Enlightened Economics

Economics for an Enlightened Age

Posts Tagged ‘consumption’

• Higher US Savings Is Economic Game Changer

Posted by Ron Robins on December 10, 2010

By Ron Robins. First published September 23, 2010, in his weekly economics and finance column at alrroya.com

There is one prayer of governments and businesses around the world: that Americans forgo higher savings, banish their job and retirement income worries, and go on a spending spree. However, this is not to be. Were the prayer to be fulfilled the global trade and other economic imbalances of the past and present would be unresolved, even magnified. But fortunately, the early stages of their resolution are at hand.

To help resolve these global imbalances, US savings rates must go up while its consumption of goods and services relative to GDP goes down. And this will be a generational game-changer for the US and for the world, causing economic difficulties everywhere for the years ahead.

Depending on how fast its savings rates rise, the US economy will be mired in recessionary or depressionary conditions for some years. But America has faced many daunting economic challenges before and each time it rebirths to greater prosperity. This is likely to be true again.

America once had high savings rates with much lower levels of personal consumption than now. Between, 1950 and 1975, its savings rates were generally in the 8 to12 per cent range of disposable income, and personal consumption relative to GDP averaged around 64 per cent. In the years between 1975 to 2000 savings rates declined significantly to under 5 per cent and then to 1 per cent by 2005 when personal consumption rose to a high of about 72 per cent of GDP.

Since 2006, America’s savings rates have been moving up—and most especially after the 2008 financial crisis. Today, they average about 6 per cent.

Furthermore, it is probable that US savings rates will move even higher to the 10 to 15 per cent range in the next few years as Americans worry about job security, home values, and retirement income. As this happens, US consumption rates will fall back to the 60 per cent region. This will have initially deleterious effects for the global economy and countries reliant on exports for income and jobs. Thus this is another game-changing situation.

No country or countries can presently replace the American consumer. For instance, the combined annual personal consumption of China and India is about $2 trillion, compared to America’s nearly $9 tln.

The big Asian exporters, as well as Germany, will have to find other markets for their products—or stimulate internal consumption to grow. Intra-regional Asian trade is growing rapidly but “is still mainly driven by supply-chain links involving intermediate goods rather than newly surging end-market demand in Asia,” says Stephen Roach, non-executive chairman for Asia at Morgan Stanley, in a Financial Times report.

So where will increased US savings go? As of now they are going mostly into bonds, especially US government bonds. Annual funding needs for the US government over the next few years will probably be close to $2 tln if economic growth stalls or declines. That sum is equal to about 13 per cent of US GDP. It will be increasingly financed from within the US by savers, banks and especially the Federal Reserve (the Fed).

The Fed will create new money to purchase US Treasury debt and probably other assets. This ‘money-printing’ will generate huge amounts of ‘excess’ dollars. The consequences of this action will produce a litany of global economic difficulties. These will include a slumping dollar, domestic inflation—and even possibly hyperinflation.

Upset at the dollar’s fall, other countries and regions from China to Japan to Europe, will attempt to devalue their currencies, leading to probable currency and trade wars. (I have written more on these subjects in previous columns.)

Of course a lower dollar and likely new US import restrictions will mean higher US import prices, or even unavailability of some products. This will give some American manufacturers the opportunity to recoup previously lost domestic markets and the servicing of new ones as well. US industrial production could be re-ignited and even induce foreign companies and manufacturers to buy or invest in US domestic manufacturers as well.

With US imports from oil and computers to foodstuffs, as well as domestically manufactured goods costing more, Americans will find their standard of living declining.

“The need to overcome the effects of reduced [American] individual buying power will lead to the invention of a new class of product which will be a major trend of 2010 and into the future: Technology for The Poor…,” says Gerald Celente, the renowned American trends forecaster and president of the Trends Institute. Continuing, he says that, “growing with the same speed as the Internet Revolution, the trend will be recognised, explored and exploited by legions of skilled but jobless geeks, innovators and inventors who will design and launch a new class of products and services affordable by millions of newly downscaled Western consumers… ”

Mr Celente further forecasts, “a ‘not made in China’ consumer crusade that will spread among developed nations, leading to trade wars and protectionism.”

Americans have little choice but to increase personal savings rates. The Fed will ‘hyperventilate’ to derail prolonged economic malaise and promulgate vast quantities of new dollars, causing the dollar to fall—or crash! A dollar fall will produce inflation; a crash could ignite hyperinflation in the US and elsewhere. Also unleashed could be ‘buy America’ strategies and policies within the US thus further inciting the risk of global currency and trade wars.

This sounds like dire news. However, a new, free America could be born as it rids itself of the shackles of debt. Americans, renowned for their outstanding drive, creativity and innovation, may create a new generation of ingenious products and services geared to the new economic reality. ‘Made in America’ products could again fill retail shelves. And Asia’s export-reliant countries will finally focus on enhancing domestic consumer demand to purchase their wares, thereby bringing much improved living standards to their populations.

Higher US savings will be an economic game-changer for the US and the world.

Copyright alrroya.com

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• Why Most Economists Get It Wrong

Posted by Ron Robins on August 23, 2010

By Ron Robins. First published June 3, 2010, in his weekly economics and finance column at alrroya.com

While visiting the London School of Economics in the autumn of 2008, Her Majesty Queen Elizabeth asked Professor Luis Garicano a straightforward question. Quoting the Financial Times, from November 4, 2008, “if these things [causing the financial meltdown] were so large, how come everyone missed them? Prof Garicano apparently replied, ’someone was relying on somebody else and everyone thought they were doing the right thing.’”

I have some other views. Economics as practiced is still the ‘dismal science.’ Most economists rely on economic modelling for forecasting. It rarely works. Economists ignore key relevant data. Fearing for their jobs they stick with the comfortable view. Massaged government statistics also lead them astray. Furthermore, complicit media rarely question prevailing economic orthodoxies or the ‘adjusted’ government data, adding to delusional thinking. Economists’ reliance on Keynesian economic theory is likely to lead them off course and to miss the next, potentially more disastrous, downturn. Now let me flesh out the details of these points.

Reliance on faulty models and statistics
No economic model can account for sudden changes in consciousness, individual preferences, or exogenous factors. As Alan Greenspan, former head of the U.S. Federal Reserve said in March 2008, “the essential problem is that our models – both risk models and econometric models – as complex as they have become, are still too simple to capture the full array of governing variables that drive global economic reality.”

Before the meltdown, economists completely ignored voluminous data pertaining to excessive debt growth and leverage. In the U.S. and similarly in other developed countries, between the early 1980s and until the financial meltdown, annual consumer and private debt growth often greatly exceeded income and GDP gains by 100 to 200 per cent. U.S. data showed that in “2006 it took $6.32 of new debt to produce one dollar of national income.” Yet mainstream economists either did not know, or totally ignored this rapid accumulation of excessive debt and negative debt productivity with their potential for creating a devastating negative economic shock.

Even if most economists glimpsed the possibility of a forthcoming meltdown, many preferred to say nothing about it. What bank economist would want to tell his management to halt lending while every other bank is massively expanding it? A fall in the bank’s stock price could follow such an announcement and the economist would either have to retract his words or possibly be asked to leave.

Statistics that economists rely on, most especially in the U.S., have been so modified over the past three decades that comparisons with prior periods or with other countries is almost impossible. They also make the U.S. economy look better than it really is. I suggest readers go to www.shadowstats.com for an understanding of how U.S. governments’ statistics have been changed. Relying on debatably biased statistics provides cover for politicians and compliant economists to project rosier views of the world than might really be the case.

The potential of faltering consumer demand should have been obvious to economists by 2007. In the U.S., savings rates (whose statistics were again revised and look ‘better’ than they used to be) dropped to all time lows hovering in the -2 to 0 per cent range of after-tax disposable income. This was while debt service levels were at all time highs. These extremes demonstrated that consumers could retrench in their spending at any moment. Yet mainstream economists never sounded the warning!

Complicit, non-analytical media fed economic illusion
The media were at fault too. Facing deadlines and wanting ‘reputable’ quotes, they inevitably interviewed economists from major financial institutions who had a vested interest in not rocking the boat. A few years ago a top Canadian journalist, when asked why he primarily quoted bank economists on the economy, replied that they were always available, whereas economists in academia – who might give a more independent view -were not.

Keynes theory inappropriate today
Most economists follow Lord Keynes’ economic theories. A principal concern of his was what he called the ‘output gap’—the difference between an economy’s potential output versus its present performance. If the economy was underperforming, Keynes advocated the government spend and borrow more to close the gap. Of course, this is what governments are doing today, spending and borrowing anywhere from 3 to 16 per cent of their GDP as private consumer demand for goods and services has fallen precipitously.

Keynes also indicated that in good economic times governments should tax more and run surpluses to offset the deficits of bad times. However, I have not seen any large developed country government or international economic agency project surpluses in the decade ahead. Thus, Keynes’ theory relating to eliminating government deficits will not work today. His current day followers conveniently neglect this aspect of his theory. Thus, huge debt accumulation with no offsets is facing developed countries.

Debt growth to depress economic activity
Now with developed countries’ government debt expanding rapidly, a limit to their bond issuance might be reached.

In a major report last March, the Bank for International Settlements (BIS)—the ‘central bank of central banks’—studied government debt trends in twelve countries including the U.S, U.K., Germany, France and Japan. The Bank said that, “drastic measures [bold added] are necessary to check the rapid growth of current and future liabilities of governments and reduce their adverse consequences for long-term growth and monetary stability. Drastic measures means big government program cuts and higher taxes, which create slow or declining economic growth.

Highly regarded Professors Carmen M. Reinhart and Kenneth S. Rogoff confirm this prospect of slow or negative growth ahead in their seminal study, “Growth in a Time of Debt,” published January 2010. They found that when government debt/GDP ratios are, “… above 90 per cent, median growth rates fall by one per cent, and average growth falls considerably more.” BIS estimates put U.S. government debt exceeding this threshold: at 92 per cent for 2010 and 100 per cent in 2011.

Economists once again getting it wrong
Her Majesty, just like her subjects and the citizens of most developed countries, were all misled by their economists. The majority of economists today have not changed their ways, continuing to fall prey to all the concerns earlier mentioned, and again painting a rosy picture for the next few years. Quoting Christina Romer, Chair, U.S. government’s President’s Council of Economic Advisors, “the Administration forecasts [real, after inflation] growth of 3 per cent in 2010, followed by growth of 4.3 per cent in both 2011 and 2012. Our estimate of growth in 2010 is virtually identical to the consensus of private forecasters surveyed by Blue Chip Economic Indicators (Blue Chip) and is right in the middle of the central tendency of the Federal Reserve’s Federal Open Market Committee (FOMC) forecast released in November.”

Such consistent rapid growth has not been seen for many, many years—and never in periods of such overbearing private and public debt. My bet is these economists, like most of the others, get it wrong again!

Copyright alrroya.com

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• U.S. Personal Savings Rate To See Big Gains

Posted by Ron Robins on September 4, 2008

There is good news coming. Americans are about to save more, much more. A new consciousness is dawning. It is one that brings enhanced balance to Americans material and inner personal lives as they re-evaluate their futures due to changed circumstances. Boomers approaching retirement are seeing their homes decline in value, their stock market investments in difficulty, and concerned about government support—are realizing the importance of savings as never before.

Recently, U.S. tax-payers received up to $600 in cash from their government. It seems that Americans are choosing to save it. In May 2008 the savings rate as a percentage of personal disposable income shot-up to 4.9% and in June to 2.5%. This occurred after the rate was near zero for about three years and the lowest since 1933. These higher savings rates are just the beginning of a trend that I believe will crest with savings rates in excess of 10% in the next few years.

Higher savings rates will eventually create a new economic equilibrium and allow for vigorous economic expansion. However, until this new economic equilibrium emerges, the increased savings rates have some downsides. It begins with a significant reduction in consumer expenditure. The U.S. is the world’s leader among developed countries in having the highest consumption relative to its gross domestic product (GDP). Stephen Roach of Morgan Stanley shows that U.S. consumption is about 71% of GDP, compared to 56-57% in most other developed countries. The U.S. average for the years 1975–2000 was 67% of GDP, and for 1950-1975 around 64%. Now the U.S. is likely to head back to the latter figure.

Why Americans will save more
Another consequence of lower consumption will be further downward pressure on Americans most important asset – their homes. Until recently, Americans saw their homes as the safe place to invest in and build equity for retirement. But they now understand this strategy may not work well in the future. Purchasing a home for investment purposes will be de-emphasized. Home prices are likely to fall even further, scaring particularly those boomers to save in other ways.

In addition, declining consumption could mean even lower stock market returns than even the abysmal ones seen in recent years. Adrian Ash in his article, The Decade of No Returns, says, “… the total return [capital gains and dividends] on the S&P500 [the pre-eminent U.S. large companies stock index] was actually negative for the decade ending on 30th June 2008.” The numbers were adjusted for inflation as well. By far the largest proportion of Americans’ stock investments are held in companies that make-up the S&P 500 Index.

Incidentally, if you account for the declining value of the dollar internationally, then performance of the S&P 500 delivered a negative real return of about -20 to -40% over the past 10 years! And Americans investing in S&P 500 companies did also participate significantly in the growth of foreign market as well. Such revenues grew rapidly to around 40% of total S&P 500 sales during this period.

Therefore Americans planning to retire in the next few years cannot rely on the stock market to replicate its gains seen between 1980 and 2000, to fund their retirement. They simply have to save more and place some of those savings away from the stock market. (Note: I do not anticipate Americans abandoning stocks. And there will be some market sectors that will do very well even if the broad market struggles.)

Boomers also have to question the ability of the U.S. government to fund their medical needs and pensions in retirement, as the U.S. government is in one heck of a hole – a hole of around $70 TRILLION! The enormity of this funding gap cannot be easily grasped. But let us try. In an article, U.S. ‘fiscal gap’ paving the road to meltdown, by Derek DeCloet in the Canadian Globe & Mail he states, “To earn $70-trillion in profit, you’d need 1,723 companies the size of ExxonMobil; $70-trillion would be equal to the annual sales at 1.35 million Wal-Mart stores. [Now that’s]… not the size of the U.S. government’s debt, though. It’s the shortfall between its projected future revenues and what it plans to spend (in today’s dollars).”

It is evident from the U.S. government’s financial position that its promised benefits to its citizens could be cut significantly – while substantially raising taxes as well. In such an environment boomers have no other option but to urgently save a heck of lot more now.

A new consciousness arising bringing balance to spending and saving
Americans, whether they be boomers or from generations X, Y and Z, are at the cusp of a new consciousness. They will bring a new balance to their material life and inner desires. The rapidly changing financial picture together with a fundamental shift in their consciousness concerning what is important in life, will place a renewed emphasis on savings. In years to come, this will be seen as a great turning point for the American economy, a turn towards a more balanced Enlightened Economics.

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© Ron Robins, 2008.

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