I read an article titled The recession's antidote authored by Jack Mintz in Financial Post last week. Mintz starts off by referring to Paradox of Thrift, a popular Keynesian notion, which in principle states that personal savings might be good for an individual but they do more harm than good to the economy. However, contrary to Keynesian school of thought, author believes that savings, both public and private, can act as an antidote to the ongoing and future global recessions. Jack Mintz is a seasoned public policy expert and his opinion cannot be discarded without giving it a serious thought.
Although Mintz' wishes to present an opinion that is not line with most of the Keynesian macro-economists, he has certainly advocated for them by saying that the current economic recession might actually be a result of savings in the economy. Most of the macro-economists believe that savings are a "leakage" which has led to a decreased demand of goods and services in the recession-hit economies and hence a global recession. According to experts, this is the worst recession the world has seen and it has largely been attributed to the high default and delinquency rates in the US home mortgage market. It can be argued that, if at first place, the US and other Western economies were savings based, people wouldn't have taken those huge mortgages and then maybe they would not have defaulted. Hence, saying that high savings rate can drag an economy into a recession seems to be an exaggeration. Paradox of Thrift was hypothesised in first half of 20th century when most of the economies were closed and there was very little cross border trade. However, it may not hold true in today's scenario when most of the countries are largely interdependent and consumer driven.
Mintz says some economists are asking for cuts in interest rates and taxes to boost the consumer demand. However, at prevalent tax rates, people prefer spending over saving. In general, high-taxes are believed to be detrimental to growth of an economy. I would like to argue against this theory. Let's take an example. Average tax rate in Canada can go upwards of 40% and we know that people have been saving around 15% of their salaries. If a person has an annual salary of $ 60,000, he will be left with approximately $ 30,000 to spend. Now according to Mintz, the tax rates should be brought down to encourage people to start saving more. Suppose, the government brings down average tax rate to 30% and people increase their savings to roughly 25-30% of their earnings. Back of the envelope calculation will show that an individual will have the same amount to spend in a year. This means that a high-tax rate can also, in a sense, substitute for personal savings. In other words, government is indirectly saving on behalf of every individual.
Mintz also refers to American leaders who criticize Asian economies for saving too much. Most of these American leaders want these economies to cut down on savings so that there is no imbalance of excess borrowing and lending between North American and Asian economies. Mintz then talks about the over-indulgent nature of Americans and frugal nature of Asians and apparently views Asian economies as successful solely because of the high savings rate of Asian economies. I disagree with the author here. Because if that was the case, the financial crisis of 1997 would not have gripped Asia. The spectacular growth of East Asian and South-East Asian economies has largely been attributed to their technological progress and the government friendly investment policies.
In my opinion, there is a stark difference between the mindset of Asians and Americans. Asians from very young age are taught to save of whatever they earn. This could be because people in Asian countries are generally insecure about their future and there is not much government sponsored social security. On the other hand, people in Western and European countries do not have to worry about their future to that extent because of the extremely robust social security systems in those countries. Thanks to those easily available credit cards and personal lines of credit, people in these countries end up spending more than they earn. I believe changing this mindset is the biggest hurdle in encouraging people to save more rather than bringing down taxes.
The author is correct in saying that we need to start worrying about our future and start encouraging people to save. The government should certainly align its policy towards a more savings-friendly tax structure which encourages people to investment more in government -backed securities and infrastructure bonds. The interest and dividends can also be made tax free. These measures might encourage people to save more. But will these measures make our economy recession proof? Not sure, since we don't know the answer the biggest question here: How much saving is optimum saving for the economy?
Mintz' argument that savings are an antidote to recession has got weak towards the end of his article. He focuses more on talking about the policies that should be adopted by the Canadian government rather than presenting evidence to support his argument. I believe that the ongoing recession cannot be solely attributed to the savings-ignorant mindset of Americans. Economic recessions in the past have been triggered by factors like depressed economic outlook and market sentiment or even industry-specific downfalls. We should not forget that this recession has been a result of the deficiencies in our regulatory systems and personal greed. The recession's antidote in the current situation therefore, is not only higher savings but a strongly regulated financial-system, educated investors and ethical managers.
