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June 25, 2013

Is Cheap Credit Discouraging Personal Saving?

This surprised the Editorial Staff:

Roughly three-quarters of Americans are living paycheck-to-paycheck, with little to no emergency savings, according to a survey released by Bankrate.com Monday.

Fewer than one in four Americans have enough money in their savings account to cover at least six months of expenses, enough to help cushion the blow of a job loss, medical emergency or some other unexpected event, according to the survey of 1,000 adults. Meanwhile, 50% of those surveyed have less than a three-month cushion and 27% had no savings at all.

Curious about the long term trend (and possible survey bias), we went looking for the long term personal savings trend and it was ugly:


Why, with unemployment so high and a recent recession just behind us, aren't American households saving? The article linked at the beginning of this post blames 401K fees, which seems unlikely.

Many articles on household savings cite unemployment or stagnant wages as possible causes. But unemployment can't possibly account for three-fourths of households not putting money away against hard times. And the supposed stagnation of wages doesn't stand up well to critical scrutiny. As this article points out, the average wage over time hasn't risen for several reasons:

1. Benefits like health insurance, pension funds, and paid leave have grown to 31% of total compensation, and these benefits aren't included in the calculation.

2. Even when wages are adjusted for inflation, the same salary has far more buying power today than it did 40 years ago.

3. The entrance of women and immigrants into the job market caused rapid growth of low skill/low wage jobs at the bottom of the pay scale. These job pull the average wage down.

The reduction in the cost of living over time is stunning:

According to the Bureau of Economic Analysis, spending by households on many of modern life's "basics"—food at home, automobiles, clothing and footwear, household furnishings and equipment, and housing and utilities—fell from 53% of disposable income in 1950 to 44% in 1970 to 32% today.

Declining personal/household savings would seem to confirm our pre-existing opinion that the social safety net makes saving seem unnecessary, so we went looking for evidence that would support or undermine this theory. Interestingly, the countries with the strongest safety nets - those in Western Europe - still save more than we do:

Although Europe may not be the model of fiscal discipline today in a global macroeconomic perspective, households in continental Europe have a savings rate that has shown much greater long-term consistency, 7 to 8 percent. The big European economies have shown high personal savings rates of over 10 percent for the past 30 years. In 2011, France was at 12.3 percent; Germany was at 10.5 percent; and Sweden at 10 percent, according to OECD data.

How inconveeeeeeeeeeenient: another beautiful theory shot to hell by an uncaring reality. So what explains our dismal savings rate? One possible explanation is that we're substituting cheap credit for personal savings:

"There are huge differences between the U.K. and the U.S. and Europe in terms of people's appetite for risk and their savings styles," said Elizabeth Corley, Global CEO, Allianz Global Investors. "If you go back 20 years, you will see significant savings in the U.K., but what has happened since then, if you look at the savings ratios, was the sudden availability of cheap credit, which has been substituted for short-term savings."

The U.S. is also no stranger to easily accessible credit. The explosion of credit made available in the 1980s and massive deregulation of the financial industry in that decade and the 1990s helped to change the tide. "During that time, we diverged from much of the rest of the world, because it became so easy to get credit," Garon said. The problem intensified with the rapid rise in housing prices from 1995 to 2005. "The early 2000s was really crazy," Garon added.

In Japan—where the savings rate is also consistently high—as well as in Germany and France, there is political and cultural resistance to deregulating the finance industry, and also an aversion to allowing people to rack up debt, Garon said.

It's also harder to get a loan in Europe. In Germany, for example, people are much less likely to take out large mortgages, and home equity loans don't exist. Home ownership in Germany is at approximately 26 percent lower than in the U.S.—about 40 percent versus 66 percent in the U.S.

Many European governments have set policies that actually try to help stop people from becoming overly indebted. In Belgium, if you are 90 days behind in paying back your credit card, auto or housing loan, your name is reported to the bank, Garon said. A series of services are then triggered, which are designed to help you not only budget, but with any personal problems that may have contributed to your situation, such as alcohol or marriage problems, he added. In France, for example, most credit cards are tied directly to personal bank accounts, Corley noted.

During the Middle Ages, Church law held the charging of interest to be wicked. Though this prohibition was often ignored in practice, it led to the odd practice of Christians borrowing from Jewish moneylenders (who were otherwise often treated as pariahs):

Biblical law forbids taking or giving interest to “your brother” (a fellow Jew), whether money or food or “any thing.” The Talmud interpreted this very strictly, so much so that even greeting someone from whom you have borrowed, if such greeting had not previously been the custom, is forbidden. [For Biblical law regarding moneylending, see, for example, Exodus 22:24, Deuteronomy 23:20-21, Leviticus 25:35-37.]

The Bible further permitted lending money on interest to a “stranger”, but prohibited it to a fellow Jew (“your brother”). The Talmud observes that even the borrower transgresses the commandment if he borrows on interest…

Originally, the medieval rabbinical attitude toward lending money on interest to Gentiles was very conservative, restricting it to scholars (not only as a means of income but because it was felt that they would be cautious about such loans and limit the interest charged) or to cases where it was absolutely necessary for livelihood.

It seems odd that these days we downplay the moral hazard associated with lending or borrowing money. In many cases, people who have borrowed other people's money and used it to buy houses or cars, go to school, or finance purchases they could not otherwise afford refer to "their" property with little or no recognition that they haven't paid for it in full (and thus, it's not really "theirs" until their debt has been fully discharged).

The artificial disconnection of ownership from payment and of interest rates from risk may well be one of the greatest moral issues of our age. We've built an economy on artificially cheap credit, and all our economic policy seems to be based on perpetuating a deeply unhealthy state of affairs that weakens personal responsibility and property rights.

Scary, scary stuff.

Posted by Cassandra at June 25, 2013 05:47 AM

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Easily available credit, I can see that. But cheap credit? It seems to cost more than many people who rely on it can pay. It's remarkable how insensitive people are to the price of credit once they become determined to live beyond their means. That steadily rising balance seems to become fairly unreal to them, just a number on paper somewhere.

Debt's a great idea when it's working capital for an enterprise that's likely to return profits. It's a shame we ever got in the habit of thinking it was equally sensible as a way to finance more or less permanent overconsumption. At least with houses, it's connected to an asset that's expected to last a very long time and substitute for space you'd otherwise have to rent; it may even go up in value enough to cover the huge cost of interest. But then it extends to car, furniture, you name it. Just nuts. When an emergency hits, you can't easily sell the car and furniture to pay for it.

Which is not to say that I think people shouldn't lend. I just think most people shouldn't borrow.

Posted by: Texan99 at June 25, 2013 09:49 AM

Tho not directly the thread, I offer an observation about the Bible's directions regarding lending. A quick glance at even the few references cited shows that they speak to a situation where the person needing help does so because of immediate needs not of their creation. In such situations the Bible commands not (supposedly non usurious) low interest (whatever low might mean), but no interest loans. But nothing in the Bible forbids interest on other loans. One may rent capital in whatever form, whether it be ox or land or money.

Posted by: Roy at June 25, 2013 10:14 AM

Which is not to say that I think people shouldn't lend. I just think most people shouldn't borrow.

That's pretty much where I come down - we have had our share of consumer debt over the years, but I've always had enough money in savings to pay it all off if I had to.

But nothing in the Bible forbids interest on other loans. One may rent capital in whatever form, whether it be ox or land or money.

To be honest, I didn't do enough research to comment knowledgeably one way or the other, so I didn't :)

I understand the prohibition on profiting from the misfortune or poverty of others (though expecting a loan extended to someone who's poor to be paid back with interest strikes me as not terribly smart).

I just think it's interesting that we don't see any moral issue in borrowing, but most people do see one with lending (especially what is often called 'predatory lending', which at least some of the time involves interest rates that are actually tied to the risk of default, or the now-shameful expectation that borrowers honor their promises). I'm sure it's the perceived power differential, but it's still an interesting dynamic.

There's not much of a sense that people who default on loans are actually taking something that doesn't belong to them (in addition to breaking their word).

Posted by: Cassandra at June 25, 2013 10:46 AM

When an emergency hits, you can't easily sell the car and furniture to pay for it.

I bought my truck, at a really good price, from someone who "had too many toys for his bills".

Posted by: Yu-Ain Gonnano at June 25, 2013 11:01 AM

You probably got a good deal, but I'd be surprised if he did. Still, if he owned a truck that he could do without and that had a good, quick liquidation value, then he's a good counterexample to my thesis. Also, I can understand going in to moderate debt to buy transportation that makes it possible to work. That's almost like working capital.

Posted by: Texan99 at June 25, 2013 07:40 PM