The inequality-made imbalances 2: Uncovering the US saving glut

US savings stored in the US domestic debt needs to be analyzed through gross financial variables in the savings equation.

Components of net exports, domestic financial savings and domestic liabilities uncover the US saving glut.

US financial saving figures suggest a US saving glut. Nevertheless, US savers have not been recognized as a saving glut source due to the statistical misrepresentation netting US financial savings with US financial liabilities.

The inequality series

Interest rates have been falling in the US since they peaked in 1981. In late 2008, the Federal funds rate hit zero. It was followed by the 3-month LIBOR and 2-year US treasury rate in months. It took more than 10 years for the 10-year treasury rate to approach to zero in the pandemic crisis. While nominal interest rates are around zero, negative real interest rates turn negative.

Economists have tried to explain negative interest rates. This series reformulates Bernanke's global saving glut hypothesis to explain financial and economic imbalances such as financial crises, recessions, negative interest rates and asset price bubbles.

The first post of the series ended with a claim: The US might have been producing saving glut despite its current account deficit. This post analyzes the claim through the conventional savings equation and the equation formulated in the previous post with demand and supply side factors.

Why is the US saving glut not observable?

As explained in the previous post, Bernanke's savings glut hypothesis relies on the US current account deficit, negative net financial savings of the US.

Savings = Investment + Net Exports (Net Financial Savings)

Netting financial savings with liabilities leads to significant data loss. To discover the US saving glut, the savings equation should be rewritten with the net exports components:

Savings = Investment + Net Financial Savings (Net Exports)

Savings = Investment + Domestic Financial Savings - Domestic Liabilities

US residents' saving desire might have been satisfied by the US domestic debt issuance. The statistical data of all savings determinants would give an idea about the US saving desire.

Present savings statistics net financial savings and liabilities of the same unit. The US savings is made of investment and net financial savings. Likewise, US personal savings is made of persons' investment and persons' net financial savings.

In the charts, both the US savings rate and US personal saving rate comprise net financial savings. For the US saving rate, domestic financial savings and domestic liabilities are netted:

Savings = Investment + Net Financial Savings

Savings = Investment + Domestic Financial Savings - Domestic Liabilities

For the US personal saving rate, personal financial savings and personal liabilities are netted:

Personal Savings = Personal Investment + Personal Net Financial Savings

Personal Savings = Personal Investment + Personal Financial Savings - Personal Liabilities

US savings are largely driven by net financial savings while US investment level is steady. As financial liabilities of the US is greater than its financial assets, negative net US financial savings (net exports) deplete US savings. Hence, growing current account deficit had depleted US savings until the GFC. As the deficit shrank following the GFC, the US savings rate partially recovered. Though, the savings rate's upwards trend is not strong enough to bear out a US saving glut.

The US saving rate

Source: World Bank at https://data.worldbank.org/indicator/NY.GNS.ICTR.ZS?locations=US

The US personal saving rate

Gross financial savings matter

Netting US financial savings with US liabilities causes significant data loss. An illustration would better show how US savings can be hidden in net financial savings. A's desire to save all her income remains as the critical point from the previous post with a difference: Now, the economy has a bank making loans and deposits.

In the first two years, A had produced a house for B and for himself. In the third year, both A and B do not need a house. The only remaining tradable good in the economy is hamburgers now. A can produce hamburgers while B produces no tradable good.

To buy a hamburger, B takes a loan from the bank. The bank deposits $100 into B's account. B sends $100 to A. A produces hamburgers for B.

A earns $100:

A's assets: +$100 Deposit

A's liabilities: +$100 Income (Equity)

B spends and owes $100:

B's liabilities: -$100 Expenditure (Equity)

B's liabilities: +$100 Loan

Thanks to the debt relationship between A and B under the intermediation of the bank, the economy produced $100 money supply.

The bank made a loan and deposit for $100:

Bank's assets: $100 Loan

Bank's liabilities: $100 Deposit

Compared to the illustration in the first post, bank's intermediation does not make any significant change. As bank deposits are accepted as money, now B's loan becomes A's money.

How does the transaction between A and B affect US savings and US personal savings?

Savings = Investment + Net Financial Savings

Savings = Investment + Domestic Financial Savings - Domestic Liabilities

$0 (Savings) = $0 (Investment) + $100 (Domestic Financial Savings) - $100 (Domestic Liabilities)

Personal Savings = Personal Investment + Personal Net Financial Savings

Personal Savings = Personal Investment + Personal Financial Savings - Personal Liabilities

$0 (Personal Savings) = $0 (Personal Investment) + $100 (Personal Financial Savings) - $100 (Personal Liabilities)

Surprisingly no impact is observed as all gross financial savings and liabilities are netted in saving equations. Therefore, US financial savings stored in US liabilities do not raise any saving parameter.

Although the debt relationship between A and B cannot be observed in net financial savings, it has a profound impact on output and interest rates. In the absence of B's loan, A's saving desire would not be satisfied. As a result, A would not produce hamburgers. The economy would lose $100 output. Interest rates would fall to deter A from saving and to convince B to raise a loan. Lower interest rates serve to raise consumption debt to sustain an an output at potential.

To sum up, nonfinancial sectors' gross financial savings should be taken into account in order to be able to conduct a thorough savings analysis.

Uncovering the US saving glut

What if US financial assets were not netted by US liabilities? As financial institutions merely intermediate between lenders and borrowers, US nonfinancial sectors' financial assets would be the correct indicator of US gross financial assets.

In the chart, US nonfinancial. sectors' financial assets are shown. Since 1980s, US residents have been possessing more financial assets with respect to their disposable income with the exception of crises.

Domestic nonfinancial sectors' total financial assets as percent of GDP

Source: Federal Reserve, retrieved from https://fred.stlouisfed.org/series/BOGZ1FL384090005A#0

US nonfinancial sectors' total financial assets to GDP rose from 3.34 to 6.89 between 1980 and 2020. In average, US residents have increased their financial asset holdings by 8.8% of GDP every year. Their financial asset holdings in the US have driven US interest rates whereas their financial asset holdings in abroad have driven other countries' interest rates.

In the mean time, current account deficit has been between 0 and 6% of GDP. In average, nonresidents have increased their US financial asset holdings by 2.6% of GDP every year. In return of imports from other countries, the US has exported debt accounting for 2.6% of GDP each year.

US current account to GDP, 1980-2020, percent

Nevertheless, the analysis still relies on a net variable. The current account indicates foreigners' net financial savings, US financial liabilities less US financial assets. Not only foreigners' net financial savings but also their gross financial savings in the US matter for interest rates. On the other hand, not all US financial savings matter for US interest rates. Foreign assets held by US financial savings drive other countries' financial parameters.

Recall the equation comprising all demand and supply factors from the previous post:

URS + UUFS + OUFS = UI + UUFL + UOFL

U denotes the US, O denotes other countries. Variables on the left side represent demand factors of assets whereas variables on the right side represent supply factors of assets. Each variable has an identical twin:

URS (Real Savings) = UI (Investment)

UUFS (US Financial Savings in the US) = UUFL (US Financial Liabilities to the US)

OUFS (Other Countries' Financial Savings in the US = UOFL (US Financial Liabilities to Other Countries)

Real savings, US financial savings in the US and other countries' financials savings in the US constitute the demand factors. Their counterparts on the hand side are US investment, US financial liabilities to the US and US financial liabilities to other countries. Each factor on the equation has an impact on interest rates.

Foreigners' US financial asset holdings (OUFS / UOFL) to GDP rose from 0.2 to 1.9 between 1980 and 2020. The yearly average increase is 4.3% of GDP.

Rest of the World's Total Financial Assets to GDP

US financial savings should be split into two to distinguish US savers' domestic financial assets (UUFS / UUFL, blue line on the graph) and foreign assets (green line on the graph). Both had been in an upwards trend between 1980 and 2007. Since the GFC, US savers' foreign financial asset holdings to GDP have been steady while their US financial asset holdings to GDP continued to climb. Between 1980 and 2020, US financial savers raised their US financial assets by %6 of GDP each year.

Between 1980 and 2020, US savers have bought more US liabilities than foreign savers. Hence, US financial savings have played a major role in depressing US interest rates since 1980.

Domestic Nonfinancial Sectors' Total Financial Assets to GDP

US domestic financial saving figures suggest a US saving glut. Nevertheless, US savers have not been recognized as a saving glut source due to the statistical misrepresentation netting US financial savings with US financial liabilities. Synchronized movements of US residents' financial savings and foreigners' financials savings in the US also suggest that global factors play a role in the savings motivation. At present, most analyses rely on the difference between the red and blue lines. Although the red line is higher than the blue line, it is lost in the US net exports (net financial savings) account.

Total Financial Assets to GDP, Rest of the World and Domestic Nonfinancial Sectors

A thorough saving analysis should encompass nonfinancial sectors' holdings of US financial assets. The rise in US residents' gross financial asset holdings suggests that a significant source of the saving glut is domestic actors in the US.

What is next?

Why have some US residents been piling up financial assets while others have been raising debt? Upcoming posts will explain the role of inequality on savings.