Save Now, Invest Later

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August2009

01_

“Saving inflows from abroad can be beneficial if the country thatreceives those inflows invests them well. Unfortunately, that was notalways the case in the United States and some other countries.”—Ben Bernanke“I spent a lot of money on booze, birds, and fast cars. The rest I justsquandered.”—George Best

Not only did we spend beyond our means, but what we saved lost value, too. From vacationhouses to Pets.com to the Nikkei, the bubbles of the last two decades have burst. As we nurse our hangover, we are hungry to save more, but we have lost our appetite for investment. Before wecan make more intelligent choices for the future, we need a theory that accurately explains thepast. A natural impulse is to preach the need to consume less and save more. Another approach isto analyze the basis of investment.A basic fact of economics is that the sum of all savings and investment around the world must beequal.

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If you want to increase your savings, you must

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nd more investment opportunities (or awilling foreign dance partner). But how do you save when you don’t know where to invest? Thetraditional answer is not to worry about it and to let the bank managers sort it out, but whenthe global banking system has just been saved from its own excesses by taxpayer bailouts, oneis inclined to question the judgment of most banks. Perhaps the ideas that motivate investmentreally do matter after all. The Industrial Revolution, for example, was good, but building surplushouses was not.As Mr. Bernanke says, people need to invest in things of real value. When Mr. Best spent his money,at least he knew what he was getting. Now that the party is over, everyone wants to invest wisely,but the scope and nature of this challenge are not broadly understood. The problems are too globalto be cleaned up by micro-economic tweaks or better regulation. In fact, the developed world hasnearly ceased to form new physical capital. Perhaps the West counts on the immense deepeningof physical capital in China to power global growth; or perhaps the West believes its investment inintangible capital will have high economic returns.

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We argue that both ideas are mistaken. Indeed,the world is su

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ering from both the failure of old ideas and a dearth of new ones.

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. They must equilibrate in the sense of the GDP identity, Y=C+I+G. I is equal to S, savings,because all of the income (Y) in society must be either consumed (C), invested (I), or used bythe government (G). Economists differ on what to count as investment (for example, whethereducation is investment or consumption).

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. Intangible capital stock is primarily a nation’s human and technological capital. We definetangible and intangible more fully below.

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This is not a solicitationor recommendation to buy, sell, or hold any securities or commodities. Certain statements contained herein may be forward-looking. Information contained herein is believed to be accurate and/or derived from sources which Clarium Capital ManagementLLC believes to be reliable, but such information may not be independently confirmed. Graphics contained herein are purelyrepresentational and do not reflect any hypothetical return from an investment in the depicted instruments.

Save Now,Invest Later

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TAXONOMY OF SAVINGS AND INVESTMENT

In order to think clearly about how people form expectations and how these expectations a

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ectsavings demand and investment demand, we need new terminology. Our terminology describesindividuals’ and societies’ demand to save and demand to invest for given interest rates. We willuse this terminology to categorize the beliefs that determine the amount of savings on one sideof the scale, and both the amount and type of investment on the other. These terms will allow usto distinguish four archetypal societies that match the recent behavior of the largest economiesin the world. In each archetype, a fundamental question has emerged. So far, none have beenanswered.

SAVINGS DEMAND

First, let us develop a stylized model of savings demand for a given interest rate.A

cautious society

will save more for a given interest rate because it does not value currentconsumption much more than future consumption and because it has doubts about its futureincome stream. A cautious society has a high demand for savings.Conversely, a

consumerist society

will save less for a given interest rate because it values currentconsumption much more than future consumption and is sanguine about its future income. Itsdemand for savings is low.

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These terms are meant to describe the demand to save for all parts of society; the intentionale

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ects of governmental policies also a

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ect the supply of savings in aggregate.

INVESTMENT DEMAND

Second, let us develop a stylized model of investment demand for a given interest rate. Society’sdemand to invest is a function of con

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dence in the future income stream of investment (whicha

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ects the quantity of investment demanded) and personal preferences (which a

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ect the type of investment demanded).A

tangible society

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seeks to invest by adding to the physical capital stock. By physical capital stockwe primarily mean things measured in the national accounts of given countries as

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xed capitalformation. Obviously, tangible investment requires intangible know-how. The construction of anoil re

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nery, for instance, demands a great deal of technological expertise.

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. While our model could have derived savings demand from consumption preferences andincome certainty independently, we derive our model from a union of these two notions for easeof analysis.

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. We focus on the supply of savings and the type of investment demanded for pragmatism’ssake. While tangible societies generally have empirically higher rates of investment thanintangible societies, this empirical reality does not describe a more fundamental truth. Muchof this difference is simply definitional: for example, the treatment of education and health carespending. Other examples include the failure of the Bureau of Economic Analysis to include R&Das capital expenditure in the national accounts of the United States.

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An

intangible society

seeks to invest by adding to human capital or to technological capital. Whereasthe tangible society is most concerned with solving today’s problems with today’s technologies,the intangible society aims to expand the technological frontier.

MACRO ARCHETYPES

If we map our concepts onto real societies, we can begin to predict whether a given society islikely to be a net demander or a net supplier of capital to the rest of the world.

THE POST-INDUSTRIALIST

That Japan should be the archetypal cautious-intangible economy seems counterintuitive.

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Howcould one of the world’s major manufacturing and exporting countries be considered intangible?The cautiousness of Japanese savers is not matched by an investment demand that allows thissavings to be used domestically. The previous model has not failed; its very success has spawnedtremendous competition from less developed economies. Some of Japan’s businesses havebene

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tted from this regional growth, while others have been harmed, but the winners have noto

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set the decrease in capital formation in the housing, commercial real estate, and lower-value-added sectors. To increase its investment at home, Japan needs a new national business plan. At thesame time, as certainty about the previous model has fallen away,

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gure 1 shows that Japan hasbegun to look more and more like the United States. A post-industrial society is, by de

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nition,an intangible society.

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. The following analysis excludes Japan’s serious demographic challenge from a capitalformation perspective. We ignore this to focus on the relative difference between savingsdemand and investment demand, which, while related to demography, is not driven by it.

TangibleIntangibleConsumeristCautious

Chinese society in the era of capitalist growth.

Can China’s investment machine power the developed world onward?

Asset-based societies in the era of the housing and leverage bubble.

Can Americans ﬁnd a home for the investment previously used in housing?

Japanese society in the Lost Decadeand the current crisis.

What will Japan do now that theworld no longer demands its savings?

American society during the Internetbubble and at the cusp of thefuture.

Will the intangible capital stock of the U.S. actually increase?

CASTLES

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THE

SKY THE

MIRACLE THE

POST

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INDUSTRIALISTTHE

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