Are ‘excess savings’ real?

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Also, listen to Rob and Lex editor Elaine Moore compete in a Big Tech stock draft on the latest episode of the Unhedged podcast.

Was the excess savings debate a big, fat conceptual error?

We have written a fair amount about the excess savings of US households. The basic story is simple. During the coronavirus pandemic, the US government sent checks to American families at the same time that those families were spending less because they were stuck in the house. Savings built up. Released from lockdown, the money was spent quickly, providing a big support to the economy. When the savings is all gone, the consumer economy is likely to slow.

The story is compelling, and a cottage industry grew up around measuring the size of the excess and speed of its decline. This posed a surprisingly big intellectual challenge. As we wrote a few months ago: 

To derive an estimate of excess savings . . . [requires] an assumption about what the underlying trend in household savings is. “Excess” savings, in other words, only makes sense in the context of a “normal” savings trend . . . savings estimates are very sensitive to underlying assumptions and it’s hard to know which assumption is best.

Even this amount of scepticism may have been insufficient. Dom White of Absolute Strategy Research argues that the whole concept is confused. That is because the excess savings — the money created by the government and sent to households — do not disappear when spent:

The easing of fiscal policy injected an additional quantity of bank deposits into the economy . . . those deposits don’t get destroyed when they’re spent, as the excess savings concept implies — they merely get passed on to other consumers or businesses . . . you could say that ‘excess savings’ get converted into ‘excess income’. And, of course, while most of that excess income will subsequently get spent, a proportion will also get saved — so spending excess savings creates new savings. Either way you wish to frame it, the idea that those savings will become exhausted, and so spending will slow, is just plain wrong.

This is a good point. 

There is, however, a way to retell the story so that it makes more sense: by paying attention to the distribution of income and propensities to spend. When households spend their stimulus checks on Pelotons or pedicures or whatever, a lot of that money goes to corporations. Some of that money will then return to other households in the form of paychecks or dividends, or be passed to other companies in return for raw materials or equipment. But eventually some amount of it will get to someone who will simply hold on to it, or use it to pay off debt.

If the money simply sits in a deposit account, and the bank with the deposit does not make a new loan on the back of that deposit, the money falls into a sort of coma. On the other hand, if the money pays off a debt, it is destroyed — the reverse of the process by which lending creates money. The “person” who pays off the debt and destroys the money might be the government, if they use a tax payment to settle a debt that is not replaced with a new one. Either way, as White put it to us in conversation, “it matters whether the money trickles up or down”.

In short, the money started with a broad cross section of US households who had a high propensity to spend it. Eventually some of it will find its way to someone who with a low propensity to spend it. Stimulus money moving from household checking accounts to other places in the economy probably does have implications for the level of consumer spending. It’s just those implications are much more subtle and complex than the basic story suggests.

Where does that leave us? It leaves us tracking spending trends the old- fashioned way: listening to company results, watching credit creation, looking at payrolls, and on and on. Back to work, everyone.

Some anecdata from Japan

Corporate governance reform in Japan — returning corporate cash hoards to shareholders, and spinning off non-core businesses, and so on — could revolutionise the country’s stock market. And the promised reform has contributed to the market’s 20 per cent rally year to date. But the reality of reform is that it remains just beyond investors grasp.

There are signs of warmer attitudes towards shareholders, notably a record level of share buybacks in 2022 and top-down pressure from the Tokyo Stock Exchange. Activists and hedge funds can target to the companies with the most receptive managements. Specialists stockpickers are not enough to keep the rally going, though. Global asset allocators need to rethink their low equity weighting on Japan. But how can an overseas investor assess an attitude shift?

“You’re a bit in the dark as a westerner,” says Nick Schmitz, portfolio manager at Verdad Capital, who spoke with us just after returning from a string of AGMs in Japan. Outside of scattered surveys with small sample sizes, “You’re left with anecdotes and buyback levels and sellside charts.”

We asked Schmitz and GMO’s Drew Edwards, who has also been on an extended research trip to Japan, what they’re hearing on the ground.

The TSE’s recent directive to listed companies, instructing them to publish plans for raising price/book ratios or face penalties, has been widely hailed in the financial press (including in Unhedged). But where an overseas investor might see a stock catalyst, some in Japanese management see the TSE chief executive as a “self-promoting opportunist”, Schmitz relays with a laugh. “This CEO realised [corporate reform] was already going on and, after it started, put out an order to take credit for it!” The TSE order “maybe adds a little urgency [but largely] just solidifies what’s already going on”, he added. 

Edwards says Japan is finally seeing the fruits of the 2010s Abenomics reforms, including an official corporate governance code published in 2015. “If I think back to my early days in this industry in the early 2000s, it was often difficult to get meetings with management, especially if you’re a foreign investor and if you have activism in any way associated with you,” he says. But more recently, “I can’t remember the last time I didn’t get a management meeting.”

A record number of companies faced shareholder proposals at this year’s AGMs. Yet hostility to activists remains. “I have to tell every company I meet with we’re not activists, and then there’s an immediate friendly opening up,” says Schmitz. “That’s not an overly hyped stereotype.”

For non-activists, though, management is increasingly willing to talk. Edwards tells a story about a company he’s invested in, Mitsubishi Electric, which he described as a “proud, traditional, rigid” electronics manufacturer. But the company, with its proud tradition of quality, suffered a high-profile quality control scandal in 2021 after many of its factories cheated on inspections. Much of the old top brass resigned in embarrassment, and a new chief executive took charge with a mandate for change. Edwards says the new boss has begun doing “all the things you learn in a first-year MBA class”, such as unwinding cross-shareholdings and spinning off extraneous business lines. But Edwards was most struck by another change:

“We’re not [even] a 5 per cent shareholder, but they will ask our opinions, solicit our thoughts, which in the past just didn’t happen at a company like Mitsubishi Electric. I highlight that as an example of a company where liquidity is high and our trading doesn’t move the needle. But we’re seeing that same pattern at smaller companies where you can really have a big influence by virtue of an outsized position. 

The plural of anecdote is not data, of course. But there are changes afoot. (Ethan Wu)

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Bidenomics and big government.

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