Post-Pandemic, a Strong Expansion Needs Less Personal Saving or More Government Spending

For two generations, economists and other custodians of financial propriety have chastised Americans for not saving enough. Getting the public to pay attention took a pandemic. Facing a real possibility that COVID-19 and the resulting economic havoc might leave them unable to pay their mortgages and feed their families, moderate- and middle-income Americans began saving as much as they could—and are now socking away now perhaps too much to support a healthy expansion for the U.S. economy as a whole. From April through June last year, Americans put away an astonishing 25.8 percent of their disposable income, compared with 7.3 percent over the same months in 2019. From March 2020 to April 2021, the personal saving rate averaged 18.7 percent—the highest rate for so long a period since World War II.

As the pandemic recedes, the economy faces a serious new challenge. The personal-saving rate remains high: 14.9 percent in April. With large unemployment benefits and waves of free cash now starting to recede in the country’s rearview mirror, the continuation of that high level of personal savings threatens a strong expansion into 2022 and 2023.

To avoid an anemic recovery like the one that set the stage for Donald Trump’s election in 2016, either personal-saving rates should come down or Congress should approve a lot of additional federal spending to make up for the shortfall. And if it’s the latter, lawmakers should be prepared to finance those expenditures by raising revenues from companies and their investors, whose incomes and consumer spending won’t be significantly affected by new taxes.

Because a dollar saved is a dollar unspent, any sudden, enormous jump in personal savings would normally devastate consumer spending and economic growth. Fortunately, both the Trump and Biden administrations managed to get the economics of the pandemic right: The United States averted a sustained economic catastrophe by pumping up people’s incomes with emergency payouts while saving rates were soaring.

By my calculations, Americans who lost their job during the pandemic have received more than $600 billion in added benefits, and the three rounds of government checks put about $900 billion in the pockets of 90 percent of American households, whether their members were unemployed or not, from April 2020 to March 2021. So, despite the massive drain on economic demand from over-the-top savings, GDP and total employment nose-dived only during the second quarter of last year, when much of the economy abruptly shut down.

On top of the massive government transfers, people’s sky-high additional saving has also drawn on the fact that most Americans’ paychecks kept growing despite the pandemic. Monthly personal-income data from the Bureau of Economic Analysis show that Americans’ total wage and salary earnings have risen month after month since last spring. In November, total wage and salary income in the United States exceeded its pre-pandemic level. This is remarkable, given that in recent months the number of Americans with a job remains lower than pre-pandemic levels. But for people who remained employed, wages and salaries kept growing through the pandemic; median hourly wages have risen at an average annualized rate of at least 3.3 percent every month since March 2020. These gains are not limited to the most privileged workers. In fact, people with a high-school diploma or less, minorities, women, and people living in rural areas have all seen their hourly median earnings increase at an annualized rate of at least 3 percent throughout the pandemic.

The final result is that even with GDP and job numbers cratering in the second quarter of 2020 and the highest saving rates in 75 years, the growth in personal incomes from all sources—including checks from the government—accelerated a lot during the pandemic. Total personal income increased by $1.4 trillion, or 7.6 percent, from March 2020 to February 2021, when the country finally began to squelch COVID-19. Those income gains far outpaced the 4.4 percent average annual income growth from 2015 to 2019.

To be sure, GDP expanded at a 6.4 percent annual rate in the first quarter of this year, its best quarterly performance in 18 years. However, this strong growth was propelled by the second and third rounds of government checks and the two extensions of the expanded jobless benefits.

Some warning signs are already evident in the latest data. Gains in total wage and salary income have slowed since late last year. This slowdown happened even as unemployed Americans found new jobs in increasing numbers. Another worrisome sign: The latest data for May show personal income down 2 percent and consumer spending flat.

To head off a lackluster expansion, something will have to change. The large ongoing infrastructure investments proposed by the Biden administration would do the job. They should provide decent stimulus for job and income gains as well as higher productivity for the long term—just what the U.S. economy needs.

This solution does come with a caveat. A recovery buoyed by large public investments also will depend on persuading financial markets that Washington will cover the new, ongoing costs. Otherwise, interest rates will increase—rising sharply if higher inflation persists—and so weaken the expansion. But corporations and their shareholders can carry the burden of those costs without undermining consumer spending and growth in any meaningful way.  Investors can also afford it: On June 25, 2020, the S&P 500 closed at 3,083.76; precisely one year later, it closed at 4,280.70. Investors have gained 39 percent over the past 12 months—more than 10 times the rate of increase in median wages and salaries.

Support for healthy growth also could come from people simply deciding to save less and spend down some of the personal savings they have amassed since March 2020. During World War II, Americans saved an average of 22.5 percent of their disposable income; once the war ended, the rate fell to 11.8 percent in 1946 and 6.3 percent in 1947. It could happen again if Millennials, Generation Xers, and the Boomers still in the workforce behave as their grandparents and great-grandparents did 75 years ago.

The most likely scenario is that personal-saving rates will come down but remain abnormally high. In that case, the government can try to nudge people to spend more and save less—and help the climate in the bargain. For example, Congress could extend the tax credit for solar panels for a few years and expand it to include all home improvements that save energy. Congress also could provide a tax credit for purchasing any electric vehicle during the next two years.

But is a slower economy a reasonable price to pay to boost the savings of moderate- and middle-income Americans? In the first quarter of 2021, the net assets of the bottom half of all households totaled $2.6 trillion—57 percent higher than in the first quarter of 2019. Similarly, the net assets of the next 40 percent of American households totaled $36.5 trillion in the first quarter of this year—20 percent more than two years earlier. But maintaining high savings comes with a caveat, because a slower economic expansion also means slower income growth for most people, which would affect their net wealth.

It’s awkward for a card-carrying economist to urge people to save less. But Americans of late have been saving not to finance their kids’ education or their own retirement; they’ve been saving as a precaution against the possibility that the pandemic might ravage their lifestyle. All of that saving didn’t capsize the economy only because Washington stepped in with checks for nearly everybody. Because those are ending now, along with the worst of the pandemic, Americans can support a strong economy by saving only for their future needs and not out of fear. And if the government steps up with some additional spending, the result will be strong economic growth and healthy income gains—which also happen to be the preconditions for higher savings in normal times.

This essay appeared originally in The Atlantic.