Long-time readers here know that personal savings rate is one of my favorite personal finance metrics (along with safe withdrawal rate, crossover point, net worth, and “usable net worth”, to name a few).
No other metric is as apt at diagnosing your current “personal business” of household cash flow management. In its simplest form,
Personal savings rate (over a specified period of time) = net savings (or losses) / total income
If you can boost your personal savings rate up to high enough levels, you can start to make some crazy fast progress in paying down debts or saving for retirement. For example, at a 75% personal savings rate, you’d be saving 3 years of living expenses for each year of work you complete. Just 10 years of that, and you could virtually retire!
But Americans don’t do that, or anything close to that.
According to recent Federal Reserve data, the U.S. personal savings rate has plummeted to just a hair above an all-time low of around 3.7%.
A 3.7% savings rate would be alarming at any time. If averaged throughout one’s career, it would take approximately 27 years of “savings” to equal one year of living expenses. It’s no wonder Social Security is quite literally a life-saver for many. Most Americans hit retirement age with shockingly low average retirement savings, after a lifetime of work.
But it’s particularly alarming to see personal savings rates this low right now, given that the last (and only) time it had previously reached these depths was just before the Great Recession, in 2008. And it’s even more alarming that it’s at these depths during a time when we just reached the highest median household income level in history.
In short, we’re making more money than at any point in recorded history, but we’re saving a smaller percentage of it than at any point in recorded history. That’s a problem.
The Short-Term Psychology Behind Personal Savings Rate
It’s hard to pinpoint exactly why this phenomenon is happening. Among other things, a few likely contributors to this overall downward trend in personal savings rate include:
- the continuing rise of wasteful consumerism and bigger homes in our culture
- companies are better at marketing, advertising, and separating our money from us than ever before
- the ease of a swiping a card and paying it off later
- housing prices are indexed near all-time highs
- education costs and tuition debts are at all-time highs
- health care costs are at all-time highs
But I think that there is one thing, more than any other, that explains this phenomenon: Americans have developed an extremely short-term focus on their finances.
In the graph above, take a look at what happened in early 2009, at the bleak depths of the Great Recession. Unemployment had skyrocketed to 10%, median household income was declining, and what happened to the personal savings rate? It tripled to 7.5%!!
The money was there to be saved and knowledge was there to do it, but it took the fear of another Great Depression to scare people into actually giving a damn about how much they were saving. The short-term focus was FEAR, and it scared a lot of people into improving their savings quite a bit, regardless of all those listed challenges.
Fast forward to 2024. We’ve seen job growth in every month 2020, unemployment is near an all time-low, we’re near record high wages, and people are generally feeling good about the economy. So what are they doing? Spending, of course! Again – short-term focus.
Here’s the thing – it would be wise, very wise to do just the opposite in expansionary times.
It can be difficult, very difficult to raise your personal savings rate in a recession (and impossible if you lose your job). The easiest and most common sense time to do it is during times of economic expansion. Governments (wise ones) raise revenues and run surpluses in times of expansion, smart businesses stockpile profits. THEY prepare for rainy days, and YOU should too, by ratcheting up your personal savings rate.
After years of economic expansion, the next recession could be right around the corner. Don’t wait until then to remember what it’s like to save.
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You have no idea what the future holds. Hopefully it will include a higher income (though I remember a post on here that’s often not the case). But there’s also a very good possibility it will include higher expenses – having kids, unexpected medical expenses for you and/or people you need to care for, whatever. It’s very possible that you won’t be able to put away as much money tomorrow, as you can today. Plus that whole compounding interest thing.
Put away more money today while you comfortably can, don’t just hope you’ll be able to do so in the future. Actually it’ll be more in the future since you’ll need to make up for lost time!
Precisely. I believe this is the article you referenced: https://20somethingfinance.com/lifetime-earnings-in-career/
Ties in well to the message in this one.
Great reminder the savings rate really is the focal point of financial independence.
The easiest way to increase personal savings rate is to cut out or reduce some easy money suckers in your budget. Coffee is the usual target but things like cable TV, cell phones and eating out are fair game as well. Let’s say reducing these little things and putting the extra into savings adds 5% to your savings rate. That should be 5% FOR LIFE. That’s powerful stuff.
Even more powerful would be considering things like getting rid of a car or moving to a cheaper city. Reducing expenses there will skyrocket your savings rate. But most people won’t even consider big moves like this unless they’re really desperate so let’s stick with the little things.
Wow, 2.5%-3% is crazy low. I started worrying about my personal saving rate when I realized it was below 10% and now I’m trying to stay above 30% and hoping to go even higher.
I totally agree that personal savings rate is a very important. I don’t use as many metrics as you do though :P
I can understand the urge of spending more when you gain more, but that should still be refrained to a healthy savings rate.
100% agree. Short term focus is a major problem and people don’t even realize it, a wolf in sheep’s clothing. People want to buy now on a credit card instead of saving for it. They don’t see the bigger picture and instead they move from one want to the next. Marketing, credit cards, and discontentment combine to create an environment where businesses can drill further and further into our wallets.
Agree that savings rate is one of the best metrics out there for people to improve their personal finances.
I monitor mine on a monthly basis in two flavors: one which is basically in line with your definition, and one which I adjust for big ticket expenses throughout the year (taxes, insurance, education etc.). I remove the actual big ticket items each month and replace them with an average projected monthly figure (total annual sum on all of them divided by 12) to get to a sustainable adjusted savings rate.
That way, even if in some month you need to spend say $15,000 on your kids tuition on a $10,000 income, I’d only count $15,000/12 = $1,250 of that expense. That way your savings rate is more stable. For me, this replaces budgeting and I don’t really bother with keeping track of the specifics anymore.
I have to think that this is a red flag for our economy. When my 12 year old asked me if he could open a bank account for his $300+ in cash, I found myself (unfortunately) telling him that it wouldn’t grow in the bank. I think the fundamental act of saving money should be rewarded with meaningful interest, as it always has before the “new” post-2009 era of unsustainable debt.
It will be some time before interest rates increase and we return to an era where you get anything from a savings account. I recommend buying a stock for him – perhaps a share of Adobe, or Paypal, or Visa. It will turn into quite a bit of money for him!