A Brief Look at Savings

When you look at the current state of affairs in the economy, a supposed credit crunch, unemployment, recession in general, you see the effects of lax monetary policy by the Federal Reserve over the past several years in the context of a cycle that has been going on since the Fed’s inception. What you don’t see immediately is the effect the policy has on savings.

Low interest rates promote borrowing because it’s cheap. Interest rates are prices on money over time. Rather than save $100,000 to buy that house 30 years from now, you take out a loan and get it now paying interest for that convenience.

What isn’t considered is the effect manipulated interest rates have on savings. Real lending comes from savings. You can’t lend something out unless you already have it. (unless you are a bank in the Federal Reserve system.) Likewise you can’t buy something for nothing, even if you borrow the money, you still need the money.

So if you have capital and want to lend it you do so, but only if you deem it profitable. If the interest rates are too low you won’t lend or you won’t lend as much as you would because you’re not making enough profit on the deal. Banks operate in the same manner, and this is reflected in the return you get on a savings account or a certificate of deposit. So in the climate of low interest rates, savings are discouraged.

Because of the inflation due to lax monetary policy, money itself looses value over time, so savings again are discouraged.

With all the incentives to borrow and get into debt, and virtually no benefit to save, more and more capital becomes tied to debt, less and less money is saved.

Eventually this leads into a crash when people can’t get into anymore debt and stop buying and lending institutions run out of reserves to lend and become insolvent.

When the Fed or the government says they are trying to stimulate consumption by “easing credit” and “injecting liquidity”, they are making the wrong move. Consumption comes from savings, not debt. Even the money borrowed has to come from somewhere. Lowering the interest rates to make it easier to get into debt discourages savings more and only pulls us out of a recession because even higher levels of debt are attained to consume our way out of the previous crash.

The only reason the system survives is because money is printed and lent by the Fed and the member banks. However as i said before, this ties capital to debt. The only way to keep people buying and spending is to keep printing them money. Because of the interest the compounds though, there is never enough money to repay the debt. There is never enough real savings to counteract the new debt incurred.

Bankruptcy, insolvency, foreclosure… these are all inherent in the system we have. There is never enough money to pay back the debt.

So whatever you do, get out of debt. When the music stops, somebody is left without a chair.