Organisation of households: Aging, savings and financialisation
Phuah Eng Chye (21 April 2018)
Policy incoherence tends to increase with the aging of an economy. Specifically, as the number of retirees increase, policy focuses on incentivising savings to ensure individuals can accumulate sufficient savings for their retirement. But at the macro level, the challenge is the exact opposite. The country has more savings than it can use.
The question then arises as to why individuals are being asked to save more in a mature economy overflowing with savings. Excess savings will put downward pressure on interest rates and reduce the potential returns on domestic investments – which could potentially contribute to replacement income shortfalls in the future. It does seem more logical to discourage savings when there is excess supply. The recent occurrences of negative interest rates certainly add credence to this line of thinking.
There is another aspect of excess savings that has gained prominence. Excess savings implies the increasing domination by capital or an increasing proportion of nominal income being generated by compounding returns of accumulated wealth relative to economic activities. This aggravates inequality. This is because the elite starts off with a larger endowment base which becomes even larger while a large proportion of the population are disadvantaged in that they did not possess adequate savings or are heavily indebted.
In this context, worsening inequalities reflects the core problem of an aging economy is not a shortage of savings but a shortage of income or its unequal distribution. Policies to incentivise savings will not help the poorer half of the population as they don’t have much, if any, savings. In the meantime, giving incentives to the rich to save will, by implication, reduce their spending which will weaken aggregate demand.
There is also an issue of where the excess savings will be invested since it is not needed by the domestic economy. Typically, excess savings are either invested in investible assets (such as the stockmarket or bonds) or in property – which will fuel asset price increases. Otherwise they are invested internationally. Neither option fit the traditional description of productive investment which is often cited as a rationale for savings.
Hence, there is a need for a holistic framework for savings that can reconcile these conflicts in a mature economy. In this regard, the traditional theories of savings as a form of under- or deferred-consumption, or under-investment appear archaic in a world of cryptocurrencies and global capital flows. The paradigm for savings needs to be remodelled within the context of a financialised economy and an information society. In a financialised economy, savings should be viewed as the feedstock for intermediation. At the macroeconomic level, the accumulation of savings from trade surpluses within well-regulated financial institutions are an important buffer against sudden capital withdrawals and are an important aspect of financial stability.
In addition, an affluent economy can live off its accumulated savings – through the steady disposal of local and international assets. Fund decumulation need not pose a systemic threat so long as balance sheet assets and liabilities are matched, risks are well diversified and debt vulnerabilities are minimised. Hence, as an economy ages, there must be a move out of the traditional savings-investment-output paradigm into a paradigm for managing savings within the context of financialisation and social risks.
In this paradigm, there is also room to be ambidextrous in relation to output targets, fiscal balances and prices. In a mature economy, the main challenge is not to revive investments but to rationalise excess industry capacity and inefficient operators as well as to facilitate orderly market clearing by marking down the value of impaired financial assets. The potential risks of contagion from capital destruction can be mitigated by mergers, asset sales and by returning capital via share buybacks and dividends. This would allow debt and equity to be extinguished in an orderly manner. We should also relinquish long-held prejudices against deflation given so much of the landscape has changed. Deflation can be beneficial if it lowers living costs (particularly rentals) for retirees and wage earners.
Overall, the current theories and policies favor aggressive fiscal and monetary stimulus as the only medication able to ward off a depression. But the high and sustained dosages can only delay the effects of aging and financial mismanagement rather than produce a recovery. It may be a question of diagnosis. The current challenges afflicting matured economies may be caused by policies that are inconsistent with the needs of an affluent and asset-rich society undergoing population contraction. The higher the level of excess savings, the greater the risks posed by asset price bubbles. In this regard, the systemic vulnerabilities arise due to the lack of prudential oversight which results in excessive leverage, concentrations and unsound financial practices. Falling output, trade and fiscal deficits may actually pose less problems than depopulation, falling income, rising service costs and capital destruction.
Phuah Eng Chye (2015) Policy paradigms for the anorexic and financialised economy: Managing the transition to an information society. http://www.amazon.com/dp/B01AWRAKJG
Phuah Eng Chye (7 April 2018) “Organisation of households: Aging, secular stagnation and population policies”. Economicsofinformationsociety.com. http://economicsofinformationsociety.com/organisation-of-households-aging-secular-stagnation-and-population-policies/
Phuah Eng Chye (14 April 2018) “Organisation of households: Aging and financial cycles”. http://economicsofinformationsociety.com/organisation-of-households-aging-and-financial-cycles/
 I differentiate capital destruction from creative destruction to focus on the financial effects that arise from falling asset prices.