Friday, February 15, 2008

short term stimulus, saving and long term economic growth

On the news I have heard a lot of economic analyst talk about how it is good for the individual person if he saves, but bad for the economy if everyone saves because it reduces demand for goods and services, or in economic terms consumption, and hurts economic growth and despite how wide spread you hear this and how it is repeat by many Keynesian Economist it is wrong for the most part. While it is true that reduce the amount of goods and service people buy in the present and can slow economic growth in the short run, in the long run it will usual raise economic, expect in the case if you had people doing an extreme amount of saving, i.e. like over a 25% of their income but the saving rates is not any where near that in the United States so it doesn’t matter or if you had them saving by hording money under a mattress or something similarly unlikely. Higher saving rates increase the amount of funds that are available for investment and higher rates of investment means stronger economic growth in the future. An increase in investment means that there will be more capital per worker in the economy, I am using the word capital in the most broad based sense that an economist would use it, so that it could refer to anything from more a business opening a new branch or factor, buying better equipment, investing in new technology, increasing the amount of training that it gives each worker, ect, but what all of this translates to is that on average workers in the economy become more productive and as productivity increase the amount of the goods and service that each person produces rise and the economy grows fasters. Also more productive workers earn higher wages which allows them to both save more and buy more goods and service increasing economic growth even more. Along with that the return that people earn on their investment will allow them to consume more in the future, which in turn helps to raise future economic growth.

Instead of short term stimulus plans that encourage people to spend more the Federal Government should, along with control spending and taxes, be looking at ways to encourage people to save more. Ways that they could do this would be to increase the amount of money that people that put into investment tax shelters like IRA, both traditional and Roth, 401Ks and reducing or eliminating the taxes on capital gains and dividends, all of which would increase the returns that people could expect to receive on their investment, since it would decrease the amount of money they would have to pay to the government in taxes off the money they earned on their investments and higher rates or return serve to encourage people to invest. A long with this the Government should seriously look and debate the idea of replacing Social Security retirement benefits with private accounts for younger workers.

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