The tumble in India’s savings rate needs to be reversed
- We need the old formula of fiscal discipline, an inflation vigil, sensible lending and overall macro stability
A farmer has to set aside a portion of the seeds from his harvest to be used for next year’s sowing. Let’s say he puts away 10% of his total output. That produces the same amount of crop next year. If he desires a higher output, then he needs to set aside a higher share of current output. This is the basic insight of the savings rate. What is saved for next year is what’s not consumed. From the aggregate production of this year, let’s call it the gross domestic product (GDP), the portion set aside (i.e. saved) is used as investment (sowing seeds) for future growth. Today’s savings translates into tomorrow’s GDP through a capital output ratio. This is Economics 101. The seeds for next year (i.e. investment) needed can also be borrowed or imported. In which case, the output next year has to factor repayments, interest obligations and exchange rates. Output is produced with a combination of seeds (capital) and the farmer’s own effort (labour). This is the basic growth model, attributed to Roy Harrod and Evsey Domar from the 1940s, and later embellished by Nobel laureate Robert Solow. The intuition that a high savings rate sustains high growth has been tested and confirmed across the world and has withstood all macroeconomic crises and business cycles. Even zero growth needs basic savings and investment to sustain a constant output.