Macroeconomic determinants of the national savings rate

Macroeconomic Issues That Determine the National Savings Rate

National savings and the economy

The National Savings rate is the estimate from the U.S. Commerce Department's Bureau of Economic Analysis (BEA) of the amount of money left over from personal, business, and government after subtracting consumption costs and expenditures. National Savings in combination with borrowing from abroad leads to higher living standards and optimistic prospects for future growth. Investment in new capital improves productivity of the workforce, and saving whilst it can and whatever it can pays for government commitments to elderly, whilst also investing money into education that enhances the knowledge and skills of the nation and invests in research and development that creates opportunity for further technological discoveries, hence further opportunity for wealth. This creates a rate of return where potential profit (or the value of the marginal product of an investment) exceeds the real rate of interest

National Savings in its stable state must equal the following algorithm:

Y=C+I+G+NX.

Y represents total expenditure; C. is consumption, I is investment, G is government purchase and NX is net exports. The government cannot afford to get into a government budget deficit (by spending more than the income it receives via tax collection) and strives to make a government budget surplus (where income from tax collection exceeds the spending that it does).

When in deficit, government raises funds by issuing bonds and selling them to savers. (It then has the problem of redeeming them). Savers profit by earning interest on their savings.

National Savings and the government

Federal economic policy affects the amount of federal government saving and this, in turn, affects the amount for cumulative National Saving. In recent years, for instance, federal policies added its surpluses to national savings thereby giving the Country more to invest and using surplus funds to reduce its national debt. Additional dollars put into government savings does not automatically increase national savings since changes in savings by businesses and private individuals may cause changes to government saving. The federal budget for instance will be increasingly driven by the growing older age of the aging population and by the fact that there are fewer workers supporting each retiree.

Savings, in the long run, are projected to be insufficient to accommodate projected growth in Social Security and health entitlements as well as other important national requirements. Federal government attempts to work around this problem in various ways, by not only increasing government saving but also by using budget surpluses to finance federal investment and to invest in education and research, which if properly implemented, can increase the nation's stock value.

The federal government likewise has experimented with various policies in order to encourage private saving in order to not only improve the individual's private security but also boosts national saving as a whole.

Solow Model

The National Savings situation can be explained by the Solow model that illustrates how the country depends on national savings in order to boost productivity, and how it benefits by expanding some of these savings in technology / research / education in order to grow.

The Solow Growth model explains why and how labor productivity grows over time. The three assumptions of the model are that labor (L), capital (K0 and knowledge (A) are the components of the nation's GDP. Knowledge (that produces technology) augments Labor (L) and leads to enhance capital (K) for country. The integrated component is therefore 'effective labor' (AL).

We assume that the growth rates of knowledge and labor are constant, and for government to benefit from this constant effective labor, it has to save in order to invest in it. This necessitates that the National Savings, i.e. The production saved for investment is also constant and exogenous, as well as the rate of depreciation so that savings remain constant. Savings and output of "effective labor" affect both internal productivity and further opportunity for wealth that the government can make from the labor.

The model ignores changes in political situation, as for instance recession and the growing age of the elderly, as well as the rate of private savings. All of this troubles the present government since, for it to succeed and have sufficient National Savings to produce K, it needs to keep on having constant and exogenous savings to invest in knowledge / technology.

Note: The 'I' represents equilibrium Income. S is equilibrium Saving. K represents capital (profit). I-S represents consumption ©. N= growth in labor; G= growth in technology, and D= depreciation. The green line showing that integration of the three is the most surest route to national wealth. (Romer, 2011, pp.9-17)

Recessions and expansions

Obviously, the amount of natioanl savings that the government possesses depends on the economic era that it is experiencing. One where the country has less in its coffers due to the fact that the economy is functioning significantly at a rate below normal makes government savings less since private individuals and business have less. A recession is at least two consecutive quarters of national growth. Recessions, accordingly, are harmful not only for individuals but also fro the country as a whole. Expansions, on the other hand (the reverse scenario), are wonderful for National Savings.

Recession also effect national employment since fewer people are employed and thus impacts national productivity as a whole since the amount of output (real GDP), or full employment output, is produced at less than its optimal rate since deficient capital and labor is employed. This produces an output gap since there is a differnce between the economy's potential output (how much it can potentially use given that the country were not enduring fiscal deprivation) and its actual output. Technological progress slows down and the whole situation hurts government national savings in at least three ways. Firstly, the government is impeded from utilizing its resources to the optimum and thereby procuring potential wealth. Secondly, National Savings have to be doubled back into themselves to help a country recoup it losses and climb to its feet, so the government is spending rather than saving. Thirdly, the government is impeded from saving and investing in education / research / technology. Current output remains below potential output.

Keynesian model

Keynesian economics might provide some form of optimism to the National Savings situation since it provides a form of panacea for the government's economic troubles. The Keynesian model asserts that unemployment can be cured through government deficit spending and that inflation can be checked by government tax surpluses. This is a recommendation for the federal government for how it can best use its money / savings in order to have enough to meet coming challenges.

The Keynesian model comes to its conclusions by lumping the activity of all individuals and businesses in the nation at a given period, thereby dealing with aggregate national income. Its fundamental principle is that aggregate income represents aggregate expenditures since individuals only earn a certain sum when someone else spends that sum. Expenditure for goods and services represents consumption, whereas expenditure on means of production of goods represents investment. Saving is characterized as not spending on consumption. For any particular level of income therefore there will be a part that will be saved and a part that will be consumed. This relationship is fixed by the habit of consumers, and therefore the level of national income determines consumption but investment is exogenous to national income. The government can, therefore, despite recession, decide to put aside surplus budget for the National Savings, which it can use to invest in technology or research / education, would it so wish. The government can also decide to spend less in foreign trade. These two aspects -- government deficit and government surplus -- exist outside of national savings (i.e. aggregated income) and can be invested and employed howsoever the government wishes. (The problem, peripheral to this case, is the elderly retiring age that may absorb this money).

Macroeconomics of National Savings shares many of the same situations as microeconomics in terms of individual's savings, primarily in that as the price off government bonds fall as the interest rate increases and rises as the interest rate falls. It is also likely to find fewer buyers in the later scenario.

In an economy where international borrowing is scant if non-existent due to high prices, the government must fall back on itself and equalize its supply of savings and demand for savings through its financial institutions and financial market. By increasing interest rate, the government can accordingly attract people to save more. The real rate of interest is one of the factors that affect the demand for money. As seen by the money demand curve in the following figure -- as interest increases, people are willing to invest more money in government bonds. National Savings, as a result, may potentially expand: This also accords with the Keynesian model where aggregate income represents aggregate expenditures.