The Economic Significance of Saving

This article first appeared in The Crank Report, Issue #7 (29 June 2015).

In the previous issue of The Crank Report, an attempt was made to reintroduce the very old notion of “forced saving” (The Crank Report, Issue #6, 3 June 2015). In this section, we’ll take a closer look at “good old-fashioned” saving and why saving is as timeless as the most novel Shakespearean ideas.



Saving is defined as a surplus of production over consumption; it is the difference between what we earn and what we spend. It is the portion of income not spent or deferred to a later period which is why saving can also be referred to as deferred consumption. Saving therefore always requires a restriction in consumption compared to what can be consumed. Increased saving thus means decreased consumption in the near term (compared to potential) so that resources that could have been consumed are instead made available for investments (Garrison, 2002). Furthermore, as Garrison states, increased saving now means increased consumption sometime in the future. Saving can come about through any combination of these two factors determining it, production and consumption, as long as former exceeds the latter. For example, saving can be brought about simply by reducing consumption if production remains unchanged. Savings can also be accumulated even if production falls as long as consumption falls more.

We may broadly divide saving into two parts; voluntary saving and involuntary (“forced”) saving. Voluntary saving can loosely be defined as the savings set aside by the savers’ own free will and which the saver controls. Involuntary saving on the other hand is the opposite. It is characterised as an involuntary transfer of purchasing power from consumers to investors by means of a money and credit expansion. This important concept, referred to as “forced saving”, was discussed in the previous issue of The Crank Report as mentioned above.

In general, the accumulation of voluntary saving indicates increased economic progress and prosperity; it is the result of excesses and plenty assuming it is driven more by production rather than an overall abstention, for whatever reason, from consumption. Just like an increase in excess revenues over costs signals economic progress for a company, an excess of income over general living expenses signals economic progress for individuals. The greater the overall ability of people in any society to increase savings, all other factors remaining the same, the more this indicates increased economic prosperity. On the other hand, people in a society whom spend all their income on general living expenses, including taxes, or where involuntary (“forced”) saving makes up a major share of total savings, indicates a lack of economic progress, stagnation or even downright deterioration or in the worst case, poverty (when income does not cover basic living expenses). An increase in the ability to save is brought about by real increases in income relative to the costs of living. The ability to save can also be brought about by an increase in the purchasing power of money (assuming it is not offset by a corresponding decline in income). Conversely, a decrease in the ability to save can be brought about by real decreases in income relative to living expenses or a decline in the purchasing power of money.

Mises lists three ways in which saving can be brought about by an increase in net production, but “…without a further restriction in consumption and without a change in the input of capital goods…” (Mises, 2008, pp. 512-513):

  • 1) Natural conditions have become more propitious. Examples include better harvests appearing naturally (e.g. better weather conditions, fewer plagues).
  • 2)   Production processes become more efficient without further investment and without further lengthening the production process (e.g. improved skills from learning, ideas).
  • 3)  Less frequent external disturbances of production (e.g. wars, revolutions, strikes and crimes).

Saving will increase as long as all of the additional production brought about by any (combination) of these three factors is not consumed. In the end however, it is always a surplus of production over consumption that results in saving, to which there are no short cuts. The issuance of more fiat money and the increase in saving deposits that often result must not be confused with saving as the issuance of new money results in both an asset and a liability being recorded since money is created as debt. Saving on the other hand, generated from production exceeding consumption, is an asset only. As de Soto explains,

“Saving always requires that an economic agent reduce his consumption (i.e. sacrifice), thus freeing real goods. Saving does not arise from a simple increase in monetary units. That is, the mere fact that the new money is not immediately spent on consumer goods does not mean it is saved” (de Soto, 2012, p. 697).

Confusing an increased amount of money for saving (or capital) is not uncommon and is perhaps caused by the fact that saving is usually measured in monetary terms. Shostak describes the effect of monetary expansion on savings as follows (Shostak, 2015),

Since the expanded money supply was never earned, goods and services therefore do not back it up, so to speak. When such money is exchanged for goods it, in fact, amounts to consumption that is not supported by production. Consequently a holder of honest money (i.e. an individual who has produced real wealth), that wants to exercise his claim over goods discovers that he cannot get back all the goods he previously produced and exchanged for money.

Saving can be utilised in two main ways in addition to future consumption expenditures: investment or as an addition to cash balances. Investments, either directly (e.g. a business buying producer goods) or indirectly (e.g. a person buying listed company shares) lead to capital accumulation. The effect of adding savings to one’s cash balance is however slightly more subtle. If the savings are deposited with a bank, this has the effect of increasing that banks’ ability to lend to businesses seeking funds to invest. This way, the savings still lead to capital accumulation, but it does so in a two-step process (indirectly via the bank instead of directly via the saver). An increase in saving also has the added benefit of lowering interest rates in the loan market as the supply of available funds increases. Even if the saver was to store (hoard) the savings under the mattress, they would still serve a purpose. Firstly, the saver does so for a reason and is better off (or less worse off), for whatever purpose, as a result. Secondly, the effect of the savings does not simply disappear as a result of this “hoarding” as the surplus of production over consumption is still maintained. To fully grasp what is going on here, it is important to think in real terms, i.e. ignore the money involved for a moment. It is the act of producing something and consuming less than is produced that is the deciding factor of whether saving has taken place or not. Whether the money representing those savings is stuck under the mattress or deposited in a bank account is in this sense completely irrelevant. As Mises explains “The act of saving always has its counterpart in a supply of goods produced and not consumed, of goods available for further production activities” (Mises, 2008, p. 519). The money surplus is simply a receipt, if you like, for purchasing power earned and as Garrison explains “Saving in capital-based macroeconomics means the accumulation of purchasing power to be exercised sometime in the future” (Garrison, 2002, p. 40). To illustrate, assume that people on an isolated island feed on fish only, the only food item available on the island. For each fish caught (produced) the catcher receives a sea shell (money) that he or she can later cash in for a fish. Each sea shell therefore represents saving. The important point to note is that no matter what the owner of the sea shell does with it, other than claim a fish with it, savings have taken place as more has been produced that consumed.

When savings are deposited in a bank, it increases the bank’s ability to lend to consumers or businesses. Under normal circumstances, the bank will quickly lend the money in order to earn interest on it and thereby increase profits. On the other hand, when the money is kept under the mattress they become unavailable to others. This however has the effect of increasing the purchasing power of money as those stuffed in the mattress are not being used to compete for goods and services. As long as the pricing mechanisms are allowed to work freely, the reduction in money “circulating” therefore serve to reduce prices. Any amount of money will be sufficient to clear the market as prices will simply adjust to the existing quantity of money.

As customer deposits are an important source of financing bank operations and funding increased lending, cash stuffed away in mattresses is bad business for the banking system. The less cash (notes and coins) there are, the better for banks as a bigger proportion of the total money supply ends up deposited with banks. And the more money deposited, the more banks can lend as deposits adds to a bank’s reserves. This is why banks will always push toward a “cash-less” society (e.g. credit cards, debit cards, internet banking etc) as this ensures less cash is kept outside the banking system. In short, fractional reserve banking (our current banking system) would be able to create even more money (a feature of an elastic money supply) and experience no overall bank-run in a cash-less society. With an inelastic monetary system on the other hand, the monetary amount of saving in effect works as a scorecard, in monetary terms, of the amount of “excess” resources available for investments or for consumption later on. When there are no savings available, further investment will become impossible as no resources are freed or made available. Investments will only be possible to the extent of prior saving. Otherwise, there are simply no funds available to finance the investments. This ensures the savings-investment relation is fully working and operating within the means of reality instead of within the sphere of some economic policy doctrine. It also ensures the investment-consumption relation is kept in line with people’s (time) preferences as market participants vote with their spending and saving decisions: do they prefer to consume less goods and services today or do they prefer to sacrifice consumption now in order to consume more tomorrow? In short, checks and balances are allowed to work in a monetary system based on an inelastic money supply.

This seizes to be the case under an elastic monetary system as an increased money supply is, in a way, confused with real saving. A part of the discipline omnipresent in the market place where people interact, brought about by checks and balances firmly based on reality, is lost with an elastic money supply. This discipline is attempted replaced with malfunctioning regulations, centrally imposed moral standards, an influx of ethics doctrines and an overabundance of legislation far removed from law proper. You cannot however substitute the self-restraint inherent in a free market economy with centrally urged “confidence”, “ethics” and “moral standards”. In an elastic monetary system, purchasing power not previously made available through voluntary saving is made available instead through the creation of new money by way of bank lending or the central bank monetising government debt. Note that no initial sacrifice is made when investments are financed with newly created money as opposed to when they are financed with prior saving (through a restriction of consumption). As money from savings is indistinguishable from money created through credit expansion (they look the same, smell the same and work the same), the recipients of the new money do not really care which it is. In fact, they have no idea, nor would they probably care if they knew, if the money comes from prior savings or as newly created money. Their primary concern is after all to acquire purchasing power to realise their plans. If the resources committed to the additional investments, which were paid for with the new money, do not come from prior saving they must come from somewhere else and only at the expense of alternative uses. Resources are after all scarce and newly created money is not a real resource that has come to existence through some value creating activity; printing money is not synonymous to printing resources (if it was, there would be little need for anyone bar the printing press operators to go to work). The inevitable result is a transfer of resources from current consumption (current consumption is the will of the market as there are no saving) to future consumption or from a subtraction in other investment programs where these resources would have been allocated under an inelastic monetary system. A shift in production in opposition to the market’s time preference and wishes hence results and market forces are no longer in balance. Whenever investments exceed prior saving, made possible only through an expansion of credit and hence an increased money supply, distortions to the economy are inevitable. The extent of these distortions will go hand in hand with the extent of the increase in credit above and beyond prior savings (which is what leads to an increase in the money supply); the larger the credit expansion, the quicker it is undertaken and the smaller the savings, the larger the distortions and vice versa. A slow and gradual expansion will create milder distortions, but distortions will result nonetheless. Mises explains:

“The notion of “normal” credit expansion is absurd. Issuance of additional fiduciary media, no matter what its quantity may be, always sets in motion those changes in the price structure the description of which is the task of the theory of the trade cycle. Of course, if the additional amount issued is not large, neither are the inevitable effects of the expansion” (Mises, 2008, pp. 439, footnote 17).

In essence, what is happening when new money is issued and used for investment purposes is this: as resources have not been freed through the act of saving, the resources attracted and committed by the new investment leads to a corresponding reduction in resources available elsewhere. Other projects, including maintenance of capital, might suffer as a result. In addition, the purchasing power of money falls (prices rise or fall less than otherwise).

As money is created as debt (see TheEconomic Meaning and Consequences of Debt, The Crank Report, Issue #5), an ever growing mountain of money combined with low saving is arguable the biggest issue facing our very civilisation today as it negatively affects all in one way or more. Countries and regions all over the world are now discovering the ills created by it; Greece is a current case in hand. The only way to solve this greatest of problems longer term is to reduce bureaucracy and let the private sector blossom with one goal in mind – facilitate a substantial increase in voluntary saving.


de Soto, J. H. (2012). Money, Bank Credit, and Economic Cycles, 3rd ed. Ludwig von Mises Institute.

Garrison, R. W. (2002). Time and Money: The macroeconomics of capital structure. Routledge.

Mises, L. v. (2008). Human Action, A Treatise on Economics. Ludwig von Mises Institute.

Shostak, F. (2015). You Can’t Create More Savings by Printing More Money. Mises Daily, Ludwig von Mises Institute.


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