The International Monetary Fund is a pretty solid, even staid, institution and doesn’t issue statements in response to the latest headlines, hand-wringing, or heady economic theory. It does its own analysis and draws its own conclusions.
So when the IMF published a report on U.S. consumer spending that suggested that recession frugality is here to stay, economists took it seriously.
The report, “U.S. Consumption After the 2009 Crisis,” looks at the changes in U.S. consumer spending that the financial bust caused and estimates what it will do to spending patterns in the future.
It is not intended to be scary, as such, but it does suggest that things are going to be different in our economy … very different, and for quite some time.
As we all remember so well, the financial collapse delivered a shock to household consumption and it hit home, literally, in late 2008. Household consumption declined then, for the first time in decades, and continued declining into the next year. Now, in 2010, it remains well below its peak, or even its previous average.
After noting that the decline was a departure from the continuous growth of consumption since the 1980s, the fund’s economists write, “we estimate that this departure will be sustained beyond the crisis: the U.S. household consumption rate will likely decline somewhat further from its current level, as the saving rate rises to around 6 percent of disposable personal income (from nearly 5 percent in 2009).”
What is even more significant, though, is their conclusion that, “We expect the U.S. consumption to remain at a relatively subdued level over the next several years, with the household saving rate settling at 5-7 percent of disposable personal income…”
Considering that the household savings rate had been perilously close to zero for a number of years, this is a major shift in consumers’ buying habits and reflects a change in both attitude and perspective on household savings. When the housing bubble burst and the financial sector collapsed, it forced many Americans to rethink their savings and consumption patterns.
Prior to the bust, many households had been substituting balance sheet savings for income statement savings, paper profits for cash-in-hand. They were aware that since they were spending virtually all of the income they had coming in they had a savings rate close to zero. But they felt financially secure with their savings position because their net equity in their home was growing — due to rising market prices for houses.
It became easier for households to be comfortable with that idea — and more difficult to resist it — when the rate of growth in housing prices began to accelerate. The value of an ordinary house could, and often did, go up $25,000 — and even more in some markets — in a year. For most people, household savings of 5 percent or even 10 percent of income could look puny compared to that. For many households, normal savings out of income begged the question: Why scrimp and deny ourselves things to save $5,000 a year when our home equity is growing five times that in the same 12 months?
The financial collapse, of course, taught us harsh lessons about the difference between profit from increased market valuation — sometimes known as “paper profit” — and real earnings. It also reminded us about the importance of liquidity, and how houses are not liquid assets.
Households responded to the recession in a rational way, by cutting consumption, reducing debt and increasing savings. What we do not know for sure is how long that pattern will persist.
The 3 percent increase in savings estimated by the fund sounds like a lot, but it is enough to make major changes in the script of our financial history? And the larger savings rate is timed perfectly to absorb of the increased financing of government debt. But will it last?
The report isn’t wrong about the math, but the IMF may be overestimating the permanence of our current, sensible behavior. Households are not likely to remain frugal in the face of the inflation that is almost certain to result from the huge increase in deficit spending by the federal government. Inflation is a unlegislated tax on savings and it won’t take consumers long to figure that out.
If our economic recovery proceeds on its current course, it is likely that households will begin spending more and saving less as the intensity of the recession wears off and our short attention spans kick in. The change in spending patterns will probably become noticeable by 2011, and by 2012, households will be back to their old ways, and the aggregate savings rate will drift downward to about 3 percent. That’s just the way we are.
James McCusker is a Bothell economist, educator and consultant. He also writes a monthly column for the Snohomish County Business Journal.
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