Does Saving Reduce GDP?
- December 1, 2010
Warren C. Gibson’s article, “GDP: Who Needs It?” in the May 2010 edition of the Freeman, asserts an inconsistency. He correctly denigrates the Keynesian notion of promoting consumption spending as a means of promoting GDP growth: “The predominance of consumption seems to have spawned the bizarre notion that if we can only get consumer spending up, GDP will rise and everything will be fine” (p. 28, my italics). Two sentences after this statement he asserts an erroneous claim: “If people believe they need to save more they will have to forgo some present consumption, and this may lower GDP temporarily. Savings, wisely invested, boost future consumption. But the future may not arrive until after the next election” (p. 28, my italics).
Why would increased saving reduce GDP? Saving, correctly understood or defined, is the acquisition of interest- or dividend-earning financial assets, such as bank deposits, certificates of deposit, mutual fund shares, bonds, and stocks. Thus saving is not cash hoarding but the transfer of funds from income earners to borrowers who spend the funds. Savings are the source of loanable capital sought by businesses, as Adam Smith in the Wealth of Nations well explains: “By what a frugal man saves, he not only affords maintenance to an additional number of productive hands, but like the founder of a public workhouse, he establishes as it were a perpetual fund for the maintenance of an equal number in times to come.” Also, “Capitals are increased by parsimony. . . . Whatever a person saves from his revenue he adds to his capital, and either employs it himself in maintaining an additional number of productive hands or enables some other person to do so, by lending it to him for an interest, that is, for a share of the profits.” Indeed, increased savings make increased borrowing at lower interest rates possible.
In his concluding paragraph, Gibson also quotes an explanation from Ludwig von Mises that is in accord with Smith’s argument and in contradiction to his earlier income-lowering claim: “There is but one means to improve the material well-being of men, viz., to accelerate the increase in capital accumulation as against population.” Gibson goes on to state: “Capital accumulation requires saving, saving requires confidence. . . .” I think he needs to acknowledge the error of attributing an income-lowering effect to savings or else explain the contradiction in the two paragraphs. We cannot get rid of the Keynesian nonsense that increased saving causes poverty—the so-called paradox-of-thrift proposition—by continuing to employ Keynes’s misconceived definition of saving to mean cash hoarding.
James C. W. Ahiakpor
Professor of economics, California State University, East Bay
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