Sunday, 8 March 2009

Mick's law of savings - a thought experiment

Following on from my earlier post "Savings" - what they are and what they're not I'd like to propose Mick's law of savings and illustrate how it can not be broken, with a thought experiment.

Mick's law of savings - "Savings are a zero sum game, you can't have everyone save at the same time".

Now, an immediate counter argument to this law would be the following - "surely there is nothing to stop everyone is a society keeping a pile of spare cash under the mattress - therefore everyone is saving therefore Mick's law is FALSE - QED". Now my answer to this would be that it is an imagined or artificial form of saving that will not work. And to illustrate why I have developed the following thought experiment:

Imagine that it has been arranged that 10,000 sterile people that are all 20 years old are placed on an island that is separated from the rest of the world. Each one is given a sum of money to trade with. When they get to the island each person specializes making whatever it is that they have the skills to make and they all trade with each other using the money that they were given. Now imagine a particular islander, lets call him Tom. Say he is a carpenter and makes stuff out of wood to trade with other people for food and whatever else he needs to live. One day he has a thought, he realizes that when he becomes elderly, he's going to be weaker and slow down. He won't be able to make so much stuff that he can trade for food etc. So he decides to save a certain fraction of his money earnings under the mattress for his old age. Let us also imagine that Tom is the only person that had this realization and he didn't tell anyone else. Now fast forward a few decades... Tom is now 80 years old (as are all the other islanders). Tom is now in a much better state than the rest of the population. He can use his saved money to buy extra stuff to make sure he can keep his standard of living just as high as it was when he was younger. This state of affairs is all fine and Mick's law of savings has not been broken because only one person on the island was saving.

Now lets try and break Mick's law...

In this scenario Tom has the same realization about his old age, but this time he tells everyone else. This time everyone on the island decides to save for their old age. They're all worried that when they slow down they won't be able to keep up their standard of living unless they save.... now you can imagine what's coming... fast forward a few decades... now everyone is 80 years old. everyone has slowed down and is producing less stuff per day. Its easy to see that on average everyone's standard of living has gone down in old age. Everyone thought they were saving to prop-up their future lifestyles - but they were deluding themselves. They were trying to break Mick's law... but failed.


  1. Your thought experment is interesting. But it rules out the possibility that savings could take real form (real assests) in stead of financial. Suppose everyone (along with Tom) saves his clothes (in stead of wearing and tearing them) under his mattress. At the age of 80, everyone should have more clothes. Mick's law is broken:)

  2. Yes you are absolutely right. I had thought of that before - but forgot to mention it. Maybe I need to add a proviso to micks law about it not applying *real* savings - i.e. real stuff, not money, that gets put aside. However it should be noted that *real* savings are very inefficient because you have to A) pay for storage B) worry about theft C) worry about decay, e.g. rust etc and finally D) redundancy - if you'd saved that old 1980's IBM PC would you be delighted to get it out of storage and be using it now?

  3. Just two comments: 1)Regarding your worries about real asests, we can also have real savings that are productive (like accumilating physical capital stock to be used as input). 2)The fact that net financial claims should be zero is not new. It is one of general equilibrium conditions that we impose for markets to clear.

  4. I'd like to take issue with point 2. You say "The fact that net financial claims should be zero is not new", but presumably you're talking about financial claims in the entire economy. But my claim is specifically about savings, which is only a subset of economic activity. I should also point out that Micks law *can* be broken in purely monetary terms. Everyone *can* put some money under the mattress simultaneously - its just that in terms of real goods we will later find out that their "savings" have failed to achieve their desired effect.