economists have forecast that our personal savings rate will continue to increase, reaching 5% by 2011.  We haven’t seen that since 1993.  These same forecasters see the savings rate remaining in the range of 2.5% to 5% even as the economy begins to recover.  In other words, they predict that a semi-permanent sense of frugality has been instilled in the minds of American consumers.  (Source:  Oxford Economics)  If that is true, I say hallelujah.

Oh- I almost forgot.  Most experts blame excessive debt driven consumption by baby boomers for the savings rate decline.  Sorry about that.

If you are mad at baby boomers for all of this, rest assured that we have been and will continue to be punished.    Many boomers haven’t saved a penny for retirement.  Those of us with retirement nest eggs have seen them trashed.  Collectively, boomers’ only hope for recovery is to work longer or be faced with declining living standards.  (Source:  McKinsey & Company).  I don’t like either of those options.

Now you may be thinking:  “Enough about boomers, already.  They’ve caused us enough trouble.”  The problem is that our economy needs boomers to exercise option 1 (work longer).  If we don’t continue to earn well into our golden years, three things will happen, both negative for the U.S. economy.  First, boomers will have less to spend and invest, further accelerating the demographic slide I wrote about recently.  Second, the burdens on Social Security and Medicare will be increased at the wrong time for the economy.  Third,  boomers will have little or nothing to leave to our children (compared to prior generations), thereby diminishing the capacity of younger generations to invest and spend.   

So what does all of this mean?  Here’s my take:

1.  Baby boomers have really messed things up.  (I’m going to humbly excuse Mr. and Mrs. ToughMoneyLove from responsibility for the debt-driven consumption and low savings rate.)

2.  Harry Dent’s predictions about the likely effects of the demographic slide are making more sense to me.

3.  Dent and others believe there will be a market rally later in 2009, as overall investor fear subsides.  Unfortunately, they also believe it will be a short-lived rally.  I’m going to watch for that and consider selling into the rally to reduce my exposure to equities.  

4.  Companies and industries that depend heavily on discretionary consumer spending will continue to struggle compared to 1995-2007, no matter what the government does. 

5.  Financial institutions (including fixed annuity providers) will be falling over each other trying to attract all of the new money made available by the increased frugality and savings rate.  New financial products for low risk saving may appear.  I will be watching for those as well.

6.  When the government is working hard to create jobs, don’t overlook the boomers.  We all need them to keep working.

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5 Responses to “Charting a Path to Renewed Frugality”
  1. TMN says:

    I tend to think that the concept of frugality never really left in the first place, at least not entirely. What these studies never show is the distribution around the average. I would guess 10-20% of the country is doing very well, 50% are doing decently well, not saving a ton, but saving some, and the remaining 30% are in debt up to their eyeballs to the point that they drag down the total average.

    Turns out I’m wrong though. From this link:

    “Interestingly, the Fed’s study of this issue shows that the decline in the saving rate of households at the top 20 percent of the income distribution accounts for virtually all of the decline in the aggregate personal saving rate since 1989, the first year for which estimates on saving by income quintile are available. That is, the saving rates of the bottom 80 percent of the income distribution have fluctuated in a relatively narrow range and importantly have shown no secular decline since 1989.”

    The study cited was published in 2004, so for a 15 year period the decline in savings rates was due entirely to the top 20% of households. The story goes on to speculate about what this means, but it seems reasonable to think that the recent increase is also due largely to the same demographic. And it suggests that for the bottom 80%, nothing has really changed in the past 20 years.

  2. I just don’t see us making a lasting move to becoming a nation of savers. We tend to be very reactive – a quality that has as much upside as downside. If nothing else, hopefully most of us will take from this a lesson about taking responsibility to managing our our own money and not buying into the hype (e.g. we should all be homeowners! everyone is making a fortune in the stock market! there’s gold in them there hills!).

  3. Sarah says:

    Nice article, but I think the sentence “If you are mad at baby boomers for all of this, rest assured that we have been and will continue to be punished” is worded in a contradictory way. It pretty much shows that baby boomers still have the wrong mindset. Nobody’s ‘punishing’ them. They’re merely seeing the consequences of their actions. To convey that they’re really taking responsibility for their actions, I wouldn’t say they were “being punished”. Maybe they’re experiencing a disproportionate amount of the effects, but as they have more exposure to the market than the younger generation, perhaps that’s expected.

  4. Curt says:

    The low savings rate is not all our fault.

    The government has keep interest rates lower then inflation for decades, which means that savers lose money year-after-year. The government’s monetary policies created incentives against saving.

  5. picker says:

    Increase the federal tax on gasoline (currently 18 cents a gallon) to 25 or 30 cents a gallon. Use the money to subsidize social security, medicare and/medicade or build and/or repair bridges and roads. The money will put people to work, reduce carbon emissions and dependence on fossil fuels and encourage the use of efficient transportation.

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