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Monday, May 31, 2010

The Savings Paradox

One of the few things in economic theory that really make sense is The Savings Paradox. We discuss it in detail in our book, The Great Recession Conspiracy, which is available at, which is also available as a Kindle book, at Google Books, lulu, ebookmall and Barnes and Noble.

Here is the basic problem set forth in the Paradox. When the Business Cycle is in the Contraction Phase, it is advantageous to the whole economy for consumers to spend money to begin the move to the Expansion Phase. But, in the Contraction Phase, it is advantageous for individuals and households to save as much as possible as a cushion against an unknown future. As we say in the book, If you didn't need it yesterday, you don't need it today.

During the last Expansion Phase, U.S. household savings rate fell drastically. In some quarters, the U.S. savings rate was negative, meaning we were borrowing more than our income.

But when the Great Recession began (the current Contraction Phase) in 2007-08, U.S. households lost an estimated $15 TRILLION in wealth (housing prices, investments, savings). So U.S. households shifted gears and are now saving and paying down debt, sensible actions for individuals, but not so good for the total economy.

And this changed behavior is real. In March, 2010, late payments on credit cards fell to an all time low. The actual savings rate is now 3.6%, not great by world standards, but a significant improvement over the recent past. In addition, outstanding credit card debt has fallen over $100 BILLION in the last year. American Express says more customers are making more than the minimum payment, and paying down their balances faster.

But all that money is not going into driving the economy forward. When you add the Savings Paradox to the 30 Million unemployed/underemployed Americans, you can understand that it is unlikely that there will be a surge in household spending in the near future.

All this makes it so much more important that the government follow the Jobs Program we outline in The Great Recession Conspiracy. Sorry to say, as long as Larry Summers sits at Obama's right hand, that ain't likely to happen.

So the best advice for now is CASH, CASH, CASH, and no/little debt.

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