Boosting Incentives for Saving...
...Is Smart Economics
From the halls of Congress to the smallest of town halls, elected officials love to spend taxpayer money. Indeed, if anyone is guilty of conspicuous consumption, it is the average politician.
This spending mentality affects tax policy as well. Many officials believe that consumption is what drives our economy forward. As a result, consumption tends to get taxed more lightly than do the returns on saving and investment. They forget that in the marketplace, one must first supply a good or service in order to be able to consume. Of course, an elected official’s misconception of the economic process is understandable given that in the political process, politicians get to spend a lot while supplying little of value.
But once it becomes clear how the economy actually functions, it also becomes apparent that saving is extremely important. Saving is defined in economic terms as current income that is not spent on current consumption. In turn, those savings are used to produce capital goods. That is, the savings pool is tapped by individuals and businesses to start up and expand enterprises.
At various times in recent decades, whether or not Americans save enough has been debated. Often cited is a low personal savings rate. However, it needs to be noted that this is a far too narrow measure. For example, it does not include savings, or retained earnings, by businesses. It also does not reflect rising values of investment portfolios, homes, pensions or businesses. As a result, the real savings picture in recent times has not been nearly as glum as one might think if only looking at the personal savings rate.
Still, it is critical to enhance incentives for saving in order to fuel entrepreneurship, investment and economic growth. In his proposed fiscal year 2005 budget, President George W. Bush has put forth some sound policy initiatives to encourage more saving.
The President wants to replace current IRA law with two new savings accounts. A Lifetime Savings Account would allow individuals to make annual nondeductible deposits of up to $5,000 annually. Distributions could be made tax-free at any time and for any purpose. That presents an opportunity for entrepreneurs to build up some savings that could be used to start up a business.
Also, individuals could deposit up to $5,000 annually in a Retirement Savings Account, with distributions allowed tax-free at age 58 or later.
In addition, the President’s proposal calls for rolling 401(k), SIMPLE 401(k), 403(b) and 457 retirement plan into Employee Retirement Savings Accounts. The proposal notes that current complexity “imposes substantial costs on employers, participants, and the government, and likely has inhibited the adoption of retirement plans by employers, especially small employers.” It makes sense to create a simplified, uniform set of rules.
By providing these enhanced incentives for saving, individuals will have greater opportunities to save for education, career and retirement purposes, while the economy will benefit from an expanded pool of savings from which investment can grow. Reducing the tax penalty on saving and investment is smart economics.
Raymond J. Keating serves as chief economist for the Small Business Survival Committee.
