US Demographic ‘Mean Reversion’ Supports Growth Outlook…

If we stand back from the endless noise in markets, the demographic shift to lower fertility/longer lifespans underway globally is having a macro impact on several levels. For instance, the shrinking working-age population dragged down Japan’s potential GDP growth by an average of over 0.6 percentage points a year since 2000 and that drag will reach a full percentage point through end decade (the impact on the Eurozone, where the working age population is now also declining, is likely to be at least half a point off already anaemic trend growth). Another impact is on capital flows – demographic decline as a deflationary force boosts the inherent attraction of fixed income, while risk aversion as retirement looms drives inflows into bonds over equities.

Fewer workers means the economy needs a smaller capital stock while an ageing population has less need for more housing or consumer durables and more for services, such as health care or tourism. Furthermore, the price of technology investment (a growing share of corporate capex as the economy digitizes) has seen dramatic and sustained deflation from storage to bandwidth – companies struggle to productively invest the record free cash flows they are generating given a declining need for fixed structures versus new data servers to generate incremental revenue. Secular demographic and technology shifts in combination are pushing investment down and saving up. The central bank policy response fixated on inflation targeting is perversely exacerbating the impact of ageing i.e. one of slowing trend growth, excess saving and historically low interest rates, by forcing over 50s to save more to achieve their target incomes.

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Source: BLS, Census Bureau, Entext Economics

The US population is aging much more slowly than that in Europe and Japan – indeed the median age of an American will fall below that of a Chinese citizen with a decade, thanks to a surge in ‘Millenials’ as the population in the peak consuming age group is increasing again after a decade long slump. There were 3.8m fewer Americans aged 30 to 44 in 2012 than there were in 2002, but by 2023 there will be almost 6m more in this age cohort, suggesting that underlying demand patterns for housing and consumer durables such as autos will have a structural tailwind (you can’t easily Uber the kids to a ball game, after all). On Census Bureau data, the 25-44 age cohort in the US spend the most per capita on food, housing services and furniture which is in line with the classic ‘life cycle’ theory of consumption taught in Economics 101.

Meantime, the sluggish post crisis economy has created pent-up demographic demand for housing – there are over 2.5m young Americans living with their parents who would on pre-crisis trends by now have moved out. The average annual household formation rate since 2008 is the lowest since records started being kept in the late 1940s. About 45% of 18- to 30-year-olds are currently living with older family members, at least five percentage points higher than long-term trend (although now showing signs of peaking). Even gasoline sales have been impacted  – the number of prime-driving age Americans plunged by 2.8m from 2005-13 as baby boomers aged i.e. it peaked with average miles driven per capita. Aside from low gas prices boosting mileage and an aging vehicle fleet underpinning a replacement cycle, the looming demographic ‘mean reversion’ implies a buoyant auto market in the 16-18m annual sales range for several years. As much as the shale energy revolution, the US will soon enjoy a demographic windfall that supports relative economic outperformance through end decade…