Academic journal article Economic Review (Kansas City, MO)

Impact of Population Aging on Financial Markets in Developed Countries

Academic journal article Economic Review (Kansas City, MO)

Impact of Population Aging on Financial Markets in Developed Countries

Article excerpt

The impact of population aging on asset prices is a topic that has attracted tremendous interest, both in academic research and even more so in the popular press. It is not too hard to understand why.

Chart 1 shows the real level of the Standard & Poor's 500 Index in the United States as well as the fraction of the U.S. population that is between the ages of 40 and 64, arguably the age range during which key wealth accumulation and saving for retirement take place. Needless to say, at least for several decades, there is a very strong correlation. Moreover, if one extrapolates this correlation using what we know about the predictable path of the fraction of the population between 40 and 64 in the future, the curves would turn down. This would imply a substantial fall in the real level of the S&P 500.


This type of analysis has captivated many people interested in financial markets. Books with titles like Boomernomics, The Roaring 2000s, and The Coming Generational Storm have tried to dissect the demo graphic evidence and to understand the consequences of demographic change for the private financial markets in the United States and other developed countries.

My analysis addresses three issues related to the links between demography and financial markets. First, I outline a very simple model in which there can be an important linkage between the age structure of the population and the level of financial asset prices. Then, I describe the empirical evidence that is available on this relationship, focusing primarily on the U.S. experience in the 20th century. Finally, I explore how changing age structure in the population will affect the demand for different types of financial products.


To understand how demographic changes may affect financial markets, one needs only a few, very simple ingredients. Imagine a world in which people live for two periods. They work in the first period and they accumulate resources, and they retire in the second period. During the first period they save, during the second period they consume their saving, and at the end of the second period they die. Imagine there is no flexibility in how much they can work. They work one unit when they are working. The price of what they produce is set in the world market, so there is no variation in the marginal revenue product of the labor they supply. Imagine further that there is a fixed saving rate out of labor income.

Now imagine there is a fixed supply of capital that never depreciates and cannot be produced anymore. The way people save for their retirement is by buying the fixed supply of capital. Now think about what happens if a large cohort is born. More people are working. They are generating more labor income. They are generating a larger flow of saving, but they have to buy this fixed stock of capital, which is what they need to live off when they retire. They are going to bid up of the price of the capital good. When they retire, they have to sell the capital to the next cohort. If that cohort is a small cohort, it will be willing to pay less for the capital stock than the large cohort paid when they bought it. The investment in the capital good will therefore yield a poor rate of return for those in the large cohort. This will leave them with less resources in retirement than they would have had if their cohort had been smaller and the return on their investment had been greater.

While this parable is unrealistic in many ways, and while there are many ways to embellish it and to make it more sophisticated, it has a clear germ of truth. The reason that the stories that have been told in the popular press attract a lot of attention is because at root there is an underlying link between the age structure of the population, the demand for assets, and the prices of assets. This lends credibility to claims of a potential asset market meltdown when the baby boomers reach retirement. …

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