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Aging population means low US GDP and interest rates

Economic growth
By Paul Hodges on 04-Feb-2013

US GDP Feb13.jpgMost commentators seemed surprised by last week’s news of weak US Q4 GDP growth. To help avoid similar shocks in future, the blog is pleased today to present its ‘cut out and keep guide’ to future levels of US GDP and interest rates.

The guide has been successfully back-tested to 1962, when records begin for US 10-year interest rates. We thus have 50 years of data to use. And as the chart shows, forecasting these key variables is relatively straightforward if one uses 5-year averages to avoid day-to-day volatility:

• Yields on the US 10 year bond (black dot) peaked at 12.4% in 1984
• The 5-year GDP average (red dash) had similarly peaked at 11.4% in 1981

The driver for both of them was growth in the number of 25-54 year-olds in the US economy, the Wealth Creators (blue column). This peaked at 11.5% in 1985.

There is really no magic about this forecasting process. The Wealth Creators are the ones who have children, buy cars and houses, and all the other things that drive household consumption. Equally, household consumption is 71% of US GDP.

As Spielberg’s new movie ‘Lincoln’ reminds us, Euclid’s first principle of mathematics is that “things which equal the same thing equal each other“. So if US GDP is driven by household consumption, and household consumption is driven by the Wealth Creators, then US GDP must be driven by the rise or fall in the number of Wealth Creators.

Similarly, 10-year interest rates reflect the underlying balance between supply and demand:

• If demand is rising strongly, and supply is lagging, then rates will rise. And vice versa
• Thus growth until the 1980s in the number of new Wealth Creators pushed up interest rates
• Since then, Wealth Creator growth has slowed as the post-Boomer generation is much smaller

The beauty of demographics is that we can be very accurate when forecasting the next few years. After all, only those already alive can join the Wealth Creators within the next 25 years. Equally, we know that increased life expectancy means the number of those in the New Old 55+ generation is rising sharply as the Boomers age.

Thus we already know that household spending will continue to slow – no matter what policymakers do in the short-term via fiscal or monetary stimulus. The simple fact is that older people spend less, as they prepare for retirement. They also need less as they mainly buy replacement rather than new products.

So as the chart shows, GDP growth and interest rates will also remain low.

Benchmark price movements since the IeC Downturn Monitor’s 29 April 2011 launch, and latest ICIS pricing comments are below:
Naphtha Europe, down 11%. ” Petrochemical demand is still limited”
PTA China, down 11%. “Overall operating rates of polyester staple fibre plants decreased to 52% capacity from 56% in the previous week”
HDPE USA export, down 11%. “Little buying interest, as markets waited to see whether February price increases will stick”
Benzene NWE, up 7%. “Upcoming shutdowns on key derivative markets, such as styrene and phenol, are likely to slow benzene consumption down in Europe”
Brent crude oil, down 8% ”
S&P 500 stock market index, brown, up 11%