Commentary: Low Savings? Big Deal

By Margaret Popper

At first glance, the meager U.S. savings rate would seem cause for worry. After all, a country that spends without saving for the future will eventually run into trouble. It's only common sense.

But the 1990s convinced many economists that the U.S.'s ability to fund investment doesn't depend on its own savings. From 1996 to 2001, the U.S. household savings rate averaged 3.1%, the lowest among major industrialized economies. Yet gross domestic product grew an average 3.6%--faster than all major U.S. competitors (charts).

True, the household savings number understates what Americans are socking away. The published figure omits capital gains from equities and housing while subtracting capital-gains taxes. But the same pattern shows up for the broader category of national savings, which includes not only household savings but also retained earnings and depreciation by businesses, as well as government budget surpluses. The national savings rate averaged only 18.1% from 1996 to 2000--almost three percentage points lower than the rate for the European Union. But that didn't stop the U.S. from having one of the great investment booms of all time.

What's happening is that capital markets are becoming increasingly global. The regulatory and informational barriers that restricted investors to their own countries have mostly vanished. Capital flows freely across borders, moving to countries where it can get the best returns, not the place where the savings are. "Compared with the 1980s, there has been more and more deregulation of international capital markets," says Srinivas Thiruvadanthai, director of research at the Jerome Levy Forecasting Center in Mount Kisco, N.Y. "That's why we had this explosion of cross-border capital movements in the 1990s."

In such a world, there's no reason why higher savings should be a major plus for the growth of an individual economy. Japan had an average household savings rate of 11.4% from 1996 to 2001 but grew only 1% a year.

Even if U.S. households become big savers, there's no guarantee that domestic investment would rise. Multinationals can easily use money raised in the U.S. to build factories abroad. The link between domestic savings and domestic investment is weak and getting weaker.

The price of depending on foreign capital to fund investment: Foreigners own a rising share of U.S. assets. The low savings rate also leaves the U.S. hostage to global capital markets. If it loses its growth edge, funds could go elsewhere.

For now, global investors are cheerfully funding everything from housing to corporate investment to government spending in the U.S. Foreign investors bought $355 billion in corporate bonds and equities last year--more than the $276 billion total purchased in 2000. And mortgage securities issued by Fannie Mae and Freddie Mac, with their implicit government guarantees, have become the prime choice of many foreign investors. That translates into easy mortgage credit for U.S. households.

With U.S. productivity up a huge 4.3% over the past year, funds from overseas shouldn't stop anytime soon. "Money is flowing to the U.S. because people perceive us as a good place to invest," says Princeton University economist Alan S. Blinder.

Some pessimists say that perception is changing. Foreign portfolio investment slowed in January and February, to a $13 billion monthly rate, down from the $44 billion monthly rate of 2001. And weakness in the dollar could indicate waning confidence in the U.S. economy.

Still, over the next couple of years most economists predict slower growth for both Europe and Japan than for the U.S. Even after they recover, Japan and Europe will suffer from rigid labor markets and regulated economies, which make them less desirable investment targets.

The U.S. may eventually compete for funds with emerging markets that offer faster growth but with more risk. For now, though, the low U.S. savings rate isn't too worrisome.

Popper covers the economy.

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