The Rise In Returns To Education And The Decline In Household Savings

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Download or read book Why is the Household Saving Rate So Low?. written by and published by . This book was released on 2005 with total page 0 pages. Available in PDF, EPUB and Kindle. Book excerpt: Despite mostly favorable economic conditions since the early 1990s, one development -- the focus of this report -- may be cause for concern. While the economy was growing, household saving fell to next to nothing. At the beginning of the 1990s, households saved, on average, about 8% of their after-tax income. Since then it has steadily declined, and in 2005 the proportion of income households set aside had fallen close to zero. One of the most striking aspects of the economic expansion of the 1990s was the dramatic rise in equity prices. Between 1991, the beginning of the expansion, and 2001, the year it ended, the Standard and Poor's index of 500 stock prices rose by 217%, and the NASDAQ stock price index increased by 313%. The standard economic model of saving behavior assumes that households are likely to spend more and save less out of current income given an increase in their wealth. Given that, it seems reasonable to suppose that those increases in equity prices had something to do with the decline in the personal saving rate. A number of studies have found that the decline in the personal saving rate during the 1990s was due at least in part to the rise in equity prices. The stock market peaked in the second half of 2000. Between September 2000 and October 2002, the S&P 500 fell by 46%, while Nasdaq fell by about 75% from its 2000 peak. Since then stock prices have recovered, but they remained below the 2000 peak through late 2005. Even though the stock market boom ended, the household saving rate continued to decline. That household saving continued to be anemic even after the stock market cooled suggests that there are other factors that need to be considered. One candidate is the boom in the housing market. Since late 1997, the price of housing has risen rapidly. Between 1997 and 2005, house prices rose by an average of about 80%. While there are reasons to think that housing price appreciation might not be a good substitute for saving, a number of empirical studies, while not quite a consensus, found evidence to suggest that it might. When changes in personal wealth are taken into account, the decline in the official saving measure may be less of an issue, although there will always be concerns about the durability of any gains in asset prices. With respect to the household sector's contribution to total national saving, that has clearly fallen. Meanwhile investment spending has risen relative to gross domestic product (GDP), in spite of the decline in personal saving, due to the increase in capital inflows from abroad. Some of the productivity gains likely to result from that increased investment, however, will benefit foreign rather than domestic investors. If house prices come down in the future, however, as happened to equity prices, households will end up with less wealth than they anticipate. That would make the current low saving rate seem more of a problem. This report will not be updated.