In December 2005, Senator Charles Grassley of Iowa, then chairman of the Finance Committee, issued a statement about personal savings. It was headed “Big Savings Gap” and described a society in which people lived from paycheck to paycheck and went on to lament the “significant savings gap facing millions.”
In that same month, CNNMoney1 published an article titled “America’s Vast Savings Gap,” which declared that almost 60 percent of Americans had no savings or retirement accounts.
Within days of those two proclamations, MetLife, the large insurance company, issued its own report on American savings that decried the lack of savings among U.S. citizens.2 The firm predicted dire consequences in the event of a major illness or other catastrophe. The report said that nearly half of Americans don’t have more than $1,000 to draw on in case of an emergency.
Announcements like these make people fear a future in which retirees will be homeless and families will have to stand in bread lines. But, once again, the facts have been distorted to peddle newspapers, sell retirement plans, and boost political campaigns. Let’s separate the hype from the reality.
First of all, the so-called “personal savings rate” is a misleading indicator. Admittedly, in the U.S. this indicator is at its lowest point since 1947, with a reading of negative 1 percent, or the equivalent of minus $92 billion. That translates to every American spending $101 for every $100 of after-tax income he earns. This, of course, sounds like a prelude to disaster.
However, as Brian Wesbury of First Trust Advisors points out, that conclusion is totally misleading.3 Why? Because the “personal savings rate” is calculated by subtracting all taxes and personal spending from personal income. That income includes wages, salaries, interest, dividends, rent payments, small-business profits, and certain government benefits. This calculation does not count capital gains or withdrawals from IRAs and 401(k)s.
So picture a person who is retired and has no income at all. Say that person withdraws $40,000 a year from an IRA to spend on living expenses. That lowers the nation’s rate of savings significantly, because it shows up as a negative $40,000. By some calculations,...
