Another Reason Why the Middle Class and the Velocity of Money Are in Terminal Decline

January 20, 2016

This has three extremely negative consequences.

In response to a recent post on the structural decline in the velocity of money, correspondent Mike Fasano described a key dynamic in both the decline of money velocity and the middle class.

"There is another reason for falling velocity. People like me who have saved all their lives realize that they their savings (no matter how much) will never throw off enough money to allow retirement, unless I live off principal. This is especially so since one can reasonably expect social security to phased out, indexed out or dropped altogether. Accordingly, I realize that when I get to the point when I can no longer work, I'll be living off capital and not interest. This is an incentive to keep working and not to spend."

Thank you, Mike, for highlighting the devastating long-term impact of the Federal Reserve's zero-interest rate policy (ZIRP): with the real (i.e. adjusted for inflation) return on savings near zero (or even negative, for those who have to pay soaring rents, healthcare insurance premiums, college tuition, etc.), those saving for retirement are losing the Red Queen's Race: no matter how much they save, the income will be too paltry to support retirement.

This has three extremely negative consequences. Those seeking a return above zero are forced to put their savings at risk in boom-and-bust markets that tend to reward only those who get into the bubble expansion early and exit early.

These boom-and-bust markets tend to savage the assets of the middle class when they blow up, but do little to rebuild these assets in the bubble expansion phase, as prudent investors who were burned in the previous bubble bust shun risk assets.

The second negative consequence is the structural pressure on spending as those saving for retirement must sacrifice current spending to pile up capital to spend during retirement. No wonder the velocity of money is in free-fall--everyone hoping to retire on more than cat food has to set aside more of their earnings because they cannot count on any future earnings on capital.

The third consequence is the destruction of middle class retirement. When a $500,000 nestegg earns a miserable $15,000 a year (3% annual yield), saving enough to generate a middle class income in retirement is beyond the reach of what's left of the middle class.

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