Savings identity

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Savings identity or the savings investment identity is a concept in National Income Accounting stating that the amount saved (S) in an economy will be amount invested (I). More specifically, in an open economy (an economy with foreign trade and capital flows), governmental borrowing plus private investment must equal private savings plus foreign investment. In other words, investment must be financed by some combination of private domestic savings, government savings (surplus), and foreign savings (foreign capital inflows).^{[1] [2]}

Note that this is an "identity", meaning it is true by definition. This identity only holds true because investment here is defined as including inventories. Thus, should consumers decide to save more, and spend less, the fall in demand would lead to an increase in business inventories. The change in inventories brings savings and investment into balance without any intention by business to increase investment.^[2]

Note, that as such, this does not imply that an increase in savings must lead directly to an increase in investment. Indeed, business may respond to increased inventories by decreasing both output and intended investment. Likewise, this reduction in output by business will reduce incomes, forcing an unintended reduction in savings. Even if the end result of this process is ultimately a lower level of investment, it will nonetheless remain true at any given point in time that the S=I identity holds.^[2]

Adam Smith notes this in The Wealth of Nations and it figures into the question of general equilibrium and the general glut controversy. In the general equilibrium model savings must equal investment for the economy to clear. ^[1]

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