QuestForAMillion.net

I’ve been reading about the Paradox of Thrift lately. Wikipedia has a good definition here. Basically, it says that if everyone starts being thrifty and saving their money rather than spending it, we’re all doomed economically. More saving equals lower spending which equals lower demand for products which equals lower prices which equals lower corporate profits which equals lower stock prices and on and on. Whew! Start spending!

This is a theory expounded by John Maynard Keynes, a man many consider to be the father of modern capitalism. Many of the economies on Earth function at least somewhat based on Keynesian economics. There is a counter argument though. Non-Keynesian economists argue that lower prices will spur demand, the old law of supply and demand we all learned in Economics 101. Also, saved funds represent potential loanable funds. We all know the bank takes the money in our savings accounts, magically multiplies it, and loans it out to other people or businesses. With a lot of money to loan interest rates will fall, spurring borrowing and thereby spurring spending (perhaps on investments or real estate).

Personally, I don’t think we need to worry about the Paradox of Thrift. Even with dark clouds on the economic horizon I don’t see many people around me decreasing their spending and increasing their savings. The shopping mall near my work is still surrounded by cars and restaurants are still hopping with diners. Movie theaters remain full and there’s always customers in the liquor store. I see newly purchased cars every day. While those of us that reside in the personal finance blogosphere are probably big savers, the vast majority of people in developed countries are big spenders. The U.S. economy is built on the consumer and it doesn’t look to me like the demise of the consumer is imminent. I save as much of my income as I can. Once we pay off our non-mortgage debts the money we save each month will go toward further saving and investing. I don’t worry that I’m hurting the U.S. economy by my actions. There are loads of people that act the opposite way from me. I will continue to save and pay off debt. I will continue to put money in my 401(k) and I will invest more as soon as I can. I will invest money in the stock market and let the non-frugal among us spend money and grow corporate profits, building my investment portfolio and my wealth.

The Paradox of Thrift may be valid, but it would take a change in attitudes on a nationwide scale to make an impact. Frankly, I just don’t see that happening, recession looming or not. Don’t let the Paradox of Thrift change you savings plans. Continue to be frugal and fiscally responsible.