The future of global savings and why it matters
- In recent years, excess saving has helped drive down global interest rates and push up asset valuations
- The assumption that people save during their working lives and spend in retirement no longer applies
- The accumulation of savings will be a major driver of yields, which will benefit duration-sensitive assets
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The world is saving too much, driven by the following powerful, deep-rooted overlapping forces:
- demographic change
- government policy.
Excess saving has probably contributed to driving down global interest rates and pushing up asset valuations in recent years. We expect the savings surplus to increase substantially in coming years, meaning that the days of low interest rates will once again return.
What is the savings surplus, and what are its effects?
By a surplus, we mean that the desire to accumulate financial assets is greater than the willingness of companies to use financial assets to fund productive investment.
Virtually all developed countries have seen a substantial increase in household savings stock relative to Gross Domestic Product (GDP) in recent decades – the chart below shows this in the case of the G7 nations. Net wealth measures the supply of household assets (housing, cash, loans and financial assets, such as equities and bonds) less the debt used to finance those assets.
Household net wealth to GDP
But while household wealth is rising relative to GDP, productive capex – the money being spent on assets to promote growth in the economy and businesses – is not.
Private non-residential fixed investment in the developed world, which covers purchases of non-residential structures, equipment and software, has been falling as a share of GDP when wealth has been growing.
Morkunaite and Huefner (2014) show that indeed, far from issuing more financial assets to absorb savings, companies have also become net savers.
Why is there a savings surplus?
Several factors underpin this rise in savings. One is rising asset valuations, which have led to greater wealth accumulation among those with high starting wealth. But (as we show later) savings would have accumulated significantly in recent decades even without any change in valuations.
Another is inequality. In many countries, particularly the US, the rewards of economic growth – in the form of higher incomes – have disproportionately accrued to a tiny segment of the population, who consequently have a high propensity to save. But this explanation applies less well in some regions, such as parts of Europe, which have seen a less pronounced rise in inequality but have still experienced sharply rising savings.
So these are at best only partial explanations. In fact, we believe that the most significant influence is demographic change, particularly the impact of declining populations and longer life expectancy. Shrinking populations mean each successive generation is smaller, allowing more wealth accumulation by families with fewer children to support. Longer life expectancy means more time in retirement, which increases the need to save.
What does this mean for interest rates and asset prices?
Economic theory suggests that prevailing interest rates are a function of the balance between the demand for savings for use in investment and the supply of those savings. As excess savings accumulate, they push down on interest rates. Lower interest rates drive up valuations for many assets.
What is the future of the savings surplus?
One increasingly widespread belief is that global excess savings have peaked and are set to drop. This view, articulated for example by Goodhart and Pradhan in The Great Demographic Reversal (2020), rests in part on the ‘lifecycle hypothesis’: the notion that as people age, they accumulate savings during their working years and then spend them in retirement.
With a much larger share of the population in the developed world set to reach retirement age in the coming years, this thesis holds that savings will drop. If that is right, then it implies that interest rates are likely to rise; and asset prices may come under pressure.
We do not agree. In fact, we think the savings surplus is set to grow significantly in the years to come. This is because, on closer inspection, the lifecycle hypothesis does not stand up empirically.
Consider this chart of the US wealth distribution by age. There is one very striking feature in retirement: net dissaving, ie spending more than one has earned in a given period, is remarkably low relative to savings accumulation in the other age categories. In fact, retirees below the age of 75, far from spending beyond their current income, continue to accumulate wealth.
It is only once people reach 75 that they begin to dip into their savings, and even here the degree is modest relative to the wealth accumulation of other age categories. There are several reasons for this, but an important one is that the distribution of savings is very unequal – most savings are held by the wealthy who have no need to access them to fund their retirement.
Net wealth by age
Taking this into account, we have modelled net wealth to GDP for the US for the next several decades (holding constant wealth to GDP and asset valuations and allowing only the age structure of the population to vary).
As shown below, this leads us to project a continued rise in wealth accumulation. This pattern holds for most developed countries and is likely to apply to much of the developing world too.
Net wealth to GDP (US)
What does this mean?
Interest rates have risen sharply in recent months as central banks try to combat inflation. But we see this rise as temporary. Once inflationary forces abate, as we expect in the coming years, we think interest rates will resume their multi-decade decline as the accumulation of savings once again becomes the dominant driver of yields.
Lower interest rates (all else equal) mean higher asset valuations, and we expect duration-sensitive asset classes – those assets that respond to interest rate changes, such as growth equities, credit, real estate and infrastructure – to be the clearest beneficiaries.
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