When someone asks me to give them one personal finance metric to really focus on that matters more than any other, there is no hesitation in my reply: “personal savings rate“. No matter which way you slice it, everything in personal finance boils down to what you earn, what you spend, and the relationship between those two numbers (your personal savings rate). Your personal savings rate is your total savings (or debt) divided by (take-home income + work retirement contributions). It is typically referenced as an annual number.
The goal, with this ratio, should be to drive it as high as you possibly can. And the sooner you do so, the better off you will be. Why?
- If your personal savings rate is negative, you are spending more than you earn. This means you are either accruing new debt (and paying interest on it) or you are cutting in to the tiny bit of net worth that you have accumulated. Despite all of your potentially stressful and painstaking labor, your monetary existence is resulting in other people getting richer and you getting poorer. Sobering, isn’t it?
- If your personal savings rate is zero, you are essentially working with zero gains to show for your efforts. You are not getting poorer, but you’re not getting any richer either. Time is passing you by.
- If your personal savings rate is positive, you are adding to your net worth. This is good, of course, and the higher the ratio, the better. A positive personal savings rate allows you to build reserves to weather inevitable setbacks, pay off suffocating debts, and save towards big financial goals like home ownership, starting a businesses, helping others, and retiring. Good stuff, right? Well, the benefits of a positive personal savings rate don’t stop there.
Compound returns on invested savings leads to significant future paybacks. Every additional dollar of personal savings today is like saving multiple additional dollars in the future.
In fact, $1 saved and invested by someone in their twenties is worth $10.06 of savings to their future 50’s self (at an average annual rate of return of 8% on investments over 30 years). Even if you factor in 2% annual inflation, you’d theoretically still have 556% of the buying power for every dollar you save and invest today, in 30 years. And you can 2X your retirement savings by starting at age 25 versus 35 from compound returns.That’s the power of compound returns.
Unfortunately, that ain’t happening for millennials (age 35 and below). We knew that the personal savings rate for Americans was bad (it has been hovering around 5% for a while). But new data shows that it’s even worse for millennials: -1.8%!
While older generations have stayed relatively flat since the Great Recession – millennials (the red line) have dipped from a high of +5%.
If you’re looking for a silver lining, there is one – millennials’ personal savings rates are still above the absolutely catastrophic negative 10-15% levels that were seen pre-recession.
Nevertheless, negative is still negative, and for those in that territory it means declining net worth (or increasing debts), zero savings to show for labor, no financial savings goals met, decreased mobility and independence, and missed opportunity for compound investment returns. You don’t get these years back, ladies and gentlemen.
What is truly sad about all of this is that it doesn’t have to be this way. If millennials (or any generation, for that matter) were to collectively trim off just a small and insignificant portion of gross consumer excess, personal savings rates could very easily be +10-20% and above. It wouldn’t even require any true sacrifice. If everyone were to shop around for better insurance rates, switch to a prepaid phone plan, avoid credit card debt, give self-powered commuting a try, take their lunch to work, cook from home more often, reduce their energy waste, and cut cable TV – we’d collectively get there. And we’d be planting the seeds for a much better future for ourselves and subsequent generations.
The punishment we are dealing to our future selves in exchange for shallow and inconsequential luxuries is alarming. Change starts with you, right now.
“Change starts with you, right now.”
Unfortunately, I worry that you’re preaching to the choir (readers of your blog), most of whom I’d assume have a pretty high personal savings rate. It’s getting the message out to younger people who don’t put a high priority on personal savings/investing, and getting them to actually do something about it. I’ve tried talking to some of my friends and relatives, using very similar arguments to those in your articles. Intellectually, they agree with me, but with only one exception, I haven’t successfully gotten anybody to overcome inertia and actually do anything whatsoever, let alone make big enough changes to be meaningful.
Do you have any tips on how to convince those you care about who are “too young to start worrying about this stuff” to actually start worrying about this stuff?
Yes, I am preaching to the choir – but my choir is super connected to a large community of millennials – so share the link!! ;-)
This article should be a great starting point to convincing someone – the $1 today is worth $10 tomorrow really carries a lot of weight with me.
I’ll try to think of some others too.
Already reposted it on FB.
Very interesting article! I wish more people looked at numbers like these and really took inventory of their own situation.
Great article. Also I appreciated the tax brackets one earlier. I already have calculated my return!
Hi everyone: I saw Judy in Menards today. I told her how I felt and she agreed with me. Maybe this will not happen again in the future. I was pleased to find out this was not a memorial to dedicate Bunny’s bench. That is what I thought was happening with this little get together. I still think this should have been told to all of us. I will relax now. Jim Keiper
I’m a millennial and my savings rate is pretty good! I haven’t been tracking amount to savings in this way before (not sure how to get this out of Mint.com), but my Net Worth is up $21K from 12 months ago. If you call that my ‘savings’ (it’s all cash savings + retirement) I have a rate of 32% (though I know some is due to investment increases). I’ll gladly share with my peers!
Are you sharing your personal savings? I’ll send you my email :)
Great article GE!
From all the blogs I read, you’re the first one to actually give well-deserved credit to the savings rate. Though we can talk about spending less on things like prepaid cell phones and negotiations on insurance, we need a measure to track our spending compared to our earnings. That just happens to be the savings rate.
If someone earns $75,000 per year, and their savings rate is 25%, that means they’re saving $18,750 per year. Take this down to 15%, and they’re at $11,250. a 40% drop. That 40% drop went spent at that time and will provide a much lower financial value in the future. Investing that difference would add to your net wealth right away and much more in the future!
Your point about the power of compounding interest is a good one. It’s incredible (and somewhat terrifying) to realize that if you don’t start saving now (when you’re young), you really won’t ever be able to catch up. There’s just no substitute for saving all along throughout your life. It’s the easiest way to set yourself up for success–not just in retirement, but when emergencies arise throughout the course of life.
Very interesting and depressing numbers. You mentioned the power of compound interest it also works the other way if you’re in debt and keep on increasing it. Someone else keeps getting richer while you keep getting poorer.
GE, I want to see more articles like this! I know some have commented that you may be “preaching to the choir” but I still think it’s invaluable to re-iterate the vast importance of personal savings rate. Even if your article only stands to continue to encourage those loyal readers among us to keep saving, it still helps make a tremendous difference in those lives. Thanks again.
If you’re in the US, you can log into the Social Security website and see your lifetime earnings. Divide your net worth by your total lifetime earnings to get your lifetime savings rate.
I’m a millennial and my savings rate comes in at around 30 to 50% of what I generate which I pretty good. I’m surprised to see how people can let their finances get that loose despite experiencing one of the greatest recessions in history which scared the pants off me. I guess posts like these will help people understand the need to save and spend within their means while keeping an eye on the future. Nice post, thanks for sharing.
While I really enjoy your site, I don’t quite agree that it’s consumer spending on things like cell phones, cable tv, etc that’s really killing millennial. While these things are contributors, I think it has a lot more to do with soaring rents and student loans. As an older millennial myself, I’ve observed countless others spend way too much on rent, often eclipsing half their income. Many seem to insist on living on their own, renting in “hip” parts of urban areas and foregoing roommates. $200 a month for cable and cell phone pale in comparison to $2K in rent and student loans.
Yes, rent and student loans are bigger than consumables, but which is more controllable? Ultimately both can and should be worked on too, but for quick wins that millennials can improve on right now that could have an immense impact on that personal savings rate – start with the consumer spending.
I would tweak your personal savings rate a bit to include paying down debt – without that, you could have a net savings rate of 0 but consistently improve your net worth.
I think your last paragraph really indicates a lack of understanding of the work environment for the vast majority of millennial, As an example I have worked in a STEM field for 5 years, with a bachelor’s from an amazing school (Davidson College) and I have moved to several major metro areas to maximize my earning potential and I’m still only making $17 an hour. with car payments, rent (crazy high), taxes and insurance I am clearing about $300 a month. Granted, I could choose to live with roommates, but I am a grown adult. I also don’t drive a nice car. The dirty truth of the matter is that ‘budgeting’ is a luxury that is not afforded to most millennials. we’re absolutely boned because of monopsony work conditions and blaming our poor savings rate on anything but that is a gross misunderstanding of the conditions that have caused this problem.