Bill Gross Channels Edward Hugh on Demographics and Austrians on Malinvestment
I have enjoyed Edward Hugh and Claus Vistesen’s posting here as well as on their own sites because they add a European angle to the commentary I think we lacked. But, they also have brought their considerable interest in demographics to bear in their writings as well. So I was happy to see Bill Gross take up this mantle in his most recent Monthly Letter to Investors "Privates Eye."
Before getting to Bill Gross, let me remind you of what Claus and the other Edward were saying.
the implications of this growing export dependency of the most ‘elderly’ societies needs to be explored in a global context, and in particular in the context of the so-called ‘macroeconomic imbalances’. Clearly the demographic transition is far from its end point, and meanwhile the impact of the uneven pace of the transition continues to make its presence felt. Globally the net sum of trade deficits and surpluses needs to be zero, so logically some societies will need to sustain substantial current account deficits to compensate for the ongoing export dependency of some of the currently richest economies. Without attempting any generalised solution to this issue at the theoretical level, a brief examination of the problem and of the most probable short-term scenarios will be presented.
Secondly, whilst it is clear that in the medium term, societies with median ages over 40 will tend to have a growing savings (and hence declining consumption) GDP share, it is far from clear that this net increase in saving will continue indefinitely as median ages approach the 50 mark and beyond (it is not even clear at this point whether median ages will stabilise at this level or continue to rise). There are theoretical reasons for anticipating a growing tendency to dis-saving at some point (although this depends on the relative ‘thickness’ of succeeding cohorts and their respective income levels as the population pyramid evolves).
Translation: ageing populations are more dependent on export growth because of the increased aggregate savings rates and loss of aggregate demand associated with an ageing populace. Aggregate savings rates may one day decrease but for now we should expect more saving, not less. Of course, not everybody can be an exporter. So you have a bit of tension here as the bulk of the world’s advanced economies gray.
Right now, during this weak recovery, the advanced economies seem to be relying on the emerging markets to do the heavy lifting of boosting aggregate demand. But, what happens in a few years? This is where Bill Gross’ piece comes into play. Gross says:
The danger today, as opposed to prior deleveraging cycles, is that the deleveraging is being attempted into the headwinds of a structural demographic downwave as opposed to a decade of substantial population growth. Japan is the modern-day example of what deleveraging in the face of a slowing and now negatively growing population can do. Prior deleveraging periods such as what the U.S. and European economies experienced in the 1930s exhibited a similar demographic with the lowest levels of fertility in the 20th century and extremely low population growth. Things did not go well then. Today’s developed economies almost assuredly offer substantially less population growth than the 1.5% rate experienced over the prior 50 years. Even when viewed from a total global economy perspective, population growth over the next 10–20 years will barely exceed 1%.
Notice Gross is only talking about the necessary deleveraging associated with this downturn and recovery and high private sector debt levels. He hasn’t even mentioned the demographics yet. In the next paragraph, he says:
The preceding analysis does not even begin to discuss the aging of this slower-growing population base itself. Japan, Germany, Italy and of course the United States, with its boomers moving toward their 60s, are getting older year after year. Even China with their previous one baby policy faces a similar demographic. And while older people spend a larger percentage of their income – that is, they save less and eventually dissave – the fact is that they spend far fewer dollars per capita than their younger counterparts. No new homes, fewer vacations, less emphasis on conspicuous consumption and no new cars every few years. Healthcare is their primary concern. These aging trends present a one-two negative punch to our New Normal thesis over the next 5–10 years: fewer new consumers in terms of total population, and a growing number of older ones who don’t spend as much money. The combined effect will slow economic growth more than otherwise.
Translation: older people save less than people in their forties and fifties. But they also spend less. The aggregate impact of an ageing population right now is lower aggregate demand because of the lower spending of seniors. My understanding is that we should also expect a larger percentage of people in their forties and fifties – and therefore higher savings rates in aggregate. Please correct me if this is false. But this should explain the contradictions.
Bill Gross concludes that the asset-based economic model of the past quarter-century cannot continue in the face of these demographic challenges and in a post-bubble world of deleveraging reregulation and deglobalisation. He calls the Greenspan/Bernanke put and counter-cyclical fiscal stimulus "Keynesian consumption remedies" and strikes a fairly Austrian pose, alluding to policy-induced malinvestment. I call them the asset-based economic model. See my long post "The origins of the next crisis" for a full exposé or "Charts of the day: US macro disequilibria" for the short version.
Here’s what Gross says:
PIMCO’s continuing New Normal thesis of deleveraging, reregulation and deglobalisation produces structural headwinds that lead to lower economic growth as well as half-sized asset returns when compared to historical averages. The New Normal will not be aided nor abetted by a slower-growing population nor by cyclical policy errors that thrust Keynesian consumption remedies on a declining consumer base. Current deficit spending that seeks to maintain an artificially high percentage of consumer spending can be compared to flushing money down an economic toilet. Far better to create and mimic other government industrial policies aimed at infrastructure, clean energy, more relevant education and less costly healthcare services. Until we do, policymakers will continue to wave their hands in front of the electronic eye – waiting for the flush, waiting for the flush, waiting for the flush, with very little success. Try another way, Washington. El-Erian, Sachs and other 21st century policy thinkers have a better way to push the handle.
My take: the asset-based model retards industrial re-organization, maintains malinvestment, encourages the accumulation of debt, creates systemic risk and will ultimately be toxic to long-term growth. But, policy makers will run with the asset-based economic model until it collapses in a heap. It has worked for more than a quarter-century and I don’t see policy makers giving up on it so easily.
When Raghuram Rajan writes "Bernanke must end era of ultra-low rates," I doubt anyone will listen. He says:
Low rates give households the incentive to save less, and companies to invest more. Demand will revive and laid-off workers will be rehired. Low rates also boost asset prices, giving companies the collateral with which to borrow and banks the capital with which to lend. With low returns to safe assets, investors are in turn pushed to take more risks. Finally, with the Fed’s promise of low rates for an extended period, companies and banks can take on short-term borrowing to fund illiquid positions, again prompting investment.
He’s pointing to the asset-based economic model, of course. After a massive credit bust, policy makers are pulling their hair out trying to revive credit growth again. Low rates are designed to lower private sector savings rates, increase consumption, increase risk and increase investment. And this is where policy will stay for "an extended period," consequences be damned.