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					     The Disappearing Household Financial Surplus—
     An Analysis of the Recent Plunge in Saving Rate
                                          by Koichi Haji and Yasuhide Yajima
                                               Economic Research Group
                                                      haji@nli-research.co.jp

                                                     yyajima@nli-research.co.jp




1.   Saving Rate Plunge Leads to Unprecedented Household Deficit

The collapse of Japan’s bubble economy has eradicated many myths about the economy. The
latest one pertains to Japan’s high household saving rate and abundance of domestic funds.

At the individual household level, financial deficits are not unusual; for example, home
purchases and other large expenditures are typically financed by debt. The household sector
as a whole, however, normally generates a financial surplus, since consumption spending and
residential investment usually do not exceed annual income. The surplus is channeled into
saving accounts, financial assets such as stocks and bonds, and cash on hand. In contrast,
the corporate sector normally experiences a financial deficit. Companies constantly demand
financing for their capital investment and other needs, and thus rely on the household
surplus either indirectly by borrowing from financial institutions, or directly by issuing
stocks and bonds.

However, in the post-bubble economy, an anomaly has occurred since the late 1990s in which
companies have actually experienced a financial surplus. Moreover, in 2003 households
experienced an unprecedented financial deficit amounting to one trillion yen (Figure 1).


          Figure 1 Household Sector’s Unprecedented Financial Deficit in 2003
                      (\ trillion)
                        60

                        50                  Calculated from 68SNA
                                            Calculated from 93SNA
                        40

                        30

                        20

                        10

                          0

                       -10
                              64     67   70    73     76   79       82   85   88   91   94   97   00   03
                                                                                                     (Year)
               Source: Bank of Japan, Flow of Funds Accounts.




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The household deficit is not caused by a growing household demand for funds, but by the fact
that savings have shrunk. In fact, the saving rate of Japanese households has plummeted in
recent years. According to SNA data (System of National Accounts), the saving rate has
trended downward since 1970, but still remained above 10% as late as fiscal 1999 (Figure 2).


                                          Figure 2 Household Saving Rate
                            30%


                            25%


                            20%


                            15%


                            10%                 Family Income & Expenditure Survey
                                                68 SNA
                             5%                 93 SNA


                             0%
                                  1955   1960   1965     1970   1975     1980    1985   1990   1995    2000
                 Note: The Family Income and Expenditure Survey data pertains to workers’ households with two or more persons.
                 Sources: Cabinet Office, Annual Report on National Accounts; Ministry of Public Management, Home Affairs, Posts
                            and Telecommunications, Annual Report on the Family Income and Expenditure Survey.



However, by fiscal 2002, the saving rate had plunged to 6.2%, falling even further in 2003.
And as savings dwindled, the household financial balance was thrown into deficit.




2.    Saving Rate’s Decline Not Fully Explained by Aging

Over the long term, the aging of Japan’s population structure plays a major role in reducing
the saving rate. Economists have long predicted an impending household financial deficit as
the proportion of elderly persons grows, since retirement life is financed out of accumulated
savings. However, the financial deficit was not predicted to occur for another ten to twenty
years. According to population projections by the National Institute of Population and Social
Security Research, the ratio of elderly persons aged 65 and over in the population will grow
from 17.4% in 2000 to 35.7% in 2050. Considering that the ratio was 12.1% in 1990, aging
has progressed rapidly over the past decade, but not inordinately in the past few years. Thus
aging by itself does not explain the saving rate’s sharp plunge since 1999.1

Looking ahead, aging is predicted to accelerate as the baby-boom generation enters old age in


1 In contrast to SNA data, the Family Income and Expenditure Survey data shows only a moderate decline in the saving
rate, which still remains high. This is due to differing statistical conventions: (1) while the Family Survey expresses the
saving rate of workers’ households, SNA data covers all households including unemployed households with a negative
saving rate, and (2) SNA data treats imputed rent of owner-occupied homes as consumption, which reduces the calculated
saving rate. Adjusted for these differences, the Family Survey would also show a declining saving rate.


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the 2010s (Figure 3). Thus if aging is the primary cause of the saving rate’s recent sharp
decline, we can expect the household deficit to expand rapidly in the future. But as explained
below, the saving rate’s recent decline can also be attributed to a combination of three other
factors: (1) decline in saving rate of elderly households, (2) decline in saving rate of
working-age households, and (3) statistical issues and the perception gap of households.


                         Figure 3 Ratio of Elderly Persons in the Population
                         40%

                         35%

                         30%

                         25%

                         20%

                         15%

                         10%

                          5%

                          0%
                            1960      1970      1980     1990      2000    2010   2020    2030     2040      2050

               Source: National Institute of Population and Social Security Research, Population Projections for Japan:
                         2001-2050, January 2002.




3.   The Plunging Saving Rate of Elderly Households

Since households with nonworking elderly householders must consume out of savings, their
saving rate as measured by the Family Survey has always been significantly negative. Since
2000, however, the saving rate has turned even more sharply negative (Figure 4).


                     Figure 4 Saving Rate of Nonworking Elderly Households
                         0%


                        -5%


                       -10%


                       -15%

                                   Householder age 60+
                       -20%
                                   Householder age 65+
                                   Elderly household (see below)
                       -25%        Elderly couple: husband 65+, wife 60+
                                   Elderly couple: husband & wife 65+
                       -30%
                               1996          1997      1998     1999       2000    2001     2002          2003

               Note: For elderly households, householder is either a man age 65+ or woman age 60+, with at least one other person age 65+.
               Source: MPMHAPT, Annual Report on the Family Income and Expenditure Survey.




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These households have suffered cuts in social security benefits, while their social insurance
premiums and healthcare expenses have risen—specifically, the eligibility age for the old-age
welfare pension (fixed portion, for men) is being gradually raised from fiscal 2001, the
long-term care (LTC) insurance premium was introduced in fiscal 2000, and out-of-pocket
expenses for health insurance and LTC insurance have risen (Figure 5). These reforms have
reduced the disposable income of nonworking elderly households, forcing them to consume
more out of savings and reducing the saving rate.


                 Figure 5 Social Insurance Premiums & Healthcare Expenses
                       \35,000          Healthcare expense (left)                                  \220,000
                                        Social insurance premium expense (left)
                       \30,000          Social security benefit income (right)
                                                                                                   \215,000

                       \25,000
                                                                                                   \210,000

                       \20,000
                                                                                                   \205,000
                       \15,000

                                                                                                   \200,000
                       \10,000

                                                                                                   \195,000
                        \5,000


                           \0                                                                      \190,000
                                 1995   1996   1997    1998    1999   2000    2001   2002   2003

               Note: For households with nonworking householder age 60 or older.
               Source: MPMHAPT, Annual Report on the Family Income and Expenditure Survey.



The eligibility age for the old-age pension (fixed portion) was raised from 60 to 61 in fiscal
2001. Thus persons turning 60 after April 2001 must wait another year to receive benefits. In
Figure 6, if population changes are not considered, raising the eligibility age to 61 reduced
income in 2001 by the amount of the shaded triangle; the reduction in income doubled from
fiscal 2001 to 2002, and remained constant in fiscal 2003. As a result, the annual change in
saving rate was large and negative in fiscal 2001 and 2002, and smaller in 2003. When the
pension eligibility age is raised to 62 in fiscal 2004, we will again see the negative impact on
income double in fiscal 2005. Thus the saving rate may dip again in the next two years.




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          Figure 6 Effect of the Rising Eligibility Age for the Old-Age Welfare Pension

                                               Eligibility
                 Date of birth                                FY 99     2000     2001    2002     2003     2004     2005     2006   2006   2007   2008
                                                  age

     April 2, 1940      ~    April 1, 1941           60
     April 2, 1941      ~    April 1, 1942           61                                                        Delayed benefit start
     April 2, 1942      ~    April 1, 1943           61
     April 2, 1943      ~    April 1, 1944           62
     April 2, 1944      ~    April 1, 1945           62                Benefit start age 60
     April 2, 1945      ~    April 1, 1946           63
     April 2, 1946      ~    April 1, 1947           63
     April 2, 1947      ~    April 1, 1948           64
                     Source: Ministry of Health, Labor and Welfare



Moreover, since elderly households have greater financial wealth than working-age
households, they are subject to larger wealth effects that boost the propensity to consume,
such as from an increase in real financial wealth due to deflation, or growth in liquidity on
hand due to the maturing of the massive amount of postal savings time deposits from 2000
(Figure 7).


         Figure 7 Outstanding Savings by Age of Householder (all households, 2002)
                             (\ million)
                             6.0


                                                                                                                     4.915
                             5.0

                                                 Postal savings (time deposits)
                             4.0                                                                            3.875


                                                                                                   3.075
                             3.0                                                          2.678


                             2.0                                                  1.85
                                                                         1.491
                                                               1.242
                                                      1.074
                             1.0
                                             0.512
                                    0.094
                             0.0
                                    ~24      25~29 30~34 35~39 40~44 45~49 50~54 55~59 60~64                         65~ (Age)

                     Source: MPMHAPT, Survey of Saving Trends.




4.   Decline in Saving Rate of Working-Age Households

By comparison, the Family Survey indicates that saving rates of working-age households of
all age groups have as yet not declined as drastically as those of nonworking elderly
households (Figure 8).




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                                 Figure 8 Saving Rate by Age of Householder
                           40%

                           35%

                           30%

                           25%

                           20%

                           15%                                                           Age ~29
                                                                                         30~39
                           10%                                                           40~49
                                                                                         50~59
                            5%

                            0%
                                 85 86   87 88    89 90   91   92    93   94   95 96   97 98 99    00 01     02   03

               Source: MPMHAPT, Annual Report on the Family Income and Expenditure Survey.



However, we must note that the Family Survey actually covers only workers’ households,
whose householders are employed and earn income—that is, working-age households who
are unemployed or nonworking are omitted. This omission has become increasingly
important as the unemployment rate rises in the post-bubble recession, particularly among
younger age groups (Figure 9). In addition, indications are that the saving rate of
nonworking households under age 65 has deteriorated more than that of nonworking elderly
households.


                                  Figure 9 Unemployment Rate by Age Group
                     14%
                                                                                                       Total

                     12%                                                                               15~19
                                                                                                       20~24
                     10%                                                                               25~29
                                                                                                       30~34
                      8%
                                                                                                       35~39
                                                                                                       40~44
                      6%
                                                                                                       45~49
                      4%                                                                               50~54
                                                                                                       55~59
                      2%                                                                               60~64
                                                                                                       65+
                      0%
                           1980            1985           1990             1995          2000

               Source: MPMHAPT



Turning next to the Public Opinion Survey on Household Financial Assets and Liabilities
(Central Council for Financial Services Information), we find that while the average holding
of financial assets has increased moderately among households with such assets, the
proportion of households without any savings has grown sharply in recent years (Figure 10).




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                                           Figure 10 Households with Savings
                             100%                                                                                     0.8% did not
                                                                                                                      respond
                              95%

                                                                                                                      21.8% have
                              90%
                                                                                                                      no savings

                              85%


                              80%


                              75%
                                                                                                                      77.4% have
                                                                                                                      savings
                              70%
                                    89    90    91   92   93    94   95   96   97   98    99   00   01    02     03

              Source: Central Council for Financial Services Information, Public Opinion Survey on Household Financial Assets and Liabilities.



As to why savings have decreased, a growing percentage in the 1990s cites a decrease in
regular income (Figure 11). Thus while some working-age households are steadily increasing
their financial assets, a growing proportion of households is saving less or consuming more
out of savings due to unemployment and corporate restructuring.2


                                         Figure 11 Why Savings Have Decreased
                          70%
                                                                                                         Ordinary income
                                                                                                         decreased
                          60%
                                                                                                         Purchased
                                                                                                         land/housing
                          50%                                                                            Purchased durable
                                                                                                         goods
                          40%                                                                            Children's educational,
                                                                                                         marriage expense
                                                                                                         Travel or leisure
                          30%                                                                            expense
                                                                                                         Decrease in stock or
                          20%                                                                            bond portfolio
                                                                                                         Number of dependents
                          10%                                                                            increased
                                                                                                         Other
                           0%
                                89         91        93        95    97        99    01        03

              Source: Central Council for Financial Services Information, Public Opinion Survey on Household Financial Assets and Liabilities.




5.    Statistical Issues and the Perception Gap of Households

Three SNA accounting conventions have tended to exaggerate the saving rate’s decline in
recent years, adding to the perception gap of households in the Family Survey. First, for
deposits such as postal savings time deposits, where principal and interest are payable in full
at maturity, SNA data counts the interest income accrued every year. However, the



2 Deflation can affect the saving rate in several ways. One is by causing deflationary expectations, which restrain present

consumption and boost the saving rate. However, wealth effects are more pronounced. By increasing the real value of
outstanding financial assets, deflation can stimulate consumption and decrease the saving rate. But deflation can also
produce a negative wealth effect by decreasing real asset prices of land and stocks.


NLI Research                                                              7                                                          2004.06.03
withholding tax uses a cash basis approach on the full amount at maturity. As a result, when
a massive amount of postal savings time deposits matured in fiscal 2000 and 2001, tax
payments surged, reducing disposable income and causing the saving rate to be
underestimated (Figure 12).


                           Figure 12 Interest Income (from withholding tax data)
                           (\ trillion)
                            5.0



                            4.0



                            3.0



                            2.0



                            1.0



                            0.0
                                     1996       1997         1998         1999   2000   2001      2002

                   Source: National Tax Agency



However, if the withholding tax on interest income of time deposits is recalculated on an
accrual basis, we find that saving rates published by the government are overestimated by
0.2% until fiscal 1999, and underestimated by approximately 1% in fiscal 2001 when the
massive amount of time deposits reached maturity (Figure 13).3


                    Figure 13 Effect of Income Withholding Tax on the Saving Rate
                            15 %                                                                     0.4 %

                            14 %                                                                     0.2 %

                            13 %                                                                     0.0 %

                            12 %                                                                     -0.2 %

                            11 %                                                                     -0.4 %

                            10 %                                                                     -0.6 %

                             9%             Savings rate (left)                                      -0.8 %
                                            Revised savings rate (left)
                             8%                                                                      -1.0 %
                                            Revision amount (right)
                             7%                                                                      -1.2 %

                             6%                                                                     -1.4 %
                                      1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 (FY)

                   Source: Calculated by NLI Research Institute.



Second, under current SNA conventions, the Employees’ Pension Fund (EPF) and
Organization for Workers' Retirement Allowance Mutual Aid (Kintaikyo) are treated as


3   Another statistical discrepancy is that in SNA and flow of funds data, the household sector includes sole proprietorships.


NLI Research                                                          8                                          2004.06.03
pension funds, and their reserves as financial assets of households. The recent surge in EPF
plan terminations has caused pension reserves to shrink, pushing down the saving rate
derived in SNA data (Figure 14). Economically, the pension benefit rights of households is
equivalent to direct ownership of the same amount of financial assets. However, unlike
directly held financial assets, when corporate pension funds decrease, the decrease is not
immediately recognized by households as a decrease in savings, and thus unlikely to alter
their consumption behavior.


                                 Figure 14 Number of EPF Plan Terminations
                         (No. of funds)
                          80
                                                                                               73
                          70

                                                                                        59
                          60
                                                                                                         53
                          50

                          40

                                                                                  29
                          30

                          20                                           17
                                                                            15
                                                                12
                          10
                                                            5
                                  0       0   1      1
                             0
                                 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 (FY end)

               Source: Pension Fund Association, Basic Data Regarding Corporate Pensions.



A third factor contributing to the recent decline in saving rate is that households apparently
fail to perceive interest and dividend income as part of disposable income. Declining interest
rates in the post-bubble era have reduced interest income, and the resulting decrease in
disposable income has driven down the saving rate derived in SNA data (Figure 15).


                         Figure 15 Trend in Property Income of Households
                       (\ trillion)
                                                                                         Rent
                        60                                                               (receivable)
                        50
                                                                                         Property income
                        40                                                               attributed to insurance
                                                                                         policyholders
                        30                                                               Dividends

                        20
                                                                                         Interest
                        10                                                                (receivable)

                         0                                                               Interest
                                                                                          (payable)
                       -10

                       -20                                                               Net property
                                                                                         income
                       -30
                             1990     1992    1994       1996   1998    2000     2002 (FY)

               Source: Cabinet Office




NLI Research                                                    9                                                  2004.06.03
However, compared to SNA data, asset (property) income in the Family Survey comprises a
much smaller part of the reported disposable income, suggesting that households essentially
have little awareness of interest income. If households fail to perceive the decrease in
interest income and its impact on disposable income, they will maintain the same spending
behavior. This helps explain why the saving rate has not decreased in the Family Survey
despite indications to the contrary in SNA data.




6.   Aging Will Reduce Saving Rate in the Future

As the benefit eligibility age for public pensions is gradually raised from 60 to 64, we predict
that the saving rate will drop in the medium term as the affected age group consumes more
out of savings. However, the overall impact on the nation’s saving rate may be mitigated by
the following factors: (1) working-age generations will expect pension benefits to decrease
and thus save more, and (2) the rising benefit eligibility age will encourage people to
postpone retirement, reducing the growth of nonworking elderly households who consume
out of savings.

For example, in the Public Opinion Survey on Household Financial Assets and Liabilities,
the two largest concerns about retirement are that savings are inadequate, and that pension
and insurance benefits are insufficient (Figure 16). Indeed, if public programs attempted to
ensure adequate pension, health and long-term care benefits for the elderly, working-age
generations would be overburdened to the point of risking systemic collapse. Thus in the
future, the burden of preparing for retirement and old age will increasingly rest on
individuals.


     Figure 16 Retirement Concerns (householder under age 60, multiple response)
                      80 %                                                                 Insufficient
                                                                                           savings
                      70 %
                                                                                           Insufficient lump-
                                                                                           sum retirement
                      60 %                                                                 payment
                                                                                           Insufficient
                      50 %                                                                 pension &
                                                                                           insurance benefits
                      40 %                                                                 Inflation may
                                                                                           deplete financial
                                                                                           resources
                      30 %                                                                 Unable to save for
                                                                                           retirement out of
                      20 %                                                                 present income
                                                                                           No prospect of
                      10 %                                                                 income from
                                                                                           remployment
                                                                                           Can't count on aid
                       0%                                                                  from children
                             94    95    96    97    98    99    00   01    02    03

           Source: Central Council for Financial Services Information, Public Opinion Survey on Household Financial Assets and Liabilities.




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One factor behind the decrease in savings is that even though the economic recession has
caused incomes to fall, households have difficulty reining in consumption any further.

The survey also found that the target level of savings has not decreased significantly. This
suggests that households are still strongly inclined to save, and that the saving rate may rise
as household incomes improve.


                                          Figure 17 Target Level of Savings
                       (\ million)
                        30


                        25


                        20


                        15


                        10


                         5


                         0
                             78      80    82   84    86    88    90    92     94    96     98    00    02


           Source: Central Council for Financial Services Information, Public Opinion Survey on Household Financial Assets and Liabilities.



Moreover, if the economy can shed the post-bubble doldrums and achieve a sustained
recovery, rising interest rates and dividends will boost the asset income of households, while
unemployment will decline. And if ultra-low interest rates helped drive down the saving rate
in the past by reducing interest income, rising interest rates will work to pull up the saving
rate. Thus in the medium term, statistical factors understating the saving rate will vanish,
and if the economy recovers and deflation ends, we fully expect the saving rate to rise and
restore the household financial surplus.

However, these factors will only delay the inevitable decline in saving rate. Over the long
term, the population’s aging will take its toll. When the baby boom generation enters old age
around 2012 and aging starts to accelerate, the saving rate is sure to plunge again. Then at
some point, Japan’s economy will no longer be able to rely on the household sector to
generate an abundant financial surplus.




7.   Contemplating a Society Without a Household Financial Surplus

Once the household financial surplus disappears, Japan’s economy will transform greatly.
The economy’s traditional profile of “excess savings, insufficient demand, abundant labor



NLI Research                                                11                                                              2004.06.03
force, deflation and low interest rates” will shift to “insufficient savings, excess demand,
insufficient labor force, inflation and high interest rates,” accompanied by massive structural
changes.

Since the Nixon shocks of 1971, the economy has been plagued by the yen’s secular strength.
This has occurred against the backdrop of a household financial surplus that was too large to
be absorbed by domestic investment, and thus generated a large current account surplus.
But in the future, as the saving rate drops further, the current account balance should turn
to deficit. This is because the financial deficit of the overseas sector (equal to Japan’s current
account surplus) is equivalent to the aggregate saving-investment surplus of all domestic
sectors (government, corporate, household), and if the household surplus shrinks or turns to
deficit, the aggregate domestic surplus will not persist. As a result, the yen will lose its
secular strength and start to weaken.

Moreover, the declining saving rate is predicted to cause domestic interest rates to rise.
Despite a large fiscal deficit, long-term interest rates have remained low and stable. This is
because the fiscal deficit has not only been financed by the large household surplus, but has
been instrumental in absorbing the surplus. Given the inevitable growth of entitlement
spending as aging progresses, the fiscal deficit will be difficult to trim. Thus if the household
surplus disappears, the domestic demand and supply of funds will tighten, pushing up
interest rates.

By sector, the corporate sector’s saving-investment balance used to be persistently in deficit
due to the strong demand for capital investment, but turned to surplus in the mid 1990s, and
recently exceeded the surplus of the household sector (Figure 18). This indicates that the
corporate sector has been recoiling from the spending binge of the bubble era and reducing
accumulated debt.




NLI Research                                12                                         2004.06.03
       Figure 18 Saving-Investment Balance by Sector (as a ratio to nominal GDP)
                         15 %
                                                                (93SNA)                Forecast

                         10 %


                          5%


                          0%


                         -5 %


                        -10 %
                                                  Household        Corporate
                                                  Government       Overseas
                        -15 %
                                70 72 74 76 78 80 82 84 86 88        91 93 95 97 99 01 03 05 07 (FY)

               Note: Shows 68SNA to fiscal 1989, and 93SNA from fiscal 1990.
               Source: Economic and Social Research Institute



From the perspective of the aggregate saving-investment balance, the corporate surplus
occurring on top of the large household surplus makes it all the more difficult to slash the
fiscal deficit, and aggravates the yen’s appreciation by expanding the current account surplus.
In this sense, the shrinking household surplus serves to restore balance in the economy in
the medium term. However, in the long term, it implies that capital investment to expand
production can no longer be financed domestically, thus slowing down economic growth.
Under these circumstances, the corporate sector must above all else strive to improve
investment efficiency, while the economy once again must address the issue of how to
increase household savings.

In the postwar era, rapid economic growth was sustained by artificially low interest rates,
which enabled companies to finance investment inexpensively using the abundant household
surplus. When rapid growth turned into stable growth, the domestic economy was awash
with funds to the point of generating a large current account surplus. After the collapse of
the bubble economy, an ultra-low interest rate policy was adopted to overcome deflation,
thereby reducing financing costs to ultra-low levels as well. While companies have grown
accustomed to low cost and plentiful financing, in the future they must learn to use scarce
funds as efficiently as possible.

In the post-bubble era, although Japan has persistently trailed the U.S. in economic growth,
the ratio of capital investment to GDP has remained higher than in the U.S. This indicates
that Japan lags behind the U.S. in investment efficiency, something which is apparent at the
company level from the low return on assets of Japanese companies.

The household sector’s financial deficit of 2003 might be construed as an outcome of the
abnormal structure of the post-bubble economy. But as aging progresses in the future, the
once plentiful financial surplus of the household sector is destined to disappear. For a long


NLI Research                                               13                                          2004.06.03
time, the central part of Japan’s economic policy had been to find ways to use the large
household surplus generated by the high saving rate. A key policy issue was how to keep the
household surplus under control by expanding consumption and other means. In addition,
the large surplus bred a wanton disregard for the efficient use of capital, creating the
investment frenzy of the bubble era. Looking ahead, when the baby boom generation enters
old age around 2010, Japan’s economy will shift to a serious financial deficit. This will make
it all the more critical to find ways to boost the household saving rate and use scarce funds as
efficiently as possible.




NLI Research                               14                                         2004.06.03

				
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