Cryptocurrency: Is Savings Reserves, Cancels Keynes Broken Dystopia

grarpamp grarpamp at
Mon Jan 16 19:31:19 PST 2023

The Benefits Of A Savings Culture & The Future Role Of China's Yuan

Alasdair Macleod

Savings are a vital component of any successful economy, and the
foolishness behind the paradox of thrift is exposed in this article.
It has been a huge error for Keynesian policy makers to discourage
savings in the interests of temporary boosts to consumerism.

It is probably too late now but encouraging people to save by removing
all taxation from savings makes an enormous contribution to reducing
price inflation and trade deficits, while enhancing national wealth.
This is evidenced empirically and demonstrated by reasoned theory.

Furthermore, there is an error in assuming that there is no
alternative to Triffin’s dilemma, which posited that for a nation to
produce a meaningful level of reserve currency for external
circulation it must run trade deficits. Triffin was describing the
problems the United States gave itself under the Bretton Woods
agreement, leading to the failure of the London gold pool in the late
sixties. It still informs US policy makers today, and wrongly leads
American commentators to believe that the dollar cannot be toppled
from its pre-eminent position.

But Triffin’s dilemma assumes that central banks must accumulate
currency reserves. Unless a government has foolishly indebted itself
in a foreign currency, there is no need for them to do so. Currency
reserves add nothing to a domestic currency’s stability. Gold
fulfilled this role successfully, and likely to do so again in future.

It is a savings ratio of 45% which is at the root of China’s power.
The lack of savings in America and its western alliance is their
Achilles heel.

Empirical evidence

If there was one taxation policy which would reduce consumer price
inflation, stabilise a fiat currency, encourage capital allocation for
productive purposes, and improve government finances for the
longer-term, what would it be?

Remove all taxes from savings.

This is the lesson from past-war West Germany and Japan, both of which
suffered absolute defeat and economic destruction in the Second World
War. Their currencies were worthless. But they recovered to become
economic powerhouses in Europe and Asia respectively in little more
than two decades. Both implemented savings-friendly taxation policies,
which made capital available at stable interest rates for new
industries to invest in production. Germany developed its Mittelstand,
and Japan built on her vertically integrated Zaibatsu.

Germany was fortunate in its Economy Minister, Ludwig Erhard. A free
marketeer who on 20 June 1948 took the bull by the horns, Erhard
unilaterally ended rationing on the same day as the new mark was
introduced, presenting it as a fait accompli to the military governors
in the British and American zones. In a week, shops had begun to
reopen, and goods became widely available.

In negotiations with the military governors, Erhard managed to obtain
income tax concessions for savings, which through the banking system
were invested making capital available for private sector
reconstruction. While he struggled against both military governments
in the two zones to retain lower taxes and for favourable treatment
for savings into the 1950s, Erhard had laid the foundations for a
savings driven, free market economy. By the 1980s, the only tax on
savings was a 10% withholding tax on bank interest and bond coupons,
which was not generally pursued by the German tax authorities in the
knowledge that attempts to do so would simply drive savings beyond
their reach into Luxembourg and Zurich.

For this reason, Germany remained a savings driven economy with a
strong currency right up to the mark’s incorporation in the new euro.
Much to the confusion of British and American neo-Keynesians
subscribing to their cherished savings paradox, Germany became the
wealthiest of the European nations, other than perhaps Switzerland. In
both cases, hard currencies accompanied wealth creation.

Erhard’s post-war opposition was principally from General Sir Brian
Robertson, the head of the British occupation government, and from the
French. The commander of the American occupation zone, General Lucius
Clay was more sympathetic with free market solutions. The Americans
had promoted A Plan for the Liquidation of War Finance and Financial
Rehabilitation of Germany (1946), written at Clay’s behest, one of the
co-authors being Joseph Dodge. In 1949, Dodge was then appointed to
advise the Japanese government on its post-war reconstruction as an
aide to General MacArthur. And Dodge was instrumental in ensuring that
up to a certain level, post office savings accounts were entirely tax
free. It was probably a deliberate oversight on his part, but the tax
law didn’t stop an account holder merely opening another savings
account when the tax-free limit on an existing account was reached.

Dodge implemented what became known as “The Dodge Line”. By insisting
on a balanced national budget and shutting down the printing presses,
he ended hyperinflation. The exchange rate between the yen and the
dollar stabilised. Government economic intervention and interference
was slashed across the board. Echoing John Cowperthwaite’s free market
policies in Hong Kong, Dodge realised that the best economic progress
was obtained by eliminating state interference, leaving it to Japan’s
businessmen and entrepreneurs who, despite the war, retained the
skills and connections to run their businesses. With MacArthur’s
support, he ruthlessly eliminated subsidies and price controls. Dodge
was eventually recalled to America, becoming Truman’s Director of the
Budget where in the space of only a year he had cut the US federal
deficit in half.

Dodge’s free market approach was supplemented by the assistance of
another American adviser, W Edwards Denning. Denning introduced
quality control techniques to Japanese manufacturing which
revolutionised production. As a consequence of Denning’s contribution,
Japan rapidly evolved from a source of shoddy goods into a producer of
the best consumer technology and the manufacture of world-beating high
quality consumer goods.

Behind this revolution was the tax incentive to save – a simple
approach of assuming that taxed earnings put aside should not be taxed
again. In both Germany and Japan, these were not the only factors that
led to a successful emergence from total desolation, but they are the
elements that ensured that both nations continued to flourish. And in
Japan, despite the government fully embracing Keynesian philosophy in
the wake of the late-eighties speculative bubble, the savings culture
of “Mrs Watanabe, the Japanese housewife” persists to this day.

After his stint in Japan and while Joe Dodge worked his budget magic
for Truman, the British were going in the opposite direction,
eschewing free markets, embracing Keynesianism, persisting with
rationing until 1954, and imposing punitive taxes on savings. The
decline of post-war Britain and much of Europe need not enter our
narrative, but it was a feature of all nations which implemented
economic policies of taxing savings.
The theory behind savings

The empirical evidence is clear. Since the Second World War, economies
that embraced free markets and the role of personal savings
outperformed those which saw savings as an easy source of tax revenue.
Furthermore, we can easily explain why free markets succeed in
creating wealth for all, while a state directed economy is
anti-progress. It was demonstrated by the Austrian economist, Ludwig
von Mises, who in an essay written in 1920 explained the futility of
central planning due to a lack of the ability to perform economic
calculation. Admittedly, he compared the full-blown socialism which
Russia had embraced with free markets. But his conclusions, that the
state is unable to allocate economic resources including capital as
efficiently as profit-seeking capitalists applies equally to less
aggressive forms of socialism.

In a free market economy, individuals are compelled to make provision
for the unknown vagaries of the future. Often through the medium of
insurance policies and pension plans, they put aside a portion of
their income to protect themselves from the financial consequences of
ill-health and incapacity, provide for their old age, and to ensure
there is something to pass on to their heirs. If the circulating
medium is sound, no financial skill is required to preserve the value
of savings in these arrangements and in the form of bank deposits.
Within the limits of their acumen, those with some financial knowledge
can venture into other forms of savings, such as bonds issued by their
government agencies and corporations and even to acquire equity
interests in ventures.

As always, investors with skill and knowledge will improve their
position relative to those less financially literate, which is
anathema to redistributors of wealth. But the corruption of the value
of credit that goes with monetary intervention by the state
impoverishes those who lack investing skills most, always the poorest
in society. It stands to reason therefore, that an economy that
benefits most from the savings of the masses must protect the value of

The Keynesian revolution rode roughshod over this issue. Keynes
dismissed capitalist savers as rentiers, a term with emotive
connotations suggesting that they are workshy and greedy only for
interest on their capital. His academic environment at Cambridge and
afterwards the Bloomsbury set in London was certainly populated with
these flaneurs. But this was not representative of the wider
population which was to be deprived by his desire for the euthanasia
of the rentier expressed openly in his General Theory.

So it was that Keynes came up with the paradox of thrift, while he was
working his way towards discarding Say’s law to justify his General
Theory. In Chapter 23, he takes preceding crackpot theories on the
subject as evidence of the destruction wrought by saving. Earlier in
Chapter 3, on Observations of the Nature of Capital, he claimed that
excess savings could lead to “the fate of Midas…  assuming that the
propensity to consume and the rate of interest are not deliberately
controlled in the social interest but are left mainly to the
influences of laissez-faire”. In working his way towards a role for
the state, which appears to be his objective here, Keynes makes a
number of errors, the principal ones being glossing over the role of
bank credit (there is only one indexed reference to credit, commercial
bank or otherwise in the whole book!), and whether it is the borrower
or lender who sets the rate of interest. To be absolutely certain of
the role of savings in an economy, and as to whether there can be an
excess leading to the fate of Midas, we must explore Keynes’s errors

Variations in the rate of interest are not due to the ephemeral
dispositions of rentiers but in large part to fluctuations in the
supply of bank credit. It is the expansion of bank credit which leads
to an economic boom, which when it leads to excessive demand and
speculation by driving up prices engenders caution in the banker’s
mind. Naturally, he then restricts the supply of credit, which raises
the interest cost. This is why the cycle of bank credit would never
permit “the fate of Midas” to occur. Clearly, Keynes’s conclusion that
there can be a savings glut is based on his wilful ignorance of the
nature of money and credit.[iii]

Furthermore, Keynes’s basic assumption, that it is the greed of the
rentier which forces an unnecessary and arguably immoral cost onto
production is also incorrect. It is the same error that leads monetary
policy makers today to assume that by manipulating the interest rate
the general level of prices can be controlled. It was Keynes himself
who earlier noted this error, which he named Gibson’s paradox after
Arthur Gibson, who pointed out the lack of correlation between the
two. Because Keynes was unable to explain the paradox, he simply
proceeded as if it did not exist, and so has every monetary policy
committee ever since.

The paradox is real, and the explanation is simple, falling into two
elements. The first is that savers are generally reluctant to save,
because it means a deferment of consumption, an immediate satisfaction
being exchanged for one in the future of less certain value.
Therefore, a business requiring capital for production must bid up the
rate of interest it is prepared to pay to a level where the consumer
is willing to defer his enjoyment. It is this marginal rate that
balances the demands for capital with the availability of savings in
an economy. And it is not just a question of setting the rate of
interest for recycling credit through the banks’ balance sheets. It
sets the rates of return for all financial assets as well and the cost
of funding for their issuers.

The second element is the time-preference for which savers will
naturally expect compensation. Time preference describes the value of
possession of money or money substitutes. A saver loses the value of
possession until his money or credit for money is returned. For
simplicity’s sake, we must ignore counterparty risk but include
expectations of changes in the purchasing power in the circulating
media for the time that possession is lost.

It becomes clear that if a potential saver is to part with possession
of money or credit when the evidence points to its debasement, he will
reasonably seek compensation. Therefore, for the saver interest rates
are not the cost of money which he demands, except in a strictly
minimally additional and marginal sense. For a central bank to assume
that by varying the underlying rate of interest it can control the
economy is therefore incorrect. Central banks have it the wrong way
round, which explains why there is no correlation between their
interest rate setting and the rate of price inflation.

Furthermore, Gibson pointed out that the correlation was between
interest rates and the general level of wholesale prices, and not
their rate of change. This correlation is consistent with a
businessman’s economic calculation: in order to calculate the
profitability of an investment, he must consider the price he will
expect for his production, by necessity always referring to current
levels. He can then calculate the interest cost he is prepared to pay
to secure the capital necessary for his project, and therefore assess
its profitability.

The hope harboured by Keynes, that the state can stimulate the economy
at the expense of savings beyond the very short term is incorrect. His
paradox of thrift, which Keynes used to try to dissuade a propensity
to save, was a conclusion drawn from these errors. They are in large
part responsible for the plight in which the US, the UK, and various
member states of the EU now find themselves.
Savings in the context of national finances

More than any other factor, the propensity to save is a major
influence on national finances, being a “swing factor” between a
government’s budget and the national trade position.

There is an important question most analysts ignore. It is the twin
deficit hypothesis, whereby if the savings rate doesn’t change, a
budget deficit leads to a matching trade deficit.  The reason the two
deficits are linked in this way is because of the following national
accounting identity:

(Imports - Exports) ≡ (Investment - Savings) + (Government spending - Taxes)

In other words, a trade deficit is the result of a budget deficit not
funded by savings but by additional credit. This can be confirmed by
following the money. For a budget deficit, there are only two sources
of funding. Consumers put aside some of their spending to increase
their savings in order to subscribe for government bonds. Otherwise,
the banking system comes up with funding in the form of credit issued
by the central bank or by commercial banks, putting additional credit
into circulation which didn’t exist before.

The financing of a budget deficit by credit expansion leads to excess
credit in an economy without matching production. This is the point
behind Say’s law, which defines the division of labour. We produce to
consume, and the function of money and credit is one of intermediation
between the two. Injecting extra credit into an economy does nothing
to raise production, but it does increase overall demand, at least
until it is absorbed into the economy in accordance with the Cantillon

Directly or indirectly, this excess demand can only be satisfied by
imported consumer goods, because an increase in domestic production is

The role of savings in the context of national finances is very
important. An increase in savings is at the expense of consumption,
which is why economists often refer to savings as consumption
deferred. For consumption to remain deferred requires it to be
invested, either into production or government debt usually through
the banks, pension funds, insurance companies or other financial
channels acting on the savers’ behalf.

If the destination of additional savings is investment in government
debt, they are turned into consumption by the government. By not being
spent on additional consumer goods, the trade deficit falls relative
to the budget deficit.

As noted above, despite the destructive Keynesian policies of its
government, Japanese savers habitually respond to an increase in
credit by retaining it in their savings accounts. Consequently,
consumer price inflation is subdued, relative to that in other
countries. While the Eurozone has employed similar interest rate
policies and is suffering CPI-recorded debasement of over 10%, in
Japan it is about 4%. As we note below, in China whose savings ratio
is 45%, CPI measured inflation is currently less than 2%.

The deployment of capital by Japan’s corporations, which is the
counterpart of increased savings, is invested in improvements in
technology and production methods, keeping consumer prices lower than
they would otherwise be. Because Japanese savers are so consistent in
their savings culture, Japanese corporations have benefitted from a
relatively low and stable cost of capital, making business calculation
more reliable. For Japan, savings are the positive swing factor in the
twin deficit hypothesis.

The same is true of any economy where there is a government deficit
while at the same time there is a propensity in the population to save
rather than spend. It is the driving force behind China’s export
surpluses, because with the sole exception of Singapore, the Chinese
are the biggest savers on the planet. The position of nations whose
economic policies have been to tax savings and to encourage immediate
consumption is diametrically different. It is consumption funded by
the expansion of money and credit without increases in savings which
has led to persistent US trade deficits, twinned with budget deficits.

The evidence confirms that a savings driven economy is more successful
than a consumption driven economy. Not only does the former protect
the currency’s purchasing power by reducing the need for reliance on
foreign capital inflows to finance internal deficits, but empirical
evidence clearly shows savings-driven economies are more successful at
creating wealth for their citizens. Importantly, a currency backed by
a savings culture can weather a greater level of credit expansion by
its central bank without adverse consequences for prices.

The condition which must apply is that fiat currencies continue to
operate as media of exchange. The moment a major currency such as the
US dollar fails, then all fiat currencies are likely to be
destabilised. The cure for that risk is to tie currencies to legal
money, which is gold. In the absence of that link, even the strongest
fiat currency loses purchasing power over time. The Japanese yen has
lost 95% of its purchasing power relative to gold since 1970, an
average of 1.83% every year. But including tax-free bank interest, the
Japanese housewife has probably just about retained the value of her
post office savings account, unlike her taxed equivalents in the other
major currencies.
Supplying a reserve currency

As Robert Triffin, the Belgian-American economist put it, for a
currency to be available internationally to act as the reserve
currency requires irresponsible short-term domestic economic and
monetary policies. Triffin originally described why this is the case
in evidence before the US Congress in 1959. It was a dilemma, which
would eventually lead to an erosion of confidence in the currency. He
was proved right eight years later when the London gold pool failed,
leading to the abandonment of the Bretton Woods agreement in 1971.

In a twist of Triffin’s earlier warning whereby his predicted outcome
is ignored, in recent years the dilemma has been taken to justify
continual trade deficits, the counterpart of which is the accumulation
of dollars in foreign hands. The eventual consequences are ignored.
Currently, these dollars and the US financial assets in which they are
invested total over $30 trillion, significantly more than US GDP. This
total has fallen by over $3 trillion in the year to September, mainly
due to a fall in market valuations. But there has been net foreign
selling of existing US dollar assets as well, while the US trade
deficit has added to the outflow by an additional trillion dollars.

The US now appears to be in a similar position to that described by
Triffin as the inevitable outcome of providing the world with its
reserve currency. Furthermore, the scale of dollar and dollar
denominated financial asset accumulation has been encouraged by a bond
bull market on the back of a declining interest rate trend which has
lasted forty years. Crucially, domestic funding of budget deficits as
recorded by the savings rate has failed to match this foreign

However, domestic investors have made substantial portfolio gains
along with foreign holders of dollars. Driving these gains has been
the inflation of credit directed into financial activities thereby
sustaining the bubble, while the Fed goosed valuations by suppressing
interest rates to the zero bound.

When the rate of consumer price inflation unexpectedly broke the
bounds of statistical management — independent analysts had it far
higher than official figures for many years citing changes in
methodology — it became clear that the bull market in US asset values
was over. Being in the early stages of a bear market, this fundamental
change is yet to be widely recognised, but with official interest
rates well below the CPI rate of increase, foreign investors are
certain of yet more portfolio and currency losses. Domestic investors
and bulls of their own currency assume foreigners will still demand
dollars, when the evidence from the continuing trade deficit and the
US Treasury’s TIC figures confirm they are already turning sellers.

This dichotomy between foreigner and domestic users of a currency is
not unusual. An examination of previous episodes of currencies in
trouble confirms that the foreign exchanges are usually first to
recognise they should be sold, while domestic users usually continue
to believe that they will retain their value.

If it is not too late, the solution to stabilising today’s fiat
currencies is to remove all obstacles to savers, in an attempt to
increase the savings ratio. But when a currency is already on its way
to eventual extinction, removing tax disincentives may not be enough,
and other measures to reduce the budget deficit must be taken in order
to reduce the trade deficit. But then we run into Keynes’s savings
paradox: discouraging consumption in favour of savings is viewed by
neo-Keynesians as recessionary when economic growth is already

The Saudi’s decision to ditch dollars in favour of yuan — turning from
petrodollars to petroyuan — couldn’t have come at a worse time for the
dollar. In addition to facing a bear market for their dollar assets,
foreign holders now find its mainstay justification is distinctly
frayed. Almost certainly, the dollar is on the verge of a Triffin
The future role of China’s yuan

This time, it appears that the dollar has nowhere to turn. Asia is now
the most important geopolitical region, with some 3.8bn people rapidly
industrialising. Member states of the Shanghai Cooperation
Organisation, the Eurasian Economic Union, and BRICS are increasingly
determined to move away from dollars, its hegemony, and influence. As
the Saudis and the whole Gulf Cooperation Council of oil exporters are
demonstrating, China’s yuan is being seen as the dollar’s replacement
for inter-Asian payments. The roles of the euro, yen, and sterling in
foreign reserves are also likely to diminish with the dollar as well.

At this stage the new global currency reserve position is still
unclear, with the Eurasian Economic Union planning a trade settlement
currency, and the Russians sending vague signals but yet to
prognosticate. But in the context of Triffin and savings rates, China
could hardly be more different from the US.

China has a savings rate of about 45% of its GDP. With this propensity
to save, it is unsurprising that consumer price inflation is under two
per cent. Moreover, government finances have taken a hit from China’s
covid lockdown policies and a property development crisis, leaving a
deficit of over $1 trillion equivalent for 2022. But even so, with
such a high savings rate the surplus on the balance of trade for 2022
was still positive at $890bn.

The Triffin dilemma suggests that for the yuan to become a replacement
reserve currency the Chinese government will have to start spending
like drunken sailors while taxing domestic savings to the hilt. Only
then can a trade deficit be expected to arise. But such a volte face
in economic policy would surely destroy the yuan’s credibility. After
all, it took ten years from the suspension of the Bretton Woods
agreement and interest rates rising to 20% for the dollar to then
assume the role of a reserve currency in gold’s stead.

We must question the need for central banks to maintain currency
reserves in the future. Not only did the western alliance send a
signal that they could be made worthless by its cartel at the stroke
of a pen, but the shift from the petrodollar to the petroyuan is
symbolic of a currency regime that has had its time. The possession of
reserves originated with the requirement for central banks to back
their currencies with legal money — gold. It is the abandonment of
this link with money that led to possession of currency reserves, with
dollar holdings at their core. But other than for limited
international intervention purposes there seems to be little reason to
hold them, particularly for those central banks who have become aware
of the western alliance’s declining influence.

China with its trade surplus while maintaining a balance in its
payments by exporting capital has no need for other currency reserves
beyond some minor liquidity. The capital being exported is in yuan in
the form of bank credit, and it suits China with her plans for the
industrialisation of Greater Asia and its suppliers in Africa and
South America to make substantial investments for her greater good.
The Chinese government controls its major banks and can direct the
application of this surplus credit. There is no need therefore for
China to destroy its finances to provide yuan as a reserve currency,
as Triffin originally suggested.

Clearly, there must be a revolution in central bank thinking underway
in the broader Asian camp. Central banks are beginning to replace the
major currencies in their reserves with yuan and even roubles. But
these currencies are not available in sufficient quantities to replace
their dollars, euros, yen, and sterling. This is why they are turning
the clock back and beginning to accumulate physical gold.

In a few words, it is China’s high savings rate which gives its
government the resources, the power, and the opportunity to displace
the American dollar and its hegemony from Greater Asia and much of the
developing world. Our mistake leading to our relative decline was to
listen to Keynes and his paradox of thrift.

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