Obama's Savings Plan Fights the Fed

Matthew C. Klein writes for Bloomberg View about the economy and financial markets. He previously wrote for the Economist magazine and its economics blog, Free Exchange.
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According to the Associated Press, tonight's State of the Union address will include a plan sure to bother several Federal Reserve officials:

``Eager not to be limited by legislative gridlock, Obama on Tuesday is expected to announce executive actions on job training, retirement security and help for the long-term unemployed in finding work — all in addition to his order to increase the minimum wage on new federal contracts. Among them is a new retirement savings plan geared toward workers whose employers don't currently offer such plans. The program would allow first-time savers to start building up savings in Treasury bonds that eventually could be converted into a traditional IRAs, according to two people who have discussed the proposal with the administration.''

Low-income households experience much bigger swings in their earnings than other Americans because they are more likely to suffer from unemployment and reduced work hours in a recession. Yet these households are often the least likely to hold enough savings to carry them through tough times. One reason is that saving, along with a lot of other basic things such as housing and health care, is more expensive for poor people than for everyone else. No wonder less than a quarter of all Americans have enough stashed away to cover six months of expenses, while 27 percent have no savings at all. As if that weren't bad enough, welfare benefits shrink as income rises, which perversely imposes crushing tax burdens on low-wage workers. Obama's plan, as outlined by the AP, might be somewhat helpful.

So why should anyone at the Fed object? According to Charles Evans, the president of the Federal Reserve Bank of Chicago, or Narayana Kocherlakota, the president of the Federal Reserve Bank of Minneapolis, the big problem with the U.S. economy is that Americans are saving too much. That's why the Fed has been so aggressive in attempting to push up inflation. The expectation is that this would erode the value of savings, encouraging people to spend more. In theory, the shift from saving to spending will boost growth and employment. Obama's plan leans against this agenda by making it easier for those households with the greatest tendency to spend everything they earn to start putting some of their income away for a rainy day.

The best outcome is that higher saving rates among the poor would offset the unhealthy distributional effects of the Fed's current strategy, which has pumped up asset prices held mainly by the well-off. Unfortunately, the Fed may choose to react to this new proposal by making saving even less attractive. We can only hope that the burden doesn't fall too heavily on those of modest means.

(Matthew C. Klein is a writer for Bloomberg View. Follow him on Twitter.)

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

To contact the editor on this story:
James Greiff at jgreiff@bloomberg.net