9. Is Saving a Virtue or a Sin?*

During the war, saving was considered a decided virtue. The war-loan drives emphasized the necessity of saving and stressed its beneficial effects. Correctly so, for if the huge purchasing power created by a government’s war expenditures is not counterbalanced by restraints on private spending, inflation must ensue.

There is no doubt, however, that after the extraordinary wartime and postwar expenditures have ceased, the inimical attitude of prewar days towards saving will prevail again. Once more we shall hear that saving diminishes the so-called “effective” demand for goods and, therefore, employment—in short, that saving is a sin. Again those will be ridiculed who adhere to the conservative opinion that saving does not reduce “effective demand,” and that increased spending by governments or private individuals is no palliative able to restore demand and employment—in short, that saving remains a virtue.

To find a correct answer in this sin-or-virtue dilemma is obviously of the highest importance. For on this answer depend not only the decisions of individuals in many questions of everyday life and the decisions of governments on questions of economic and tax policy, but also the decision whether essential parts of our civic ethics are still valid. Is it still “ethical” to provide for a future rainy day, for old age, or for the education of one’s children, by curtailing present consumption?

Saving is still a virtue, not a sin. Ten or fifteen years ago it would have been neither necessary nor difficult to convince the public that the war-loan slogans on the advantages of saving hold good also in peacetime. The “virtue” argument was solidly entrenched. Savings were considered indispensable to economic expansion and progress, and the layman was trained to follow the explanation and the proof of the argument even where it did not lie on the surface.

Things have changed meanwhile. Lord Keynes, that great exaggerator of partial truths, laid the foundation of what is called the “mature economy theory.” And that theory, in turn, gives support to all “spending-is-a-virtue” theories.

A host of writers have considered it their duty to exaggerate Keynesian exaggerations still further and to vulgarize them in order to popularize them. The result is that the fundaments on which our economic, political, and moral decisions seemed to rest solidly have been shaken. Our sentiments, concepts, and convictions have become thoroughly confused. Yesterday’s virtue is today’s sin.

To fight against this modern trend is neither easy nor popular. For the public at large seems to have forgotten how to weigh economic problems in an unsophisticated common-sense way, which was the way of the English classicists, especially of Adam Smith and David Ricardo. And a theory that recommends prodigality among public and private households as an easy way out of difficulties is, of course, more palatable than one that calls for thrift. However, too much is at stake to forego the fight against what in the long run can only have disastrous consequences.

Let us begin by describing the classical and the prevailing concepts as simply as we can.

THE CLASSICAL CONCEPT

According to the classical concept of the problem of saving—as of most economic problems—the interests of the individual and of the community are in full harmony. He who saves serves his own as well as the nation’s welfare.

He improves his own welfare because saving implies the transfer of means for consumption from the present, where his earnings are ample, into the future where his earnings may become scarce through old age and sickness. Furthermore, saving will increase his means through the interest he receives.

The nation as a whole, on the other hand, benefits from savings since these savings are paid into a bank or some other reservoir of money from which an employer may borrow for productive purposes, for instance to buy machinery. This means a change in the direction of productive activity.

Through saving, production is diverted from goods for immediate consumption to goods which cannot themselves be consumed but with which consumer goods can be produced. Production is diverted, as one puts it, from a direct to a roundabout way of production, a “long-production way” in which the end-product is available for consumption only after substantial delay.

The roundabout way of production has the advantage of greater productivity. Let us assume—the example is illuminating if not very realistic—that: 100 men are able to produce 1,000 shoes in the course of a year when working with their hands. If, however, during one year these 100 men produce shoe-manufacturing machines, and during the second year produce shoes with the help of these machines, then the net result of their work will be not 1,000 shoes a year, or 2,000 in two years, but 20,000 shoes or even more.

But the labor put originally into the production of the manufacturing machines is available for consumption in the form of shoes only after the second year—even if we assume that the machines are fully worn out and amortized after one year’s use. Furthermore, during the second year production needs twice the amount of capital. Formerly the employer had to pay wages only for one year; now he has to lay out the wages for the first and the second year until he can recoup them by sales of the shoes. Production has become more capitalistic.

The high productivity of the more capitalistic production methods has further favorable effects. Because much less labor, is required per unit of production, the employers can—and by competition are forced to—pay interest on the capital borrowed, to raise wages, and to lower prices. The standard of living of the nation rises.

This process is renewed over and over again, because increased savings permit primitive direct methods of production requiring small amounts of capital to be replaced by roundabout indirect methods requiring large amounts of capital. Colonial and pioneer peoples realized this when they tried to import as much capital as possible, from older nations with a high rate of saving, into their young country with its low rate of saving. And the United States realized it and imported huge sums of foreign capital to build railroads.

Those who look thus upon the effect of saving will of course regard everything as favorable that increases, savings. They will, for instance, regard an inequality of income as perhaps unjust but never as harmful to the economy, for it is easier to save out of high incomes than out of low ones. Their decisions in many questions of daily life will be influenced by such a sympathetic attitude toward saving. They will become strongly “puritan” and try to influence their surroundings and especially their children in a puritan spirit.

Likewise, they will consider thrift an important, if not the most important, duty of government finance. The thriftier the government, the lower will be the taxes on production and consumption. The lower consumer taxes, the higher the standard of living; the lower the taxes on production, the greater the possibilities of expanding production, thus increasing the wealth of the nation. Adam Smith and David Ricardo, the great English classicists in the economic field, have emphasized the fact over and over again.

THE PREVAILING THEORY

According to the prevailing theory, the interests of the individual and those of the community are not necessarily in harmony. Those who save serve their own advantage, but can easily endanger the community by doing so.

In its simplest form the argument runs as follows: those who save desist from buying and hereby render a certain quantity of goods unsalable. This is not harmful as long as an entrepreneur takes over the money as a credit or the like and uses it for investment—for example, for buying modern machinery to improve his output. This demand replaces the demand of the savers.

The flow of money from the saver to the entrepreneur is, however, not coercive. It can be interrupted and obstructed, and it was interrupted and obstructed during the last decade before World War II. The means available through saving cannot be fully invested, because new opportunities for profitable investment are lacking. Such opportunities are present only when new inventions—or growth of populations—promise an adequate profit for the invested capital. Today we no longer live in the age when railroads, electricity, or the automobile were invented. There are no more “innovations.” Our economy is mature. It has become stagnant.

If the foregoing argument is correct, then saving no longer means that “effective demand” is switched from a potential consumer to an entrepreneur, but that its aggregate amount is reduced. Goods become unsalable. Operation of plants is curtailed. Unemployment ensues with all its disastrous social, economic, and political consequences.

This is what is usually called the oversavings-underinvestment theory of unemployment. From it follows automatically an unfavorable attitude towards saving that is diametrically opposed to the classical concept. Everything that tends to curtail consumption is considered pernicious; everything that serves to increase it seems advantageous.

Inequality of income appears harmful, because it increases saving. Confiscatory taxes on higher income brackets are recommended. The same holds true for undistributed corporation dividends, because their accumulation in the corporation reduces the ability of the country to consume.

All this leads, of course, to a break with the old, and to the introduction of an entirely new, economic morale. If saving is contrary to the interest of the nation, then the watchword is: not curtailment, but increase of consumption; not accumulation of purchasing power for the future, but spending in the present. There is no longer any room or motive for puritanism in economic convictions.

And if the adherents of the new theory refrain from preaching outright waste, it is not because it would be inconsistent with their theory, but rather because they feel that it would be considered too much in contrast to common sense and, therefore, compromising to the new creed.

In the realm of public finance this creed leads to recommendations that are entirely revolutionary. Formerly, when economic activity slackened, maladjustments were considered the reason and their removal the remedy. Now, as soon as effective demand by individuals begins to slow down, the government is supposed to spend so much that the demand remains at its old level.

Since taxes would curtail private consumption even more, spending must be continued in spite of growing budgetary deficits—“deficit spending,” formerly considered permissible only in emergencies such as war. As unemployment seems to have become a permanent evil, permanent deficit financing, formerly viewed as the most dangerous financial policy, nowadays appears as the most progressive.

Whether the government investments are profitable or not is considered of secondary importance. Keynes himself went so far as to praise the building of the Pyramids because of their employment-creating effect. But the building of pyramids is, in any circumstances, one of the most useless of enterprises, since they serve as a residence not for the living but for the dead—and for very few dead at that.

SAVING POSTPONES, IT DOES NOT PREVENT, CONSUMPTION

Let us try to show the basic fallacies of the theory. To do this, we have to examine what really happens in an economy after saving sets in (or increases), when savings become greater than dissavings.

The main point of attack on savings is, of course, the contention that they render products unsalable, because the saver’s demand for consumer goods falls off. The demand is destroyed over a period that lasts until savings as a whole decrease, i.e., until the distant period when withdrawals of savings—dissavings—again outstrip savings. However, things are not so simple as this argument assumes.

Consumption is not a single occurrence. It happens over and over again because economic life is an ever-beginning and ever-continuing process. All the time, people begin to work anew, are paid for their work, and spend out of their income.

Now, if in any given year people do not spend all that they have received, this does not mean that the consumption schedule of a country falls into disorder for all time. It simply means that the demand of the given year is taken out from the beginning of the schedule and put, so to speak, at its end, while the next year’s demand is not affected. The effect of saving on the spending schedule is therefore that the whole schedule is postponed for one year.

Saving and spending are thus not mutually contradictory. Savings mean delay in—not absence of—spending.

This is a very important point. It shows why saving cannot really hinder production and employment. If the annual demand for products has not vanished but is postponed for one year, production need not be curtailed but should instead be changed in such a way that the end-products appear after two years, instead of after one year, on the market where they can be sold without difficulties. One must—we return to our example of manufacturing shoes by hand—build machines during the first year with which shoes can then be produced in the second year. The incentive to invest in machines is the necessary correlative to delayed consumption.

But savings do not merely stimulate investments in machinery; they also make these possible. For the money saved and turned over to entrepreneurs furnishes them with the additional capital they need for buying machines and thus enables them to follow a more capitalistic pattern of production.

However, adherents of the “mature economy” thesis will reply: even if the sale of shoes is guaranteed in the second year, the entrepreneur will not be willing to invest in new machines unless his investment brings him a profit in comparison with the less capitalistic way of production. Such profits are allegedly lacking because of the dearth of new inventions. However, as Mr. George Terborgh has shown,¹ the more capitalistic method of production practically always leaves an extra profit—though perhaps a diminishing one—in comparison with the less capitalistic method.

But even if this were not the case and no extra profit would accrue from more mechanized production methods, there is not the slightest reason why the entrepreneur should not choose this way when interest rates reduced by increased savings render the more capitalistic way increasingly advantageous as long as demand and production are maintained. And even if this advantage should entirely vanish—which is highly improbable—there would still remain an outlet for the savings as long as there was unemployment. For every newly engaged worker has to be equipped with tools requiring capital. And there is, as will be shown later on, nothing like a labor force that is permanently unemployable under any conditions.

So saving creates its own investment opportunities. This means that it creates real wealth, for if anything can be called wealth of a nation, it is the increased stock of machinery, inventories, and other means of production which accumulate when more capitalistic methods of production are chosen. All this means that the new economic creed is not correct.

DEMAND SHRINKS DURING CYCLICAL DEPRESSIONS; BUT SAVING IS NOT THE CAUSE

We do not mean to assert by all this that the flow of purchasing power to the markets of goods and services is never interrupted, that goods and services never become unsalable. Such an assertion would be contradictory to practical experience. Every one of the cyclical crises of history has begun with a severe congestion of the markets. However, one would be deceived by an illusion if one considered these congestions to be caused by savings.

As we have shown, saving has the effect that the demand for consumer goods arises at the end of the second instead of at the end of the first year; whereas at the end of the first year, demand for production goods—our shoe machines, for example—sets in.

The dislocation of demand during a depression has an entirely different character. During a depression, the demand for consumption goods is reduced not only at the end of the first but also at the end of the second and all subsequent years, as long as the depression lasts, and is not replaced by demand for production goods. But when the depression is over and recovery sets in, the demand schedule postponed into the future by the depression is, so to speak, shifted back into the present again. Demand gains speed and omitted consumption is made up for during the boom.

Dislocations of demand through saving are caused when somebody curtails present consumption to provide for needs in the very distant future. Dislocations through cyclical depressions are caused by buyers’ withholding their purchasing power for fear of a further fall of prices—just as they had spent their money freely during the preceding boom in the hope of further price advances. Dislocations through saving remain until savings are surpassed by dissavings. Dislocation through depression ends with the end of the depression when prices have declined and the decline is considered sufficient by the buyers.

If in a state of cyclical depression savings in the real sense of the word are increased, the depression is thereby not rendered more severe. The contrary is the case. Saving as such only replaces demand for consumer goods by demand for production goods. Within the framework of a general dwindling of demand, it is still better that demand for production goods should remain relatively stronger than demand for consumer goods. For the indirect way of production—using production goods—is still the more productive way.

Do the oversaving-underinvestment theorists recognize the special reason for, and the characteristics of, a cyclical dwindling of purchasing power, and the fact that it is entirely independent of saving? Most of them do not. Most of them argue that for whatever reason consumer demand fails to materialize, it is the duty of the entrepreneur to replace the consumer’s demand and to invest for production. If shoes are not bought, they say, entrepreneurs should buy shoe-producing machines. If they do not do so, the ensuing discrepancy between saving and investment must be considered responsible for the dwindling purchasing power, deflation, and all other consequences.

This line of argument is caused by an illusion. The illusion is created by the abundance of money and credit that develops during every depression at a certain time and indeed indicates an oversupply of loanable funds. This oversupply materializes because the consumers bring to the banks the money they do not for the time being want to spend, and because the entrepreneurs are not ready to use it.

However, this situation does not alter the fact that it is not underinvestment caused by the lack of investment opportunities, but a general dwindling of consumers’ demands which is responsible for the conditions on the market during a depression. The entrepreneur who refuses to buy machines is, so to speak, only the representative of the future consumers of the machines’ end-products, as illustrated in our example of the shoes.

The entrepreneur refuses to buy machines as long as he cannot count on selling the shoes at all, or at the old price. The outlet into present as well as future consumption is blocked, and for neither condition can the entrepreneur be blamed or held responsible.

Cyclical disturbances of demand are not created by saving or oversaving, but are by their very nature transitory. It is the basic fallacy and the tragedy of the modern theory that it regards the cyclical depression of the ’thirties as representing a permanent change of the economy. For this confusion has forced its adherents to advance such untenable—and unnecessary—theories as the stagnation and mature economy theories, and to indulge in pessimistic prognoses for capitalism and free enterprise.

This whole approach is clearly an outgrowth of the overwhelming effect of the Great Depression, and it will vanish when the memory of the Great Depression has vanished. For it is obviously unreasonable to state that the soil has become sterile because nothing grows during the winter.

CHRONIC UNDEREMPLOYMENT AND UNDERINVESTMENT

There exist not only cyclical transitory disturbances of demand and employment, but also disturbances of a chronic character which extend over a long period of time. This fact cannot be denied. When the recovery reached its peak in 1937, millions of workers were still out of work. This unemployment must be regarded as noncyclical and chronic.

The oversaving-underinvestment theorists, as mentioned above, explain underemployment by referring to the entrepreneur’s reluctance to invest in a mature economy in which profitable investment opportunities are lacking. We have already shown that this explanation is unsatisfactory. Low profitability of new investment can be no obstacle to a more capitalistic production and corresponding new investment, if savings force and make possible the more capitalistic way. Savings create their own investment opportunities.

The correct solution can be grasped if one examines the real reasons for the entrepreneur’s reluctance to invest nowadays. He is reluctant, as everybody familiar with practical business knows, not because the interest to be paid for idle capital is higher than the additional profits more capitalistic methods of production would yield in comparison with the less capitalistic ones, but because other costs have risen too much in comparison with the price the entrepreneur can expect for the end-product.

Among these other costs, wages and taxes are the most important. For, after all, interest rates are not the only costs of production, and the prices obtained for the product are not the only reward for the use of capital, as the theory of the lack of investment opportunities seems to suggest.

The answer to what causes chronic underinvestment and underemployment is thus very simple. The cause is not unprofitability of capital as such, but unprofitability of other production factors, especially labor, which has to be paid either directly or in the price of machines that contain labor. Production containing labor cannot be sold when it costs more than it nets.

This, incidentally, was the answer of the classicists when they were concerned with the question of unemployment. It is also the businessman’s answer; when he explains why he does not care to invest, he mentions wages and taxes. The prevailing theory does not seem to see the wage and tax problem in the same way the businessman does. It has, in this respect, lost contact with practical life and has become purely mental speculation in a purely fictitious world.

Saving or oversaving does not create unemployment. It is rather the other way round: unemployment caused by excessive production costs creates underinvestment.

This sort of unemployment can be a feature of an economy with low savings, just as full employment can be a feature of a high-saving economy. If the shoemakers who produce shoes by hand demand excessive wages, they will face unemployment, whereas the men working with machines may be fully employed if their wages are not excessive. And the probability that wages are too high in a high-saving economy with high productivity is, of course, smaller, because high productivity leaves a margin for higher wages.

It is clear from all this that chronic unemployment cannot be fought by curtailing savings. Adjustment of cost to price is the only remedy; increase of wages in this situation is entirely out of place.

Increase of wages is often recommended because it allegedly raises and maintains effective demand. However, it raises only the effective demand of the worker who is lucky enough to stay on his job. The aggregate purchasing power of the working class sinks with the increasing unemployment caused by the unprofitability of the marginal enterprise.

CONCLUSIONS

Our conclusions are as follows:

1. Basically, the old saying remains valid: saving is a virtue and not a sin. Those who save serve their own good, and, far from doing harm to the community, they serve its well-being. Private and common interests are still in harmony.

2. During cyclical crises and depressions, demand can dwindle and goods and services can become unsalable. This happens, however, not because consumers save, but because all members of the economy—consumers as well as producers—withhold purchasing power temporarily. This withholding is caused by a lack of confidence, especially concerning the future price structure. Its duration can be shortened by any means that will restore confidence, but never by propaganda or measures against saving.

3. In order to restore confidence in the price structure, the government is justified in compensating, and even obliged to compensate, the lacking private demand by proper expenditures for which it acquires the means by loans, not by taxes. But such “compensatory” deficit spending must really remain a remedy for transitory periods. The underlying idea must always be to repay the ensuing government debt during the next period of prosperity. Deficit spending must never become permanent spending.

4. In the long run and outside the business cycle, the level of employment or unemployment in an economy depends on the relation of production costs to the prices obtainable for the product. Saving improves this relation, because it improves productivity and thus the possibility of digesting higher costs. Again, propaganda or measures against saving do not improve but rather deteriorate the level of employment.

5. Adjustment of costs to prices remains the only remedy for chronic unemployment. Government spending is not adequate to combat chronic unemployment, for such spending would have to be continued permanently. Permanent deficit spending, however, means cumulative government indebtedness. This leads sooner or later, as shown by historical experience, to inflation or government bankruptcy.

6. Government intervention in order to fight chronic unemployment can only consist in the fight against everything that hinders adjustment of cost to prices, especially against all monopolistic manipulations of prices and wages. For without such manipulations, in a free economy costs would tend to adjust themselves to prices, through competition among the unemployed production factors. It follows, incidentally, that it is shortsighted to demand guarantees for 60 million or any other number of jobs from a government which does not control prices and wages. It is just as if a patient were to demand from a physician a guarantee for his health though the physician lacks the power to prevent him from indulging in excesses.

7. Thrift is and remains the fundament of every private enterprise. The thriftily, not the wastefully, managed enterprise survives. The wealth of a nation rests not only on the industry but also on the thrift of its citizens.

8. Thrift, and not wasteful spending, is the fundament of public finances. In the long run, high expenditure means high taxes, and high taxes mean low consumption. They mean more expensive and, therefore, curtailed production.

9. The new teachings, in spite of their unquestionable success, are nothing else than a deviation from sound common-sense principles. History shows that such deviations have often occurred, because the easy way out, especially in matters of currency and finance, is always attractive until the inevitable disappointment restores the conviction that in the long run the hard way is the only way out of difficulties.

* Appeared under the title “The Effects of Saving on Employment and Consumption” in the Journal of Marketing, July 1946; the German version, “1st Sparen eine Tugend oder ein Laster?”, in the Neue Zürcher Zeitung, Aug. 1946.

¹The Bogey of Economic Maturity, Chicago, 1945.