March
13, 2010
Savings & Trade
The following two posts focus on the importance
of savings for improving our long-term standard of living, and how a lack of
savings causes trade deficits.
I am glad that you raised the issue of savings.
In economics savings means something a little different than simply money is a
savings account. Savings is really the portion of the nation's economic
production, which does not go to current consumption. In other words it is
available to be used for things that will be productive in the future, for
example, the portion available for investment in new plants and equipment, infrastructure
like roads, telecommunications, equipment, and education.
If we consume everything that we produce, we have
nothing left to devote toward the future. It would be like a farmer, who had
nothing left for next years seeds. When I was a new economics student in 1978,
economists used to say that in an economy investment was equal to savings
(I=S). However, with the rise of global finance, this no longer holds true for
any particular country. In recent decades, the US has been able to invest
despite a low savings rate, primarily because people in high savings countries
like China have been willing to lend or invest their excess savings in the US.
However, this also makes the US vulnerable to changes in attitude around the
world about the wisdom of investing in the US. In addition, a portion of the
wealth created in the future, must be returned overseas to investor.
The irony is that in the short-term policies are
often implemented to encourage people to spend now to pull the economy out of
recession. However, in the long-term such policies can
be destructive, because it is savings the ultimately allows us to become
better off. What is needed is a strategy that will encourage people to
gradually save more and more in the US and long-term rely less on consumer
credit.
You make an important point. See my last post on
savings. In response to your post, let me expand my comment a little more.
What most effects our overall trade
deficit/surplus situation is our savings rate, and not trade practices by other
specific countries. Imagine that your home is a country. You do two things. 1)
You go to work every five days a week and "export" your services to
the rest of the world. 2) You buy goods and services, and thus "import"
them into your home.
If people outside your home are willing to lend
you some of their savings in the form of credit cards, you can import more than
you export. You have more buying power than the value you produce at your
job. In other words your home is running a trade deficit.
This is also true for countries. If a country has
more buying power than the economic value it produces because people in
other countries either lend their savings or use their saving to buy assets of
that country, that country will run a trade deficit. It consumes more than
it produces. In contrast, a country with excess savings will run a trade
surplus because it will lend to other countries or use its excess
savings to buy investment assets in other countries, and thus consume less than
it produces.
In other words, the US can complain all it wants
about unfair trade practices by other countries, but until the US increases its
savings rate significantly, we will still be running large trade deficits.
(Alternatively, trade deficits could come to an end, if other
countries lost faith in the US and stopped lending to the US.)