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PAGE ONE

ECONOMICS
NEWSLETTER

the back story on front page economics

May ■ 2012

Wait, Is Saving Good or Bad? The Paradox of Thrift
E. Katarina Vermann, Research Associate
“[Saving] is a paradox because in kindergarten we are all taught that thrift is always a good thing.”1
—Paul A. Samuelson, first American to win the Nobel Prize in Economics (1970)

People save for various reasons. Some save with a specific purchase in mind, such as cosmetic surgery or a Porsche, while others save just to have more money. Economists say that
individuals save to buy durable goods and/or accumulate wealth to maintain a certain lifestyle
during retirement or in times of financial uncertainty. These reasons all confer benefits to a
saver. In the near term, the saver can finally buy the latest and greatest gadget, and in the long
term, the saver can be more financially secure during retirement or unplanned unemployment.
Normally, personal saving declines during recessions because people want to maintain their
existing level of consumption. During the Great Recession, though, saving increased. The
chart shows the personal saving rate, the year-over-year growth rate of gross domestic product (GDP), and recession periods from 2000 to 2011. Before the Great Recession, the average
saving rate for the typical American household was 2.9 percent. Since the recession started in
2007, the average saving rate has risen to 5.0 percent. This increase was largely driven by uncerU.S. Personal Saving Rate and GDP Growth (2000-11)

Source: Bureau of Economic Analysis, Na onal Bureau of Economic Research, and FRED.

Recession
2000

2001

2002

Average Saving Rate
2003

2004

2005

GDP Growth
2006

2007

Personal Saving Rate
2008

2009

2010

2011

2011

-6

-4

-2

2

4

6

Great Recession
8

U.S. Personal Saving Rate and GDP Growth (2000-11)

8

Great Recession
6

4

2
Percent

tnecreP

0

0

-2

-4

-6
2000

2001

2002

Recession

2003

2004

2005

2006

Average Saving Rate

Source: Bureau of Economic Analysis, Na onal Bureau of Economic Research, and FRED.

2007

GDP Growth

2008

2009

2010

Personal Saving Rate

2011

2011

PAGE ONE

ECONOMICS
NEWSLETTER

Federal Reserve Bank of St. Louis

tainty about future employment, efforts to reduce debt, and wide fluctuations in stock and
housing prices. Although this increase in saving benefits individuals who save more, some
economists argue the dramatic change in saving behavior is detrimental to the overall economy.
Given the benefits to individuals, how could saving harm the economy?
John Maynard Keynes, who published his influential work, The General Theory of Employment, Interest, and Money, in 1936, noted saving can ultimately be detrimental to the economy
because of the paradox of thrift. This theory argues that if everyone individually cuts spending
to increase saving, aggregate saving will eventually fall because one person’s spending is someone else’s income. Because increased saving, by definition, decreases current consumption, it
stifles demand.
A simple example can illustrate this paradox. Let’s assume I want a new computer, so I start
saving an extra $100 each month that I would otherwise spend going out to eat. By choosing
not to spend that $100, I deny the wait staff at my favorite restaurants some work hours and
tips (i.e., some portion of their income). As a result, these workers also have to reduce their
consumption because they are earning less. If society (as opposed to an individual as in our
example) follows this saving pattern, this snowball (or Keynesian multiplier) effect could ultimately lead to decreased consumer spending and lower income for everyone. Consequently,
Keynes argued, output would decrease and, therefore, limit economic growth/recovery until,
of course, I bought my new computer with the money that I’ve saved.
In the Great Recession, the increase in the number of adult children (25 to 29 years of age)
living with their parents is also a good example of the paradox of thrift. According to the
Census Bureau’s “Families and Living Arrangements” dataset, the percentage of 25- to 29-yearolds living with their parents increased from 14 percent in 2005 to 19 percent in 2011.2 This
arrangement allows them to save money on rent/mortgages, utilities, cable, and furniture.
However, because the addition of just one new household contributes an estimated $145,000
to the economy when one factors in multiplier effects,3 the rise in the number of twentysomethings living with their parents could have deprived the economy of up to $25 billion per year
during this period. Even if this is accurate, it’s a very small share of a $15.3 trillion economy.
In the short run, then, some could argue that this choice by young adults to save slows not
only the housing market, but also the retail, construction, and manufacturing industries.
These two examples illustrate that saving can have unintended consequences because one
person’s consumption is another person’s income. During recessions, decreases in consumption
could inhibit economic recovery. However, in the long run, the accumulated money from individual savers is available for capital investment, a situation where businesses borrow to purchase
capital (e.g., machinery and technology). Thus, an increase in the saving rate increases capital
investment (e.g., investment in machinery for production). Such increases in capital stock
ultimately lead to higher levels of business productivity and growth. Because economists are
largely concerned with long-run growth and economic theory notes the positive aspects of
increased saving, the paradox of thrift remains a controversial concept. So ultimately, it is OK
to save for that big purchase since future consumption benefits both you and society. ■
NOTES
1

Samuelson, Paul A. Economics. Fourth Edition. New York: McGraw-Hill, 1958, p. 237.

2

U.S. Census Bureau. “Families and Living Arrangements,” Table A2 (www.census.gov/hhes/families/data/cps2011.html for
2011 data and www.census.gov/hhes/families/data/cps2005.html for 2005 data).

3

Rampell, Catherine. “As Graduates Move Back Home, Economy Feels the Pain.” New York Times, November 16, 2011.

2

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ECONOMICS
NEWSLETTER

Federal Reserve Bank of St. Louis

3

GLOSSARY
Capital: Resources and goods made and used to produce other goods and services. Examples include buildings, machinery,
tools, and equipment.
Investment: The purchase of physical capital goods (e.g., buildings, tools, and equipment) that are used to produce goods
and services.
Keynesian multiplier effect: An effect where an increase (decrease) in a component of aggregate demand (i.e., consumption,
investment, or government spending) produces an increase (decrease) in national income that is greater than the initial
increase (decrease) in the component. This greater-than-proportional change in national income is the result of chain reactions
that generate more (less) activity than the original increase (decrease).
Paradox of thrift: A controversial Keynesian economics theory, which proposes that if everyone tries to save more during a
recession, then aggregate demand will fall. As a result, the theory argues everyone would grow poorer instead of richer due
to the decreases in aggregate consumption, saving, earnings, and economic growth.
Personal saving rate: The ratio of personal saving to disposable personal income; the fraction of income after taxes that is
saved.

Page One Economics Newsletter from the Federal Reserve Bank of St. Louis continues the Liber8 Newsletter and provides an informative, accessible
economic essay written by our research analysts. A classroom edition is also available and includes a lesson plan written by our economic education
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Please visit our website and archives http://research.stlouisfed.org/pageone-economics/ for more information and resources.
Views expressed do not necessarily reflect official positions of the Federal Reserve System.


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