MainStreet Macro: A Penny Saved

Savings accounts were the unsung heroes of the pandemic recovery.

The personal saving rate – the share of a person’s disposable income left after taxes and spending on necessities and everything else – soared to a record of almost 34 percent in April 2020. That means people saved 34 cents for every dollar earned in the early days of the pandemic.

But the saving rate has since nose-dived, dropping to about 4 cents of every dollar, the lowest rate since the financial crisis and about half the historical average.

The question is whether this volatile rise and fall signals consumer distress or something else. Here are three things the economy is telling us about savings.

Prepare for the recession

Total household savings more than doubled in the early months of the pandemic, to $2.97 trillion in 2020 from $1.37 trillion in 2019.

One reason: The federal government flooded Main Street with fiscal support to help families and businesses cope with the rapid and severe economic downturn. 

Another reason: Let’s face it, there’s simply less to spend money on when the economy is in lockdown, businesses are closed, and we’re on our couches. (Goodbye, happy hour.)

Now, however, Main Street has been spending its mountain of savings. The economy is open (Hello, happy hour!) and inflation has made everything more expensive. 

The Federal Reserve is trying to tame inflation without causing too much economic pain, what central bank policymakers call a soft landing. But in testimony to Congress last week, Fed Chair Jerome Powell said a hard landing – a recession – is possible.

If and when that hard landing comes, depleted savings accounts mean Main Street will have less cushioning to soften the blow. That could make any potential downturn more severe and possibly longer.

Beware the inflation and credit double-whammy

As people spend down their savings, they shift to credit for their purchases. And interest rates currently are going up as Fed policymakers try to slow inflation.

That means consumers are not only making purchases at today’s inflated prices, they’re paying even more on top of that to cover the rising cost of borrowing.

Examine the fine print on your credit card bill and you’re likely to find that the variable prime rate you pay each month is tied to the federal funds rate or overnight rate, a tool used by the Fed to help manage inflation.

The Fed this month raised the federal funds rate by 75 basis points and plans another hike in July. You’re likely to notice the effects of those policy decisions on your credit card statement.

Savers should try to hang on to their cash

After more than a decade of earning next to nothing from money in their savings accounts, households might finally have something to cheer about. The flip side of high borrowing costs are higher rates for savers.

This is especially good news for retirees, people on fixed incomes, and consumers planning major purchases. (My son’s college tuition comes to mind).

If savings rates are low, people could miss out on a big jump in earnings on their savings accounts.

My Take

Recent volatility in the savings rate isn’t a sign of consumer distress yet – plenty of external factors have contributed to our recent highs and lows – but it could get there if the mountain of savings picked up during the pandemic begins to erode.

Now is the time for small businesses and households to prepare. And maximizing that savings, if possible, is one of the best ways to do it.

Footnote: The Mains Street Macro blog will take a hiatus next week. With summer vacation in mind, here are three places to spend your hard-earned cash that won’t break the bank on your savings.

Consumer electronics – Prices are actually falling on laptops and personal computers, which are down 5 percent from a year ago.

Cell phone service – It’s still a good time to call a friend and catch up, because the cost of cell phone service has barely budged in 10 years.

Books – Book prices have been falling steadily this year, so you can add to your summer reading lists without digging under the mattress for your savings.

We’ll be back July 11. Happy Fourth!