A savings rate is the amount of money, expressed as a percentage or ratio, that a person deducts from his disposable personal income to set aside as a nest egg or for retirement. The cash accumulated is typically put into very low-risk investments (depending on various factors such as the expected time until retirement), like a money market fund or a personal individual retirement account (IRA) composed of non-aggressive mutual funds, stocks, and bonds.
Breaking Down Savings Rate
For years, the savings rate in the United States has declined. In the 1970s and 1980s, personal savings rates were in the 5 to 7% range but decreased to 1 to 3% range in the 21st century. The savings rate went up in the United States starting in 2008 with the onset of the recession, reaching 8%, but it has come back down, continuing the overall negative trend for savings in the U.S. economy. As of March 2018, the savings rate in the United States is 3.1%. Since the Federal Reserve started tracking the savings rate in the United States, the highest the rate has been, was 17% in May 1975. In sharp contrast, the Chinese savings rate is around 30%.
What Affects the 'Savings Rate'?
The national average savings rate is often determined by how a particular culture views debt, values possessions, and how an economy is structured. Economies oriented towards consumption have lower savings rates; in the United States, consumption constitutes around 75% of the economy. Economies like China's, which is oriented more towards investment, have higher savings rates. Savings rates tend to fall lower as populations age and spend their savings rather than adding to them. Savings rates are affected by wage growth, as well as central banks' interest rate policies. Other factors lowering savings rates include increasing wealth, increasing access to credit, and a rise in labor productivity.
'Savings Rate' and the Economy
Studies have shown that economic factors can have a significant effect on the U.S. savings rate. For instance, interest rates can have a positive correlation with the savings rate. This occurs because as households see they can have more in the future than they do in the present and choose to spend less, a phenomenon known as the "substitution effect." Another principle, the "income effect," demonstrates that lower interest rates promise less income from savings, thus reducing incentive for people to save and boosting consumption. Economists believe that higher interest rates lead to lower overall consumption and higher savings because the substitution effect outweighs the income effect.
'Savings Rate' and Income
Level of income also plays an important role in determining savings rates. There is a positive relationship between per capita GPD and savings, with low income-earners spending the majority of their money on basic necessities and wealthier individuals buying luxury items while enjoying a high savings rate. The relationship does not continue upward indefinitely, however, and tends to level off.
The theory of Ricardian equivalence states that private savings tends to increase as public savings decreases. Therefore, mounting public debt will encourage individuals to spend less and save more as they prepare for possibly increased taxes to finance the debt.
Calculating 'Savings Rate'
The savings rate is the ratio of personal savings to disposable personal income and can be calculated for an economy as a whole or at the personal level. The Federal Reserve defines disposable income as all sources of income minus the tax you pay on that income. Your savings is disposable income minus expenditures, such as credit card payments and utility bills. Using this approach, if you have has $30,000 left over after taxes (disposable income) and spend $24,000 in expenditures, then your savings are $6,000. Dividing savings by your disposable income yields a savings rate of 20% ($6,000 / $30,000 x 100).