Should We Worry about Falling Savings?
Deducting personal monetary outlays from disposable money income yields personal saving, and this has been plunging in recent years. However, it is questionable whether it makes sense to add all the incomes in an economy in order to establish so-called national income. No one should be worried about the size of national savings. A better figure would be real saving, but then heterogeneous real goods cannot be added up into a meaningful total. FULL ARTICLE
Comments (43)
Nick Bradley
I think the low US savings rate is a bit misleading. Americans may put less money in the bank than we used to, but we invest a lot more. If I put 10% of my paycheck into an investment account, I am saving money (i.e. not consuming), but I don't think it is included in the savings figure. Spending money on education is also a form of investment/saving, but it is not counted either. I have also heard that income from capital gains is not included as income.
I do, however, think that we would be saving much more if the tax code wasn't geared towards boosting consumption and punishing saving; shifting from production taxes (income, wage, corporate, and capital gains taxes) towards consumption taxes (sales, excise taxes) would go a long way towards Americans saving/investing even more. The FairTax, IMHO, is the LEAST WORST option.
I think the article is correct, however, in stating that such economic figures cannot be calculated.
Published: February 22, 2006 8:11 AM
Aaron Singleton
The Fair Tax is not the least worst option. The least worst option is neither. And if there's one thing we should learn from history it's that we should never give the government new ways to tax us. The income tax is the golden goose and it seems highly unlikely to me that they'll give it up. I'll take an income tax over an income and a consumption tax any day. There have been some great critiques of it on this sight and elsewhere. Besides any tax proposal that only changes the method and not the amount of money the government steals doesn't even address the real problem.
http://foranewliberty.blogspot.com/2005/08/fair-tax-debate.html
http://mises.org/daily/1975
http://mises.org/daily/1768
http://mises.org/daily/1814
Published: February 22, 2006 8:35 AM
Nick Bradley
If the Government is going to take a quart of blood from me, I'd rather have them use a syringe instead of slitting my wrists to get it.
The method DOES matter.
Best method - No Taxes
2nd Best Method - Consumption Taxes
Worst Method - Production Taxes
Published: February 22, 2006 8:52 AM
Yancey Ward
Frank Shostak,
As usual, well done. The thing I love best about Mises.org and its intellectual contributors is how they deftly disperse the monetary haze that obscures the facts of the real economy.
Published: February 22, 2006 9:40 AM
George Gaskell
The income tax is the golden goose and it seems highly unlikely to me that they'll give it up.
The government will never give up the income tax, but not because it is a golden goose (in terms of revenue). Its proponents aren't concerned with revenue. The government has all of the money printing presses. It doesn't need the income tax. It can borrow and/or print all the money it needs.
The government will never give up the income tax because it offers a high degree of control over those who are taxed. It is a direct tax, a personal tax. The taxable unit of an income tax is the individual, not something impersonal (like a plot of land, or a transaction).
This one feature of the income tax -- its sharp focus on the individual -- is what allows the politicians to play the voters off of one another. Under an income tax regime, the elctorate will automatically fall into a neatly divided two-party system: us and them. The lower income-earners are automatically pitted against the higher-income earners. The dividing line will always be somewhere near the middle of the voting public (or at least in the rough middle of those who perceive themselves to be tax-recipients against those who perceive themselves to be tax-subsidizers).
With an income tax, each side has an easy enemy to demonize, a rival, a group that threatens to change the rules in its favor and at your expense (or promises to change the rules in your favor at the rival's expense). Politicians need such a threatening rival in order to gain support.
Because it is a personal tax, the income tax excels at creating economic rivals out of other Americans. It creates economic-political competition out of thin air.
It's a politician's dream.
Published: February 22, 2006 9:42 AM
SteamshipTime
Nick,
I think this is correct. The government is measuring only savings account deposits which is highly misleading. In an inflationary environment, there is no incentive to hold cash in a minimal or even negative-interest bearing account.
Published: February 22, 2006 9:44 AM
Nick Bradley
Here's a piece I wrote on the FairTax. Among tax reform options, only replacing all federal taxes with a flat tax on State Treasuries would be superior to the FairTax.
How the FairTax Will Renew America
Published: February 22, 2006 10:36 AM
Stefan Karlsson
Nick and SteamShipTime: you are wrong in claiming that personal savings statistics only include savings accounts deposits. It includes all sorts of savings. It is in fact calculated by simply taking money personal income and subtracting personal spending (including interest expenditures and remittances to the outside world).
As for the article, I again disagree with Frank. His very long discussion of why you shouldn't include the income of intermediate producers is misleading in this context. What he describes is why GDP statistics don't include the entire sales value of all firms but only the value added. But as a matter of fact, GDP and national and personal
doesn't doublecount by including the gross sales value of intermediate firm, they only include the net income or value added of intermediate firms. For this they have been criticized by some Austrianleaning economists including Gerard Jackson of Brookes News whom I believe Frank is familiar with, but I disagree with that criticism. But it is actually really them and not the government statisticians which Frank is criticizing.
The one criticism in this context one can raise against GDP is in fact that GDP does not deduct for capital consumption, but this problem does not exist with regards to national income-or the personal income statistics which is the subject for this discussion. So, although one can discuss possible errors with regards to some of the methodologies in these statistics, they are in principle possible to calculate. Meaning in turn that the savings rate is in principle possible to calculate.
Published: February 22, 2006 11:11 AM
SteamshipTime
Stefan:
Thanks for the information. My statement was based purely on hearsay.
Given what you say, the statistic does not bode well for many individuals, but that is another topic.
Published: February 22, 2006 11:42 AM
billwald
The negative savings rate is generated by the short sighted people who carry an average $8000 credit card balance and who buy new cars "upside down." They are keeping the economy going and when the stuff hits the fan they will be the new poverty class.
The Wife and I have always spent less than we earned and I suspect will be able to make some really good real estate deals when the bubble bursts and if not . . . we have never lost sleep about paying the bills.
Published: February 22, 2006 11:46 AM
Aaron Singleton
"The government will never give up the income tax, but not because it is a golden goose (in terms of revenue). Its proponents aren't concerned with revenue. The government has all of the money printing presses. It doesn't need the income tax. It can borrow and/or print all the money it needs."
Wrong. Government's can print and borrow money, but unless they want to end up like the Weimar Republic, they have to have a large tax base. No one will lend money to a government whose only source of income is counterfeiting. Nothing destroys a government's legitimacy faster than runaway inflation. It's the tax base that provides the basis for large-scale borrowing and that helps hide the counterfeiting that is happening.
Good point about the control factor though. The income tax does provide them with lots of information. However, getting rid of the income tax won't keep them getting their hands on any information they want. There are plenty of ways to get it.
Published: February 22, 2006 12:10 PM
Frank Shostak
Stefan I don't think you have understood my article yet you are very fast to make all sorts of comments. To begin with the personal income is calculated as summation of all the wages and salaries etc and it got nothing to do with the value added approach. So from this perspective it is wrong. Also the whole NIPA framework is Keynesian which provides the rationale for calculating personal income this way. As far as real GDP is concerned statisticians don't employ the value added framework - they just plug the value of sales and prices into the Fisher equation. Additionally what matters is that funding is done by the entrepreneurial saving. This is the key, which of course runs contrary to Keynesians, who regard spending as the heart of economic activity, whilst saving is just an obstacle for economic growth - the Keynesian multiplier. To suggest that in principle we can establish quantitatively the status of real savings whilst we know that the principle is wrong is extraordinary. I hope you have paid attention to comments by Rothbard, Mises and government statisticians themselves. So I am surprised that you are trying to defend the Keynesian system.
All the best,
Frank Shostak
Published: February 22, 2006 3:33 PM
Juan Garofalo
Mises.org's articles are usually easy to follow. The distorting actions of gov't are clearly stated and its disruptions of natural order shown. However, the present article is more convoluted IMO....But if what's failing is my IQ, I then apologize in advance :
I agree that the way gov't measures savings is wrong since you can't add apples and oranges. BUT, savings can be low, despite the way gov't measures its rate. With respect to America, savings rate is likely to be low, because of countless gov'ts interventions on the free-market. Interest rates are metodically set below market prices. Isn't that a very powerful factor to discourage savings ?
Should We Worry about Falling Savings?
Not in a free market. Is this a free market ?
Published: February 22, 2006 7:20 PM
averros
billward:
> The Wife and I have always spent less than we
> earned and I suspect will be able to make some
> really good real estate deals when the bubble
> bursts and if not . . . we have never lost sleep
> about paying the bills.
Hehe. Let me tell you what happens when the monetary bubble seriously bursts - I lived through that two times.
All your monetary savings are wiped out. Just like that. The valuable-papers are also typically wiped out, because under the cover of general confusion the issuers do the hat trick of buying them out at the "fair value" in the newly worthless money.
What is left is what you physically control. And, given that more than few people got rather desperate, it involves not unsignificant personal risk.
And if US bubble bursts, it is going to be real hard to find any stable foreighn valuta. And all those Internet gold-holdings (like eGold) would be very likely to receive a visit from the friendly government - you see, in the times of crisis people shouldn't be so selfish as to hoard gold. For that matter, individuals who are known to own more than few ounces of it in their physical posession are also going to be on the stabilization donors list.
Land titles are reasonably safe... so are things like small businesses and professional knowledge in fields not dominated by the government spending.
The only people who win are those who carry debts denominated in the bubble money. The walk debt-free. So, one's left to wonder if all those CC-happy people are actually that stupid.
Published: February 22, 2006 8:34 PM
The Economist
The world's esteemed central bankers have been paying people to borrow their money for the past few years. It's no wonder that savings rates have gone down.
Published: February 22, 2006 9:43 PM
Marco Saba
"Neoclassical economics, assuming perfect information, sees no role for monetary factors, let alone banks in the economy. An increasing body of literature is challenging this approach. However, even the growing number of studies on the "credit channel" of monetary transmission fail to recognize the special nature of banks as creators of money. Bernanke (1993), an economist with deep insights into the role of bank and credit, defines credit creation as "the process by which saving is channeled to alternative use," thus not indicating that banks are not merely intermediaries channeling savings, but creators of new money, which can be invested, thus producing new savings."
Richard A. Werner
Published: February 23, 2006 5:49 AM
Stefan Karlsson
Frank->"To begin with the personal income is calculated as summation of all the wages and salaries etc and it got nothing to do with the value added approach."
Value added for any firm is equal to the sum of wages/salaries and profits and interest payments to creditors. Which is to say: it is equal to the sources of personal income.
"Also the whole NIPA framework is Keynesian which provides the rationale for calculating personal income this way."
This have got nothing to do with keynesianism.
"As far as real GDP is concerned statisticians don't employ the value added framework - they just plug the value of sales and prices into the Fisher equation."
Did I say anything about real GDP? No, I refered to nominal GDP and nominal income, and that is the basis for the savings rate. If someone have a total net income of $50,000 and consumes $40,000 and saves $10,000 then his savings rate is 20% regardless of whatever real value you estimate that those dollars have. It is 20% regardless of whether we're talking about 1913 dollars or 2006 dollars, whether we're talking about US dollars, Canadian dollars or Australian dollars.
And if you add up the income and savings of another person and find that their total income is $120,000 of which $90,000 was consumed and $30,000 saved then their savings rate is 25%, regardless of the consideration of real value. And if you 10 more people and find that their total income is $500,000 , of which $100,000 is saved then their total savings rate is 20%, again regardless of real value. And so on and so forth up until the national level. I am puzzled as to why you do not understand something as simple and fundamental as that.
"Additionally what matters is that funding is done by the entrepreneurial saving."
Yes, that is important, though it is not necessary for the entrepreneurs themselves to do the saving. It could just as well be others who save and borrow to the entreprenurs for investments.
"This is the key, which of course runs contrary to Keynesians, who regard spending as the heart of economic activity, whilst saving is just an obstacle for economic growth - the Keynesian multiplier."
I agree that the Keynesians have a wrongheaded view of savings, but that has got nothing to with the issue of how the savings rate is calculated.
Whether you think that someone who consumes $90,000 and saves $10,000 out of a income of $100,000 saves too little or too much or just right, have no relevance for the fact that the savings rate in this case is 10%.
"To suggest that in principle we can establish quantitatively the status of real savings whilst we know that the principle is wrong is extraordinary."
I don't find the idea that you can calculate a value by dividing savings to income particularly extraordinary.
"I hope you have paid attention to comments by Rothbard, Mises and government statisticians themselves."
Well, I read them , but 1) Again, their comment is about estimated real value of dollars, which is unrelated to the simple calculation of the savings rate. 2) I did not find their mere assertions particularly persuasive and since this after all is not the Ayn Rand Institute, Arguments from authority are not valid.
"So I am surprised that you are trying to defend the Keynesian system."
Simple math is not keynesianism.
Published: February 23, 2006 9:59 AM
Alex
"In reality, however, only ten loaves of bread were produced and this is the income. The eight loaves is the savings of the baker that was transferred to the toolmaker in return for the tools. Or we can say that the baker has invested eight loaves of bread." Frank Shostak
Frank defines income as the production of consumer goods.
But, income-consumption=saving=investment=addition to wealth. Using Frank's definition of income and his numerical example, Frank gets income=10 and consumption=10 (all loaves were consumed). Consequently, according to Frank's income definition, savings=investment=addition to wealth=0. But that result conflicts with the fact that savings, investment and the increase in real wealth (in the form of tools) actually amounts to 8 (which fact Frank states).
What is wrong here is Frank's definition of real income. Income is the production of all goods and services, not just the production of consumer goods and services. Using the correct definition of income, and Frank's numerical example, income=production=10+8=18; consumption=10; savings=investment=8, which calculation is consitent with the fact that savings actually was 8 (tools).
As for the measurement of GDP, of course there are the problems of adding apples and oranges that he mentions. There are also the problems he mentions with regard to measuring the price level. Because of these problems, the measures of real GDP, real income, the price level, savings and investment are approximations. And, of course, the growth rate in the economy cannot be measured to the first decimal place. But, we shouldn't jump from these realizations to the conclusion that the measured figures are totally meaningless. If such measures are totally without informational content, then the negative economic growth rates and the falling price levels measured in the 1930s might actually have confused us into thinking production and price levels were falling when in fact they weren't. Or, it was just a coincidence that the measured figures for the thirties were indicators of reality. Does anyone actually believe that?
Published: February 23, 2006 10:07 AM
Allen Weingarten
I follow Mr. Shostak’s view that we do not adequately measure savings on a national level. However, *he appears to aver that it is impossible in principle to have such a measure* when writing “According to Mises, in the field of praxeology and economics no sense can be given to the notion of measurement.� Now I concur with the view that economics is essentially an a priori discipline, but do not see how the concept of measurement is fallacious. For example, we know that the amount of government spending, both absolute and relative, have increased in the past few decades. Is it not measurable that individuals pay more taxes than a generation ago?
Consider savings. Can we not say that an individual consumed more in one year than he earned, by going into debt, while spending less than he earned in another year, by means of a savings account? Perhaps Shostak would say that we cannot extrapolate from one individual, but does that deny that we can take a random sample of many individuals to arrive at a national figure? Similarly, can we not calculate that in a given business, in one year all money is spent on costs, with nothing invested in new equipment or in replacing old equipment, while in another year, there is significant investment?
Correct me if I am mistaken, but what prevents us from using measurements to estimate national figures for wages, savings, investments, etc.?
Published: February 23, 2006 12:31 PM
Yancey Ward
Man, this sort of thing gives me a headache.
I think it valid to count the production of final consumer goods as the real income. The purpose of economic activity is to produce final consumer goods and services. The eight loaves of bread transferred to the tool maker really are the savings of the baker. The savings of 8 loaves of bread allowed the toolmaker to make 8 tools, but the tools are not present income (they are not a final consumer good), but will be turned into future income by allowing the production of future loaves of bread, more than would have been possible if the toolmaker had to make his own bread in the present.
I wonder if our real problem in calculation of a savings rate is that we don't properly identify what are final consumer goods, what are capital goods, and what are some species in between. For example, I buy a truck that I drive to work. The government would calculate that truck as a consumer good, but is it only such? Isn't it valid to view that truck as partly a capital investment in my transportation to and from work? There are many classes of consumption that I do that I might view as having a certain capital quality. I would appreciate any of your thoughts.
Published: February 23, 2006 1:14 PM
Tom Burger
Alex,
I believe you misunderstand Frank's article. Income and wealth must be measured physically in consumer goods. A drill press, for example, does nothing for a person's well being UNLESS it results in greater consumer goods production.
Savings in the form of consumer goods can be used to support people engaged in higher order goods production. Saved consumer goods used for this purpose are called "capital." (see Richard von Strigl's book "Capital and Production" for an exhaustive explanation of these concepts).
I think the easiest way to see this argument is to consider the "Robinson Crusoe economy." The only way for people stranded on an island to produce a fish net, say, is for the people fishing with their hands to catch enough fish to meet not only their own consumption needs, but also the needs of the fish net project workers.
The fish used to feed the tool producers represent "savings" and "capital." The people on the island, however, become wealthier only if the fish net serves its purpose and increases the supply of fish (consumer goods).
I believe the principle is the same in a money economy, but I find it much more difficult to keep the issues straight.
Published: February 23, 2006 1:48 PM
Frank Shostak
Stefan you wrote
“Value added for any firm is equal to the sum of wages/salaries and profits and interest payments to creditors. Which is to say: it is equal to the sources of personal income�.
All this however, has nothing to do with my argument that you are suggesting, namely that my conclusions are exactly the one reached by the value added approach. In short, this way of thinking continues to count many times over the same income – this is the world of mr Keyens and the Keynesian multiplier. But of course NIPA is based on the Keynesian framework. So I am surprised that you deny that.
You wrote
“Did I say anything about real GDP? No, I refered to nominal GDP and nominal income, and that is the basis for the savings rate. If someone have a total net income of $50,000 and consumes $40,000 and saves $10,000 then his savings rate is 20% regardless of whatever real value you estimate that those dollars have. It is 20% regardless of whether we're talking about 1913 dollars or 2006 dollars, whether we're talking about US dollars, Canadian dollars or Australian dollars.
And if you add up the income and savings of another person and find that their total income is $120,000 of which $90,000 was consumed and $30,000 saved then their savings rate is 25%, regardless of the consideration of real value. And if you 10 more people and find that their total income is $500,000 , of which $100,000 is saved then their total savings rate is 20%, again regardless of real value. And so on and so forth up until the national level. I am puzzled as to why you do not understand something as simple and fundamental as that.�
Before accusing me for not understanding you should spend some time and try to understand what my article is whole about. The point is that we don’t save money. We can only exercise a demand for money. Consequently, the whole issue of the saving rate as it is calculated today is of not much meaning. In fact it provides support to mainstream ideas that saving and money is the same thing. What you have described and surprisingly endorse is the Keynesian fallacy that something can be created out of nothing.
Without the saving by the present income generator it will be very difficult to fund the activity of other producers. So I am surprised that you don’t get it.
You wrote
“I don't find the idea that you can calculate a value by dividing savings to income particularly extraordinary.�
Well if the principle is wrong then arithmetic is of little help in this regard. The saving rate that is presented as the saving rate has nothing to do with saving.
Your comment on Rothbard and Mises is very disrespectful you wrote,
“Well, I read them , but 1) Again, their comment is about estimated real value of dollars, which is unrelated to the simple calculation of the savings rate. 2) I did not find their mere assertions particularly persuasive and since this after all is not the Ayn Rand Institute, Arguments from authority are not valid.�
I don’t represent the Mises institute and the fact that you can be so disrespectful to these two economic giants shows that the institute is very tolerant. I however, suggest to you that before you make any comments about Mises and Rothbard you should reach their intellectual level. For the time being you are not at this stage so try to be more polite towards those giants. Even much more advanced Austrians like Hoppe, Rothbard and Block are seldom criticise Mises and Rothbard.
All the best,
Frank Shostak
Published: February 23, 2006 2:14 PM
Stefan Karlsson
"All this however, has nothing to do with my argument that you are suggesting, namely that my conclusions are exactly the one reached by the value added approach. In short, this way of thinking continues to count many times over the same income"
No, it does not. This is simply false. If producers of steel, rubber and other commodities sells $1 billion worth of commodities to some car manufacturer and the car producer then sells the cars for $2 billion to consumers then the owners, creditors and workers of the commodity producers will receive $1 billion in income while the owners, creditors and workers of the car producer will receive $1 billion in income.
"Before accusing me for not understanding you should spend some time and try to understand what my article is whole about. The point is that we don’t save money. We can only exercise a demand for money. Consequently, the whole issue of the saving rate as it is calculated today is of not much meaning. In fact it provides support to mainstream ideas that saving and money is the same thing. "
No, it does not say that saving and money is the same thing, only that people allocate their money for savings.
Your comment on Rothbard and Mises is very disrespectful you wrote,
“Well, I read them , but 1) Again, their comment is about estimated real value of dollars, which is unrelated to the simple calculation of the savings rate. 2) I did not find their mere assertions particularly persuasive and since this after all is not the Ayn Rand Institute, Arguments from authority are not valid.�
I don’t represent the Mises institute and the fact that you can be so disrespectful to these two economic giants shows that the institute is very tolerant. I however, suggest to you that before you make any comments about Mises and Rothbard you should reach their intellectual level. For the time being you are not at this stage so try to be more polite towards those giants. Even much more advanced Austrians like Hoppe, Rothbard and Block are seldom criticise Mises and Rothbard."
I'm sorry to see that you display the same authoritarian attitude towards disagreements that
the Ayn Rand Institute is infamous for.
And to use a argument from authority to refute your argument from authority, neither Mises nor Rothbard shared your authoritarian attitude.
Rothbard for example did not hesitate to criticize Mises. He criticized him for example for his view that a minimal state was necessary, for his utilitarian ethics (In fact he had a whole chapter in "The Ethics of Liberty" where he criticized Mises' utilitarianism), for his monopoly theory, for his support of permitting free fractional-reserve banking, for his view of the effects of an increased gold supply and for his philosophical grounding of economics.
And Walter Block have publicly disagreed with Rothbard on a number of issues.
As he puts it in :
his">http://www.walterblock.com/publications/response_to_schwartz.pdf">his response to Peter Schwartz of the Ayn Rand Institute
"Libertarians disagree with eachother because we are individuals. We think for ourselves and the world is complex. We're a political movement, not a cult. That's why we disagree with eachother, on occasion.Disagreements, fights, splits, even hatreds, yes. But no one party line. We have a healthy diversity.
If there is any candidate in the libertarian movement that could be considered a candidate for cult leader, it would be Murray Rothbard("Mr. Libertarian"). He was certainly a leading thinker in the libertarian movement. As a matter of fact, Murray and I were good personal friends;yet I have disagreed with him in private, and in person and in writing and in public on several issues including voluntary slavery, immigration, the flat tax, and star wars. But there has never been any hint of a purge.
Were Schwartz to disagree with Rand or Peikoff or any other top Objectivist disciple on any issue, no matter how picayune, he would be summarily dismissed from the elect.
Libertarianism is a growing vital,viable, intellectual concern and in such contexts people disagree with each other. We argue these things out. It is the market of ideas. There is nothing to be ashamed about in disagreeing with each other, the very contrary is true"
Wise words, which you Frank should consider.
And if you think it is reprehensible to disgree with Mises or Rothbard on any issue I suggest you
attack the large number of mises.org writers who advocate anarchism, something which Mises strongly opposed. Or the people who reject copyrights even though Rothbard defended copyrights.
Btw though, it should be noted that Rothbard in his later writings (which can be read in Making Economic Sense ). accepted in his discussions
statistical measures of inflation and economic growth.
Published: February 23, 2006 4:29 PM
Alex
"Alex,
I believe you misunderstand Frank's article. Income and wealth must be measured physically in consumer goods. A drill press, for example, does nothing for a person's well being UNLESS it results in greater consumer goods production."
If the drill press does not result in greater consumer goods production, then its value is zero, and the drill press has turned out to be a bad investment (one with a negative net present value of 8 loaves). The economic value of the drill press is actually its net present value (the present value of its future net production value less the 8 loaves, again to use Frank's example). National income statisticians approximate the value of the investment by its cost (in Frank's example, 8 loaves), and, since most rational investment has a positive net present value, measured investment actually understates the economic value of the investment (and also understates the income resulting from the production of the investment goods).
If you choose to neglect the production of investment goods altogether in the measurement of income, you can't at the same time count the production of investment goods as representing saving (as Frank does, and as, of course they are). With Frank's example (and Frank's concept of income as the production of consumption goods only), as I pointed out earlier, you arrive at the following: income=10; consumption=10; saving=8. Now, I would be happy to hear how these numbers are reconciled.
If you count the tools worth zero in real terms then you must admit that wealth would not be affected by dumping the produced tools in the ocean.
"Savings in the form of consumer goods can be used to support people engaged in higher order goods production. Saved consumer goods used for this purpose are called "capital."
Sorry, but it's the tools (again using Frank's example) and not the consumer goods that are "capital". The tools, as capital goods, would simply be cost valued at 8 units of consumer goods.
"I think the easiest way to see this argument is to consider the "Robinson Crusoe economy." The only way for people stranded on an island to produce a fish net, say, is for the people fishing with their hands to catch enough fish to meet not only their own consumption needs, but also the needs of the fish net project workers.
The fish used to feed the tool producers represent "savings" and "capital." The people on the island, however, become wealthier only if the fish net serves its purpose and increases the supply of fish (consumer goods)."
Yes, this is true. There are always some bad investments, whose benefits fall short of their costs. But as I said above, on average investments do increase potential consumer goods production by more than their consumption goods cost.
Published: February 23, 2006 6:01 PM
Happy Lee
I believe Mr. Shostak's excellent article requires a follow-up piece addressing the questions raised here. Seeking to establish benchmarks for aggregate data is futile when there can be no benchmarks; on the other hand, the use of descriptive statistics to show flow of money per se (no value judgment) seems okay, too.
Anyway, buy gold!
Published: February 24, 2006 7:26 PM
Peter Matias
Yancey,
You are correct. Ultimately what makes something a capital good is not any physical quality of the good itself but the intentions of the actor who uses or might use it in his plans.
We have been conned into thinking that these categories are objective and fixed by the non-praxeological approaches to economic theory, finance and accounting; and by the heavy hand of a voracious taxing monster which wants things done it's way.
Arbitrary and objective definitions including the relevant time periods may serve Grendel well, but you should take them with a grain of salt when acting on your own behalf or seeking to understand the world as it really is.
Published: February 25, 2006 5:45 AM
Alex
Peter,
The government did not prescribe that income-consumption=saving (investment). Perhaps then, using Frank's definition of income as the production of consumption goods and Frank's numerical example, you can explain how (by plugging Frank's numbers into the above identity) 10-10=8 (since savings=investment=8, which numbers are not in dispute).
Published: February 25, 2006 9:30 AM
Alex
Sorry, should be "which number is not in dispute" (the 8 that is).
Published: February 25, 2006 9:31 AM
Peter Matias
Alex,
The fact that you asked me this question means that you missed entirely, the point of my post; and that's a shame.
Published: February 26, 2006 5:48 AM
Yancey Ward
Alex,
I don't think you really understand Shostak's article. No capital goods come into being without the the saving of final consumer goods. The 8 tools the toolmaker made would not have been made if the baker had not saved 8 loaves of bread. That all of the bread is consumed is irrelevant (after all, final consumer goods are consumed), the savings are still 8 loaves of bread. Whether or not the 8 loaves are called savings depends on what is done with them. If the baker throws them into the ocean, then they are not savings. If the baker eats them, they are not savings. If the baker trades them to a shoemaker for a pair of shoes, and the shoemaker eats them, the loaves are not savings. In Frank's example, they are savings.
Published: February 27, 2006 9:22 AM
Paul Edwards
Yancey,
"If the baker trades them to a shoemaker for a pair of shoes, and the shoemaker eats them, the loaves are not savings."
This really depends on what the baker does with the shoes, doesn't it. For instance, if he uses them to stand in all day while he bakes bread and they enhance his bread making productivity, for instance, then this is investment, just like the tools were.
On the other hand, if they are dancing shoes or joggers, then it seems it is indeed consumption.
One other thing though. The shoe maker himself may instead, be the one who invests the bread although the baker himself consumed it by obtaining the dancing shoes. The shoe maker may buy a new set of needles with the bread, or a new machine in which case it would be invested. Or instead, he may lend it back to the baker who could consume it while he focused on developing and perfecting his new bun recipe. That would be bread invested in making bread, but it is bread saved and invested by the shoe maker rather than by the baker this time.
Published: February 27, 2006 10:00 AM
Yancey Ward
Paul,
True. Your comment is related to one I made earlier in the thread about the definitions of what are capital goods and what are not. I should have chosen a clearer example such as trading the bread for apples.
Also, you are correct that the shoemaker could have been the saver, and I did consider including just such an example.
Published: February 27, 2006 10:05 AM
Paul Edwards
Yup. I agree with you.
Published: February 27, 2006 10:23 AM
Alex
"I don't think you really understand Shostak's article. No capital goods come into being without the the saving of final consumer goods. The 8 tools the toolmaker made would not have been made if the baker had not saved 8 loaves of bread."
Yancey, no-one disputes this.
"That all of the bread is consumed is irrelevant (after all, final consumer goods are consumed), the savings are still 8 loaves of bread."
Yancey, yes, the savings and investment are in purchasing power terms valued at 8 loaves of bread, but in physical terms the savings is embodied in the tools sitting in the corner.
"Whether or not the 8 loaves are called savings depends on what is done with them. If the baker throws them into the ocean, then they are not savings. If the baker eats them, they are not savings. If the baker trades them to a shoemaker for a pair of shoes, and the shoemaker eats them, the loaves are not savings. In Frank's example, they are savings."
Yancey, yes, this is all correct. Who is disputing this?
But explain to me how individual "A" who earns $100,000 a year producing consumer goods has an income of $100,000, while individual "B" who earns $100,000 a year producing investment goods has a zero income. Using what people generally mean when they use the term "income", each of their incomes were $100,000 and if you add the two of them together you get $200,000. And this contradicts nothing I said above in this post.
The argument is not what one regards as "saving" or "investment", which apparently everyone here agrees is physically the tools (and yes if they are dumped in the ocean by anhyone then there was zero savings for the year, even though the actions of the consumer goods producers were the same, that is, during the production period they sustained the toolmaker's ultimately unproductive efforts.) The argument is whether a different definition of income is needed than the standard one that almost everyone uses.
Published: February 27, 2006 10:46 AM
mikey
Only consumer goods represent income.The fact that capital goods are worth money is a red herring.To prove this to yourself,picture a world
where only capital goods are produced.Each stage of production leads only to a lower stage of production, the final stage of producing consumer goods never being attained.What is the income of such an imaginary world? It can't be anything but zero.
In the real world,not everything of value can be counted as income.Although an individual may derive his income from the production of capital goods,say drilling rigs, the world as a whole does
not have more income because it has more drilling rigs,only because it has more oil, the final consumer good that was the object of all that productive effort.
Published: February 27, 2006 12:42 PM
Yancey Ward
Alex,
The point Frank is making is that no capital goods would come into being without the savings from final goods producers. Along the entire production chain, the income of the intermediate goods producers are completely sourced from saved final consumer goods, not from the production of the intermediate goods. That the intermediate goods producers may also save is important, but their income still is sourced completely by final consumer goods.
Let me construct a detailed example and then ask a question:
The baker bakes 10 loaves of bread, consumes 2, buy tools with 8 loaves.
The toolmaker has an income of 8 loaves, consumes two, pays for the steel in the tools with 6 loaves.
The steelmaker has an income of 6 loaves, consumes two, pays for the iron ore from which he made the steel with 4 loaves.
The iron ore producer has an income of 4 loaves, consumes two, and pays 2 to the land owner on whose land the ore was found.
The landowner has an income of 2 loaves and consumes 2 loaves.
By NIPA total income is 10+8+6+4+2=30 loaves. According to NIPA, what would be the total savings?
Published: February 27, 2006 12:48 PM
Alex
Yancey, there seems to be a lanquage problem here. First of all, no-one can dispute that the toolmaker is sustained or, to use your words, "sourced" by the baker's production of consumer goods. But the tools are a final product, not an intermediary good. Again, I am using the terms "final" and "intermediate" in their standard national income accounting usage.
"The baker bakes 10 loaves of bread, consumes 2, buys tools with 8 loaves. The toolmaker has an income of 8 loaves, consumes 2, pays for the steel in the tools with 6 loaves. The steelmaker has an income of 6 loaves, consumes 2 loaves, pays for the iron ore from which he made the tools with 4 loaves. The iron or producer has an income of 4 loaves, consumes two, and pays 2 to the landowner on whose land the iron ore is found. The landowner has an income of 2 loaves. By NIPA total income was 10+8+6+4+2=30 loaves."
Yancey, where did you get the impression that that was how NIPA conceives national income? The total national income derived from tool production is the market value of the final product (the tools), and that is 8 loaves in purchasing power terms. In your example you have incorrectly stated the income of the final product (tools) producers as well as the income of the intermediary product producers. For example, NIPA, and everyone else for that matter, would regard the income of the tools producer, in your example, as 2 loaves. (Revenue=8; expenses=6; net profit=2.) The toolmaker of your example earns his income strictly through equity ownership in his toolmaking business and his profit (earnings or income) is 2. Likewise the income of the steel maker, the iron ore producer, and the landowner would each be measured by NIPA as 2, for a total of 2+2+2+2=8. And then, of course, we have the production of the consumer goods (the final stage being baking)=8, which figure can be derived either from the market value of the production of the final product (the bread), or by adding up the net income after expenses of the baker and the net incomes of any intermediate agents, to give the figure of 18. That's how NIPA would measure income. As I have said before, since the PV of future production of consumer goods from the tools is expected to be greater than 8 loaves (giving the baker a positive NPV (profit income) from his tools investment), the NIPA estimate of income from capital goods production may be considered as conservative.
Published: February 27, 2006 2:32 PM
Alex
Yancey,
Sorry, I forgot to answer your question. NIPA conceives investment to represent unconsumed production. In your example, this would consist of the market value of the tools=8 loaves (in purchasing power terms). Savings=Income-consumption=18-10=8.
Published: February 27, 2006 2:45 PM
Yancey Ward
Alex,
You are correct. I have conflated proprietors with those individuals on salary and wages. My apologies. As I said, this stuff makes my head hurt.
However, why isn't the total income the original 10 loaves? You seem to want to count the tools as present income, a final product, but it is not known what the value of the tools actually is, and it won't be known until the future productivity of the baker is established- it is bread that is desired and consumed, not tools. Let us suppose the baker chose to produce only for his needs, then he would have produced 2 loaves, and each of the other proprietors would have had to produce bread for themselves, or two loaves each, then we would have a total income of 10 loaves, but with no savings.
You stated earlier that assigning the present value of the tools at their cost underestimates their value in most cases, and I would agree completely. Isn't this one of the main points Shostak was getting at- that the calculated savings rate isn't particularly meaningful. So why assign them any value? You can judge their value by the future production of bread, and, indeed, I think this is the only meaningful way to value them.
Published: February 27, 2006 4:20 PM
Alex
"However, why isn't the total income the original 10 loaves? You seem to want to count the tools as present income, a final product, but it is not known what the value of the tools actually is, and it won't be known until the future productivity of the baker is established- it is bread that is desired and consumed, not tools."
Yancey: Yes, under yours, your colleagues', friends', neighbors', and yes even enemies'
understanding of income (and NIPA's also), total income is the summation of individual incomes earned over a given period, regardless what occupation they have, and regardless of what they are producing. This generally understood figure may be arrived at by adding up the value of all final goods (and services) produced in the economy in a given period. If one adds up the production of only consumer goods then you don't arrive at the total income of the population as it is commonly understood.
"Let us suppose the baker chose to produce only for his needs, then he would have produced 2 loaves, and each of the other proprietors would have had to produce bread for themselves, or two loaves each, then we would have a total income of 10 loaves, but with no savings."
Yes, that is absolutely right. That, in fact, is what happens in a subsistence economy, where productivity is so low that no resources can be transferred to the production of machinery and equipment.
"You stated earlier that assigning the present value of the tools at their cost underestimates their value in most cases, and I would agree completely. Isn't this one of the main points Shostak was getting at- that the calculated savings rate isn't particularly meaningful. So why assign them any value? You can judge their value by the future production of bread, and, indeed, I think this is the only meaningful way to value them."
Yancey, I actually overstated my case with regard to the production of investment goods. In fact, the government is engaged in the acquisition of investment goods as well as the private sector. As far as government-acquired investment goods are concerned, I would certainly not be so quick to bet that the price paid by the government for these understates (on average) the PV of their future net production of consumer goods.
However, the estimate used by NIPA to measure investment does not involve taking the present value of the consumer goods that the investment goods would be expected to produce, since there is no observational information available in this regard. For example, individuals who purchase new homes and condos do not calculate the PV of housing services (the consumption good, actually service) that the home is likely to provide them and others who may buy the home from them second-hand when they sell. They make only a decision as to whether the home is likely to provide enough housing services to themselves and later potential purchasers which will exceed the purchase price. (Again, I'm dealing with new homes here.) Sometimes the purchasers of new homes are correct in that the new home is worth to them more than its purchase price and sometimes they're wrong. But this is also true of consumer goods and services. Just last evening, my wife and I had a restaurant meal whose total price considerably exceeded its value to us, after the fact. Grumble, grumble...
Alex
Posted by: Yancey Ward at February 27, 2006 04:20 PM
Published: February 27, 2006 7:00 PM
Yancey Ward
Alex,
I appreciate the time you have taken with me and the courtesy you have shown me. I think I now understand NIPA better than I did before. I will bow out of the debate with one last observation and question:
It seems to me that an important issue regarding savings is what the ratio of (1), the working force engaged in the production of final consumer goods and services, is to (2), the working force engaged in the production of capital goods and services. In the example above, the baker sustains 4 other people, or a ratio of 1 to 4. Do you think NIPA calculations of savings adequately capture the true state of savings?
Published: February 28, 2006 8:22 AM
Alex
Yancey:
I don't think the ratio of people producing investment goods vs. people producing consumer goods has independent importance. However, in Frank's example, he was dealing with a closed economy. In such a situation savings=investment physically located in the nation under question. However, when international transactions are permitted things change. In the U.S., savings are meagre due to individuals saving less of their income and the government running huge deficits. As a consequence, U.S. saving is less than the physical investment undertaken in the U.S., from which we hope to attain productivity advances (future standard of living advances). The U.S. future living standards will be lower than they otherwise might have been both due to the lower (than it might have been) physical investment taking place in the U.S. and the fact that more (than otherwise) of the future consumption generated from such investments must be paid out to foreigners.
Published: February 28, 2006 9:04 AM
Yancey Ward
Alex,
I might agree with with most of what you wrote, but, again, the numbers themselves don't reveal the nature of the underlying transactions. I think giving the numbers too much attention and respect may be a mistake. By doing so, we may be missing something important. If the United States collapses into a severe recession/depression in the next 10 years, then I think the numbers may have been meaningful, but it has not happened yet.
Anyway, thanks.
Published: February 28, 2006 9:36 AM