We're Starting To Save Again

According to the latest figures, we're starting to save more. Alas, thanks to the savings paradox, this is both good and bad news...

During the housing boom which lasted from 1995 to 2007, we went on the biggest borrowing binge in British history. In fact, in the twelve years between September 1996 and September 2008, personal debt (including mortgages) more than tripled from £480 billion to £1,457 billion. Ouch!

What's more, the UK savings ratio (the proportion of our disposable income which we save) has declined dramatically. As you can see from the table below, the savings ratio turned negative in the first quarter of this year, which means that we spent all that we earned, plus a bit more:

The data show that the savings ratio declined for four quarters in a row, reaching a low of -1.1% in the first three months of this year. However, in the second quarter of 2008, it turned positive again, although we're still saving a pathetic £1 for £250 of take-home pay.

It's quite normal for the savings ratio to rise in troubled times, particularly during economic downturns and housing crashes. As the old saying goes, "When times are good, save. When times are bad, save harder". Indeed, during the last recession, the savings ratio peaked at 11.7% in 1992, a time when we saved more than one pound in every nine.

The savings paradox

Although I'm delighted that Britain is rediscovering the simple virtues of saving, it's not all good news. Indeed, while saving hard makes perfect sense for the individual, it can be disastrous if the whole nation gets the savings bug. This is because so much of our economy is built on credit (personal, corporate and government).

Thus, we have what's known as the `savings paradox', which is where increased thrift leads to lower consumer spending, reduced company profits (especially among retailers), rising unemployment and a deeper and longer downturn. So, when consumers tighten their belts and the savings ratio climbs, the UK economy tends to suffer.

Then again, it's not your job to worry about the entire nation. From a Darwinian, self-interested perspective, your goal is to survive the financial hurricane to the best of your ability. Of course, in troubled times, everyone needs a decent cash cushion to fall back on. So, don't let what could happen to your neighbours, family and co-workers put you off saving. It's very much in your personal interest to save for a rainy day.

Two savings tips

Ideally, I recommend that adults try to save a tenth (10%) of their pre-tax income. However, this is beyond the reach of many workers, so just try to save what you can. To make the most of your savings, aim to earn a high rate of interest and avoid tax (for example, by using a tax-free cash ISA).

Finally, keep your emergency fund somewhere where it's easy to dip into, such as an easy-access savings account. By doing this, you can be sure that your money is there when you need it most -- and not locked away in an account with too many strings attached!

More: Search for a superior savings account | The Smartest Savings Account In Britain | Who Stole Our Savings Habit?