Explaining the Decline of the U.S. Saving Rate: the Role of Health Expenditure

PWP-CCPR-2018-004

Abstract

Between 1980 and 2007, the U.S. personal saving rate declined from 11 percent to 3 percent. In this paper, we provide evidence that most of the decline can be explained by rising health expenditures. We first employ reduced-form methods and exogenous variation in medical expenses generated by FDA drug approvals to document that a 1 percentage point increase in health expenditure generated a decline in the saving rate that is between 0.73 and 0.89 percentage points. Using this result, we calculate that the rise in health expenditure explains about 90 percent of the drop in the saving rate. We then develop and estimate a model of consumption, saving, and health decisions to evaluate which mechanisms are behind the decline. Using the estimated model, we document that the rise in medical expenses and drop in the saving rate are driven mainly by progress in health technology during the years 1995-2010, by the reduction in co-payment rates in the period 1986-1994, and by improvements in income processes for the years 1980-1985.