The idea that world economic growth would be hamstrung by a shortage of savings aroused considerable interest a few years ago, but is no longer given much credence. The reason is of course rooted in current economic and market conditions.

Interest rates have been declining in major world credit markets, not staying high, as would have been expected with a savings shortage.

The basic cause of the rate decline has been the cyclically weak credit demand stemming from the sluggish economic performance of the major industrial economies.

Worldwide credit demands have also been held down because political instability and economic uncertainties, if not chaos, in Eastern Europe and the former Soviet Union have effectively blocked them out of world capital markets.

Market Test Lacking

With credit demand weak, we simply do not have an adequate market test of a savings shortage, which is best defined as an unusually weak supply of credit compared with demand.

The earlier fears of a savings shortage had assumed that the industrial countries would grow at a reasonable pace, that Eastern Europe and the former Soviet Union would absorb considerable amounts of world capital in successfully making the transition to open economies, and that the developing countries of Asia and Latin America would grow rather rapidly.

Only the latter expectation has proved out so far, particularly with respect to East Asia.

Will Credit Shortage Emerge?

While the absence of upward interest rate pressures associated with a savings shortage can be easily explained under current conditions, the practical question is whether credit markets will suffer from an abnormally anemic credit supply relative to demand after more normal economic conditions are restored in the industrial world.

Such a shortage of credit would manifest itself in real interest rates above historical averages, with the level of nominal interest rates depending on inflation expectations.

In the U.S. at the moment a 10-year Treasury issue yields about 2 1/4% in real terms, assuming a rate of inflation of about 3%. This is well below the real interest rate level of the 1980-92 period, as calculated by the Organization for Economic Cooperation and Development. In that period, U.S. budget deficits grew and a high risk premium was attached to longer-term credit.

Real Rates Lower in 1968-79

On the other hand, the current rate is significantly above the very low real rate average of the 1968-79 period, when the market failed to realize that an expansionary monetary policy and oil price shocks were leading to a substantial and persistent acceleration of inflation.

It is also somewhat above the real rate level of the 1960-67 period, when inflation was quite low and saving flows ample.

One might hazard a guess that the current longer-term real rate level in the U.S. is close to a reasonable norm. For it to go much lower, the U.S. economy would probably have to display continued weakness, rather than strengthen from the reduced pace of earlier this year.

Rising-Rate Scenario

Indeed, the rate might well rise somewhat cyclically when economies abroad strengthen and if the U.S. expansion continues at or slightly above our long-run potential.

However, a very large rise is not too likely, unless there is a breakdown in the current trend of macroeconomic policies.

Two aspects of such policies should aid savings. The budgetary policies of the United States and Germany are one. In both countries a substantial shift toward less fiscal expansion is in process, thereby releasing more private savings to accommodate other credit demands.

Much of recent interest rate declines here and in Europe anticipate such budgetary action, and rates would react adversely should the promise of restraint be eroded in practice.

A Plus for Savings

Monetary policies should also be positive for savings. The major central banks around the world have been taking an anti-inflationary stance.

If the public comes to believe in the success of those policies, it should boost savings since people could then postpone consumption without excessive fear that their purchasing power will be eroded.

Personal saving rates in the major countries are now at least somewhat above the lows of the late 1980s, which can be interpreted as some evidence of a positive private savings effect.

But it must also be noted that the very monetary and fiscal policies that enhance private and governmental savings are also deflationary and risk keeping economic growth at a less-than-satisfactory pace - or at least may do so during a potentially lengthy transition period until enough confidence develops for private investment spending to strengthen and absorb the growing savings.

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