Saving in Developing Countries: Theory and Review

Abstract

In the literature on economic development, much of the interest in saving has been focused on the relation between saving and growth. But saving is not only about accumulation. It is about smoothing consumption in the face of volatile and unpredictable income, and helping to ensure the living standards of poor people whose lives are difficult and uncertain. This paper develops a model of households which cannot borrow but which accumulate assets as a buffer stock to protect consumption when incomes are low. Such households dissave as often as they save, do not accumulate assets over the long term, and have on average very small asset holdings. But their consumption is markedly smoother than their income. Much of the evidence is as consistent with this view of saving as it is inconsistent with standard views of smoothing over the life cycle, and with explanations of the link between saving and growth in terms of life-cycle saving behavior. Consumption smoothing is also a useful way of thinking about government policy, where volatility in the world prices of taxed commodities can generate sharp fluctutations in government revenues as well as reallocations of revenue between the private and public sectors. Many important policy issues in developing countries hinge on issues of consumption and smoothing, and research on these issues is currently likely to be more productive than work on the relation between saving and growth, at least until we have a more satisfactory theory of economic growth.