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Is There a Cure for the Economy? The Spending and Saving Catch-22

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If you read personal finance blogs or magazines you'll find a lot of advice to save money, get out of debt, and build an emergency fund. This is all solid advice and things that I fully endorse on Lazy Man and Money. It makes too much sense to stretch your dollar further and to be prepared in the case of some kind of emergency or job-loss. Plus there as of 2002 Americans had $750.9 billion of debt spread across 84 million households.

If you watch CNBC or read the Wall Street Journal, you'll get a different view of things. They'll discuss consumer spending as being a sign of a healthy economy. It goes a little something like this. If you decide to not go to restaurants or make your coffee at home instead of going to Starbucks, these businesses will close. It's not just these business, but if you cut back on travel hotels lose money... entertainment movie theatres and netflix lose money... you can go on and on. If businesses lose money, jobs are be lost. When people lose jobs, it's never a good sign for the economy. This is why the government is giving us money, to stimulate spending.

So if people spend money and live on credit, the value of a dollar falls. If they don't spend money, people lose their jobs and the economy suffers. Doesn't this seem like a game of lose-lose. It seems you are quite literally damned if you do and damned if you don't.

I wish I had a solution for this problem. Maybe I should have studied macro-economics in school. I'm trying to think of how America can win this Catch-22. Maybe I'm crazy, but it seems like as long as the money shifts between business and consumers the economy isn't going to improve overall. If consumers have more money they have safety and security, but businesses suffer. If businesses have more money, consumers are likely overspending and have too much debt. I'm probably being a little simplistic in thinking that money might be a zero-sum game.

The best idea I can come up with is to sell goods and services to other countries and bring in outside money. If money within the US is truly a zero-sum game, the solution is to add more money to the game. That outside money can pay off our consumer debt and keep businesses running. I wonder if we can export goods and services cheaply enough for foreign countries to buy them. Questions, questions, questions, I wish I had answers.

Maybe you have some questions as well? Perhaps you even have answers? Let me know in the comments below.

Posted on July 10, 2008.

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19 Responses to “Is There a Cure for the Economy? The Spending and Saving Catch-22”

  1. MoneyEnergy says:

    That’s an interesting way of looking at it, in terms of a catch-22. I hadn’t thought of it that way, but I’m not sure it’s really a catch-22. I think we’d have to factor in what the US owes to other countries as well – that it borrows something like a billion or more per day just to pay interest on all its foreign loans.

    But I agree it seems like there’s a glut in the service industry: too much of each thing, perhaps? Like in Denver on 16 St. there are like 8 Starbucks just on that one street. I was amazed to see this and as a result not surprised at all to hear that Starbucks is closing something like 600 of its stores across the US.

    This is such a huge topic…

  2. MoneyEnergy says:

    I guess I would add that, just based on a few things I’ve read, the dollar isn’t falling because people are spending money through credit, but because the Fed is printing more dollars (hence deflating the value of the dollar and inflating prices everywhere) when it shouldn’t be. People like Jim Rogers and Ron Paul are always saying the Fed needs to increase interest rates to fix things up. Of course a lot of people don’t want that, because on the surface it looks like that will just slow the economy again.

  3. Ryan says:

    “The best idea I can come up with is to sell goods and services to other countries and bring in outside money.”

    You got it there. The fact that we’ve become a service industry and stopped producing is catching up to us. All we’re doing is moving money around amongst ourselves pointlessly. The only way a service-based country can make money is with tourism, but our current political climate isn’t promoting that too much.

  4. Ryuko says:

    It seems to me that a huge part (NOT the only part, but a huge part) of our problems lie in lack of exports. What do we export anymore? Everything’s imported! [Editor’s fix for expletives] Poo, I eat vegetables from Chile even though I live less than half an hour’s drive from the biggest vegetable producing area in the US!
    This is completely unsustainable, and we’re going to have to find new innovations and *honest* methods of making money in order to keep from serious long-term problems. By honest, I mean, actual products that the rest of the world wants – as opposed to nickel-and-diming like with credit card rates and sub-prime mortgages that may make fast cash in the short run but eventually will run out.
    I’m certainly ready for interest rates to go up again. Yeah, I don’t want to pay more on my credit cards, but if it means my retirement will be worth more, and if it means that I have incentives to stop using that card and start saving for the short term, then do it!

  5. Lori says:

    Very interesting way of looking at it. The main foreign dollars that seem to be coming right now are going towards real estate. Though, this has been the case for sometime, so don’t know that it can be considered a ‘new’ revenue stream that can boost the dollar.

    Hypothetical question… but, if the average American consumer were okay with spending a little more on an item (that lasted longer, and in the long run, actually cost less because they would buy fewer over their lifetime), and we cut out some percentage of the low cost/low quality, high volume product… think this would help? I realize higher quality doesn’t mean that we aren’t shipping it in, but perhaps we could strike more of an import/export balance if less ‘junk’ we’re coming through our doors. Maybe this would mean more balance in dollars leaving/coming/staying?

    Clearly, I should have taken a macro economics class or two… :-)

  6. Seth says:

    I’m a microeconomist by training, but will be teaching intro macroeconomics.

    Lazyman is right, but it isn’t exactly a catch-22. But a couple of thoughts

    First it might be important to know how economists define investment and savings. Savings is Income – Consumption, while investment is the purchase of new capital to make more stuff.

    If Americans do nothing but save it can encourage recession or depression. Most of time savings is invested. If you put more money in your bank account the bank will loan out more money usually so businesses can invest. The more money banks have usually the lower the interest rate of loans.

    Here is the important thing though. Classical economic growth theory suggests that changes in economic growth will be brought on through investment (if we have more machines we can make more stuff) and productivity gains (each machine produces more). So if we invest this year we will have less to consume this year (bad for the economy this), but more to consume in the future (good for the future economy).

    So just like personal finance, for the overall economy investing now means we don’t live as well today, but live better tomorrow.

  7. Lazy Man says:

    Seth, thanks for the great comment. That actually makes a lot of sense. It’s something that I didn’t think about too much.

    As usual, your comments are on the point.

  8. Spending locally boosts your economy. Americans builds things for Americans and Americans buy from Americans: That means that Americans get a better standard of living and have more jobs, as long as the wealth gets distributed somewhat equally. The problem is when Americans buy from elsewhere, including becoming indebted to other countries. That’s when your economy starts to slide. Of course, the global economy gets better, but maybe America gets a little worse.

    If there is no spending then everyone is screwed because money sitting under the mattress does nothing. Every American needs to both spend and produce.

  9. Emily says:

    I had never thought of it that way before, but it really is a Catch 22. Reminds me of when the stimulus checks were about to come out and Bush said everyone should spend it right away. I thought that was so irresponsible since so much of the country is riddled in debt, but you’re right. It’s the American businesses that really need it, because when they start losing business, they lay people off, and so on. Vicious cycle. Your idea about outside money does sound promising…I hope some solution is adopted soon before things get worse.

  10. Imagine a person A and a person B. Now suppose each have a pile of money (savings). They buy some tools (investing) and start producing. For the sake of simplicity, let’s assume that A buys products from B and B buys products from A. Now assume that A is more efficient that B. This means that A produces more than B. A thus develops a surplus while B develops a deficit. Now A can lower his prices to sell off surplus, but B has a big problem, because he can’t raise his prices to get the same income. The problem is that B is engaging in unproductive behavior and that he should stop doing what he’s doing and do something else. In that sense money tends to move from inefficient producers to efficient producers. This is why capitalism is so powerful.

    However, unemployment looks bad, so what the government, which is one of the unproductive performers, does is to hand everyone some money; mostly they just hand it to themselves, but they are “everyone” by definition, so…
    For instance, currently they trying to prop up people who bought houses at ridiculous prices or investment banks that made ridiculous bets. This kind of fiscal infusion props up the prices from the unproductive businesses/operations and drags out the problem. The moral question is whether you want to get the pain over with quickly by hitting a small group hard or you want to soften the blow by spreading the damage to include people who are innocent. Typically the latter approach is taken even though it leads to more total damage (by taking money away from the efficient producers).

    The systemic problem is that the economy and the state is intertwined, unlike state and religion, well at least to some degree. So one way to fix this is to get the government budget under control make the monetary policy more conservative. This will do wonders for the USD. Of course this will cause pain in the US sectors that are not competitive on a global basis, and since these guy vote, it won’t happen. Basically you get what you deserve.

  11. Ryan Poon says:

    An obvious answer is balance, that is what the government has to acheive. I doubt that this can happen though if you look at the past there are peaks and troughs in spending, inflaion, employment etc. There has to be a fall to be a rise.

  12. Debt Free says:

    In order for the economy to grow, wealth must be created. The only way top create real wealth, rather than rich people, is to build (add) value. This can be raw materials with a value added component that is used to create finished goods or sub assemblies. It can also be services that create value. For all the crying about the “service based economy” it does have it’s benefits. One is that all service sector jobs aren’t low paying retail jobs. Think about that the next time you visit your physician, accountant, or contract with a consultant. Engineers, attorneys, computer programmers, technical writers, designers and architects are all examples of service sector jobs that pay far above average. The moral is don’t automatically equate service sector with Wal-Mart.

    The other benefit of service sector jobs is that they can’t all be outsourced. Try outsourcing your electrician, mechanic, or hair stylist. Sure, you could have that stuff done in India, but it’s a long flight….

  13. PT says:

    Ryan got to it first, but I was going to add that it sounds like finding the “balance” is the key. The pendulum keeps swinging in either direction. The key as an individual though is to learn to live on the other side of that swing, if that makes sense.

    Save when others are spending. Spend (invest) when others are saving.

  14. KingTut57 says:

    I’m going to give a personal account of one big problem that is going on and it all has to do with education.

    I work for one of the largest new car dealer chains in the nation. Right now a very common trend is for people who bought trucks and didn’t need them to trade them in on small, fuel-efficient vehicles. This seems to makes sense with fuel prices. The problem is that as they trade in their truck it is worth half what it was a year ago. In dollars this is usually well over 10 large. Not only that but they usually buy a new or almost new vehicle which is in its worst years of depreciation. The vehicle they buy will usually take more then ten years to pay for that difference in fuel. Then, in a few years when prices go down they will trade their car which is now worth less because everyone wants trucks. They are buying high and selling low to save a few bucks on fuel. You wouldn’t believe the amount of negative equity rolling around in those cars.

    Typically when there is trading going on, no matter what business, it is good for the economy. The problem is that things like vehicle are depreciating assets so the money just vanishes. Even as people keep buying vehicles, profit margins are declining because they have to. If the customer is losing all of his money on the deal and the banks are struggling, than the dealerships will struggle as well. Which equals a lose/lose/lose situation.

    The point here is that people are lacking fiscal education. I am overly educated when it comes to economics and business, but all of my friends went to school to be teachers. They all envy the fact that I could finance pretty much anything I wanted. I try to explain to them that unless I’m financing an investment (researched/solid/sound one at that), financing is never worth it, but they are too far in their ways to understand. So all these teachers don’t know enough about money than how will their students. For a regular person, economics should be a simple concept. Then why did so many of my classmates struggle with it in college. Lack of education is to blame here.

    No company or industry or government is to blame. It is our own fault. It is our country. We select the people who run it based on what they plan to do. We need people who will put fiscal/monetary education as a top priority in schools. We can teach all the history we want but when was the last time knowledge of Genghis Khan really helped any in the advancement and production within an economy? Every American deals with money in some form or another every day. Yet it is the topic we are least educated on.

    If we are truly committed to helping our economy than we need to start teaching others what we know. Everybody on here seems to have a pretty good working knowledge of money. But, that is why we are on here. The majority of people don’t. If we know what we do but don’t ever help others or vote for people who support it than we really aren’t committed.

    Note to LazyMan (I posted on the MonaVie post as Ryan but that name seems to be used so I will use this one from now on).

  15. Lazy Man says:

    KingTut57, I couldn’t agree more. This is why I created this website. I would love to see personal finance taught in the classroom, but it rarely is. My solution is to try to be a source of good financial information and get it out to people. As you say, people here seem to have a good working knowledge of money. I like to think some percentage of them developed that by reading this site. I’d love to get it into the hands of people who don’t have a good working knowledge of money.

    I like to think one might search Google for “save money on cars” and see my tips for saving money on cars. Hopefully, they read it, and don’t make the mistakes that you outlined. I would love to have a better distribution method of getting the information to the masses. I wish people would use the Email This! icon at the end of stories that they like and share the information that they find helpful with others.

    (Sorry, if I hurt another of your businesses by recommending that people get used cars that have already experienced a lot of that depreciation.)

  16. KingTut57 says:

    You haven’t hurt any of my businesses. Mona Vie sells itself and my particular dealership sells used cars 2 to 1. Thanks for your concern though!

  17. Lazy Man says:

    (It was a joke. If I were a 100 times more popular, I wouldn’t have that kind influence) ;-)

  18. Richard says:

    There’s two things to remember about the current business environment:

    1) If people start to think that profits based on unsustainable spending are “normal”, there will be pain sooner or later. It’s not a catch-22, it’s just the simple fact that people have lost touch with reality and need to accept that before they can move forward. I’m not qualified to say if this is the major reason for the stock market performance in the last 20-30 years, but if so (and there are some signs of it) then a “recession” or something like it might just be reality tapping us on the shoulder.

    2) The purpose of businesses should be to do something of value. If you’re working at minimum wage and you would actually devote an hour to an hour and a half of work to getting a coffee, then Starbucks is a useful business. But in general if it’s doing badly that doesn’t mean that consumers are failing the economy, it just means that one company isn’t adding enough value to make a profit.

    When you think about this, the economy is anything but a zero-sum game. When you pay for a product or service it can either be worth more to your than what you paid or less (hint: if it requires spending at a level you can’t keep up for long, it might not be worth it). If it’s worth less than you paid the company is probably going to go out of business, but if it’s worth more then the company benefits from your money and you still get more than what you parted with. In the end, wealth is what we really need or want – being able to do what people want more easily (increased productivity – often from technology) leads to an increase in the amount of wealth that’s available. There are whole industries such as mining that really are about redistribution, but there are others that add a lot of value without using a lot of resources.

    One final thought: service economies can be great, and they aren’t limited to tourism by any means. I’m in a service business; even though I’m in Canada 90% of my customers are in the US – and everyone stays put. I can add value (and save people a lot of time) by spending a little of my time. There’s no physical work involved but I help people get what they want – creating new wealth.

  19. fathersez says:

    Bringing new money in is a great idea. Like Ryan mentioned, tourism for example should bring in money. Foreign students bring in the money.

    Another option, (which our country practices) is the 2nd home option.

    We allow retirees with certain amount of funds to stay for 5 years or something like that. So retirees settle down here and stimulate the local economy.

    I think the US is not seen as a friendly country anymore by some people, still there must be lots of others who do not feel the same way.

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