Some Myths and Facts About Savings

Please find attached an article that appeared in the Independent Financial Review today, 14 June 2006.

Some Myths and Facts About Savings

There is a lot of bad economics, as well as self-interest, in public commentary about savings. Repetition of the mantra that New Zealanders are poor savers doesn’t make it true.

Many commentators have failed to engage with the best work on savings in New Zealand, which comes from the Treasury and the Reserve Bank.

Much of the misinformation centres on the reported household savings rate, estimated by the OECD to be -7% of household disposable income in 2005.

However, this measure is unreliable for a variety of reasons. The most important is that it fails to capture increases in household wealth arising from appreciation in the value of assets such as homes, farms and financial investments, which clearly constitute savings (the basis of future consumption opportunities) in an economic sense. The Reserve Bank has estimated that the ratio of household net worth to disposable income increased from 282% to 537% between 1979 and 2004.

If the story of a persistent negative household savings rate were true, households would have virtually negative wealth by now, having ‘dissaved’ for a decade or more. Clearly this is not the case.

Secondly, as Edward Prescott, the 2004 Nobel laureate in economics, pointed out in a lecture in Auckland a fortnight ago, a focus on household savings is wrong. What matters from an economy-wide perspective is overall national savings, comprising government, business and household savings.

The three components are obviously interrelated. Government savings have greatly increased in New Zealand since the 1980s as budget deficits were turned into surpluses. So too have business savings as firms strengthened their balance sheets. But government and business savings are ultimately all ‘owned’ by individuals, and it is well established in economics that positive changes in one component tend to be at least partly offset by negative changes in another, as logic would suggest.

There is no evidence that New Zealand’s total savings rate is abnormally low. The OECD estimates that gross national savings as a percentage of GDP was 18.4% in New Zealand in 2005, only a fraction below Australia at 19.6% and well above the United Kingdom at 14.8% and the United States at 13.1%.

Moreover, there is little evidence that governments can manipulate aggregate savings rates (other than, perhaps, by changing their own operating balances) and no reason why they should.

For example, since compulsory superannuation was introduced in Australia, its national savings rate has actually declined slightly, its household savings rate is also in negative territory and it is running a large current account deficit. Interventions such as tax incentives or compulsory savings schemes mainly change savings patterns not levels, and often in distorting ways.

The IMF has noted that while household savings rates have declined in many OECD countries, corporate savings have strongly increased, and now account for about 70 percent of total private (household plus corporate) saving.

Some who accept that New Zealand does not have an overall savings problem and that New Zealanders appear to be saving rationally for retirement, given New Zealand Superannuation (another finding from Treasury research), nevertheless argue that there should be more private savings and less government savings.

Here there is at least a measure of common ground. The government has been over-taxing New Zealanders by running excessive surpluses. Excessive state welfare is also relevant to incentives for private savings. In addition, as Ed Prescott argued, it is better to tax consumption rather than income (which taxes savings twice). New Zealand should put relatively more weight on a consumption tax (GST) by means such as a move to a lower and flatter income tax structure, as the 2001 McLeod tax review recommended.

That review reported that “when looking at the impact of savings on the current and future well-being of New Zealanders, the most relevant measure is national savings; that is, the sum of private and government savings. On examining the available evidence and the reasons why people save, it was not clear to us that New Zealanders save too little.”

No subsequent analysis, as opposed to unsubstantiated assertions, have called into question that conclusion.

ENDS

© Scoop Media