Monday 11 May 2015

The Supremacy of Savings in our Economic System

When a politician says something along the lines of this:
People who have worked hard all their life, done the right thing and saved up money; they deserve to have the rewards of that now and they should not be penalised for having done the right thing and saved.
it is very difficult to disagree with this logic. What kind of wrong thinking person would deny the hardworking people the chance to enjoy the fruits of their hard work?

However, I am about to make the wrong thinking case...

To make my argument, the first point I need to make is about the nature of savings. What are they? Note that these people who saved up did not squirrel away food or fuel or kitchen appliances or holidays or any actual fruits of their labour. What they saved was money, which in the end is just a number on a computer screen. 

And what is money? It is an IOU from the people of the future to provide services to the holders of that money. Therefore what savers actually hold are large bundles of IOUs.

Over the past 40 years, the amount of debt has risen exponentially. Private sector debt (mortgages and corporate debt) has risen on average about 10% of GDP per year in developed economies. What does this mean? More savings every year. As soon as someone takes out a mortgage and buys my house, I have money in my bank account that didn't exist before (someone has a debt against that but it is a mortgage against a house). So the amount of savings has grown exponentially too.

So the IOUs from people in the future to people in the past have got larger and larger. The wages share of GDP has shrunk by around seven percentage points. Rents as a proportion of income have risen. The current workers are struggling to service their debt to past workers. I discuss this more here. Young people today are saddled with far more of a burden than anyone in the recent past.

An economic system must divide up the production of the economy between the people who live in it. Therefore, assuming that the amount produced remains the same, the politician above is arguing that savers deserve more of it than workers.

So, put another way, what the politician above is actually saying is this:
People who work hard in the future and do the right thing do not deserve to receive a fair proportion of what they produce because they should give most of it to savers who worked hard in the past.
In policy terms this means that savings are always protected. If banks go bust, savers are protected by the taxpayer and workers must pay. If there is a trade off between inflation and growth, inflation is kept low. 

The economy is crying out now for more money and more inflation. But printing money is seen as an attack on savers and therefore is not even considered as an option (I do not count quantitative easing as genuinely printing money as it is just a temporary swap for existing debt).

Savers have been given this primary position in the economy. They must get their money no matter whether or not the workers are reasonably able to pay them. It can be seen in the Eurozone crisis. It can be seen in the economic stagnation in the UK and other Western economies.

So the incentives are completely misaligned. Instead of having an economy where hard work and productive investment is rewarded, we now have a rentier capitalist economy where low risk and rent-seeking are rewarded. This is not capitalism as it was supposed to work.

And the cost of this I have discussed herehere and here among other places. The money from economic activity in this rentier economy is largely going to people with a lower propensity to spend (pension funds, high net worth individuals etc) and the effect on the economy is to reduce demand below an equilibrium level necessary for the economy to grow.

Young people today are entering a workforce where skilled jobs are hard to come by. High achieving university leavers are working in coffee shops. Zero hours contracts are the norm. Uber type contracts, where pay is low, competition is high and the risk is all on the individual, are seen as a necessary way to get by. The power has swung from workers to savers because no politician could countenance increasing demand by reducing the value of savings.

Until we can rebalance this position we are going to continue having a stagnating economy fuelled only by the taking out of even more private sector debt. Until, of course, we can't any more because we have another crisis. Then this might happen.


  1. We know something is wrong with the 'money' system... we need people like you to tell us what it is

  2. Hey there.

    I'm a saver. All of my savings are in physical gold. Not money.
    What do you think of that?
    Right or wrong?

    It seems the EZ is going to allow many banks to go bust, so savers beware eh? Perhaps we can agree, that will be a good thing.
    Banks going bust...hmm, that won't hurt the productive economy much will it?
    It's coming, market forces, best prepare.

    1. Hi Gary,

      I actually don't think the EZ will allow many banks to go bust, only countries. They'll protect the savers and punish the workers again.

      In answer to your question about physical gold; if you are asking as an investment, then I would say that historically it's always been a bad investment but if you are looking for a time to buy gold then it is not a bad time now. Not because inflation is going to be that high but because if it isn't high, growth will be low. And there is always the chance of another debt/market crash. But really I would say that property is a better investment as it retains the inflation protection that gold does, but gives a yield.

      By the way, if you are asking on any other level, I make no moral judgements on savers here. I am one myself. I just think that the system favours us too highly.

    2. I've read everything the ECB has written/said about bank resolution, and watched it happen in Cyprus, so I believe you will be very pleasantly surprised.

      I think 'hard' money, AKA the gold standard, will never work, and does favour savers. I think 'soft money', AKA all fiats, never work, as they favour debtors. I see the Euro (currency) is aiming for a middle ground, a medium tensile money, something for everyone. Deflation: not allowed, Inflation: not allowed.

      You should research a piece by an ECB board member alluding to 'inter generational justice', I have no time to find it in my PC. It may make you reconsider your views. I reconsider mine all of the time.

      Gold, I know what lies ahead, a repeat of 1965-82, gold will soar, property, just a debt-fuelled bubble. I need no yield, capital appreciation will be fine.


    4. Gary, I will have a look at that ECB piece. I agree that I still have a lot to learn in life and that one should never be closed minded.

    5. 'But it is also about putting Greece on a sustainable path for the future; limiting the load that is bequeathed to our descendants; and ensuring that those that created fiscal problems take responsibility for them.'

      You will know of course that more debt = more money (debt creates money), so more debt automatically means more savers, the two cannot be moving in opposite directions.

    6. Having read it, to me this is just a confusion as to the importance of money in the system. Yes future generations may owe money to other members of future generations but the real concern should be the size of the economic output in future years.

      The larger the economic output, the more there is to share out. Everything else is just numbers on a computer screen that have put Greece in the mess it is in now. They borrowed in a foreign currency that has risen too much relative to their earnings. They are uncompetitive thanks to the incorrect exchange rate. And they have high unemployment because of the awful idea that was the Euro. These are all money issues and they have stopped Greece being able to be at its economic full potential.

    7. Greece just needs to default on all of its debts, run a government that it can afford, and allow *people* to live their lives.

      The higher levels of economic output you desire are not guaranteed in any situation (high debt or low debt), nor in a currency zone as opposed to using one's own currency.

      The lesson the world will learn over the next 30 years (again) is that mankind is subject to cyclical influences (weather, solar activity, demographics etc.), and no amount of money/debt/planning can affect these larger trends.

      So, sometimes, life gets tough you know? And the next 30-40 years are going to be hellish. So best prepare!

      Good luck.

    8. Good luck to you too Gary. I wish you the best.

    9. BTW...I like Greek people, enjoyed a holiday in Crete, and know a Greek guy quite well. And I admire your ability to pay so few taxes!

      But, well, sometimes one has to look in the mirror and ask some questions as to why troubles arise so frequently.

    10. You are definitely a fun person to have a debate with.

    11. Thanks, I think!
      I write sometimes at Screwtape Files, only 2 posts so far, if you're interested.

    12. I'll check it out. I won't troll you with Keynesianism, don't worry.

    13. Your blog reading list is a little focused in that area I noticed.
      Maybe try reading Martin Armstrong every day with an open mind.
      Also the Alhambra blog.
      Bye for now.


      Alhambra, common word!

  3. Gary,

    Do you think gold has already soared?

    "I've read everything the ECB has written/said about bank resolution, and watched it happen in Cyprus, so I believe you will be very pleasantly surprised."

    What have you learned in what the ECB published about bank resolution? Any thing you think is really important or interesting?

    I watched the Cyprus thing too. (And, the price of gold went down a little.)

    What is it like to read every thing a central bank has "published" on bank resolution? How much is there to read? Do, you think they will do the same as their actions in Cyprus again given the chance that Greece doesn't do some thing sooner? Do you think that they might do some thing different than they said publicly?

    I see some of the same issues with Cyprus banks with the Greek banks but I don't know quantitatively if the magnitudes justify my interpretations. Greece's taxes are much higher than Cyprus'. I have not read the financial statements of Greek banks.

    1. Re gold, no, in inflation-adjusted terms it's not even reached the 1980s peak yet. The soaring is yet to come, when the 32+ year interest rate cycle turns, and markets lose faith in policymakers and their debts.

      Re the ECB and bank resolution, I find board members are very explicit about everything they want to see happen. Bank resolution is joint top of their list IMO, along with states making structural reforms to enable markets to function (classic ordo-liberalism).

      I may have exaggerated when I said I have read everything, I've read an awful lot though, nothing is hidden, and yes, I do believe they are gearing up to hit the banks hard if need be. (Ditto in China btw). A plan is being followed, one that was put in place way back in the 50s.

      As ever, time will prove everything.

  4. The power has swung from workers to savers because no politician could countenance increasing demand by reducing the value of savings.

    But, that is what is done with loss of purchasing power that is greater than interest. We have had negative real interest rates for a while.

    "In effect, there is an implicit transfer of real purchasing power from the creditor to the debtor equal in value to the negative real holding gain on the asset or liability."* Or, more clearer, equal to the real holding loss on the asset or liability.

    The long time debtors with lower interest rates have profited.

    *System of National Accounts 2008, By European Commission, p 250, section 12.90.

    1. This is a good point. Low interest rates are bad for savers. But two things make it not enough:

      1) The zero lower bound. Really we need heavily negative interest rates to get demand up to the level at which the economy is running at full capacity. Of course, this would probably also increase debt levels which stores problems for the future.

      2) Real interest rates for most borrowers - those that are not large corporations or governments - are still very high. In the UK a mortgage might be 2.5% with inflation at zero. Previously it might be 5.5% with inflation at 3%.Small businesses are unable to get credit at reasonable rates. So the drain of money from workers to either the banks or the creditors continues.

      It is interesting looking at the reason that interest rates are so low which, in my view, can only be a sign that expected future growth is minimal and it is a scramble to preserve whatever value can be preserved. But it is still too much for the workers.

      I discuss this all in more detail, with a small level of quantification, here:

  5. 1) I interpret the statement as advocating for repressing interest rates. Further, if they are already repressed.

    2) Many things have increased much faster than 2.5%. Some expenses have gone up at rates more like 7% and 12% (nominally). Yet average real wages has not kept up.

    Is it possible that interest rates are repressed?

    Could your mythical older saver have actually saved by being a net debtor in monetary terms and net saver in tangible assets?

    1. I am actually advocating control of the money supply by printing new money to replace that taken out by excess savings (and then taking money out of the system whenever necessary later if the savers turn into net spenders). I think that the growth in debt has to stop which is why I don't advocate a reduction in interest rates further.

      And yes, the older person may well have benefited from rising asset prices whilst being a debtor.

    2. So, what are good ways to not loose and get ahead in such printing regimes? This is an important question.

    3. I should have said, printing and real receiving (from the private sector to the "public") regimes?

      And, then there is the credit cycle on top of all that complicating matters.

    4. I am not sure exactly the question. If it is how savers can preserve their wealth, I suppose it would depend on the details of how it would be implemented (and since it probably never will be this is somewhat hypothetical).

      Equity retains a certain share of the national product and so I would probably stick to that. Debt needs to be reduced, so printing of cash for investment and stimulative policies would be counteracted by raising interest rates. It would also be necessary to attain a certain level of inflation (personally, I would target 3% for now to address the imbalance that has built up). Both of these would mean that debt securities would do badly.

      In my ideal scenario, the credit cycle can be controlled by interest rates without any fear of the effect on demand. This is because the demand lost by debt repayment - and shrinking of the private money supply - can be replaced with new money.

    5. Here is some thing from a often successful short seller. (He shorted Enron.)

      " "If everyone knows you're going to print money ... you know ... welcome to Zimbabwe."

      Chanos argued that no country can print its way to wealth. Here he expounds on moral hazard, bailouts and quantitative easing:

      "It definitely is an issue with compounding of interest. By kicking this stuff down the road it grows faster than our ability to grow out of it. That's the real problem. That's what we're facing in Greece, we're facing that in the U.S. states, in municipalities, which are facing real budget issues and demographic issues. All these things compound at rates faster than at which depressed economies can grow out of it. ...You can fool people for a while, but after a while people don't want to hold your paper."

      Read more:

    6. With due respect to Mr Chanos, clearly a very intelligent man, it does not mean that he has any expertise in this area.

      To even bring up Zimbabwe suggests to me a willful or ignorant miscasting of the situation. In order for the US to be like Zimbabwe it would have to put in place a policy that systematically destroys most of the productive capacity of the economy. At the same time it would have to be fighting a major foreign war. The government had to print money to pay the soldiers and other bills. In Zimbabwe the inflation was the symptom of a failed economy, not the cause.

      Many people have been expecting inflation since QE started. They were wrong, because the conditions do not allow it. Inflation expectations can not do much if there are no grounds for inflation.

      Putting the policy in the hands of a credible central bank in no more dangerous than giving them the ability to regulate demand using interest rates. It is just another tool in the box and if anything it is easier to control than the secondary effect using interest rates.

      There is an ideological reason not to print money. To keep wealthy people wealthy. They will bring up scare stories like Zimbabwe. In practice, of done responsibly it is safer than the current system.

  6. Ari,

    that's fascinating stuff and I find your blogposts really interesting.

    One point you touch on here is the generational conflict inherent in a society dominated by savers, which in this context tends to mean older people. A generation of people burdened by debt and inheriting an economy and political system skewed against them. Not only do the older generation have the bulk of the money, they also dominate the political landscape because they are more likely to vote, they spend their money on political lobbying, and they are the policy makers, for the most part. In the circumstances, the rebalancing you mention is not likely to happen. Not only are they unlikely to favour policies which deplete the value of savings, their whole thinking tends to be fixed in the experiences of the past 30 years. We see that today in the European Union.

    Not only that, but the demographics of Europe seem to suggest the situation can only get worse. As fertility levels fall, as death rates for older people fall, the proportion of old to young seems set to increase. The younger people are facing even less opportunity for the political action they need.

    But there is of course another side to that, and I would like to hear your thoughts about it. The demographics seem to imply a greater and increasing dependency ratio - more retirees living off the income generated, ultimately, by a shrinking pool of younger workers. That's surely a recipe for a major crisis. At some stage something has to give way. I would guess that, even allowing for the fact that there is still a lot of slack in the system in that there are plenty of discouraged jobseekers who could come back to the workforce, and even allowing for the capacity for technology to replace many routine jobs, in the long term the economic balance must surely flip in favour of the young. They may be outvoted, but with all of those savings chasing a shrinking workforce there must surely be a point, in the not too distant future, where labour shortages necessarily imply a rise in wages and a corresponding return to inflation - to the advantage of the young workforce.

    Since the political forces will all be pulling in the opposite direction, for as long as possible, I suspect that the changes which take place, when they do, will be quite sudden. Of course this is not going to happen straight away - but it seems inevitable unless some other action, hard to anticipate, happens in the meantime. What do you think?

    1. Hi Rodney,

      First to say thanks for your kind words at the beginning. It means a lot to hear people are interested.

      In answer to your question, it is so difficult to predict which of the countervailing forces will win out.

      You are correct that if the share of GDP going to workers stays the same and there are proportionally fewer workers, the labour will do better than capital.

      However we don't know what will happen to this share. Some higher minimum wage legislation could make it rise, for example, and there are just so many unknowns.

      However, as I discuss here:
      I am not overly optimistic that the free market will provide well for workers as technology improves. I think it is leading to an exploitative system with winners taking all and the majority as drones doing the drudgery for low wages.

      I believe that to have a prosperous future we will need to reimagine the role of government as even larger than it is now.

      The public sector has the ability to both provide services that improve the lives of the people and also provide employment. The government can fill in the gap left by the private sector as robots replace humans. This will create an economy with more demand, better off citizens and better services for all. Otherwise the benefits of the new technology will just accrue to the owners of the technology and the people as a whole will lose out.

      Slightly off the subject of your (very interesting) question, but just an example of how economic forces could take us in many different directions. In hindsight it will all be obvious, but for now we can only make guesses.

      Hopefully you are right rather than I am.


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