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The Honolulu Advertiser
Posted on: Monday, March 6, 2006

U.S. savings rate continues fall

By JOHN WAGGONER
USA Today

Never have so many spent so much and saved so little.

The nation's dismal savings rate is the focus of a sharp debate: This can't go on forever, some economists say. We spend and borrow too much, we save too little, and in the long run, it spells trouble for individuals and the nation. Nonsense, others say. We might be dipping into our savings, but that's a deep well: Household assets swollen by the rising equity in our homes stand at $62 trillion, according to the Federal Reserve.

Only a long economic downturn is likely to settle the debate about whether Americans are saving enough. But the low savings rate can't be entirely waved away. Americans can go on spending merrily until hard times come: a lost job, a recession, a health emergency. Then, assets and income will fall and those without an emergency fund will be in danger.

"We have a real savings shortfall," says David Wyss, chief economist for Standard & Poor's.

"If you would be wealthy, think of saving as well as getting," Ben Franklin advised.

But now, saving seems to be the exception more than the rule.

Jill Reid, an interior designer in Seattle, is struggling to pay off her $6,000 credit card debt and her car loan. "I haven't been able to put any money away for two years," says Reid, 32. "All my friends are in similar situations."

The nation's personal savings rate seems to be saying the same thing. Last year, the savings rate sank to -0.5 percent. U.S. households spent $41.6 billion more than they earned. The rate's last dip into negative territory was 1933, when banks were closed and breadlines were long.

But we're nowhere near a recession, let alone a depression. Why the dismal savings rate?

One factor is the way the personal savings rate is calculated. To arrive at the figure, the government's Bureau of Economic Analysis adds up income of all types. Then it backs out taxes to get disposable income a rough equivalent of take-home pay. Next, the bureau subtracts our expenditures: rent, food, clothing and frivolities. What's left afterward, it figures, is saving. It's the money that's left in the nation's bank accounts at the end of the month.

What's wrong with that? Plenty. The savings rate doesn't include capital appreciation. If you put $1,000 into a mutual fund and it becomes $1,500 in five years, you'd consider that $500 as part of your savings. The personal savings rate doesn't. The savings rate is strictly a measure of household cash flow, not net worth.

In some ways, the nation's savings isn't in as dire shape as the savings rate might indicate. Nevertheless, however you define savings, many Americans are failing to build up cash reserves that can be tapped quickly in an emergency. Even by a broader definition of savings that includes retirement accounts, the outlook is bleak: The Fed's survey shows that the percentage of households contributing to their savings dipped to 56.1 percent in 2004, down from 59.2 percent in 2001.

A recent study by the Spectrem Group, a research firm, supports the Fed's findings. Participation in company 401(k) retirement plans fell from 80 percent in 1999 to 70 percent in 2005. Those who remain in the plans are contributing less. The average contribution rate was 6.9 percent of salary last year, down from 8.9 percent in 1999.

"Some people wouldn't know a piggy bank from a snake," says Mark Bass, a financial planner in Lubbock, Texas. "It's really sad. They think they're going to retire in 10, 15 years, and there's no way they will."

Why is savings slowing? Several reasons:

  • Poor returns. Part of the reason for the slowdown in the 401(k) contribution rate might be the lackluster stock market. The Standard & Poor's 500 stock index has gained an average of 0.4 percent the last five years, less than a money market fund or inflation. Some popular funds of the 1990s, such as Fidelity Aggressive Growth, Vanguard U.S. Growth and the Janus Fund, are still down more than 25 percent the past five years.

  • Free spending. One reason for the low savings rate is the lure of buying things on credit. "Credit is more readily available, and younger people are targeted," says Stacey Lannoye, a financial educator in Tacoma, Wash. "They don't get how credit works, and there's so much to buy."

  • Slow cash flow. Household cash flow isn't flowing very quickly these days, so it's harder to save. Disposable income did grow 4.2 percent in 2005. But the consumer price index, which measures inflation, grew 3.5 percent, eroding most of that gain. According to a survey the Federal Reserve does every three years, average household income, adjusted for inflation, rose 1.6 percent from 2001 to 2004. Income fell for respondents 45 and younger.

    But the biggest reason for our poor savings rate is that people have been borrowing against assets mainly their homes to get their hands on spending money

    Homeowners have been using their home equity the difference between the value of their home and their mortgage at an astonishing rate. Fully 80 percent of all mortgage refinancings last year were "cash out" mortgages. That means the borrowers refinanced to a larger loan balance than the previous one to help themselves to some cash to spend.

    Last year, consumers pulled $243 billion from their home equity. "Previous years pale in comparison," says Frank Nothaft, chief economist for mortgage giant Freddie Mac.

    Cash-out refinancings and home-equity lines will probably slow sharply this year, as the housing markets cool. Without big gains in home prices, consumers will have to start funding their spending out of income or traditional savings. They might also cut back on their spending, which would hurt the economy. Freddie Mac expects this year's cash-out refinancings to fall to half 2005's rate.

    The low savings rate points to problems on a much smaller, but equally important scale. Workers are increasingly forced to save for their own retirement, as companies phase out traditional pensions. Given the low savings rate, you'd suspect that workers aren't saving enough in their 401(k) accounts. You'd be right.

    As of the end of 2004, the average 401(k) plan balance was $56,878, according to the Employee Benefit Research Institute. Average individual retirement account balances for people 50 and older is $80,000, says S&P's Wyss. Neither amount would last long in retirement.

    "People are approaching retirement with too few assets," Wyss says.

    Fewer people are saving for a rainy day. The Fed's study showed that only 30 percent of all people in the survey listed liquidity the old-fashioned rainy-day fund as the primary purpose for saving. "Our sense is that people don't have enough put away for a rainy day," says Jack Gillis, spokesman for the Consumer Federation of America.

    A CFA study last year showed that young women were particularly poor savers: 55 percent of women between the ages of 25 and 34 had less than $500 in an emergency fund. And 42 percent of all women said they had no emergency fund.

    If the stock market and the housing market remain in a long slowdown, people will have to rely more on income and less on assets for their spending.

    That's not easy, as Jill Reid could tell you. When she was in a car accident last year, she had to tap her 401(k) plan. Without sizable assets to tap Reid rents her home she frets about how she'd handle another unexpected emergency. "It's really scary."

    There is, of course, one way out: People could live more simply. "You can live off your income if you lived the way people did in the 1950s," Wyss says.

    That means owning one car in a family, living in a small home and owning fewer things. That's not easy.

    "We want to be richer," Wyss says.