Saving in the United States: How Has It Changed and Why Is It Important?

Saving in the United States: How Has It Changed and Why Is It Important?

Order Code RL30873
CRS Report for Congress
Received through the CRS Web
Saving in the United States: How Has It
Changed and Why Is It Important?
Updated January 17, 2003
Brian W. Cashell
Specialist in Quantitative Economics
Government and Finance Division
Gail Makinen
Specialist in Economic Policy
Government and Finance Division
Congressional Research Service ˜ The Library of Congress

Saving in the United States:
How Has It Changed and Why Is It Important?
Summary
How much we save as a nation has significant consequences for the economy.
Saving is that share of income that is not consumed. By saving more now we can
raise our living standard in the future. Because it is not consumed, it is available for
investment in new capital as well as replacements to the existing capital stock as it
wears out. A growing capital stock is an important contributor to increases in
productivity and thus a rising standard of living.
Whether or not we are saving enough as a nation is of considerable relevance
to a number of public policy issues, including how to reform Social Security, whether
or not to balance the federal budget, and the efficacy of individual retirement
accounts and other forms of private saving incentives.
There is concern that we are not saving enough. While the personal saving rate
averaged nearly 7% of gross domestic product (GDP) in the 1970s and 1980s, it fell
during the 1990s, and in 2000 fell to near zero. Total gross national saving averaged
19.7% of GDP during the 1970s, but fell to an average of 17.1% during the 1990s.
In recent years, the national saving rate has recovered somewhat. During the 1990s,
total private saving fell, but, during the same period, increased public sector saving
more than offset the decline. Clearly, during that period, without the emergence of
significant public sector budget surpluses, the national saving rate would likely have
fallen further. More recently, in part due to federal government budget deficits,
national saving has fallen.
Saving from domestic sources is insufficient to provide for all of domestic
investment. As a result, we are importing resources from abroad. Prior to the 1980s,
the United States was a net supplier of saving to foreigners. During the 1980s and
1990s, however, we have been importing saving from abroad at an average of 1.5%
of GDP. This net inflow of foreign capital has consequences. In order to invest
funds in the United States, foreigners must first buy dollars. That raises the foreign
exchange value of the dollar. The rising dollar in turn makes imports cheaper and
U.S. exports more expensive. The result is a trade deficit that mirrors the net inflow
of foreign capital.
Raising the national saving rate has become a priority to some policymakers.
Two routes have been used to achieve this goal. One has been attempts to reduce the
federal budget deficit. In the 1990s, this policy was so successful that a substantial
surplus was temporarily achieved. This approach to raising the national saving rate
was supported by a wide spectrum of economists. The second approach has been to
attempt to raise the household saving rate by giving preferential tax treatment to a
specific form of household saving, the IRA. The effectiveness of this approach is
unclear and it does not share the same widespread support among economists.

Contents
The Measurement of Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Data on Various Measures of Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Private Sector Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Gross or Net Private Saving? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
Public Sector Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
International Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
National Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
What Factors Are Responsible For the Decline? . . . . . . . . . . . . . . . . . . . . . 11
Some International Comparisons . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
International Saving Differences and GDP Accounting . . . . . . . . . . . 14
The International Flow of Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
Explaining the Personal Saving Rate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
Does the Life Cycle Model Explain Recent Trends? . . . . . . . . . . . . . . . . . . 20
Saving and Economic Growth . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
The Internationalization of Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
Can Public Policy Raise the National Saving Rate? . . . . . . . . . . . . . . . . . . 27
The Integration of the Components of the Private Sector Saving Rate . . . . 28
The Integration of the Public and Private Sector Saving Rates . . . . . . . . . . 29
Efforts to Reduce the Federal Budget Deficit . . . . . . . . . . . . . . . . . . . 29
Conclusions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31
Appendix A: An Alternative Measure of the U.S. Saving Rate From the
Flow of Funds . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
Appendix B: The Saving Rate and the Long Run Rate of Growth . . . . . . . . . . . 36
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41
List of Figures
Figure 1. Gross Private Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Figure 2. Components of Gross Business Saving . . . . . . . . . . . . . . . . . . . . . . . . . 6
Figure 3. Net Public Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
Figure 4. Net International Saving Flows to the United States . . . . . . . . . . . . . . . 9
Figure 5. Gross and Net National Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
Figure 6. The Effect of an Increase in Saving on Economic Growth . . . . . . . . . 22
Figure A1. Gross National Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
Figure B1. Saving in the Steady State . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38
Figure B2. Effect on the Steady State of an Increase in the Saving Rate . . . . . . 39

List of Tables
TABLE 1. Gross Private Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
TABLE 2. Net Private Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
TABLE 3. Gross and Net National Saving Rates . . . . . . . . . . . . . . . . . . . . . . . . 11
TABLE 4. Contributions to the Net National Saving Rate . . . . . . . . . . . . . . . . . 12
TABLE 5. Contribution of Each Sector to the
Decline in the Net National Saving Ratea . . . . . . . . . . . . . . . . . . . . . . . . . . 12
TABLE 6. Gross National Saving of the G-7 Countries . . . . . . . . . . . . . . . . . . . 13
TABLE 7. Net National Saving plus International Flow of
Saving for the United States . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
TABLE 8. Saving as a Percentage of Aftertax
Income by Age of Consumer Unit, 2001 . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
TABLE A1. Alternative Measures of Gross National Saving . . . . . . . . . . . . . . . 34
TABLE A2. FOF and NIPA Saving Rates by Sector . . . . . . . . . . . . . . . . . . . . . . 34

Saving in the United States:
How Has It Changed and Why Is It
Important?
Saving is considered by many to be synonymous with thrift, which is usually
thought of as simply putting money aside in a bank, or buying stocks and bonds.
Economists, however, have something broader in mind than putting money in a bank
or adding to one’s holdings of financial assets. For them, saving represents that
portion of total national output that is not used for consumption. As such, it
represents output or resources that can be used to create, sustain, and expand the
nation’s stock of capital.1
While the nation’s capital stock is often thought of in tangible terms as the
machinery, equipment, and structures that are needed to produce output, it also has
an important human dimension. This consists of the skills and knowledge of its labor
force, its entrepreneurial skills, social organization, etc. — factors that are essential
in making the best use of the existing stock of physical capital to produce goods and
services, creating new physical capital, improving its efficiency over time, and
innovating new ways to produce output.
Thus, a nation’s capital stock has both a tangible and intangible component, and
the act of saving frees resources to create, renew, and expand both tangible and
intangible capital. The growth of this capital over time is closely linked to the
growth in the material well-being of a nation’s citizens. Growth in per capita real
income over time is an important measure of the ability of an economy to “deliver
the goods.”
When an economy disappoints, in the sense of being unable to deliver a
continuously rising standard of living or a standard that rises at the same rate it did
historically, economists are often led to investigate the growth rate of the capital
stock, and this leads inevitably to an investigation of the saving rate. There is a
widespread perception that the U.S. economy has come up short in this regard over
much of the past 25 years. For this reason, the national saving rate has come under
scrutiny. Whether or not we are saving enough as a nation is of considerable
relevance to a number of public policy issues, including what to do with rising budget
surpluses, how to reform Social Security, and the efficacy of individual retirement
accounts and other forms of private saving incentives.
1 The word saving is used in this report rather than savings for an important reason. In the
lexicon of economics, saving refers to the flow of a nation’s output which is not consumed.
Savings carries a somewhat different connotation: it is generally used as a synonym for
wealth, and refers to the stock of assets that have been accumulated as a result of saving a
portion of the nation’s output.

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Investigating the causes for the international differences in economic
performance often leads to an investigation of the differences in national saving rates.
These differences have been an important part of some explanations for the
occasionally lackluster performance of the U.S. economy.
Thus, from both a national and international perspective, concern has arisen
about the adequacy of the U.S. saving rate.
The Measurement of Saving
The basic measurement of saving for the United States comes from the National
Income and Product Accounts (hereafter NIPA) prepared by the Bureau of Economic
Analysis (BEA) of the Department of Commerce. Some may presume that saving
is done primarily by individuals or households. While this is an important
component of domestic saving, it is not the only source. Saving is also done by
businesses and by all levels of government (the “public sector”). Moreover, since the
United States is an integral part of the wider world economy, it both supplies saving
to and absorbs saving from the rest of the world.
In this section, the various components of aggregate saving will be identified,
private saving will be distinguished from public saving, and both private and public
will be combined in a measure known as national saving.
In order to define and measure the different saving rates and to organize the
discussion, as well as provide some analytical tools for the subsequent discussion of
policies toward saving, it is necessary to explore in greater detail the concept of
saving found in the NIPA.
Gross domestic product (GDP) can be calculated in two different ways; first by
adding up all of the income earned in the production of goods and services, and
second by adding up the value of all the goods and services produced. To measure
saving, it is necessary to make use of both.2
Measures of income can be used to obtain estimates of saving done by the
private sector. On the income side of the accounts, GDP is computed by adding up
all of the payments made to those who supply inputs (the “factors of production”)
towards the production of the nation’s output of goods and services. These factor
payments consist of wages and salaries, interest, rent, and profits. The income
recipients then use this income for the consumption of domestically produced goods,
for paying taxes, for buying foreign goods (imports), and for saving.3 Total or gross
2 Gross domestic product measures all output produced in the United States regardless of
who owns the productive factors. Gross national product (GNP), on the other hand,
measures all output produced by American owned factors of production regardless of where
they are domiciled. For the United States, the two measures have been virtually the same
over time.
3 Since many governments operate programs which transfer income from one group of
(continued...)

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private sector saving, then, represents income that is not used for the first three
purposes.
The private saving rate measures more than just saving by households. The
NIPA break down private saving into two parts: that done by households, also
referred to as personal saving, and that done by businesses. Household or personal
saving consists primarily of the saving of individuals and the profits that are retained
by noncorporate businesses (proprietorships). Business saving includes the profits
retained by corporate businesses and the depreciation allowances of all businesses,
both corporate and noncorporate.4
To measure public sector saving and the national saving rate, the alternative or
“product measure” of GDP must also be used. On the product side of the accounts,
GDP is measured by adding together the nation’s expenditures on final goods and
services. Such expenditures fall into four categories: the spending of households on
the consumption of domestically produced goods and services, the spending of
households and businesses on capital goods or investment, the spending of
government (or the public sector) on goods and services, and the spending of
foreigners on goods and services produced in the United States (or exports).
Since both the income and product approaches measure a common variable
(GDP), the sum of the components of each must be equal. Thus, consumption +
taxes + imports + saving must be equal to consumption + investment + government
+ exports. Since consumption appears in both measures of GDP, it can be dropped
in the computation of national saving. That leaves taxes (less transfers), or T, +
imports, or M, + private saving, or S, which is equal to investment, or I, +
government purchases of final output, or G, + exports, or X. Mathematically this is:
T + M + S = I + G + X
which, after rearranging, gives:
S + (T − G) + ( M − X ) = I
This equation yields two important relationships. First, it provides a definition
of aggregate saving as the sum of private saving, the net budget position of the public
3 (...continued)
citizens to another, taxes, as measured in the GDP accounts, are net of these transfer
payments.
4 Part of total business output is allocated to the replacement of existing capital as it wears
out. This part is referred to as depreciation or capital consumption allowances. Since it is
output not consumed, it is regarded as saving. It is only a component of “gross” saving,
however, because it does not add to the stock of wealth. The distinction between “gross”
and “net” saving is explored in more detail below.

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sector (i.e., the difference between taxes less transfers and government expenditures
for final output), and the status of the nation’s balance of international payments (the
difference between the import and export of goods and services).5 Second, it says
that investment is equal to aggregate saving. This establishes the importance of
saving to the capital formation of the nation. Should domestic investment change
over time, the proximate cause for the change can be traced to changes in private
saving, the budget position of the public sector or the balance of international
payments.
Data on Various Measures of Saving
Having defined the various measures of saving, the figures and tables below
depict their behavior and importance over the post-World War II era.
Private Sector Saving. Figure 1 shows the gross saving rate of the private
sector and the contributions of its two components. Several important observations
are worth making. First, the major share of private sector saving is due to businesses
and consists of corporate retained earnings and the depreciation allowances of all
businesses. Personal saving has played a smaller role.
Figure 1. Gross Private Saving
Source: Department of Commerce, Bureau of Economic Analysis.
5 Basically, the balance of payments concept used here is close to what is known as the
current account of the balance of payments.

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TABLE 1. Gross Private Saving
(As a Percentage of GDP)
1950 - 1959
16.2
1960 - 1969
17.1
1970 - 1979
18.5
1980 - 1989
19.2
1990 - 1999
16.8
Source: Department of Commerce, Bureau of Economic Analysis.
Second, while the private sector saving rate over the longer run has tended to
be stable for fairly long periods of time, it can vary considerably on a year-by-year
basis. Some of this is due to the influence of the business cycle. The rate tends to fall
in cyclical downturns and rise in upturns.
Third, since the early 1980s, the personal saving rate has been declining and has
recently been at or near all-time lows, whereas the business saving rate has held up
well over this same period. The decline in the personal saving rate accounts, in part,
for a decline in the gross saving rate since the mid-1980s.
In Figure 2, the business saving rate is divided into its two components; capital
consumption, or depreciation, and undistributed profits, or retained earnings. Until
the early 1980s, an increasing proportion of gross business saving was accounted for
by capital consumption allowances with a decreasing proportion accounted for by
undistributed profits. Some of the rise in capital consumption allowances, up to
1982, reflects the rising proportion of total investment accounted for by short-lived
assets (e.g., business equipment as opposed to office buildings).

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Figure 2. Components of Gross Business Saving
Source: Department of Commerce, Bureau of Economic Analysis
Because capital consumption allowances are such a large fraction of gross
private saving, how they are measured is of importance since it can have a substantial
effect on the net saving rate of the country. There has been some controversy over
their measurement.6
Gross or Net Private Saving? When the gross saving rate is the focus of
attention, personal saving is a relatively small fraction of the total. However, a large
fraction of business saving in the form of depreciation allowances is destined mainly
to replace the existing capital stock as it wears out, and does not increase the size of
the capital stock.7 A growing capital stock depends on the net saving rate, and from
a net perspective, personal saving has been more important than the undistributed
profits of businesses. Because of this crucial role, it is the decline in the personal
saving rate that began in the last half of the 1980s, highlighted in Table 2, that has
raised the concern of policy makers and has been the subject of considerable analysis
by economists.8 The reasons for this decline are discussed in a subsequent section.
6 One element of this controversy centers on the method used to compute capital
consumption allowances. See: Goldstein, Henry. Should We Fret About Our Low Net
National Saving Rate? Cato Journal. vol. 9, no. 3. Winter 1990. pp. 641-662.
7 Later, the importance of gross versus net will be discussed in connection with investment
and productivity. Some economists believe that gross investment is important because new
capital that replaces existing capital is likely to embody new technologies and be more
productive. Thus, even if no net investment occurs, so that the existing capital stock is just
replaced as it wears out, productivity can still rise.
8 For 2000, the personal saving rate was negative. Households consumed more than their
disposable income.

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TABLE 2. Net Private Saving
(As a Percentage of GDP)
Personal
Saving
Undistributed Profits
1950 - 1959
5.5
3.0
1960 - 1969
5.7
3.9
1970 - 1979
6.8
3.0
1980 - 1989
6.7
2.3
1990 - 1999
4.4
2.4
1990
5.8
1.8
1991
6.2
2.0
1992
6.5
2.0
1993
5.3
2.1
1994
4.5
2.1
1995
4.1
2.7
1996
3.5
3.0
1997
3.0
3.1
1998
3.4
2.2
1999
1.9
2.5
2000
2.1
1.6
2001
1.7
1.2
Source: Department of Commerce, Bureau of Economic Analysis.
Public Sector Saving. It may not be readily apparent that government (at all
levels) spending and tax policies influence the national saving rate. Yet, when
government gathers more revenue in taxes than it spends on purchases of final output
or in transfer payments, it adds to the resources available for nonconsumption uses.
Conversely, when it spends more than it receives in taxes, it absorbs resources that
might otherwise be available for investment.
The public sector also owns a considerable amount of capital in the form of
roads, bridges, harbors, canals, waterways, airports, etc. These, like capital in the
private sector, are subject to depreciation. The NIPA accounts now recognize this
depreciation, thus according government capital comparable treatment to private
capital.9 It also makes necessary a distinction between gross and net public saving.
9 This is a recent innovation in the NIPA accounts. Hitherto, all government expenditures
were treated as consumption. Thus, the size and the depreciation of the government’s
(continued...)

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The behavior of the two components of public sector saving is shown in Figure
3.10
Figure 3. Net Public Saving
Source: Department of Commerce, Bureau of Economic Analysis.
Throughout the post World War II period, state and local governments have
made a positive contribution to gross national saving that, averaged over decades, has
ranged between 1% and 2% of GDP (on a net basis it has been less than 1%).
After the Korean war ended in 1953, the budget deficits of the federal
government were heavily influenced by the business cycle. The recession of 1973-75
led to the largest relative budget deficit in the post World War II period up to that
time. Beginning in the 1970s, the federal government became a chronic dis-saver
even when the economy was doing well. In 1997, the gross saving rate of the federal
government was positive for the first time since 1971, even though its net saving rate
in 1997 was a negative 0.6% of GDP.11
9 (...continued)
capital were ignored. It was treated as though it did not exist.
10 If gross public sector saving rates were shown, the levels would be slightly higher but the
pattern of variation would be similar.
11 Some of the variation in the federal saving rate arises because of periodic fluctuations of
the business cycle. Saving rates based on CBO estimates of the standardized-employment
budget deficit and potential GDP yield an average federal saving rate of -1.2% for the 1960s,
-1.0% for the 1970s, -2.6% for the 1980s, and -1.6% for the 1990s. See. Congressional
Budget Office. The Economic and Budget Outlook: Fiscal Years 2002-2011. January 2001.
(continued...)

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Thus, beginning in the 1980s, the U.S. faced two developments that
substantially reduced the available supply of domestic resources to augment the
national capital stock: the fall in both the net private and public sector saving rates.
International Saving. As noted above, the U. S. economy does not operate
in isolation. It is part of the world economy, which is becoming increasingly
integrated. The United States is thus able to supply saving (lend) to the rest of the
world and, at the same time, absorb saving (borrow) from other countries.
During its early years, the United States depended on foreign capital (saving) to
an important extent. Until World War I, the United States was, on balance, a debtor
nation. With the advent of World War I, that changed. The United States not only
emerged from that war as an international power, but as a net creditor nation as well.
This position continued until the 1980s, although, as shown on Figure 4, the fraction
of U.S. saving lent abroad on an annual basis was never a large fraction of GDP.12
Figure 4. Net International Saving Flows to the United States
Source: Department of Commerce, Bureau of Economic Analysis.
11 (...continued)
p. 141.
12 Notice that when the U.S. is a net lender abroad, it is shown as a negative fraction of GDP.
This occurs because, to be a net lender, the export of goods and services must exceed the
import of goods and services. In terms of the national saving equation on page 3, (M - X)
is negative and lending abroad decreases saving available for domestic uses.

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This behavior changed in the 1980s. The United States became a net absorber
of the saving of the rest of the world. That inflow of foreign saving has recently risen
above 4% of GDP. In one decade, the inflow of foreign saving was so large, that
according to some estimates, the United States switched from being a net creditor to
a net debtor nation. (At the least, the net creditor position of the United States was
seriously eroded.) Notice, however, that an inflow of saving from abroad can help
to ensure that some net investment takes place even if the dissaving of the public
sector absorbs all of the net saving of the private sector.
National Saving. In Figure 5, the household, business, and public sector
saving rates are summed to arrive at gross and net national saving (these measures
exclude international saving). Over the long term, there has been a downward trend
to these conventional NIPA saving data which in the mid-1990s was only temporarily
interrupted.
Figure 5. Gross and Net National Saving
Source: Department of Commerce, Bureau of Economic Analysis.
Both the gross and net national saving rates displayed little trend in the first
three decades after World War II. To be sure, the rates displayed some fluctuations.
Both were heavily influenced by the business cycle since private and public sector
saving fall in downturns and rise in upturns. Both the gross and net national saving
rates were on a downward trend by 1980, a trend which shows up clearly in the
decade average data in Table 3. This is surprising since the 1980s was a period of
sustained economic expansion, an expansion that with the exception of the shallow
downturn of 1990-91, continued into 2000. Most disconcerting is the experience that

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began late in the 1980s. The net national saving rate, the basis for expanding the
national capital stock, has fallen by more than one-half from its average over the
period 1950-1979. This development does not bode well for the future growth in the
material well-being of the nation.13
TABLE 3. Gross and Net National Saving Rates
(As a Percentage of GDP)
Gross
Gross
Gross
Capital
Net
Private
Public
National
Consumption
National
1950 - 59
16.2
4.5
20.7
10.5
10.2
1960 - 69
17.1
4.0
21.0
10.2
10.9
1970 - 79
18.4
1.3
19.7
11.1
8.7
1980 - 89
19.2
-0.8
18.5
12.5
6.0
1990 - 99
16.8
0.2
17.1
12.3
4.8
2000
14.0
4.4
18.4
12.5
5.9
2001
13.9
2.6
16.5
13.2
3.3
Source: Department of Commerce, Bureau of Economic Analysis.
What Factors Are Responsible For the Decline?
The proximate causes for the decline in the net national saving rate according
to the NIPA can be seen in both Tables 3 and 4. Since net national saving results
when capital consumption allowances are subtracted from gross national saving, any
rise in depreciation, without a corresponding rise in the gross saving rate, can reduce
the net rate. And, indeed, this has occurred. During the 1980s, and into the 1990s,
capital consumption allowances relative to GDP were higher than they averaged over
the 20 year period, 1950-1969.14
The data in Tables 4 and 5 reveal some interesting developments relating to the
decline in the net national saving rate in evidence over the last three decades. During
13 For a pessimistic assessment of the future consequences for the U.S. economy of a
continuation of the low net national saving rate, see Harris, Ethan S. and Charles Steindel.
The Decline in the U.S. Saving Rate and Its Implications for Economic Growth. Federal
Reserve Bank of New York Quarterly Review, Winter 1991, pages 1-19. For a view that
questions whether capital formation in the United States suffered as much in the 1980s as
one might be led to expect, see Tatom, John A. U.S. Investment in the 1980s: The Real
Story. Federal Reserve Bank of St. Louis Review. March/April 1989, pages 3-15, and
Dewald, William G. and Michael Ulan. Appreciating U.S. Saving and Investment. Business
Economics. vol. 27, no. 1, January 1992. pp. 42-46.
14 This development again illustrates how important it is to obtain accurate measures
of capital consumption allowances.

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1970-79 and 1980-89, the federal budget deficit played the major role in the decline.
The fall in the rate at which businesses retained earnings also played an important
though lesser role, as did the fall in the personal saving rate during 1980-89.
TABLE 4. Contributions to the Net National Saving Rate
(As a percentage of GDP)
1950 - 59
1960 - 69
1970 - 79
1980 - 89
1990 - 99
Personal
5.5
5.7
6.8
6.7
4.4
Business
3.0
3.9
3.0
2.3
2.4
State &
local
0.8
0.9
0.7
0.3
0.2
Federal
0.9
0.4
-1.8
-3.4
-2.2
Total
10.2
10.9
8.7
6.0
4.8
Source: Department of Commerce, Bureau of Economic Analysis.
TABLE 5. Contribution of Each Sector to the
Decline in the Net National Saving Ratea
(percentage of total)
1970 - 1979
1980 - 1989
1990 - 1999
Personal
-51.0
6.0
189.4
Business
41.2
24.3
-1.7
State & local
8.8
13.4
12.0
Federal
100.9
56.3
-99.8
Total
100.0
100.0
100.0
Source: Department of Commerce, Bureau of Economic Analysis.
a negative sign means that sector made a positive contribution to the saving rate.
During 1990-99, the major role was played by the continued fall in the personal
saving rate with a subsidiary role played by the fall in the budget surpluses of state
and local governments. The decline in the budget deficits, and the emergence of
surpluses, of the federal government contributed a substantial positive boost to the
net national saving rate (thus a negative contribution to the decline in the saving rate),
as did a minor increase in net business saving.
The personal saving rate is believed by economists to respond to a number of
behavioral variables, and so much effort has been devoted to explaining its decline.

CRS-13
Some of the studies reviewed below have implications for national policies that
might be used to reverse this decline.
Some International Comparisons
While the U.S. economy created an exceptional number of jobs during the 1980s
and 1990s, real per capita income growth during the same period was substantially
smaller than that achieved in the previous three decades. In searching for an
explanation, many were struck by how much less Americans save in comparison with
foreign countries. The data in Table 6 show the gross and net national saving rates
of the United States and the other G-7 countries. (The G-7 countries are all highly
developed industrial nations that have substantial trading relations with each other).
Several conclusions can be drawn from these data. Not least remarkable is that
saving rates differ markedly across the G-7 countries. For the United States, Canada,
and the U.K., saving rates are below the others.15 Between 1981 and 1992, the
United States, Britain, and Canada all experienced significant declines in their rate
of saving. Since then, however, those rates have rebounded, especially for Canada.
Meanwhile, since 1992, Japan’s saving rate has fallen substantially, although it
remains well above saving rates in the other countries.
TABLE 6. Gross National Saving of the G-7 Countries
(As a percentage of GDP)
Canada
France
Germany
Italy
Japan
U.K.
U.S.
1981
22.8
20.0
20.3
23.2
31.9
17.1
20.4
1982
20.1
18.8
20.3
22.8
31.0
17.0
18.5
1983
20.0
18.6
21.2
23.1
30.3
17.7
16.3
1984
20.8
18.3
21.6
23.1
31.2
18.2
18.5
1985
20.2
18.1
21.8
22.6
32.0
18.2
17.2
1986
18.7
19.4
23.4
22.4
32.2
17.3
15.4
15 Net national saving for Japan may be significantly overestimated. In the Japanese
national income accounts capital consumption is based on historic cost which results in a
lower estimate of capital consumption than would replacement cost and thus raises
estimated net saving. In the U.S. NIPA, capital consumption is based on replacement cost.
Shifting to a replacement cost based measure of capital consumption would not change the
fact that Japan saves at a higher rate than does the U.S. But, because estimated capital
consumption for Japan would be higher, the estimated net national saving rate for Japan
would fall and the difference between net saving rates in the U.S. and Japan would be
reduced. See Hayashi, Fumio. Why Is Japan’s Saving Rate So Apparently High? NBER
Macroeconomics Annual 1986. pp. 147-210. An updated version appears as an addendum
to chapter 11 in: Hayashi, Fumio, Understanding Saving: Evidence from the United States
and Japan. For a discussion of the very high rate of household saving in Japan relative to
the U.S., see: Horioka, Charles Y. Is Japan’s Household Saving Rate Really High? The
Review Of Income and Wealth. Series 41, Number 4 (December 1995). pp. 373 - 398.

CRS-14
Canada
France
Germany
Italy
Japan
U.K.
U.S.
1987
20.0
19.6
23.1
21.9
32.7
17.4
15.9
1988
20.8
20.8
23.8
21.8
33.6
17.3
17.2
1989
20.0
21.6
25.1
21.0
33.6
17.1
16.7
1990
17.5
21.5
25.0
20.7
33.5
16.2
15.9
1991
14.9
20.9
23.3
19.6
34.4
15.4
16.1
1992
13.6
20.5
23.1
18.3
33.6
14.1
15.1
1993
14.2
19.0
21.9
19.2
32.0
14.0
15.0
1994
16.4
19.2
21.9
19.7
30.1
15.5
15.8
1995
18.5
19.5
21.8
21.6
29.6
15.8
16.4
1996
19.1
19.2
21.3
21.9
29.9
15.7
16.7
1997
19.9
20.4
21.4
21.6
30.2
17.0
17.6
1998
19.5
21.4
21.5
21.1
29.1
17.7
18.3
1999
21.0
21.8
21.0
20.7
27.6
15.8
18.0
2000
23.7
22.0
21.3
20.6
27.7
15.9
17.7
Source: Organisation for Economic Co-operation and Development.
There are those who look at these data and conclude that the slowdown in U.S.
real income growth is largely self inflicted. It is said that we save too little, and that
Americans consume too much, a tendency that was supposedly encouraged by the
cuts in marginal tax rates in the early 1980s. These tax cuts, in turn, compounded the
problem by turning the public sector into a large dis-saver.
International Saving Differences and GDP Accounting. It is possible
that the conclusions drawn above regarding the U.S. saving rate, both when that rate
is considered in isolation and when it is considered relative to other G-7 countries,
are heavily influenced by how expenditures are classified in the GDP accounts.
When some of these expenditures are reclassified, a more sanguine U.S. picture
emerges.
There are several expenditures that are currently treated in the U.S. NIPA
accounts as consumption for which a case can be made that they ought to be treated
as if they were investments, or capital expenditures. When they are, those
adjustments not only raise the level of the U.S. saving rates, but they also raise the
U.S. rates relative to foreign saving rates. They accomplish the latter because they

CRS-15
are a larger fraction of GDP in the U.S. than abroad. Specifically, these are
expenditures on education, research and development, and consumer durable goods.16
An important part of the capital stock of a nation consists of the skills, training,
and knowledge possessed by its workforce — in short, its stock of human capital.
The conventional NIPA do not treat educational expenditures that enhance and
expand the nation’s stock of human capital on a par with those for physical capital.17
If they did, it would not only raise the U.S. saving rate, but raise it relative to those
of most other countries since the United States spends a larger fraction of its GDP on
education than do most other countries.
Perhaps the strongest case for reclassification concerns expenditures on research
and development. These outlays are clearly aimed at enhancing future productivity
and living standards. Yet business R & D spending is treated in the NIPA as a cost
of current production which decreases the net profits and thus the saving of the
business sector.
Household spending on residential housing is currently included as investment.
But, all other expenditures on durable goods (e.g., automobiles, appliances, etc.) are
treated as consumption.18 Some argue that this inconsistency should be eliminated.
Were this done, the U.S. saving rate would rise absolutely, and relative to other
countries since American purchases of nonhousing durable goods are a larger fraction
of U.S. GDP than is the case for most other countries.19
16 Government capital outlays for nonmilitary purposes are treated on a par with private
investment. However, since military capital outlays are a larger fraction of GDP in the U.S.
than in most other countries, their exclusion from investment can make a difference when
international comparisons are involved. It should be noted that the type of adjustments to
GDP accounts discussed here are those that change the national saving rate. There are a
number of adjustments that, while they affect one or another of the component parts of the
national saving rate, have at most a minimal effect on the overall rate. Some of these
adjustments are discussed in Appendix B.
17 Some economists include in educational expenditures the income that is foregone by those
who give up jobs to enhance their human capital by going to school. See: Lipsey, Robert
E. and Irving B. Kravis. Saving and Economic Growth: Is the United States Really Falling
Behind? American Council of Like Insurance and The Conference Board. Report No. 901.
1987. See also: U.S. Congressional Budget Office. Assessing the Decline in the National
Saving Rate. April 1993. 44 p.
18 Of interest is the purchase of automobiles. When they are purchased by businesses, they
are treated in the NIPA as investment; when purchased by households, as consumption.
19 Lipsey and Kravis made adjustments of the type suggested in the discussion above with
data from 10 countries over the period 1970 - 1984. They found that the fraction of U.S.
GDP devoted to capital formation rises from 78% of the average of these countries to 92%
of that average. In addition, they made two other adjustments. Since capital goods are
cheaper in the U.S. than abroad, they want to compare real additions to capital relative to
real GDP. When this adjustment is made, it raises the U.S. saving rate to nearly the average
of eight other industrial countries for which a comparable adjustment can be made.
Secondly, Lipsey and Kravis want to put U.S. capital outlays on a per capita basis. When
they do, U.S. expenditures on the broad measure of capital was more than 120 percent of the
(continued...)

CRS-16
While the reclassification of certain expenditures raises both the gross and net
saving rates for the United States, making Americans appear more thrifty, and raising
the U.S. saving rates relative to the average for other industrial nations, it does not
alter the fact that the U.S. saving rates declined in the 1980s and 1990s.
The International Flow of Saving
The United States is part of the international economy and it both lends part of
its saving to the rest of the world, and absorbs part of the saving set aside by the rest
of the world. Throughout the 1980s and 1990s, the United States absorbed saving
primarily from other G-7 countries. This increased flow of saving helped to sustain
and increase the growth rate of the U.S. capital stock. In Table 7, the international
saving behavior of the United States is added to the net national saving rate. The
sum, representing the net saving available for investment in the United States, shows
a decline of 40% between the 1960s and the 1990s compared to a decline of 56%
when only domestic sources of saving are considered (the decline would have been
27% versus 45% if the 1970s had been used as a base for reference). However, it
should be noted that while an inflow of saving helps to sustain domestic investment,
that investment or capital is owned by foreigners and the income it earns must
subsequently be subtracted from domestic output in computing the growth in well-
being of a nation’s citizens.20
TABLE 7. Net National Saving plus International Flow of
Saving for the United States
(percentage of GDP)
1960 - 1969
1970 - 1979
1980 - 1989
1990 - 1999
Net National
Saving
10.9
8.7
6.0
4.8
Net Inflow of
Capital
-0.6
-0.2
1.5
1.4
Total Net
Saving Available
10.3
8.5
7.5
6.2
Source: Department of Commerce, Bureau of Economic Analysis.
19 (...continued)
average for eight industrial countries — it even exceeded the per capita rates for Germany
and Japan. The ten countries used in the Lipsey-Kravis study were Canada, Japan, Austria,
Denmark, Finland, France, Italy, Netherlands, Norway, Sweden, and the United Kingdom.
See Lipsey, Robert E. and Irving B. Kravis. Saving and Economic Growth: Is the United
States Really Falling Behind? American Council of Life Insurance and The Conference
Board. Report No. 901. 1987.
20 A country that is a net borrower should not necessarily be considered an economic invalid.
Countries that have exceptional investment opportunities should be expected to attract
foreign capital even over long periods of time. For much of its history prior to World War
I, the U.S. was a net borrower. This inflow of foreign capital played a useful role in
building the U.S. economy into a world power.

CRS-17
Summary
Saving, in the most simple terms, is the difference between income and
consumption. But, translating that standard into a useful statistical measure can be
complicated. The most commonly cited measures of U.S. saving are from the
national income and product accounts (NIPA). These data are behind much of the
concern regarding several saving trends in the United States. First, the personal
saving rate is at its lowest in decades. This decline is the major reason for the
continued low level of the national saving rate during the 1990s. Second, although
the gross business saving rate has not fallen significantly, an increased share of it is
accounted for by capital consumption so that net business saving has declined. This
decline was especially important during the 1970s and 1980s. Third, public saving,
primarily as a result of large federal budget deficits, was the important reason for the
fall in the national saving rate during the 1970s and 1980s. In the late 1990s,
however, public saving increased substantially, helping to offset the continued
decline in personal saving. Overall, the NIPA data indicate a substantial decline in
the U.S. national saving rate over the past 30 years, although the proximate cause of
the decline varies over the period.
Other official measures of saving, those published by the Federal Reserve
Board as well as those published by the Organisation for Economic Co-operation and
Development (OECD), lead to similar conclusions. The United States, Canada, and
the U.K. all experienced declines. The OECD data show that the United States saves
a significantly smaller share of output than most of the other G-7 countries. These
official measures of saving, however, are not necessarily the final word.
The adjustments to saving rates found in the Lipsey and Kravis study are just
one example of the adjustments that have been made to published estimates of saving
rates in a continuing effort to measure and understand saving behavior. Some of
these adjustments improve the position of the United States relative to the average
of other countries. They also moderate the historical decline in the U.S. saving rate.
Explaining the Personal Saving Rate
The discussion above, pointed out the importance of personal (or household)
saving in the level of net national saving and its decline over the past several decades.
Understandably, economists have attempted to explain this behavior.21
An early effort identified personal saving as depending only on disposable
personal income, but this theory by itself could not explain the behavior over time of
21 The theories developed by economists are designed to explain both saving and
consumption behavior. Since saving is the residual that results when consumption is
subtracted from disposable personal income, these theories apply to both variables. See
Friedman, Milton. A Theory of the Consumption Function. Princeton University Press.
1957, and Modigliani, Franco. Life Cycle, Individual Thrift, and the Wealth of Nations.
American Economic Review. vol. 76, no. 3. June 1986. pp.297-313.

CRS-18
the personal saving rate.22 More sophisticated explanations were required. The life
cycle hypothesis has become widely accepted by economists as a framework for
explaining personal savings.23 In order to identify those variables that affect personal
saving, it is necessary to explain briefly the life cycle theory.
This theory is based on the assumption that individuals, over their expected
lifetime, seek to avoid sharp fluctuations in their levels of consumption. If that is the
case, then consumers who are just beginning to work and who expect to experience
rising income over the course of their career would be able to put off saving or
borrow against future income in order to consume a large fraction of their current
income. This would also apply to individuals who are near the end of their working
life or are in retirement. They would be expected to live off the accumulated wealth
and consume more than their current income. Those in their prime earning years,
would be expected to save at a substantially higher rate than the other two groups.
These individuals would be the main savers in the economy.
Thus, over the course of an individual’s lifetime, periods of relatively high
income are likely to be characterized by relatively high rates of saving. Periods of
relatively low levels of income will likely by characterized by low (or even negative,
e.g. borrowing) saving rates. The life cycle hypothesis assumes that typically over
an individual’s lifetime income will exhibit a “humped” pattern. That is, income will
tend to be low early in life, relatively high as career earnings rise through the pre-
retirement years and then drop off during retirement. The expected pattern would
then be for those at opposite ends of the age spectrum to have low saving rates
relative to those in the middle.24
Available data indicate that saving rates do tend to vary with age as the life cycle
hypothesis would suggest. Table 9 presents data from the Consumer Expenditure
Survey from 2001 showing saving rates by age.
22 Explanations of consumer saving behavior have to reconcile two seemingly contradictory
observations. At any given time, cross-section data show that individuals with low incomes
tend to have low rates of saving while those at the upper end of the distribution tend to have
relatively high saving rates. This would suggest that over time, as incomes rise, that overall
saving rates would tend to rise as well. But, that has not been the case. With occasional
interruptions, real incomes have, over very long periods, trended upward in the United
States but the average saving rate has not.
23 A popular alternative is the so-called permanent income hypothesis developed by Milton
Friedman. It shares many features of the life cycle approach. The latter was formulated by
Franco Modigliani in collaboration with Richard Brumberg and Albert Ando. See references
in footnote 21.
24 A very important assumption of this theory is that individuals in their early years can
borrow against their future income.

CRS-19
TABLE 8. Saving as a Percentage of Aftertax
Income by Age of Consumer Unit, 2001
under 25
25 to 34
35 to 44
45 to 54
55 to 64
65 and over
-15.7
15.1
15.2
15.2
14.4
-4.9
Source: Department of Labor, Bureau of Labor Statistics.
When the age distribution of the population changes, such that, on average, the
population either ages or gets younger, that demographics can affect aggregate saving
behavior. The 1970s, 1980s, and 1990s were a time of such change produced by the
aging of the large cohort of “baby-boomers.” Thus, demographics might reasonably
be expected to have influenced the personal saving rate in those years.
The major variable, however, affecting saving in the life cycle model is expected
income.25 To translate expected income into a measurable concept, the theory
divides income into that part expected to accrue from wages and salaries (income
from labor), and income from property.
To the extent that markets are efficient (meaning that market prices reflect all
available relevant information), the income expected to accrue from property should
be reflected in the current market value of assets. Thus, the net worth of households
would also be expected to explain personal saving.26
In total, the life cycle model suggests that household or personal saving depends
on the age distribution of the population, income from wages and salaries, real
interest rates, and the net worth of households. Changes in these variables, then,
should explain the observed changes in personal saving.27
25 Since the life cycle model assumes that capital markets are such that individuals can
borrow against future expected income in determining how much they wish to consume and
save in the current period, the real interest rate can play a role in determining the saving rate.
The role is not clear cut, however. For a discussion of this point, see footnote 51.
26 The role income growth plays in determining saving in the life cycle model can be
confusing. An increase in the growth rate of income, all else constant, ought to raise the
saving rate since the increase in income will accrue to those who are working and are savers
as opposed to those who are retired and are dissavers. On the other hand, in the theoretical
formulation of the life cycle model, the current consumption of individuals depends on the
present value of current and expected future income. If future income is expected to rise,
due, perhaps, to an increase in the demand for labor, the present value of current and
expected future income will rise. This would increase current consumption and reduce
current saving. Thus the saving rate would fall. The ultimate effect of variations in income
growth depends on which of these two effects is the stronger.
27 Some have suggested other variables that might influence personal saving including the
rate of inflation. Inflation might affect the saving rate in that it reduces the value of some
assets expressed in dollar terms (e.g. bonds). To the extent that rising prices erode the real
value of household net worth, it might be expected to stimulate additional saving. Further,
high rates of inflation might raise saving because of increased uncertainty as to economic
(continued...)

CRS-20
Does the Life Cycle Model Explain Recent Trends?
A number of studies suggest that the traditional formulation of the life cycle
model does not explain the recent decline in the personal saving rate. Consider first
the age distribution of the population. The life cycle model implies that any change
in the age distribution that significantly changes the relative proportion of savers and
dissavers ought to have an effect on the saving rate. According to the Census
Bureau, between 1980 and 2001, the share of households headed by someone 65
years or older, who would likely be dissavers, increased by 0.1 percentage point.
Over this same period, the share of households in the 25 to 64 year old category
increased by 2.0 percentage points. Within that group, there was a 4.4 percentage
point increase in the share of households in the 35 to 44 age group. The share of
households in the 15 to 24 age category fell by 2.0 percentage points.
These figures suggest that recent changes in the age distribution probably had
little effect on the saving rate and, thus, do not explain the decline. Both the working
age and retirement age populations increased, relative to the overall population. The
15 to 24 age group shrank, but in 2001 they represented just 5.8% of the population
so the effect of that decline would be modest.
In contrast to the age variable, changes in household wealth do seem to have
contributed to the decline in saving. According to the life cycle model, any
unexpected increase in household net worth that is perceived to be permanent ought
to result in an increase in consumption and a decline in saving. A study by Bosworth,
Burtless, and Sabelhaus, attempts to measure the influence of wealth on household
saving.28 For the purposes of their study, households were divided into homeowners
and nonhomeowners. These groups were then further divided into those who owned
financial assets and those who did not. During the 1960s and 1970s, there were
substantial increases in values of both houses and financial assets. This study found
that saving fell by a little less in those households with financial assets than it did in
those with none, contrary to the predictions of the life cycle model. However, saving
rates fell significantly more in the case of homeowners than for the rest of the
population, in accord with the predictions of the theory.
27 (...continued)
conditions. Further considerations that enter into the decision regarding how much to save
within the life-cycle framework are life expectancy and retirement age. The longer
retirement is expected to be, the greater a nest egg would be required. Another factor that
is presumed to determine the level of saving is saving up for big-ticket purchases such as a
car, a down payment on a house, or a college education. Individuals may save more, or less,
for a rainy day depending upon their relative degree of risk aversion. The desire to leave
a bequest has also been identified as a consideration.
28 Bosworth, Barry, Gary Burtless and John Sabelhaus. The Decline in Saving: Evidence
from Household Surveys. Brookings Papers on Economic Activity 1. The Brookings
Institution. 1991. pp. 183-241.

CRS-21
More evidence that increases in housing prices help explain the decline in the
personal saving rate was found by Munnell and Cook.29 They suggest two reasons
why the increase in housing prices would have contributed to a decline in saving.
First is the behavioral response predicted by the life cycle model. In addition, they
argue that the NIPA measure of the income, and hence, saving, of homeowners is
understated. Adjustments for these two factors yields a reestimated saving rate that
surged in the 1970s and subsequently returned to levels comparable to those of the
1950s and 1960s.
Between 1990 and 1999, mean nominal household net worth increased by about
85%.30 A major contributor to that rise was the large increase in the value of
corporate equities. Equity prices rose by over 260% between 1990 and 1999.
Increases in household net worth seem likely to have contributed to the decline in
personal saving during the 1990s. 31
With respect to the other variables described by the life cycle model as
determinants of the saving rate, the evidence regarding their contribution to recent
trends in the saving rate remains unclear. Changes in both income growth and
interest rates play a role in determining the saving rate, but since they can affect the
saving rate in offsetting ways, their contribution to recent trends in saving is unclear.
This motivated some analysts to suggest other possible explanations, for example,
inflation and changes in attitudes regarding the importance of thrift.
Saving and Economic Growth
Many claims have been made about what can be accomplished by raising the
national saving rate. Among these claims is that an increase in the rate of saving will
produce a higher rate of growth in economic output.
The discussion of the relationship between saving and economic growth or the
growth rate of real output can become confused because it is carried on in two quite
different contexts.
In one it is a discussion about the short-run effect of a change in the saving rate
on aggregate demand and the actual output of the economy (in other words it
involves the relationship between the saving rate and the business cycle).
In the other context, and the one relevant to this paper, it involves a discussion
about the relationship of the saving rate and the long-run growth in the ability of the
economy to produce goods and services — or a discussion about the saving rate and
the growth rate of potential output.
29 Munnell, Alicia H. and Leah M. Cook. Explaining the Postwar Pattern of Personal
Saving. New England Economic Review. November/December 1991. pp. 17-27.
30 Board of Governors of the Federal Reserve System.
31 See: CRS Report RL31535, The Falling Personal Saving Rate and Its Economic
Implications, by Brian Cashell.

CRS-22
In the long-run context, the basic question that arises is: can the growth rate of
potential output be raised by raising the saving rate? The answer provided by
prevailing economic theory is, perhaps surprisingly, no.32 Thus, for reasons outlined
below, by saving a higher fraction of its income a nation may not increase the long
run growth rate of potential output. However, a higher saving rate will, during a
transitory period, raise the growth rate of potential output and, over the longer run,
permanently raise the level of potential output.33 Since population growth is
unaffected by the saving rate, a higher saving rate and the resulting higher level of
potential output raises potential per capita income. Thus a higher saving rate is
directly linked via a higher level of potential output to an increase in the standard of
living. This point is illustrated in Figure 6.
Figure 6. The Effect of an Increase in Saving on Economic Growth
The growth rate of potential output depends on three factors: growth in the labor
force, growth in the capital stock, and growth in technological progress. In the
standard growth model, the only factor that can be altered by policy is the growth rate
32 For a discussion of long-run growth trends, see: CRS Report RL31428, Productivity
Growth: Recent Trends and Future Prospects, by Brian W. Cashell.
33 Some recent studies suggest that a higher saving rate may have permanent effects on the
growth rate of potential output. This school of thought argues that the composition of the
capital stock can influence the rate of economic growth. Known as “endogenous growth
theory” this view argues that the pace of technological advance depends on the composition
of investment. Evidence suggests that increases in some categories of investment may
contribute to a permanently higher rate of economic growth. An increase in investment in
education, for example, may create an environment more fertile for technological advances.
See Gould, David M. and Roy J. Ruffin. What Determines Economic Growth? Federal
Reserve Bank of Dallas Economic Review. Second Quarter 1993. pp. 25-40.

CRS-23
of the capital stock, which depends on the saving rate and the rate at which capital
depreciates. The rates of growth of the labor force and technological progress are
assumed to be given (in order to simplify the subsequent discussion, the growth rate
of technological progress is assumed to be zero).
The key to understanding why a higher saving rate will not permanently increase
the growth rate of potential output is to understand the nature of the equilibrium or
“steady state” that prevails prior to the change in the saving rate (or the conditions
that prevail in the economy while it is growing along the line up to point ‘A’ in
Figure 6).
That theoretical state is characterized by equal rates of growth of the labor force,
the capital stock, and output. Since all grow at the same rate, the ratios of capital to
labor and output to labor are constant even though both the numerator and the
denominator in each ratio are growing. Any new steady state subsequent to a change
in the saving rate must have the same characteristics. Since the growth rate of the
labor force is given and unaffected by policy, the growth rates in the new steady state
of the capital stock and output must conform to it. Thus, the explanation for why a
higher saving rate does not permanently increase the growth rate of output comes
down to explaining why the growth rate of output ultimately falls back to the growth
rate of the labor force in the new steady state.
To begin, in the prevailing steady state, the amount saved out of a given level
of output is just sufficient to cover the depreciation of the existing capital stock and
to provide enough new capital through new net investment to ensure that each
additional worker in the growing labor force has the same amount of capital to work
with as those who are already in the labor force, in other words, new investment is
sufficient to maintain a constant capital-labor ratio.
Suppose now that individuals decide to save a higher fraction of their income.
The absolute amount of current output that is saved rises and is now sufficient to
enable new investment to increase (both absolutely and relatively) — each worker
now has more capital with which to work. The additional productivity of the new
additions to capital raise potential output. Since output is already growing at a rate
equal to the growth of the labor force, the additional output raises its growth rate
above that of the labor force.
As additional increments of new investment are made (or as additions to the
capital stock are made), the “marginal productivity” of these additions declines.
Remember, we are assuming no change in technology. Thus, additional increments
of capital per worker yield smaller and smaller increments of output. This means that
the additions to the rate at which output was growing are decreasing and that output
growth, after rising in the early stages of additional investment, is falling back toward
the growth rate that prevailed prior to the rise in the saving rate. As the increments
to output decrease, so do the increments to saving as do the increments to new net
investment.
Ultimately, the capital-labor ratio will stop rising and a new steady state will be
achieved in which the capital-to-labor ratio is higher, the capital-to-output ratio is
higher than in the original steady state, but in which the growth rate of the capital

CRS-24
stock is again equal to the growth rate of the labor force. And the two are equal to
the growth rate of output. In the new steady state, the absolute amount of income that
is saved will be larger and the absolute amount of output devoted to new investment
and depreciation will also be larger.
Some studies suggest, however, that the rate of technological advance may
depend on the composition of investment spending. Among those types of
investments that have been found to be correlated with faster rates of economic
growth are education and business equipment.34
For example, a number of recent studies have found a connection between
investment in computers and other “information technology” investments and the rate
of productivity growth.35 In a similar vein, another study identified the decline in
public spending on “infrastructure” as responsible for some of the slowdown in
productivity growth the U.S. has experienced since the 1970s.36 Many of these
studies, however, rely on statistical relationships that are not grounded in any widely
accepted theoretical framework.
If the growth rate of potential output is dependent on the composition of
investment, then it may be that the type of investment made possible by any increase
in saving may be as critical as the total amount invested. Moreover, the gains to
economic growth available from redirecting current levels of investment may be
comparable to those to be had from just increasing the level of saving and
investment.
The Internationalization of Saving
A variety of policy proposals have been put forth for raising the national saving
rate, the end goal of which is to encourage a higher rate of domestic investment.
Suppose, however, that while the policy increased the domestic saving rate, a
substantial portion of the incremental saving went abroad to augment the capital
stock of foreign countries. Of what benefit would that be to the United States?
34 For an overview of the arguments that the rate of economic growth may depend on a
variety of economic factors see: Gould, David M. and Roy Ruffin. What Determines
Economic Growth?. Federal Reserve Bank of Dallas Economic Review. Second Quarter
1993. pp. 25-40.
35 See: Oliner, Stephen D., and Daniel E. Sichel, The Resurgence of Growth in the Late
1990s: Is Information Technology the Story? The Journal of Economic Perspectives, Fall
2000, Volume 14, Number 4. pp. 3-22. Also, DeLong, J. Bradford and Lawrence H.
Summers. Equipment Investment and Economic Growth. Quarterly Journal of Economics.
May 1991. pp. 445-502. For a critique of DeLong and Summers see Gravelle, Jane. What
Can Private Investment Incentives Accomplish? The Case of the Investment Tax Credit.
National Tax Journal. September 1993.
36 See: Aschauer, David Alan. Is Public Expenditure Productive? Journal of Monetary
Economics. vol. 23, no. 2. March 1989. pp. 177-200. For a critique of Aschauer, see:
Aaron, Henry J. Discussion, in Is There a Shortfall in Public Capital Investment?
Conference Series No. 34. Federal Reserve Bank of Boston. June 1990. pp. 51-63.

CRS-25
Obviously, it is important to ascertain the degree to which American saving
flows abroad and the ease with which foreign saving comes to the United States. In
short, one needs to know the degree to which national financial markets are
integrated. American experience during the 1980s and 1990s suggests that foreign
capital (saving) comes here with considerable ease.
Yet, there are substantial reasons to doubt that national capital markets are
perfectly integrated. There are a number of reasons why savers may be unable or
unwilling to seek the highest reward for their capital. First, unlike domestic
investment, foreign investment is beset with various special risks and uncertainties.
Even the best informed individuals are unable to accurately forecast what may lie five
to 10 years in the future. Foreign governments may impose controls on capital
exports (including the repatriation of earnings) or may change how they tax foreign
owned capital within their jurisdiction. Exchange rate changes may substantially
reduce the expected profitability of this investment. Second, countries often enact
laws that inhibit the international flow of saving. In the United States, saving
institutions are restrained in the type of mortgages they can hold as are insurance
companies and other financial institutions (these restraints discriminate against
foreign mortgages). In addition, even without constraints, financial intermediaries
whose liabilities are denominated in a national currency are unlikely to hold assets
denominated in foreign currencies. This will prevent these institutions, who
intermediate a considerable portion of some country’s saving, from buying foreign
securities and sending that saving abroad. Finally, considerable evidence exists that
capital may flow from one country to another, not necessarily to seek the highest rate
of return, but to implement market strategies, exploit production knowledge, or to
overcome trade barriers.37, 38
Given the evidence that capital does flow abroad but that barriers exist to
prevent the complete integration of national capital markets, a question remains about
the degree to which saving is internationalized. This issue was addressed by
Feldstein and Horioka in a 1980 study updated in 1989 by Feldstein and Bacchetta.39
37 Much of the discussion in this paragraph is inspired by Feldstein, Martin and Charles
Horioka. Domestic Saving and International Capital Flows. Economic Journal. Vol 90.
June 1980. pp. 314-329. See also: CRS Report 92-438E, Offshore Manufacturing: Why
U.S. Firms Go Abroad, by Mark Jickling, and CRS Report 90-569E, Foreign Direct
Investment: Why Companies Invest Abroad, by James K. Jackson. See also: Mussa, Michael
and Morris Goldstein. The Integration of World Capital Markets, in Changing Capital
Markets: Implications for Monetary Policy, Federal Reserve Bank of Kansas City (August
1993). pp. 245-322 (this includes comments by Martin Feldstein).
38 For a recent discussion of the degree of international capital integration among developed
countries, see: International Monetary Fund, World Economic Outlook, May 1997, pp. 59-
65. For an historical perspective on the issue of capital market integration, see: Taylor, Alan
M. International Capital Mobility in History: The Saving-Investment Relationship. NBER
Working Paper 5743. September 1996.
39 Feldstein, Martin and Philippe Bacchetta. National Saving and International Investment,
in National Saving and Economic Performance, edited by B. Douglas Bernheim and John
B. Shoven. University of Chicago Press. Chicago. 1991. pp 201-220.

CRS-26
Both studies employ a common methodology which involves averaging the
saving (both gross and net), investment, and income data from each of a number of
OECD countries over a given time period and then determining the degree to which
the ratios of saving to income and investment to income are correlated. A number
of different OECD country combinations were used in the correlations as were
different time periods over the years 1960-86. The general conclusion from both
studies is that a substantial portion of domestic saving is used for domestic
investment.40 The limitation of both studies is that their conclusion applies to the
group of countries studied as a whole. It may not apply well to the United States.
Other economists have, however, attempted to isolate the extent to which changes in
U.S. saving would flow into U.S. investment. A study by Kim using the Feldstein-
Horioka methodology found that somewhere between one-half and all of any increase
in U.S. saving would flow into domestic investment, depending on how investment
was defined. Nordhaus also published some estimates based on a large-scale
econometric model of the U.S. economy. He found that about one-half of the
increase in saving from budget deficit reduction would flow abroad. Summers found
that some 35 percent of the increase in saving following deficit reduction would flow
abroad. (This is similar in magnitude to what Feldstein, et. al., found for the 1974-
1986 period for all 23 OECD countries as a group.)41
Thus, while evidence exists that there are substantial flows of capital from
country to country, it also suggests that national capital markets are not perfectly
integrated. In fact, perhaps as much as two-thirds of incremental saving that could
be induced by policies designed to increase national saving might be expected to
remain at home to increase domestic investment.42
40 Among the important results of the two studies (using all 23 countries) is that the percent
of gross domestic saving used for domestic investment declined from 91.1% during the
period 1960-73 to 66.9% during 1974-86. Dornbusch, using the same sample over the
period 1960-86, found that 75% of domestic saving went into domestic investment. See
Dornbusch, Rudiger. Comment in National Saving and Economic Performance, edited by
B. Douglas Bernheim and John B. Shoven. University of Chicago Press. Chicago. 1991.
pp. 220-226. The methodology used by Feldstein, et. al., has been criticized. For a defense
of their methodology, as well as additional empirical support based on a much larger sample
of countries, see: Dooley, Michael, Jeffrey Frankel, and Donald J. Mathieson. International
Capital Mobility: What Do Saving-Investment Correlations Tell Us? IMF Staff Papers. vol.
34, no. 3. September 1987. pp. 503-530.
41 See: Kim, Sun Bae. Do Capital Controls Affect the Response of Investment to Saving?
Evidence from the Pacific Basin. Federal Reserve Bank of San Francisco Economic Review.
1993, no. 1. pp. 23-39. Also, Nordhaus, William D. What’s Wrong with a Declining
National Saving Rate? Challenge. July/August 1989. pp. 22-26. And, Summers, Lawrence
H. Issues in National Savings Policy. National Bureau of Economic Research Working
Paper. Number 1710. September 1985.
42 Care should be exercised in interpreting this evidence. There is a widespread belief that
short-term capital markets are highly integrated. Thus, real short-term interest rates should
be expected to be roughly the same in major world financial centers. This is unlikely to be
true for long term capital, however. Much of this capital probably flows abroad for
purposes of business strategies or to get around trade barriers and is unrelated to yield
differentials. Thus, real long-term interest rates may not be roughly equal and may not move
together.

CRS-27
Can Public Policy Raise the National Saving Rate?
There has long been a consensus among economists that the national saving rate
can be raised through public policy. A great deal of support can be found for the
proposition that moving the federal budget from deficit to surplus would, all else
being equal, increase the national saving rate. During both the former Bush and the
Clinton Administrations, legislation was enacted to reduce the federal budget
deficit.43 The shift in the federal budget from deficit to surplus was the major reason
why the net national saving rate rose from a low of 3.7% of GDP in 1992 to 5.9% in
2000.
More controversial have been policies to raise the personal or household saving
rate. These proposals have centered on individual retirement accounts or IRAs.
When these accounts were first introduced in 1982, they drew an impressive amount
of funds. It was not clear then nor is it today whether those funds resulted from new
saving (saving that would not otherwise have taken place) or mainly from the transfer
of dollars from other assets (existing wealth, or saving that would have occurred
anyway), to these accounts whose effective yield was raised by their special tax
treatment.44
Congress later applied various restrictions to IRAs which made them less
attractive to some taxpayers. The 105th Congress reversed this trend with legislation
that made existing IRAs more available to various taxpayers and created two
additional IRAs.45 Controversy still surrounds the issue of whether these changes
to the IRA provisions will raise the personal saving rate, and raise it enough to offset
any associated decline in the public sector saving rate due to the revenue losses
associated with the tax preferences that make IRAs attractive. The objective of the
legislation would remain unsatisfied if an IRA-induced rise in the personal saving
rate cost so much in terms of lost tax revenue as to produce an offsetting rise in the
federal budget deficit (or a decline in the federal budget surplus).
There are a number of reasons why many economists believe that an IRA
approach is unlikely to raise the personal saving rate. First, and foremost, economists
using U.S. data have, with rare exception, been unable to show that the U.S. saving
rate is at all sensitive to variations in interest rates.46 Second, economic theory is
43 The major piece of legislation making this possible was the Omnibus Budget
Reconciliation Act of 1993. Another important contribution was made by the Balanced
Budget Act of 1997.
44 The literature in this area is vast. For an assessment, see: Hubbard, R. Glenn and Jonathan
S. Skinner, Assessing the Effectiveness of Saving Incentives. Washington D.C.: American
Enterprise Institute (1996); Gravelle, Jane G. Do Individual Retirement Accounts Increase
Savings? Journal of Economic Perspectives (Spring 1991): pp. 133-148; and a symposia
on Government Incentives for Saving, Journal of Economic Perspectives (Fall 1996): pp.
73-138.
45 For more information on IRAs, see: CRS Report RL30255, Individual Retirement
Accounts (IRAs): Issues, and Proposed Expansion, by Jane G. Gravelle.
46 For a survey of this literature, see: Gravelle, Jane G. The Economic Effect of Taxing
(continued...)

CRS-28
ambiguous about the overall effect of the interest rate on private saving. It could
increase, decrease, or leave private saving unchanged.47 Third, the fall off in the
personal saving rate began during the period when IRA contributions were fully
deductible. Despite these reasons for being skeptical about the ability of IRAs to
raise personal saving, several studies found that the dollars that flowed into these
accounts came from new saving and not from altering the allocation of existing
wealth. In a careful review of these studies, Gravelle cast substantial doubt on the
methodologies used by the researchers and, hence, on the validity of the results.48 In
general, she concluded that the methodology was better in two studies that failed to
find any evidence that IRAs raised the personal saving rate.49
The Integration of the Components of the Private Sector
Saving Rate
Several routes of inquiry suggest that a high degree of integration should exist
since the household sector owns, either directly or indirectly, the business sector. To
see how ownership might influence the integration of sectoral saving rates, consider
the following. Through depreciation allowances and undistributed profits, businesses
renew and add to existing capital assets resources that would otherwise accrue mainly
to the household sector as income. These assets, as they are renewed and expanded,
may also embody productivity enhancing improvements. Increasing the size and
productivity of capital assets should show up as rising profits and rising share prices
of ownership claims. This would increase the net wealth of households.50

46 (...continued)
Capital Income. Cambridge, MA: MIT Press. 1994
47 The reason for the ambiguity is as follows. The interest rate is the price that induces
individuals to give up current consumption for a larger future consumption. If interest rates
rise, the price of current consumption rises. As a result, individuals will be induced to give
up current consumption and save a portion of their income so as to enjoy a larger future
consumption. This “substitution” effect is always positive and leads to a higher personal
saving rate. On the other hand, if individuals are target savers in the sense that they save to
achieve a given wealth objective, a higher interest rate enables them to achieve that
objective with less saving out of current income. Hence, from this perspective, a rise in
interest rates leads to a smaller saving rate. The overall effect on personal saving depends
on which of the two effects dominates.
48 Gravelle, Jane G. Do Individual Retirement Accounts Increase Savings? Journal of
Economic Perspectives, volume 5, number 2, Spring 1991. pp 133-148.
49 A proposal has been made, that has not gained widespread support, that the federal
government require that households save at some minimum rate. See: Gale, William G. and
Robert E. Litan. Saving Our Way Out of the Deficit Dilemma. The Brookings Review. Fall
1993, pp 6-11.
50 For a discussion on sectoral integration, see: David, Paul A. and John L. Scadding. Private
Savings: Ultrarationality, Aggregation, and Denison’s Law. Journal of Political Economy.
Vol. 82, No. 2. Part 1. Mar/Apr. 1974, pp. 225-250.

CRS-29
The rise in household net wealth tends to diminish the incentive of households
to save.51, 52 Thus, the argument can be made that changes in the business saving rate
are likely, through a wealth effect on households, to bring about offsetting changes
in their saving rate, leaving the gross private sector saving rate largely unchanged
over time.

The ultimate resolution of this issue is empirical. Overall, while the evidence
is mixed, it suggests that the degree of integration of household and business sector
saving may be high.53 Thus, policies designed to increase net business saving may
not result in a comparable increase in total private, or national, saving since any
change in business saving may be largely offset by the saving behavior of
households.
The Integration of the Public and Private Sector Saving Rates
Efforts to Reduce the Federal Budget Deficit. A more recent, if
controversial, proposition is that the net fiscal position of the public sector is
completely offset by the saving behavior of the private sector. According to this
view, the fiscal deficits of the federal government during the past decade should have
had no effect on the national saving rate. In essence, this view argues that the private
and public sector saving rates are completely integrated.
The intellectual inspiration for this view was attributed to one of the founders
of modern economics, the English economist, David Ricardo (1772-1823). The view
that the public and private sector saving rates are completely integrated is referred to
as Ricardian Equivalence.
The essence of Ricardian Equivalence is simple. Suppose, for sake of argument,
that a government proposes a one-time increase in expenditures and that to cover this
increase it proposes either a one-time tax on the current generation or to borrow from
them by issuing bonds. The issue is: should this generation of taxpayers be
51 This is most clearly seen when households save for specific purposes.
52 A similar but indirect route could also operate. Suppose that the rise in business saving
enhanced share prices and this increased the market value of the reserves of pension funds.
This would mean that smaller contributions would be required from households to fund any
future defined benefits. The smaller contributions would show up as a reduction in
household saving.
53 The most recent study is by Bosworth and shows that for a variety of countries including
the United States, the integration is virtually one-for-one. See Bosworth, Barry P. Saving
and Investment in a Global Economy. Brookings Institution. 1992. pp. 73-76. For other
recent studies examining this issue see: Auerbach, Alan J. and Kevin Hassett. Corporate
Saving and Shareholder Consumption in National Saving and Economic Performance.
University of Chicago Press. Chicago. 1991, pp. 75-98. and Poterba, James M. Tax Policy
and Corporate Saving. Brookings Papers on Economic Activity. The Brookings Institution.
Washington, D.C. 1987, pp. 455-503.

CRS-30
indifferent between the two methods of finance (i.e., should they regard the two as
equivalent)?54
Ricardo reasoned that they would regard the two as equivalent only if the current
taxpayers lived forever. Since they do not, they would prefer to finance these
additional expenditures by selling bonds.55 By choosing the bond option, some of the
taxes that would have to be paid to provide for the debt service can be shifted
forward to a future generation of taxpayers.56
In 1974, Professor Robert Barro, in what is claimed to have become the most
frequently referenced paper ever written by an economist, revived this Ricardian
discussion.57
Barro proposed that if existing taxpayers regarded the well-being of their
children on a par with their own well-being, and their children’s children, etc.,
behaved similarly, the existing taxpayers would, in effect, achieve an infinite life and
behave accordingly. Thus, they would not prefer the bond finance option but would
be indifferent between the two.58
The basic question posed by Ricardo can be put in a slightly different way which
makes its relevance to the federal budget deficit and its relation to the national saving
rate clearer.
Suppose a government considers a tax cut to stimulate the economy. What will
individuals do with the increase in their disposable income? Conventional
macroeconomic theory implies that a large fraction would be spent and serve to
stimulate the economy. The end result would be a larger federal deficit, some
increase in private saving, but a fall in national saving. This would not happen in a
Barro world. The recipients of the tax cut in that world would realize that their taxes
would have to rise in the future to cover debt service and they would, accordingly,
54 The two methods of finance are mathematically equivalent. When the bond option is
selected, taxes will have to be raised to pay the debt service on the bonds that are issued to
pay for the additional expenditures. While this increase in taxes is, on an annual basis, less
than the one time increase that would be needed to pay for the additional expenditures, the
present discounted value of these taxes is the equal to the one time tax.
55 One of the ironies of this debate is the suggestion that Ricardo regarded the two methods
of finance as identical. He did not. Thus, in a very important sense, the term Ricardian
Equivalence is inappropriately used.
56 In terms of footnote 55, the two methods are mathematically equivalent only if the present
discounted value of the extra taxes for debt service are calculated over an infinite time
horizon. In Ricardo’s view, the typical taxpayer would only discount them over his/her
expected lifetime which would yield a present discounted value that was less than the
amount of taxes that would have to be paid immediately should that option be selected to
finance the increased expenditures.
57 See his Are Government Bonds Net Wealth? Journal of Political Economy. Nov/Dec
1974, pp. 1095-1117.
58 There is an old adage that says that only death and taxes are inevitable. In the Barro
world, since individuals in essence live forever, only taxes are inevitable.

CRS-31
save the entire amount of their increased disposable income in order to pay those
future taxes. Not only would there be no short-term fiscal expansion from the tax
cut, but the entire increase in public sector dis-saving would be offset by a rise in
private sector saving. In the Barro world, the saving rates of the two sectors are
perfectly integrated and the national saving rate remains unaffected by changes in the
fiscal position of the public sector.
The issue raised by Barro is empirical. Do individuals behave as his theory
implies? For the United States, the evidence accumulated during the 1980s and
1990s strongly suggests that they do not.59 Thus, most economists believe federal
efforts to reduce a public sector budget deficit, or increase a surplus, should raise the
national saving rate. The relationship, however, is unlikely to be one-for-one.60
Conclusions
It is a curiosity of the economic literature investigating saving that, in general,
the theory regarding saving and its consequences appears to be more widely accepted
than is any particular measure of saving. That having been said, all of the measures
of saving available from official sources tell more or less the same story. The U.S.
national saving rate fell significantly during the 1980s and 1990s. Personal saving
is the lowest it has been for decades. Although the gross business saving rate has
been fairly stable, a larger share of business saving is being allocated to replace
capital that is wearing out, leaving a smaller share available to augment the capital
stock. The federal government saving rate fell substantially beginning in the late
1970s. It recovered in the late 1990s, but has since fallen. The combined effect of
these events has been a large decline in gross national saving and an even larger
decline in net national saving. The OECD data show that the United States, Canada,
and U.K. rates have all fallen. The United States also appears to be much less frugal
than most of the other major industrial economies.
These official measures, not being the final word on the subject, are sometimes
adjusted in various ways so that the estimates more closely reflect the theoretical
notion of saving. For example, when Lipsey and Kravis added government capital
outlays, spending on education, research and development, and consumer durable
goods to official measures of saving, the United States appeared to be much less of
a spendthrift relative to other countries. Just as modifications to official saving
estimates can change the level of U.S. saving, others may shift saving from one
sector to another without affecting the total. For example, some of the interest
payment on the federal debt represents a premium for the effect of inflation and this
premium is more appropriately counted as repayment of principal and as such should
59 The controversy over the Barro proposal and the literature it has given rise to is extensive.
It is effectively surveyed in a symposium consisting of papers by Yellen, Gramlich, Barro,
Bernheim and Eisner in the Journal of Economic Perspectives. Vol 3. No. 2. Spring 1989,
pp. 17-94.
60 Work by Bosworth for the United States over the period 1965-1990, suggests that for
each dollar change in the fiscal position of the government, gross private sector saving
changes in the opposite direction by 19 cents. See Bosworth, Barry P. Saving and
Investment in a Global Economy. The Brookings Institution, Washington, D. C. 1993, p.74.

CRS-32
be counted as federal government saving. But to the extent that this adjustment
raises estimated public saving, private saving will be reduced (see Appendix B).
Aside from how the particular estimates are made, there is an important
distinction between gross and net saving rates. Many comparisons, especially those
between countries, are made using gross saving rates. But, often the reason for
concern about the decline in the saving rate is its effect on the growth of the stock of
productive capital. In that context the more relevant measure is net saving.
Estimates of net saving, however, depend on how depreciation is calculated. While
depreciation accounts for a very large share of gross national saving, the way in
which it is computed is a subject of some controversy.
Most of net national saving is accounted for by personal saving and standard
economic theory seeks to explain personal saving behavior. The dominant approach
uses the life cycle model. Although the life cycle model is widely accepted, it falls
short of yielding a convincing explanation for the recent decline in the personal
saving rate. An amended life cycle model incorporating the effects of social security
and government provided health benefits provides a better, but by no means generally
accepted, explanation for the decline. One can not rule out that some of the decline
could just as well be attributed to a change in attitudes about thrift.
Raising the national saving rate has become a priority among policymakers.
Two routes have been used to achieve this goal. One is the elimination of the federal
budget deficit. This approach to raising the national saving rate is supported by a
wide spectrum of economists.
The second approach has been to attempt to raise the household saving rate by
giving preferential tax treatment to a specific form of household saving, the IRA.
The success of this approach is unclear and it does not share the same widespread
support among economists.
Given the substantial deficit reduction that has occurred and, perhaps, a major
change in attitudes about thrift, what effect would a higher national saving rate have?
Some of the increase would likely contribute to a larger domestic capital stock, a
higher capital-labor ratio and increased output and productivity. Some of the
increase would tend to flow abroad, or reduce U.S. dependence on foreign capital.
But, even to the extent that it does, U.S. households would still be better off in the
future because of the increase in income from those foreign investments.
An increase in the saving rate would have real consequences for the long-run
performance of the economy. But these consequences might not seem striking in the
short run. First, any increase in the increments to capital through new net investment
would be very small in comparison to the total stock of capital. Second, the labor
force is expected to grow more slowly now that the baby-boom generation has come
of age and the labor-force participation rate of women has leveled off. The expected
slower growth in the labor force means a smaller saving rate will be sufficient to
sustain trend growth in the capital-labor ratio. Thus, the fall in the net national
saving rate may not be as troubling as would have been had growth in the labor force
not fallen.

CRS-33
Appendix A: An Alternative Measure of the U.S.
Saving Rate From the Flow of Funds
Different ways exist to measure the U.S. saving rate. A popular alternative to
the NIPA measure is one derived from the Flow of Funds (FOF) accounts published
by the Board of Governors of the Federal Reserve System. Figure A1 plots the two
gross national saving rates derived from the NIPA and FOF since 1952. The rate
derived from the FOF is substantially higher. On a decade average basis, however,
the difference between the two measures, as shown in Table A1, is a virtual constant.
Figure A1. Gross National Saving
Sources: Department of Commerce, Bureau of Economic Analysis; Board of Governors of the Federal
Reserve System.
The comparisons in Figure A1 and in Table A1 raise a basic question: why are
the two gross saving rates so different? The data in Table A2 provide some insights.
There, the gross saving rate is decomposed into its component parts.

CRS-34
TABLE A1. Alternative Measures of Gross National Saving
Saving as a percent of GDP
FOF rate as a
percent of
Flow of Funds
NIPA rate
NIPA
1960 - 1969
28.4
21.0
135.2
1970 - 1979
27.2
19.7
138.1
1980 - 1989
25.8
18.5
139.5
1990 - 1999
24.1
17.1
140.9
Sources: Department of Commerce, Bureau of Economic Analysis; Board of Governors of the Federal
Reserve System.
TABLE A2. FOF and NIPA Saving Rates by Sector
Federal
S&L
Business
Household
Government
Government
FOF
NIPA
FOF
NIPA
FOF
NIPA
FOF
NIPA
1960 - 1969
9.4
11.4
14.6
5.7
2.0
2.2
2.4
1.7
1970 - 1979
9.3
11.6
16.1
6.8
-0.7
-0.5
2.4
1.8
1980 - 1989
10.4
12.6
16.1
6.7
-2.5
-2.2
1.9
1.4
1990 - 1999
9.8
12.4
13.6
4.4
-1.2
-1.1
1.7
1.3
Sources: Department of Commerce, Bureau of Economic Analysis; Board of Governors of the Federal
Reserve System.
Quite clearly the difference arises in the household sector. According to the
FOF, the household saving rate is nearly three times larger than that given by the
NIPA.
To understand why, it is necessary to explain briefly how the household saving
rate is constructed in the FOF. (Recall that in the NIPA, it is the residual that arises
when personal consumption is subtracted from personal disposable income). When
households save, it should show up as an increase in household net worth. To
compute household net worth, the FOF constructs a balance sheet for the household
sector. The gross increase in net worth is then equal to the sum of the net acquisition

CRS-35
of financial assets and the net investment in tangible assets less the net increase in
liabilities issued by the household sector to finance the purchase of assets.61
In the FOF framework, the household acquisition of all tangible assets is used
to measure saving. This involves, in addition to housing, the acquisition of all
consumer durable goods. Recall that in the NIPA, spending by consumers on all
durable goods with the exception of housing is treated as consumption in arriving at
the household saving rate. Since spending by households on nonhousing consumer
durables is large, including it as an element of investment by households on a par
with housing, dramatically increases the saving rate of households. This is a major
reason for the higher FOF gross saving rate.
Another, but secondary, reason for the difference is that the FOF treats
contributions to and payments from government life insurance and retirement funds
as changes to household net worth whereas the NIPA treat them as items that affect
the current income of households.62 This difference in treatment is only important
when the life insurance and pension funds are either building or depleting reserves.63
61 To compute the net saving rate of the household sector involves the additional step of
subtracting out the depreciation or capital consumption of household assets.
62 Conceptually, the FOF treats government life insurance and pension funds on a par with
similar transactions involving private companies where the NIPA makes a distinction
between the two (i.e., it does not treat them the same).
63 Note that this differential treatment in the NIPA has no effect on the gross national saving
rate. It does, however, have an effect on the sectoral saving rates. When government
insurance and pension funds, for example, build up reserves, the NIPA method, lowers the
household saving rate and raises the public sector saving rate relative to the rates computed
in the FOF. This difference helps to explain why the Federal government and State and
local government saving rates computed in Table A2 under NIPA differ from similar
computations in the FOF.

CRS-36
Appendix B: The Saving Rate and the Long Run
Rate of Growth
To understand why an increase in the saving rate will not lead to a permanent
increase in the rate of growth of potential output, we begin with what is called a
production function.
A production function expresses a relationship between physical inputs and
output. It is common to express the relationship in a general form as:
(1)
Y = A ⋅ F(K, N )
where Y measures output or income, A the state of technical knowledge and K an N
inputs of capital and labor respectively.
Since interest centers on the growth rate of Y or ªY/Y, equation 1 can be
broken down into the contribution each factor makes to output growth or:
y = ∆ Y / Y = (1− b)
(2)
⋅ ∆N / N + b ⋅ ∆K / K + ∆A / A
which says that the growth rate of output, y, depends on the growth rate of the labor
force, ªN/N, the growth rate of the capital stock, ªK/K, and changes in the state of
technology. The coefficients b and (1-b) measure the respective contribution of
capital and labor to output. They are usually measured by the income share that
accrue to each and their values sum to one.
To simplify the discussion, it will be assumed that there is no technical progress
in the economy (that ªA/A = 0). Thus, in the economy under discussion, the growth
rate of output depends only on capital and labor. Moreover, a further reasonable
assumption will be that the growth rate of the labor force is given.
The next task is to describe this economy in its so-called “steady state” or
equilibrium. Such a state is one in which while the labor force, the capital stock, and
output are all growing, the ratios of capital to labor and output to labor (or per capita
income) are constant. This means that the growth rate of the capital stock, the growth
rate of the labor force, and the growth rate of output are all equal. Under these
conditions, the new additions to the labor force are supplied with the same amount
of capital as those currently in the labor force (and who are working) and who, as a
result, will add the same amount to output.
Notice, that in this steady state, the factor to which all others must conform is the
growth rate of the labor force. This growth rate is assumed to be given. Since it
remains given throughout this exercise, in the new steady state it will govern the
growth rate of the capital stock and the growth rate of output. As it does not change,
the rate of growth of output in the new steady state must be the same as in the
prevailing steady state.

CRS-37
The only conditions remaining to be specified in the existing steady state are the
equilibrium levels of per capita output and the capital to labor ratio. These depend
on the condition that saving is equal to investment or:
(3)
S = I
Recalling from the body of the text, that gross saving, S, is equal to net new
investment In, plus the depreciation of the existing capital stock D, or:
(4)
I = In + D
and that D is equal to the depreciation rate d times the capital stock K and that new
net investment In is equal to the change in the capital stock ªK, or:
(5)
I = dK + ∆ K

which, after substitution in equation 3 yields:
(6)
S = dK + ∆ K
Further, since saving is equal to the saving rate, s, times income, Y, equation 6
becomes:

(7)
sY = dK + ∆ K
If both sides of equation 7 are divided by K, the result is:
(8)
s ⋅ Y / K = d + ∆ K / K
and since the rate of new investment ªK/K is, in the steady state, equal to the growth
rate of the labor force, ªN/N = n, the result is:
(9)
s ⋅ Y / K = d + n
When both sides of equation (9) are multiplied by K, the result is:
(10)
s ⋅ Y = (d + n) ⋅ K
which says that in the steady state, the absolute amount of output that is saved (sY)
is just sufficient to replace the capital stock that is worn out in producing output (dK)
plus what is needed to equip the new additions to the labor force with the same
amount of capital as is available to those presently in the labor force (nK).
To put the above on a per capita basis, both sides of the equation are divided by
N resulting in:
(11)
s ⋅ Y / N = (d + n) ⋅ K / N
The steady state is described graphically in Figure B1.

CRS-38
Figure B1. Saving in the Steady State
(YN)
(Y/N)
(d+n) K/N
S(Y/N)
(K/N)
The schedule Y/N is one in which output increases rapidly at first and then at
a diminishing rate as the capital/labor ratio increases. This means that as more
capital is added to labor, the marginal product of capital falls.
The saving schedule, s(Y/N), lies inside the Y/N schedule since the value of the
average saving rate, s, is less than one. Since this constant is multiplied by Y/N, the
slope of the saving schedule mirrors that of Y/N.
The investment schedule (d + n)K/N is a straight line from the origin whose
slope depends on the values of d and n.
The equality of saving and investment determines the equilibrium levels of
output per capita and of capital-to-labor.
It will pay to recall that in equilibrium, while Y/N and K/N are constant at
values (Y/N) and (K/Y) , both the labor force and capital stock are growing at rate
0
0
n as is output.
How is this steady state equilibrium affected by an increase in the saving rate?
In Figure B2, the schedule s(Y/N) will shift up to s’(Y/N) and the new equilibrium
point, where saving equals investment, rises from point A to point B along the
investment schedule (d + n)K/N. The investment schedule does not shift since
neither the depreciation rate, d, nor the rate of new investment, n, needed to maintain
the capital/labor ratio constant have changed.

CRS-39
Figure B2. Effect on the Steady State of an Increase in the Saving
Rate
B
A
The net result in the new steady state is a larger capital/labor ratio and a larger
output per capita, but no change in the equilibrium rate of growth of output. This is
still equal to the growth rate of the labor force. Were it not so and, for example,
greater than the growth rate of the labor force, output per capita would not be
constant at level (Y/N) , but would be rising and the economy would not be in a
0
steady state.
There is, however, the transition period during which the capital/labor ratio is
rising as is the growth rate of output that needs to be explained.
When the saving rate rises from s to s’, the amount of saving at the then
equilibrium level of income (Y/N) is now greater than needed for depreciation and
0
net new investment that maintains the capital/labor ratio at (K/N) . The additional
0
new investment that takes place increases per capita output and the economy moves
along the schedule (Y/N). The increase in output that occurs is in addition to that
already accruing in the growing economy. As a result, the growth rate of output
rises.
However, as additional units of capital are added to the labor force, the marginal
product of capital falls, i.e., while output increases, it does so at a diminishing rate.
This has several implications. First, it means that smaller and smaller increments of
output are added to the ongoing flow of output. As a result, the growth rate of output
falls over time as the economy moves toward the new steady state. Second, as output
growth falls over time, less and less saving is available for new net investment and
the growth rate of the capital-labor ratio, while still rising, does so at a diminishing
rate. Ultimately, in the new steady state, the output saved will be equal to the output

CRS-40
that is needed to replace the depreciated capital and to provide enough new
equipment so that additions to the labor force have the same amount of capital as do
those that are currently in the labor force (at which point the capital-labor ratio is
again constant). Again, for simplicity, all of this assumes no concurrent growth in
technology.
In the new steady state, while the per capita income and the capital/labor ratio
will be higher, the growth rate of the labor force, the capital stock, and per capita
income will be the same as in the previous steady state. The absolute amount saved
and used for depreciation and net new investment will be larger, however.

CRS-41
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