Home of power, if not good sense, in The City. Credit Eluveitie, CC-BY-SA-3.0, via Wikipedia

There is only one manner in which this editorial by The Observer could be correct – that the recession is over and the Good Times are back. Since this isn’t what the Observer believes we must therefore assume that the people who wrote it haven’t a clue what they’re talking about:

A decade after the crash, we still borrow too much and invest too little

Start with basic Keynes. There’s something called the paradox of thrift. It’s entirely rational for people to save more in the bad times. Risk has, after all, just increased. But for the economy as a whole this is a bad idea as it reduces demand. That makes the economy smaller than it would be without that extra saving. The answer to this is to make saving less attractive and spending more. That is, we deliberately set out to reduce the national savings rate.

The most obvious manner is by reducing interest rates. When we run out of that we can – and do – use other means. OK, but note what we’re trying to do, reduce that savings rate. We’ll make up for it when the economy’s back on track.

But it has all been empty rhetoric. Households are spending more than they are earning for the first time in 30 years.

That’s what we’re trying to achieve, fools. The only reason we might not want this to be happening is because the economy has recovered and we’re back in the Good Times. Is this so? Not according to The Observer, no. So why in hell don’t the understand the most basic economics as they pontificate upon economics?

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  1. May I make a personal decision about my saving and borrowing without taking advice or admonishment from the Observer or some dead economist? I take no notice of interest rates at current levels nor headline inflation, both too low to bother with. Personal circumstances related to earnings and needs (and age) are far more significant. Leading me to wonder how well an economy could possibly work when the tools for nudging and control levers available, which economists debate and believe in, are in reality not effective.

  2. Spending is good. Saving is good. The only thing you can do with your money that isn’t good is stuff it in your mattress.

    The “control levers” are not effective. The Republican TARP program did not lead to Asset Recovery. Obama’s Recovery and Reinvestment Act led to no reinvestment, and recovery had to wait until Obama was safely in South Africa rooting for the coming wave of reverse apartheid. Prime the economy with fake money and everyone sees the fakery. And in fact the debt is never “paid back in good times,” such as these, because there are still Pressing Needs, hat-in-hand, lobbying the government.

    Government has no way to know whether a spare dollar (capital) should be spent or saved, apart from the vested interests that are testifying to it or contributing to political campaigns.

  3. Saving is non-volitional.

    The amount of saving in a community is exactly equal to the amount of its investment. It can not be otherwise. If the business community invested zero in a given time period, the saving in that time period would be exactly zero.

    Income = Production

    Disregarding government, Income is consumed (C), or saved (S). Production is either consumption goods (C), or capital goods (I).

    C + S = C + I

    S = I (Saving = Investment)

    Saving is always equal to investment, at every point in time. This is an identity which means it’s true by definition.

    Saving is the excess of income over consumption. If you decide to save an extra $100, the income of the community, and by extension its saving, falls by that same $100. The effort, in the aggregate, defeats itself. This is Keynes’ Paradox Of Thrift.

    • Here too: Baloney! If you save $100, “the community” does not suffer, unless (again) you save it in your mattress. What happens is that you do not spend that $100 but someone with a more compelling business plan pays to use your $100 and spends it in your stead.

      By the way, “the community” does not have an income. Because saving is volitional, and “the community” has no volition.

      Saving is influenced by culture. In Peru, the lucky guy who wins the lottery will not buy common stock but will immediately throw a block party to augment his status in the neighborhood. This is a fine example of how not every culture is equally good at everything, including development.

      • Actually, no.

        When someone borrows $100 from a bank, the bank creates a matching deposit and the money supply grows. No one is borrowing your saving.

        Banks are not financial intermediaries. Loans create deposits, not the other way around.

        Think about it. If you could put your saving in a bank while waiting for some businessman to come and borrow it, then for that time, saving would be greater than investment.

        But saving must always equal investment. The two must always be equal. This is the key insight that Keynes had.

        You’re arguing against economic identities. Which means you are wrong.

        • Sorry that just is not true.
          You are pretending that accounting jargon means the same as the matching word in English and then misapplying it.
          Banks are legally forbidden to create deposits out of thin air.
          £100 placed in a deposit account at the bank is an investment according to the accounting definition which is how they get the equation “Savings =Investment” – it doesn’t have to be productive investment.
          You don’t actually know what the accounting identities mean – and you don’t know the difference between accounting identities and economic identities.
          One of Keynes’ insights was that Economic identities are *not* the same as Accounting identities.
          A UK bank can only lend out a small multiple of its equity capital (equity capital minus the amount tied in fixed assets minus provisions for bad loans must equal or exceed 8% of risk-weighted assets) and – until recently it could only lend free equity plus 92% of deposits received (it had to hold in cash or BoE deposits 8% of total deposits). It is complete and utter Magic Money Tree bullshit that loans create deposits – loans are only possible if the bank already has deposits.

          • I don’t know where to start with you.

            First, you mention savings when I was referring to saving. Saving is a flow variable, savings is a stock variable. Your comment equates savings, a stock variable, with investment, which is a flow variable. I mean, you couldn’t even quote me properly.

            Then you confuse making a deposit in a bank with investment. Investment is part of the GDP equation: GDP = C + I + G

            Do you really think that when you deposit money in the bank, the nation’s GDP rises? Seriously?

            For your last point, I know for a fact that loans create deposits. I know this because I analyze banks for a living. The loan growth comes first and is matched dollar for dollar by deposit growth and the bank’s balance sheet expands.

            Your point about a bank’s ability to create loans, and by extension deposits, is limited by its equity capital is true. But notice that it is not limited by its deposits, which is something completely different.

            In other words, a bank can start lending the minute it has equity capital without a single deposit, generating deposits as it goes. The capital constraint kicks in later.

        • American banks, through the fraud of fractional-reserve banking, are permitted to loan out nonexistent capital, on the theory that it won’t matter, which is true, most of the time. But even this doesn’t change the essence of macroeconomics.

          Savings, investment, and capital all describe a decision not to use spare money on immediate gratification but to apply it to future betterment, one’s own or that of someone else who will pay for the use of the money.

          Methinks someone aced his Algebra I exams and thinks he knows everything.

          • Like the commenter above, you confuse savings with saving.

            Savings is an economic term, not the typical meaning of the word when someone makes a deposit in the bank, which is not part of the national accounts. Likewise for investment. When you make a deposit in the bank or buy stock shares, you are not making an investment. You are simply swapping some cash for an already existing investment. GDP is not impacted in any way.

            The subject matter of Tim Worstall’s article is about saving, which is an economic term in the national accounts. We are not talking accounting, and we are not talking about some personal decision with what you do with your money. The point you are missing is that your decision to defer immediate gratification by not spending reduces the income, and by extension the saving, of the community. Again, the Paradox of Thrift. You save more, the community saves less. It’s a wash.

            “someone else who will pay for the use of the money.”

            Again, the same error. When someone gets a loan, they are not borrowing your money. The bank’s asset side of its balance sheet expands by the amount of the loan, its liability side expands by the amount of the NEW deposit. Your deposit sits there, completely untouched.

            “through the fraud of fractional-reserve banking”

            Fractional-reserve banking is a myth. That’s just not how the banking system works. You know, because banks don’t actually lend out deposits.

  4. The post is full of saving, investing and such being desirable, or not, depending on interest rates and other various incentives/disincentives to save. He’s talking about Britons, not some economist’s magical thinking jargon-rich. If Mr Keynes thought he had a paradox, that’s because he’s thinking in macroeconomic terms, which just do not apply to actual decisions made by real people, the Britons of the post.

    • Sometimes decisions made by real people don’t matter in the economic sense.

      If a Briton decides to not buy an ice cream cone, the ice cream vendor’s income drops and his saving drops. The government loses the tax on that ice cream cone sale, which means the deficit rises by the amount of that forgone tax. The Briton’s saving rises, while the saving of the the ice cream vendor and the government falls by that same combined amount.

      The Briton’s decision to buy or not buy an ice cream cone has no effect on the aggregate saving of Britain. As regards saving, it’s a non-event.

      Macroeconomics is not an aggregation of personal decisions. The Paradox of Thrift has been described as standing up in a theater to see better. But the people behind you see worse. When everyone stands, everyone sees exactly like they saw before. Stand up, sit down, it doesn’t matter. The crowd sees no better if it stands up or sits down.

  5. I’m inclined to think that this is a theoretical structure designed so people can produce formulae which work within the structure and may therefore explain anything (after it happens) , but it’s not for use, it’s for teaching to the next class. Real life need not apply.


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