Tuesday, June 16, 2009

Savings rate must increase

This economy will continue to be driven by consumption (until the dollar gets cheap enough for China, India and possibly Russia to decide to tap into the under-utilized resources in the US for manufacturing). However, in order for a recovery in consumption to begin, we must first see a sizable increase in personal savings. Savings must also be viewed as a source of capital to drive economic growth. In our opinion, it is simple.

We believe savings rate must hit 6%+ before consumption can get kickstarted. This is for two reasons - 1) consumers must gain confidence in their ability to spend without becoming highly levered again, and the rising unemployment will hinder such change in attitude; and 2) savings must increase to the point where they are used as capital to fund overall economic growth. The current more stringent credit standards (with which we agree) provide support for this. Once savings increase to the appropriate level, consumers will feel comfortable and may begin using a portion of their savings for additional consumption, potentially creating some growth. At the same time, those savings will have created capital for banks to disburse and fund the consumer driven growth.

Lastly, after looking at the savings rate data, we noticed that it has averaged at approx. 6.8% historically (1959 - present). Although during the past 10 years this rate has dwindled down to only 1.7%. Given the expected continuing increase in unemployment, consumers are more likely to continue to increase savings. And don't forget the fact that the US lost nearly $1.3 trillion in wealth in 1Q09. This figure represents 10% of personal income during the reported period. The level at which consumers will feel more at ease in increasing consumption, we believe is a savings rate of 6% - 7%, which may take another 2-3 quarters to establish.

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