JPMorgan Makes A Striking Discovery: "The Wealth Effect Is Dead"
Last week we highlighted that in the latest comprehensive revision to the national accounts data, the personal saving rate in 1Q18 was revised to 7.2% from a previously-reported 3.3%, with the entire series similarly shifted higher in the post financial crisis era.
What caused this dramatic revision? As Macquarie's Viktor Shvets wrote earlier this week, the largest and most persistent revisions occurred not in compensation but in proprietary & investment incomes. In other words, for the bulk of non-supervisory employees (over 80% of labour force), there has been (at best) only limited change. However, proprietary incomes were raised by ~8%-10% throughout the last three years. The same occurred to rental and investment income. In essence, Shvets notes, "this is another side of rising income & wealth inequality, and when estimates are updated for ’17-18, it presumably would imply an even greater difference between mean and median incomes."
But whether the dramatic revision in the savings rate is accurate or merely the figment of some BLS excel spreadsheet's imagination, there is another - more troubling implication.
Recall that as Ben Bernanke explained many years ago when he was actually telling the truth in a November 2010 WaPo Op-Ed, the whole point of QE was to boost the wealth effect, which is simply defined as the tendency of households to spend some fraction of an increase in net worth.
Together with the Phillips curve, in the years prior to the great recession, the wealth effect was thought to be one of the more reliable regularities in macroeconomics: when household wealth increased by a dollar, consumer spending would increase by 3 to 4 cents and the saving rate would go down commensurately.
And indeed, as JPMorgan's Michael Feroli points out, when one overlaid the saving rate against the wealth-to-income ratio there was a reasonably solid correlation. However, beginning in 2014 - some 5 years into QE - we started to notice that the post-recession wealth effect was losing its power to explain saving behavior. In spite of a roaring stock market, the saving rate barely budged in the early years of the recovery.