Thursday, February 12, 2009

USA Today: End the war on savings

Rourke O'Brien and Alejandra Lopez-Fernandini, who work at the New America Foundation, write an excellent article for USA Today that gets at the relationship between Americans and money. In short, Americans need a better one.

Finland recently launched a war — on household savings. The campaign warns Finns to lay off the piggy bank, pleading: "Don't feed the recession." The rhetoric there is quite similar to reports we've seen here from economists and Wall Street forecasters nervous at signs that U.S. consumers are starting to save.

Maybe they're hoping consumers will buck up, start spending and lift the economy out of the doldrums by sheer force of their pocketbooks. It's not an unreasonable hope; strong consumer spending stunted the 2001 recession and propped up the economy after the savings-and-loan crisis of 1987.

But this time is different.

With the annual personal savings rate skyrocketing from an anemic 0.2% in the first quarter of 2008 to 3.6% in December, it appears that Americans are reinvigorating the virtue of thrift and that's a good thing.

The current stimulus proposal includes a suite of tax cuts and rebates designed to put money back in the economy by putting it in hands of working families. But if the experience of last spring's rebate check is any guide, many families will be using that money to pay down debt or save for an emergency. Yet those Americans who choose prudence should not be made to feel unpatriotic — as if they are destroying the economy of their country — because they fail to spend recklessly. It's time we move beyond this economic belief that places the health of the U.S. macroeconomy squarely on the willingness of individual households to spend, spend, spend.

Debt drags on families

Today, the average family with credit card debt spends one-fifth of its monthly income servicing that debt. That's $850 billion a year that could be put toward more productive uses, be it through investment or real consumption. It's just not efficient to fritter money away servicing debt, even if by spending more you give a small boost to the economy. We're not saying stop and save everything. We're just saying that more than ever, families need to start planning for their own consumptive future. Saving leads to more productive, long-term investments, which in turn fuel more sustainable household consumption — and a much healthier economy.

What's more, household saving is crucial to weathering downturns. Every day, we hear stories of families at the brink of financial ruin. Countless more families are living on the edge. According to Hewitt Associates, hardship withdrawals from 401(k)s are up 16%, and we know that less than 30% of Americans have three months of living expenses saved.

Growth via credit

John Maynard Keynes' "paradox of thrift" — the idea that if everyone starts saving and stops consuming, no one is better off because businesses cut back, wages fall and unemployment rises — presents a real challenge in the face of recession. But who are we kidding? Americans have been fueling economic expansion for years on credit. Putting another latte on the MasterCard isn't the answer. But putting money in savings just might give banks the confidence and dollars needed to lend again.

The economy is in the midst of a grand restructuring, and restoring household economics is essential to ensuring a sound foundation. While we acknowledge the importance of a paradigm shift in banking and regulation, it's time we allow — and encourage — realignment in the economy of individual households. Paying off debt and building savings will make us all stronger in the long run.

Rourke O'Brien is a research fellow and Alejandra Lopez-Fernandini is a senior policy analyst with the Asset Building Program at the New America Foundation, a non-partisan public policy institute in Washington.

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