I have talked about my reluctance to invest based on demographic trends before. In almost all cases, trying to exploit demographic trends in your investments or even using demographic trends to forecast economic developments like growth or inflation is a fool’s errand. It sounds great in theory, but in practice, any demographic shifts are so small that they are easily dominated by cyclical developments.
Ive been intrigued by their arguments and press noise. Demographics have a sort of compelling naturalness to them (such as the idea that the markets, broadly, will be driven lower by Boomer retirement asset decumulation). FYI There are some good podcast interviews as well. Thanks for your analysis here which is excellent as always
Indeed, so have I. And I used to buy into many of these arguments, which is why I spend time debunking them today. This kind of demographics argument has cost me and my clients too much money in the past. If we had followed demographics analysis ten years ago, we would all have sold our stocks expecting the markets to crash as Baby Boomers sell their shares.
My more immediate term concern is the velocity of money as the real driver of inflation and even then Im not sure where to stand. No, correction, I have waited to claim SS which I now could (retired/ married to higher earning spouse) so I have taken a position of sorts. And yes, demographics have that seeming rationality-of-argument to them and yet Mr Market hasn't bought in.
You make a strong case for what you are saying. I agree with Goodhart and Pradhan that we will have a nearly global labor shortage. That means an increase in the *relative* price of labor. With neutral monetary policy that would mean an acceleration of inflation, but with rock-star central bankers monetary policy is never neutral: they are always trying to accomplish some political goal or other, usually "full employment," but they may also be trying to keep rates low so governments can borrow more. So I agree that the Goodhart and Pradhan conclusion is not necessarily what is going to happen - it is more likely than not, but that's not saying much.
I agree with the global labour shortage point. However, there are two channels in reaction to a higher relative price of labour. First, there is the central bank reaction function that can lead to a higher cost of capital thus, putting the old relative price balance back in place. And second, there is the technology channel. With higher cost of labour, capital investments increase leading to higher productivity gains and a reduced dependency on labour inputs. There are these wonderful charts that show that over the last 10 years or so the technological revolution and the gig economy have led to a zero correlation between wage inflation and subsequent consumer price inflation. Could it be that the Philipps Curve is going to steepen in the future? Yes, it could be, but I wouldn't necessarily expect it to steepen much.
Also, this historical analysis relies on a sample of one. During the period for which we have capital market data, we have had only one baby boom, and only one age wave (the same people 65 years later). I am one, and inflation peaked when I turned 25 for a very weird reason. The massive influx of baby boomers and also women of all ages into the workforce caused the 1960s Phillips curve to break down and unemployment to rise dramatically, motivating central bankers to flood the system with money because they were under a mandate to achieve full employment.
By 1979, when I turned 25, President Carter faced a crisis of credibility regarding the currency, the bond market, the stock market, and the country's defenses. He had to do something, and against his political beliefs he appointed Paul Volcker, known as a very strong monetarist and inflation hawk, to the Fed chairmanship. Inflation has since trended downward, creating the 40 year bond bull market. Later increases in the labor supply, mostly due to accelerated mmigration starting around 1990,
did not produce the same policy response of aggressive monetary expansion, so we didn't slip back into accelerating inflation. Much the same thing happened in the UK and possibly continental Europe; I don't know.
Demographic changes do cause changes in relative prices, with labor seeming poised to gain the upper hand once again. But demography should only influence the overall price level (as opposed to relative prices of labor vs. everything else) if it affects monetary or fiscal policy. The Goodhart and Pradhan forecasts seem to assume that the policy response to an increase in labor costs will be to allow the costs of everything else to increase too, hence their forecast. In a neutral monetary regime that wouldn't happen, and non-labor factors would simply suffer a decline in their income.
At any rate, we are debt trouble and headed toward deeper trouble, and the only way you get out of that trouble is prolonged and significant inflation, so that's the way to bet, although such an outcome is obviously not guaranteed.
Well, Larry, you are making my point exactly. The whole point of my post is that any kind of cyclical phenomenon is five to ten times more important than demographic changes. In the past, it was oil shocks, policy changes by the central banks, and changes in the structure of the economy that led to changes in the Phillips Curve. What are going to be the changes that influence inflation cyclically in the next decade or two, I don't know. But I am sure there will be plenty of cyclical effects on inflation and they are the ones that we have to look for, not demographic changes. Demographics is irrelevant compared to these future cyclical effects. Whether the future is inflationary or deflationary is not determined by demographic effects.
Also, as for your argument on needing inflation to get rid of the debt, I am not sure. What we need is nominal interest rates below nominal GDP growth and there are many ways to get to that. Japan is the case in point. It could survive for a generation with massive debt loads because nominal interest rates remained effectively zero. So, as long as you can force nominal rates to remain low (and the BOJ has given us many tools for that), we are fine and can push the can down the road for another 30 years or longer.
Ive been intrigued by their arguments and press noise. Demographics have a sort of compelling naturalness to them (such as the idea that the markets, broadly, will be driven lower by Boomer retirement asset decumulation). FYI There are some good podcast interviews as well. Thanks for your analysis here which is excellent as always
Indeed, so have I. And I used to buy into many of these arguments, which is why I spend time debunking them today. This kind of demographics argument has cost me and my clients too much money in the past. If we had followed demographics analysis ten years ago, we would all have sold our stocks expecting the markets to crash as Baby Boomers sell their shares.
My more immediate term concern is the velocity of money as the real driver of inflation and even then Im not sure where to stand. No, correction, I have waited to claim SS which I now could (retired/ married to higher earning spouse) so I have taken a position of sorts. And yes, demographics have that seeming rationality-of-argument to them and yet Mr Market hasn't bought in.
I think velocity is likely to stay low for a while, but I am worried about the stimulus bill. It's likely going to be ok, but there is potential for policy error. Here is a link to a short piece in what could go wrong: https://www.piie.com/blogs/realtime-economic-issues-watch/defense-concerns-over-19-trillion-relief-plan
You make a strong case for what you are saying. I agree with Goodhart and Pradhan that we will have a nearly global labor shortage. That means an increase in the *relative* price of labor. With neutral monetary policy that would mean an acceleration of inflation, but with rock-star central bankers monetary policy is never neutral: they are always trying to accomplish some political goal or other, usually "full employment," but they may also be trying to keep rates low so governments can borrow more. So I agree that the Goodhart and Pradhan conclusion is not necessarily what is going to happen - it is more likely than not, but that's not saying much.
I agree with the global labour shortage point. However, there are two channels in reaction to a higher relative price of labour. First, there is the central bank reaction function that can lead to a higher cost of capital thus, putting the old relative price balance back in place. And second, there is the technology channel. With higher cost of labour, capital investments increase leading to higher productivity gains and a reduced dependency on labour inputs. There are these wonderful charts that show that over the last 10 years or so the technological revolution and the gig economy have led to a zero correlation between wage inflation and subsequent consumer price inflation. Could it be that the Philipps Curve is going to steepen in the future? Yes, it could be, but I wouldn't necessarily expect it to steepen much.
Also, this historical analysis relies on a sample of one. During the period for which we have capital market data, we have had only one baby boom, and only one age wave (the same people 65 years later). I am one, and inflation peaked when I turned 25 for a very weird reason. The massive influx of baby boomers and also women of all ages into the workforce caused the 1960s Phillips curve to break down and unemployment to rise dramatically, motivating central bankers to flood the system with money because they were under a mandate to achieve full employment.
By 1979, when I turned 25, President Carter faced a crisis of credibility regarding the currency, the bond market, the stock market, and the country's defenses. He had to do something, and against his political beliefs he appointed Paul Volcker, known as a very strong monetarist and inflation hawk, to the Fed chairmanship. Inflation has since trended downward, creating the 40 year bond bull market. Later increases in the labor supply, mostly due to accelerated mmigration starting around 1990,
did not produce the same policy response of aggressive monetary expansion, so we didn't slip back into accelerating inflation. Much the same thing happened in the UK and possibly continental Europe; I don't know.
Demographic changes do cause changes in relative prices, with labor seeming poised to gain the upper hand once again. But demography should only influence the overall price level (as opposed to relative prices of labor vs. everything else) if it affects monetary or fiscal policy. The Goodhart and Pradhan forecasts seem to assume that the policy response to an increase in labor costs will be to allow the costs of everything else to increase too, hence their forecast. In a neutral monetary regime that wouldn't happen, and non-labor factors would simply suffer a decline in their income.
At any rate, we are debt trouble and headed toward deeper trouble, and the only way you get out of that trouble is prolonged and significant inflation, so that's the way to bet, although such an outcome is obviously not guaranteed.
Well, Larry, you are making my point exactly. The whole point of my post is that any kind of cyclical phenomenon is five to ten times more important than demographic changes. In the past, it was oil shocks, policy changes by the central banks, and changes in the structure of the economy that led to changes in the Phillips Curve. What are going to be the changes that influence inflation cyclically in the next decade or two, I don't know. But I am sure there will be plenty of cyclical effects on inflation and they are the ones that we have to look for, not demographic changes. Demographics is irrelevant compared to these future cyclical effects. Whether the future is inflationary or deflationary is not determined by demographic effects.
Also, as for your argument on needing inflation to get rid of the debt, I am not sure. What we need is nominal interest rates below nominal GDP growth and there are many ways to get to that. Japan is the case in point. It could survive for a generation with massive debt loads because nominal interest rates remained effectively zero. So, as long as you can force nominal rates to remain low (and the BOJ has given us many tools for that), we are fine and can push the can down the road for another 30 years or longer.