Saving identity
The saving identity or the saving-investment identity is a concept in
This is an "identity", meaning it is true by definition. This identity only holds true because investment here is defined as including inventory accumulation, both deliberate and unintended. Thus, should consumers decide to save more and spend less, the fall in demand would lead to an increase in business inventories. The change in inventories brings saving and investment into balance without any intention by business to increase investment.[3] Also, the identity holds true because saving is defined to include private saving and "public saving" (actually public saving is positive when there is budget surplus, that is, public debt reduction).
As such, this does not imply that an increase in saving must lead directly to an increase in investment. Indeed, businesses may respond to increased inventories by decreasing both output and intended investment. Likewise, this reduction in output by business will reduce income, forcing an unintended reduction in saving. Even if the end result of this process is ultimately a lower level of investment, it will nonetheless remain true at any given point in time that the saving-investment identity holds.[3]
Algebraic statement
Closed economy identity
In a
This means that the remainder of aggregate output (), after subtracting consumption by individuals () and government (), must equal investment ().
However, it is also true that:
T is the amount of taxes levied. This equation says that saving () is equal to
Investment as equal to savings is the basis of the investment-savings theory.
Open economy identity
In an open economy, a similar expression can be found. The national income identity is:
In this equation, is the balance of trade (exports minus imports). Private saving is still , so again combining (by solving for on one side and equating) gives:
Intended and unintended investment
In the above equations, is total investment, both intended and unintended (with unintended investment being unintended accumulation of inventories). With this interpretation of , the above equations are
If is redefined as only intended investment, then all of the above equations are no longer identities but rather are statements of equilibrium in the goods market.
Views from classical macroeconomic theorists
Adam Smith
David Ricardo
To understand why Ricardo’s view of the saving-investment identity differed from Smith’s, one must first examine Ricardo’s definition of rent. This rent adds no new value to society, but since land-owners are profit seeking, and since population is increasing in this time of growth, land that yields beyond the value of sustenance for workers is sought out and the return on those pieces of land suffers and lower rent. This is the basis for what Ricardo believed about the saving-investment identity. He agreed with Smith that parsimony and saving was a virtue, and that saving and investment were equal, but he introduced the notion that returns diminish as population decreases. The diminished rate of return results in something Ricardo calls the stationary state, which is when eventually a minimum profit rate is reached at which new investment (i.e., additional capital accumulation) ceases. As long as profits are positive, the capital stock is increasing, and the increased demand for labor will temporarily increase the average wage rate. But when wage rates rise above subsistence population increases. A larger population requires a greater food supply, so that, barring imports, cultivation must be extended to inferior lands (lower rent). As this occurs, rents increase and profits fall, until ultimately the stationary state is reached.[7]
References
- ISBN 0-393-96544-9.
- ^ ISBN 1-4020-7146-9.
- ^ ISBN 978-0-7167-9956-6.
- ^ CBO-An Update to the Economic Outlook: 2018 to 2028-Retrieved November 12, 2018
- ^ Smith, Adam (1776). An Inquiry into the Nature and Causes of the Wealth of Nations. London: W. Strahan and T. Cadell.
- ^ Smith, Adam (1776). An Inquiry Into the Nature and Causes of the Wealth of Nations (PDF). London, England: W. Strahan and T. Cadell. pp. 62–64.
- ISBN 0865979650.