The Interest Rate Effect on Private

Saving: Alternative Perspectives

Joshua Aizenman
University of Southern California and NBER
Yin-Wong Cheung
City University of Hong Kong
Hiro Ito
Portland State U.
ADBI 19th Annual Conference 2016
Implications of Ultra-Low and
The views expressed in this presentation are the views of the author and do not necessarily
reflect the views or policies of the Asian Development Bank Institute (ADBI), the Asian Negative Interest Rates for Asia
Development Bank (ADB), its Board of Directors, or the governments they represent. ADBI
does not guarantee the accuracy of the data included in this paper and accepts no responsibility December 1-2, 2016
for any consequences of their use. Terminology used may not necessarily be consistent with
ADB official terms.
ADBI, Tokyo, Japan
 Monetary Policy into Uncharted
Territory
In the aftermath of the GFC, UMP, such as QE
and ZIRP/NIRP were implemented by
advanced economies
The implementation of UMP has also created
uncertainty over the future direction of the
economies and the financial systems
Would an extremely low or negative interest-
rate policy lead to lower or higher C or S?
 The Interest Rate Effect
Conventional view: Substitution Effect
Lower interest rates would encourage
consumption at the present time, rather than
at the future time,
They lower the rewards for postponing
consumption
Negative interest rates are supposed to
penalize people if they postpone consumption
 But Is it Always the Case?
Alternative view: Income effect
Lower interest rates would encourage more
saving (lower consumption)
because the rate of return per financial
instrument is so low that people may try to
compensate by increasing their aggregate
amount of saving
 r and Saving in Post-GFC World
Spillovers of the GFC and following UMP
heightened the level of uncertainties, possibly
having impacts on saving behavior
Extremely low or negative interest rates may
signal uncertainty of future monetary or
financial conditions and thereby encourage
people for precautionary saving
Precautionary behavior can be exacerbated
for an economy with ageing population or
facing greater output volatilities
 In this paper
We investigate the link between interest
rates and private saving, and
Examine whether the interest rate effect
is dominated by the income (i.e.,
negative) or the substitution (i.e.,
positive) effect
 Preview
The substitution effect of r on p-saving is generally identified
The impact of r on private saving changes when the i is below
a relatively low level
Conditions such as output volatility, old dependency ratio, and
financial development affect the impact of r on private saving
Extremely high levels of output volatility could make the r
effect negative
In economies with high levels of old dependency, the income
effect associated with a low interest rate dominates
Economies w/ well- developed financial markets tend to face
the income effect
Estimate the Determinants of Private
Saving
yit 0 yit1 1rit X ' it Z ' it ui t it
yit = private saving/GDP
rit = real interest rate
X = endogenous variables
public saving
financial development (priv. credit/GDP)
credit growth
per capita income
Z = exogenous variables
young and old dependency ratios
public healthcare expenditure (% of GDP)
financial openness (Chinn-Ito)
output volatility
per capita income growth
 Is the interest rate effect is dominated by the income
(i.e., negative) or the substitution (i.e., positive) effect?

yit 0 yit1 1rit X ' it Z ' it ui t it

Apply System-GMM to an uneven panel of

135 countries from 1995 to 2014
Regress for FULL, IDC, LDC, EMG, Asia, Asian
EMG
Focus on 1
1> 0 Substitution effect
Lower r lower saving
1< 0 Income effect
Lower r higher saving
 Table 1: Determinants of Private saving System-GMM, 1995-2014
FULL IDC LDC EMG LATAM Asia Asia EMG
(1) (2) (3) (4) (5) (6) (7)
Private saving (t1) 0.390 0.250 0.360 0.484 0.366 0.704 0.672
(0.080)*** (0.078)*** (0.088)*** (0.094)*** (0.076)*** (0.088)*** (0.064)***
Public saving -0.443 -0.715 -0.317 -0.651 -0.634 -0.458 -0.364
(0.150)*** (0.130)*** (0.167)* (0.102)*** (0.125)*** (0.140)*** (0.137)***
Credit growth -0.041 -0.020 -0.034 -0.026 -0.012 -0.005 0.015
(0.012)*** (0.024) (0.014)** (0.017) (0.024) (0.017) (0.024)
Fin. development, -0.040 -0.022 -0.013 0.016 -0.085 0.014 0.140
HP-filtered (0.023)* (0.013)* (0.038) (0.047) (0.055) (0.033) (0.032)***
Income/capita level 0.091 0.205 0.103 0.041 0.066 0.024 0.006
(log, PPP) (0.028)*** (0.042)*** (0.031)*** (0.026) (0.036)* (0.018) (0.015)
Real interest rate 0.075 0.048 0.070 0.020 -0.054 0.080 -0.002
(0.045)* (0.193) (0.044) (0.052) (0.047) (0.040)** (0.058)
Old dependency -0.172 -0.206 -0.156 -0.268 -0.538 -0.259 0.136
(0.130) (0.191) (0.182) (0.199) (0.159)*** (0.122)** (0.334)
Young dependency 0.099 -0.348 0.147 -0.147 0.023 -0.092 -0.057
(0.098) (0.235) (0.119) (0.136) (0.177) (0.100) (0.076)
Health expenditure -1.321 -0.400 -1.748 -1.749 -0.206 -0.904 -3.592
(% of GDP) (0.486)*** (0.482) (0.488)*** (0.534)*** (0.493) (0.289)*** (0.903)***
Financial openness -0.009 0.017 -0.020 -0.007 0.059 0.012 -0.008
(0.021) (0.034) (0.022) (0.020) (0.016)*** (0.029) (0.024)
Output volatility -0.009 0.870 0.001 0.271 0.376 -0.150 -0.357
(0.109) (0.519)* (0.119) (0.198) (0.311) (0.294) (0.165)**
Income/capita growth 0.173 0.326 0.198 0.192 0.125 0.209 0.001
(0.058)*** (0.137)** (0.062)*** (0.081)** (0.068)* (0.091)** (0.081)
N 2,313 431 1,882 755 436 364 218
# of countries 135 23 112 42 24 21 11
Hansen test (p-value) 0.08 1.00 0.58 1.00 1.00 1.00 1.00
AR(1) test (p-value) 0.00 0.03 0.00 0.01 0.06 0.00 0.02
AR(2) test (p-value) 0.47 0.80 0.40 0.85 0.33 0.93 0.87
Notes: * p<0.1; ** p<0.05; *** p<0.01. The dependent variable is private saving as a share of GDP. The system GMM estimation
method is employed. Although the constant term is estimated, it is omitted from presentation. The subsample Asia includes Japan
and East and South Asian economies.
 The Level Effect of the Interest Rate?

We examine if low r or i has any impacts on the link

between r and the private saving rate
Any threshold impact of the level of r or i, or both on r?
We investigate whether and how low r and i have
impacts on private saving
yit 0 yit1 1rit 2 D rit 3Dit X ' it Z ' it ui vit it

A significant 2 would mean that the impact of r on

private saving changes when either r or i is below a
certain level
(a) Full Sample (1) (2) (3) (4) (5)

Threshold: real interest rate

-2% -1% 0% 1% 2%
1: Real interest rate 0.092 0.091 0.096 0.103 0.098
(0.078) (0.078) (0.084) (0.083) (0.084)
2:Real interest rate x D(real) -0.027 -0.034 -0.041 -0.046 -0.041
(0.078) (0.076) (0.081) (0.079) (0.079)
Threshold: nominal interest rate
0.5% 1% 1.5% 2% 2.5%
1: Real interest rate 0.074 0.077 0.078 0.074 0.079
(0.044)* (0.044)* (0.042)* (0.040)* (0.041)*
2:Real interest rate x D(nominal) 0.440 0.107 0.054 0.253 0.164
(0.230)* (0.163) (0.149) (0.128)** (0.127)
(b) Industrial (IDC) (1) (2) (3) (4) (5)
Threshold: real interest rate
-2% -1% 0% 1% 2%
1: Real interest rate 0.084 -0.051 0.071 -0.030 0.115
(0.205) (0.154) (0.201) (0.190) (0.265)
2:Real interest rate x D(real) 1.392 0.981 0.532 0.390 0.139
(1.082) (0.289)*** (0.349) (0.286) (0.289)
Threshold: nominal interest rate
0.5% 1% 1.5% 2% 2.5%
1: Real interest rate 0.134 0.070 0.073 0.044 0.071
(0.185) (0.225) (0.204) (0.204) (0.208)
2:Real interest rate x D(nominal) 0.420 0.421 0.400 0.434 0.492
(0.282) (0.234)* (0.221)* (0.231)* (0.237)**
(c) Developing (LDC) (1) (2) (3) (4) (5)
Threshold: real interest rate
-2% -1% 0% 1% 2%
1: Real interest rate 0.078 0.076 0.076 0.084 0.078
(0.082) (0.081) (0.087) (0.088) (0.089)
2:Real interest rate x D(real) -0.008 -0.014 -0.018 -0.025 -0.019
(0.081) (0.080) (0.083) (0.082) (0.083)
Threshold: nominal interest rate
0.5% 1% 1.5% 2% 2.5%
1: Real interest rate 0.069 0.073 0.074 0.069 0.074
(0.042) (0.043)* (0.041)* (0.040)* (0.040)*
2:Real interest rate x D(nominal) 0.503 0.060 0.017 0.205 0.160
(d) Emerging (EMG) (1) (2) (3) (4) (5)
Threshold: real interest rate
-2% -1% 0% 1% 2%
1: Real interest rate 0.023 0.043 0.046 0.009 -0.041
(0.082) (0.082) (0.087) (0.081) (0.081)
2:Real interest rate x D(real) 0.017 -0.008 -0.038 -0.013 0.044
(0.097) (0.093) (0.102) (0.091) (0.088)
Threshold: nominal interest rate
0.5% 1% 1.5% 2% 2.5%
1: Real interest rate 0.018 0.022 0.020 0.006 0.014
(0.052) (0.053) (0.053) (0.045) (0.046)
2:Real interest rate x D(nominal) 0.741 0.236 0.103 0.285 0.250
(0.403)* (0.174) (0.150) (0.120)** (0.130)*
(e) Asia (1) (2) (3) (4) (5)
Threshold: real interest rate
-2% -1% 0% 1% 2%
1: Real interest rate -0.023 -0.063 -0.050 -0.065 -0.057
(0.101) (0.107) (0.115) (0.111) (0.124)
2:Real interest rate x D(real) 0.288 0.282 0.238 0.269 0.227
(0.235) (0.237) (0.231) (0.217) (0.213)
Threshold: nominal interest rate
0.5% 1% 1.5% 2% 2.5%
1: Real interest rate 0.064 0.053 0.063 0.066 0.071
(0.038)* (0.037) (0.038)* (0.038)* (0.036)*
2:Real interest rate x D(nominal) -0.253 0.246 0.154 0.265 0.111
(0.458) (0.342) (0.317) (0.357) (0.285)
(f) Asian EMG (1) (2) (3) (4) (5)
Threshold: real interest rate
-2% -1% 0% 1% 2%
1: Real interest rate 0.037 0.030 0.021 -0.005 -0.046
(0.091) (0.100) (0.076) (0.079) (0.099)
2:Real interest rate x D(real) 0.053 -0.090 -0.106 0.034 0.069
(0.247) (0.321) (0.246) (0.156) (0.134)
Threshold: nominal interest rate
0.5% 1% 1.5% 2% 2.5%
1: Real interest rate 0.007 0.031 0.048 0.024 0.034
(0.058) (0.058) (0.053) (0.046) (0.048)
2: Real interest rate x D(nominal) 0.956 -0.134 -0.297 -0.541 -0.464
(0.247)*** (0.190) (0.159)* (0.123)*** (0.109)***
 So far, we have found
The real interest-rate effect tends to be positive, if
significant
The substitution effect tends to dominate the
income effect
Its magnitude can be influenced by the level of i
In the case of the Asian EMG group, the r effect has
become negative when i is lower than 2.5%.
Overall, the effect of r on private saving can depend
on the economic environment at large.
 The effect of r on private saving can depend on
the economic environment at large

yit 0 yit1 1rit 2r Wit 3Wit X ' it Z ' it ui vit it

Use interaction variables to explore the r

effect under alternative economic conditions
The impact of r can be conditional upon W:
output volatility
old dependency
financial development
 The effect of r on private saving can depend on
the economic environment at large

yit 0 yit1 1rit 2r Wit 3Wit X ' it Z ' it ui vit it

the marginal effect of r conditional on W:

1 2W
the marginal effect of W conditional on r
3 2r
 Table 3: Determinants of Private Saving, Interacting w/ Output Volatility
FULL IDC LDC EMG
(1) (2) (3) (4)
Private saving (t1) 0.367 0.264 0.339 0.506
(0.077)*** (0.063)*** (0.085)*** (0.081)***
Public saving -0.466 -0.688 -0.335 -0.625
(0.155)*** (0.125)*** (0.175)* (0.107)***
Credit growth -0.046 -0.019 -0.040 -0.029
(0.016)*** (0.024) (0.017)** (0.016)*
Fin. development, HP-filtered -0.041 -0.022 -0.014 0.021
(0.023)* (0.013)* (0.038) (0.047)
Income/capita level 0.095 0.200 0.104 0.038
(log, PPP) (0.023)*** (0.039)*** (0.026)*** (0.027)
Real interest rate 0.209 -0.373 0.193 0.116
(0.047)*** (0.290) (0.048)*** (0.125)
Old dependency -0.158 -0.175 -0.153 -0.241
(0.128) (0.185) (0.170) (0.185)
Young dependency 0.105 -0.314 0.145 -0.138
(0.083) (0.220) (0.098) (0.132)
Health expenditure -1.397 -0.448 -1.811 -1.677
(% of GDP) (0.432)*** (0.463) (0.471)*** (0.515)***
Financial openness -0.011 0.016 -0.021 -0.006
(0.019) (0.033) (0.020) (0.021)
Output volatility 0.021 0.539 0.030 0.269
(0.103) (0.479) (0.113) (0.176)
Output volatility x -2.262 21.430 -1.993 -3.012
Real interest rate (0.618)*** (7.094)*** (0.635)*** (3.089)
Income/capita growth 0.179 0.274 0.202 0.174
(0.060)*** (0.136)** (0.063)*** (0.081)**
N 2,313 431 1,882 755
# of countries 135 23 112 42
Hansen test (p-value) 0.07 1.00 0.60 1.00
AR(1) test (p-value) 0.00 0.02 0.00 0.01
AR(2) test (p-value) 0.46 0.99 0.42 0.83
Notes: * p<0.1; ** p<0.05; *** p<0.01. The dependent variable is private saving as a share of GDP. The system GMM
estimation method is employed. Although the constant term is estimated, it is omitted from presentation.
 Findings when W = output volatility

Full (LDC) results:

When the output volatility is less than 9.24
(9.68)%, the marginal r effect is positive (sub.
effect)
When output volatility is fairly high, r has
income effect
Output volatility would increase private saving
if r < 0.93 (1.5)%
 Findings when W = old dependency

Full (LDC) results :

When old dependency is greater than 15.3(16.1)%, the
marginal r effect is negative (income effect)
An aging economy would tend to have higher saving
when r falls
An economy with a higher level of old dependency
tends to have lower private saving
Its negative impact on private saving tends to be
smaller when r is lower
Lower r would give people in ageing populations less
incentives to dissave
 Findings when W = financial development

Full (LDC) results :

When financial development (i.e., PC/GDP) is greater than
31.5(27.9)%, the marginal r effect is negative (income effect)
An economy with more developed financial markets tend
to have higher saving when r falls
An economy with a higher level of financial development
tends to have lower private saving (less precautionary
saving)
Its negative impact on private saving tends to be smaller
when r is lower because agents would need to save more
to compensate for the low real-interest rate.
Table 4: Determinants of Private Saving, Interacting w/ Old Dependency
FULL IDC LDC EMG
(1) (2) (3) (4)
Private saving (t1) 0.407 0.238 0.372 0.511
(0.081)*** (0.077)*** (0.088)*** (0.077)***
Public saving -0.449 -0.718 -0.328 -0.643
(0.147)*** (0.133)*** (0.168)* (0.104)***
Credit growth -0.035 -0.019 -0.031 -0.026
(0.012)*** (0.023) (0.013)** (0.017)
Fin. development, HP-filtered -0.037 -0.023 -0.014 0.017
(0.022)* (0.014)* (0.038) (0.046)
Income/capita level 0.098 0.205 0.106 0.039
(log, PPP) (0.028)*** (0.041)*** (0.030)*** (0.026)
Real interest rate 0.220 -0.232 0.179 0.110
(0.064)*** (0.742) (0.057)*** (0.121)
Old dependency -0.117 -0.218 -0.112 -0.259
(0.123) (0.179) (0.173) (0.193)
Old dependency x -1.441 1.187 -1.110 -1.078
Real interest rate (0.531)*** (2.993) (0.467)** (1.074)
Young dependency 0.134 -0.344 0.168 -0.140
(0.095) (0.240) (0.113) (0.133)
Health expenditure -1.461 -0.400 -1.814 -1.658
(% of GDP) (0.473)*** (0.476) (0.480)*** (0.516)***
Financial openness -0.014 0.018 -0.023 -0.006
(0.021) (0.035) (0.022) (0.020)
Output volatility -0.024 0.892 -0.013 0.251
(0.107) (0.500)* (0.118) (0.191)
Income/capita growth 0.174 0.318 0.194 0.179
(0.058)*** (0.146)** (0.063)*** (0.080)**
N 2,313 431 1,882 755
# of countries 135 23 112 42
Hansen test (p-value) 0.12 1.00 0.73 1.00
AR(1) test (p-value) 0.00 0.03 0.00 0.01
AR(2) test (p-value) 0.37 0.56 0.33 0.83
Notes: * p<0.1; ** p<0.05; *** p<0.01. The dependent variable is private saving as a share of GDP.
The system GMM estimation method is employed. Although the constant term is estimated, it is
omitted from presentation.
 Table 5: Determinants of Private Saving, Interacting w/ Financial Development
FULL IDC LDC EMG
(1) (2) (3) (4)
Private saving (t1) 0.386 0.254 0.366 0.497
(0.081)*** (0.081)*** (0.087)*** (0.085)***
Public saving -0.418 -0.719 -0.300 -0.654
(0.148)*** (0.126)*** (0.163)* (0.105)***
Credit growth -0.040 -0.020 -0.033 -0.026
(0.012)*** (0.025) (0.014)** (0.017)
Fin. development, HP-filtered -0.035 -0.024 -0.011 0.012
(0.022) (0.016) (0.038) (0.048)
Financial Development x -0.314 0.101 -0.315 0.136
Real interest rate (0.120)*** (0.323) (0.161)** (0.301)
Income/capita level 0.092 0.204 0.103 0.035
(log, PPP) (0.028)*** (0.043)*** (0.031)*** (0.024)
Real interest rate 0.099 -0.085 0.088 -0.022
(0.041)** (0.314) (0.044)** (0.085)
Old dependency -0.186 -0.206 -0.156 -0.282
(0.129) (0.189) (0.178) (0.192)
Young dependency 0.100 -0.341 0.150 -0.165
(0.097) (0.228) (0.118) (0.132)
Health expenditure -1.305 -0.392 -1.696 -1.657
(% of GDP) (0.488)*** (0.490) (0.492)*** (0.486)***
Financial openness -0.011 0.017 -0.021 -0.003
(0.021) (0.035) (0.022) (0.020)
Output volatility -0.015 0.853 -0.010 0.282
(0.108) (0.519) (0.117) (0.197)
Income/capita growth 0.169 0.320 0.192 0.187
(0.059)*** (0.139)** (0.063)*** (0.080)**
N 2,313 431 1,882 755
# of countries 135 23 112 42
Hansen test (p-value) 0.07 1.00 0.63 1.00
AR(1) test (p-value) 0.00 0.03 0.00 0.01
AR(2) test (p-value) 0.47 0.80 0.36 0.82
Notes: * p<0.1; ** p<0.05; *** p<0.01. The dependent variable is private saving as a share of GDP. The system GMM
estimation method is employed. Although the constant term is estimated, it is omitted from presentation.
 Many of Asian economies are characterized by relatively well-
developed financial markets, and some of these economies are
also experiencing rapidly ageing populations
Figure 7: Triangle Charts
(a) Emerging markets (b) Non-EMG LDC (c) LATAM EMG

(d) ex-China Asian EMG (e) China (f) Hong Kong

Many Asian developing economies are distributed at lower
levels of the interest rate, below the 1.5% threshold
Figure 8: Private Saving and the Real Interest Rate for Asia and Others
50

China
Singapore
40

India Malaysia
Indonesia
Korea
30

Thailand Sri Lanka

EMG
Bangladesh LATAM EMG
H.K.
20

Non-EMG LDC
Philippines Pakistan
10

-4 -3 -2 -1 0 1 2 3
Real interest rate (%)
 Concluding Remarks
Baseline estimations generally affirm the
positive effect of r on private saving
The impact of the real interest rate on private
saving changes when the nominal interest rate
is below a relatively low level
Conditions such as output volatility, old
dependency ratio, and financial development
affect the impact of r on private saving
 Concluding Remarks
Extremely high levels of output volatility could
make the interest rate effect negative
When the real interest rate is below 1.5%,
greater output volatility would lead to higher
private saving in developing countries
In economies with high levels of old
dependency, the income effect associated with
a low interest rate dominates
The same applies to economies w/ well-
developed financial markets
 Concluding Remarks
Low-interest rate policies adopted by AEs to stimulus
their economies can yield contractionary effects on
developing countries through encouraging saving and
reducing consumption
Many of Asian economies are characterized by
relatively well-developed financial markets, and some of
these economies are also experiencing rapidly ageing
populations lower r can contribute to higher p. saving
An active low-interest rate policy in AEs can contribute
to keeping global imbalances perennial
Thank you!