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Saturday, July 25, 2009

How Much of the Increase is Permanent?


Update: Brad DeLong answers:

I would guess that only a small part of the rise in the savings rate is permanent. Financial distress was and is much greater than in past post-WWII recessions, and financial distress is associated with transitory rises in the savings rate.

Update: Since we're on the topic, Martin Feldstein thinks the saving rate will be higher in the future, but not high enough to avoid increases in the real interest rate:

US saving rate & the dollar's future, by Martin Feldstein, Commentary, Project Syndicate: ...The saving rate of American households has risen sharply since the beginning of the year, reaching 6.9 per cent of after-tax personal income in May, the highest rate since 1992. In today’s economy, that is equivalent to annual savings of $750 billion.

While a 6.9 per cent saving rate is not high in comparison to that of many other countries, it is a dramatic shift from the household-saving rate... Dramatically lower share prices and a 35 per cent fall in home prices reduced household wealth by $14 trillion... Individuals now have to save more to prepare for retirement, and retirees have less wealth to spend. Looking ahead, the saving rate may rise even further, and will, in any case, remain high for many years.

The increase in the household saving rate reduces America’s need for foreign funds to finance its business investment and residential construction. Taken by itself, today’s $750 billion annual rate of household saving could replace that amount in capital inflows from the rest of the world. Since the peak annual rate of capital inflow was $803 billion (in 2006), the increased household saving has the potential to eliminate almost all of America’s dependence on foreign capital. ...

Without a fall in the dollar and the resulting rise in net exports, a higher saving rate and reduced consumer spending could push the US economy into a deep recession. By contrast, the lower dollar makes reduced consumption consistent with full employment by shifting consumer spending from imports to domestic goods and services, and by supplementing this rise in domestic demand with increased exports.

But this direct link between higher household saving and a lower dollar will only be forged if higher household saving is not outweighed by a rise in ... government deficit. A large fiscal deficit increases the need for foreign funds to avoid crowding out private investment. Put differently, the value of the dollar reflects total national saving, not just savings in the household sector.

Unfortunately, the US fiscal deficit is projected to remain high for many years. ... If that high level of government borrowing occurs, it will absorb all of the available household savings even at the current elevated level. That would mean that the US would continue to need substantial inflows of foreign capital to fund business investment and housing construction. So the dollar would have to stay at its current level to continue to create the large trade deficit and resulting capital inflow.

It is, of course, possible — I would say likely — that China and other foreign lenders will not be willing to continue to provide the current volume of lending to the US. Their reduced demand for dollars will cause the dollar to decline and the trade deficit to shrink. That reduced trade deficit and the resulting decline in capital inflows will lead to higher real interest rates in the US. The higher interest rate will reduce the level of business investment and residential construction until they can be financed with the smaller volume of national saving plus the reduced capital inflows.

Although the higher level of household saving will limit the rise in US interest rates, it will not change the fact that the combination of large future fiscal deficits and foreign lenders’ reduced willingness to buy US securities will lead to both a lower dollar and higher US interest rates.

Since the increase in the long-term fiscal deficit Feldstein is worried about is mostly due to the expectation of rapidly increasing health care costs, this points to the need for health care reform that can (compassionately) control escalating health care costs.

Update: Speaking of health care reform, Ezra Klein looks at the lessons to be learned from Clinton's attempt to reform health care:

The Ghosts of Clintoncare, by Ezra Klein, Commentary, Washington Post: Barack Obama's strategy to pass health-care reform seems based on a simple principle: Whatever Bill Clinton did, do the opposite. ... Few legislative failures have been as catastrophic as Clinton's on health-care reform. ... Yet there are aspects of Clinton's approach that could, and should, inform Obama's effort -- and not just as examples of what not to do. ... Clinton got the politics of reform wrong, but in important ways, he got the policy right. He just got it right too soon.

By the time Clinton and his team took office, the insurance market was changing. American consumers had traditionally relied on the most straightforward of insurance products: indemnity insurance. You went to the doctor or hospital of your choice, and that doctor or hospital sent your insurer the bill. Hopefully, your insurer paid it. That was that. The plans weren't confined to networks tangled in deductibles and co-pays. But they weren't holding down costs, either, and the system was becoming unaffordable. Managed care, a new system that ... envisioned a more central role for insurers ... was rapidly emerging... But this was a dangerous change. Insurers make money by denying claims. Money they spend on health care is money they lose...

So Clinton sought to cage managed care inside managed competition, which would regulate the behavior of insurers and force them to compete for patients. This would give consumers more power against their insurance companies, drive the bad actors from the market and generally protect against the excesses of managed care. Clinton's plan also included a handful of other safeguards, like out-of-pocket caps and an independent appeals process, designed to protect consumers from deficient insurance. ...

But if Clinton's team of enlightened wonks could glimpse managed care over the horizon, the public wasn't as farsighted. Bill and Hillary weren't seen as meeting and taming the managed-care revolution. The act of writing legislation that included managed care made it seem as if they were proposing it. And there was no political margin in that. Managed care, after all, means less choice. It means provider networks and insurance bureaucrats and complexity. It would have been a hard sell under any circumstances... The plan died a painful and public death...

But then a funny thing happened: Managed care came anyway ... HMOs and PPOs and HDHPs. We're all in networks now. We don't get our choice of doctor. There's no appeals process. No out-of-pocket caps. Nothing to stop insurers from rejecting ... coverage... And if we don't like our insurer? Tough. "We got managed care," says Chris Jennings,... one of Clinton's top health-care staffers. "But we didn't get the things that would protect us from managed care. We got the Wild West version of it."

In the modern health-care system,... the insurers who populate that market have grown all the stronger..., 94 percent of statewide insurance markets are highly concentrated. ... Clinton had promised us managed care within managed competition. Instead, the insurers took control of our care and managed to effectively end competition. Neat trick. ...

All of this has led to an interesting reversal in this year's health-care debate. In 1994, people feared that Clinton would restrict their choices. In 2009, people want Obama to bring their choices back. ... A ... poll last month showed that 62 percent of Americans support the choice of a public insurance option. ... But if the public option would drive private insurers out of business and reduce consumer choice, the numbers flip, with 58 percent opposing it. What people support, in other words, is not public or private insurance, but choice in insurance. That, along with protection from escalating costs, is the inviolable principle of health-care reform. ...

The lesson of Clintoncare was that even if the American people want reform, they do not necessarily want change. And so Obama's health-care strategy involves a delicate effort to ... reform the health-care system without substantially changing it... But this is not the early 1990s. The indemnity insurance that most Americans enjoyed then is virtually nonexistent today. The mergers and takeovers and consolidations in the insurance market have given people less choice and thus less power. Today, the cost issue is more acute, the president is more popular, the Democrats have more seats in Congress, and the Republicans are more fractured. Obama ... was right to dismiss those who would "dust off that old playbook."

But the ghosts still hover. Republicans are fixated on what worked for them in the last health-care battle, and Democrats are overly concerned with what contributed to their failure. Just as Clinton's plan was weighed down by the impression that it would change too much, history may leave Obama's effort vulnerable to the charge that it is changing too little.

The claim that reform will give people more rather than less choice will hard to sell. Politically, I think the focus has to be on how the increase in concentration and power within the insurance industry and the control that gives the industry over the delivery of health care limits choice in undesirable ways.

    Posted by on Saturday, July 25, 2009 at 12:37 AM in Economics, Saving | Permalink  Comments (54)


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