Wednesday, November 15, 2006

Message To Central Bankers: Target Median Ages!

by Edward Hugh

Central bankers are all in a flurry right now, since they don't seem to be any too sure what it is they should be targeting, inflation or monetary aggregates. Well I have one piece of advice for them: keep your eyes on both of these (provided that is you know how to interpret the signals) but add one more objective (or pillar) to your list - population median age.

Sounds daft, doesn't it? What a silly idea Edward!Well no actually, it isn't. And the fact that most people in the macroeconomic community haven't appreciated the role and importance of this metric is one of the principal reasons why many observers are at such a loss to understand what is happening in Germany and Japan right now, and why the proponents of the so-called 'Goldilocks' recovery are discovering that there just isn't enough honey in the pot to go round (obviously some of it was eaten by one of those bears I mentioned in the last post). For a brief introduction to the macroeconomics of this problem, see this post from Claus (and then drill as far down as you want, one thing is for sure, you won't reach Australia, since Australia isn't on the list of countries with a preoccupyingly high median age, at least not just yet it isn't, which is why over at the Australian central bank they may like to take note of what I am saying while there is still time).

Now why the hell should median ages be important? Well there are three sound macroeconomic reasons to think that they may well be:

1/. Consumption has some (variable, not precisely quantified) life cycle component. You can find some background to this by following the links on this wikipedia page to Francisco Modigliani who got the Nobel Prize for his ideas on this topic.

Basically the idea is that saving and consumption patterns vary across the life cycle, and this is just as true for populations as it is for individuals. The clearest evidence for this effect is coming from the relatively elderly societies (Italy, Germany and Japan) where domestic consumption consistently fails to show robust growth.

2/ This inability to maintain consumption growth in the elderly median age group has the consequence that these countries need to export to grow. Again, you can try this one from Claus, or if you want a more theoretical treatment you could try the paper Asymmetric Demography and Macroeconomic Interactions Across National Borders presented by Ralph Bryant at this Reserve Bank of Australia conference.

As Claus indicates this need to export is pretty obvious in the cases of Germany and Japan, where substantial surpluses are being run, but it is also becoming obvious in the case of Italy where the inability to run surpluses means that the public debt is spiralling out of control, since without export surpluses of sufficient magnitude there is insufficient growth to finance pension and health liabilities.

3/ Lastly median ages are important as they reflect the age distribution of the population, and the age distribution is important for productivity performance, as I explain in this post here.

So there is ample theoretical support for the idea that median ages have macroeconomic consequences and we can find empirical backing for this theoretical espectation in the relative performances of countries when they are examined according to median age. I would say that if a society has a 'golden age' in growth rate terms, then this age seems to be somewhere in the 33 to 38 age range, with Ireland and Iceland marking the bottom end of the register, Australia and the United States occupying the middle ground, and the UK and France being at the upper end. Perceptive readers will note that all these societies have experienced notable increases in property prices over the last cycle, indeed they are more or less the developed societies which have been most credit-driven, which is pretty logical really, since younger people are inclined to borrow more.

Below Ireland we have the wanna-be developing economies, most notably China, but also Thailand, Brazil, Turkey, Chile, India etc. Indeed more or less all the countries which are suddenly experiencing over-par economic growth have median ages in the 28 - 33 (demographic dividend) age range.

Then if we move on up, into the 40 - 43 age range we find countries which appear to be moving towards the rather more sclerotic internal consumer growth/congenital need to export/no housing boom group.

As I have already said, the three oldest countries - Japan (42.9), Germany (42.6) and Italy (42.2) - seem to share the common feature of slow GDP growth, weak internal demand growth, and an increasing dependence on exports to drive domestic growth. They also share the common problem of acute public finance pressure as they try to leverage there way out of paygo based pension systems at the same time as the population pyramid inverts.

So, at least in empirical terms, it might now be interesting to start to follow the next countries on the list - Finland (41.3), Bulgaria (40.8), Sweden (40.9), Belgium (40.9), Greece (40.8), Austria (40.9), Slovenia (40.6) - to try to examine whether or not this pattern is repeated.

Obviously the key parameters in play in determining median age are immigration, life expectancy and fertility, and median ages will move according to the movements in these three parameters.

On life expectancy all the above countries can expect this to drift upwards, so the upward movement in median ages will only be reinforced here, with evident differences from one country to another.

Only Greece, Bulgaria and Slovenia have lowest-low fertility (the rest are below replacement, but in the 1.7 - 1.9 range) so the others shouldn't expect much in the way of a fertility boost, and Bulgaria has been loosing so many young people of child bearing age (and seems set to lose more with EU accession) that it is hard to see any big impending rebound here.

Then there is immigration. This I think tends to be driven by job availability which is driven by economic growth. In the group Greece has been having substantial inward migration in the last years, so this may be important in changing the trajectory, if the growth can be sustained. But remember that Greece is another country with a very large debt/GDP ratio, and there will need to be fiscal tightening at some point. So the stellar growth factor isn't guaranteed.

Sweden and Finland may attract migrants, and they may do this at the expense of some of the Eastern European 'Lynx' economies (and maybe even at the expense of a country like Germany, if the Germans don't wake up soon), so this will be interesting to watch.

Belgium definitely seems to be pretty immigrant-hostile right now now, so unfortunately it looks set to go the way of Germany.

Bulgaria and Slovenia could easily suffer from strong out-migration, which will simply make the median age rise more rapidly. Indeed Bulgaria may already have a significantly higher median age than the official one, since there have undoubtedly been many more Bulgarians working out of the country than the government is prepared to admit.

And both of the above countries may obviously find themselves directly in the line of fire from events in Hungary in 2007 (in anticipation of which I have now started a new Hungary Economy Watch blog).

It will also be interesting to follow the evolution those countries who seem able to change course if they act in time, like Spain (39.9), Denmark (39.8), Netherlands (39.4), France (39.1), UK (39.3).

Again Spain is almost certainly younger than the official numbers indicate, since the recent immigration has been massive and is probably not yet reflected in the stats, and this immigration has undoubtedly fueled the recent housing boom in Spain.

Both the UK and France have it perfectly within their grasp to change course, especially given their capacity to assimilate immigrants (which some dispute in the French case I know, but I think there is plenty of room for debate here) and their relatively higher fertility.

Denmark and the Netherlands could, but the open hostility to immigrants you can often see in these countries seems to me to be a bit like shooting yourself in the foot (sorry Claus, but we will see). My guess is that as the fate of the 'leading group' becomes more and more apparent the climate will change rather dramatically in this regard.

Hungary, otoh, is still a little 'younger' (at least officially, 38.7) but this could also change dramatically if the economic situation there in 2007 sends people rocketing out. 175,000 Argentians came to Spain in 2002 alone, and a lot more young Argentinians obviously went elsewhere. So this is where macro-economics and demography definitely interact.

Lastly I would mention Switzerland, which while having a slightly lower median age (40.1) the the three oldest-old societies has long suffered from some of the macro consequences of ageing that I have been trying to spell out (eg they have had a virtual ZIRP approach to interest rates).

So what I am doing is sort of pointing to a research agenda. Maybe using median ages seems to some to be horribly simplistic, but it is amazing to me to see just how much you can explain with such a simple measure, and how little of what is happening can really be explained by its rivals. At the end of the day one of the things which is important about hypotheses is that they should be reasonably testable. I have made some tentative forecasts here. Now lets go and see what actually happens in the real world.


Anonymous said...

Immigration based growth is a fools game. Their is no avoiding poulation aging in the long term.

Population growth waters down how much of the resource pie each person gets -less land, less water, more expensive power, expensive housing, less commodities to export at a time when commodities prices are increasing considerably due to global overpopulation.

Furthermore immigration based growth it leads to increased grenhouse gas emissions without improving the quality of life for the majority - as is clearly demonstated by the current situation in southern California.

Anonymous said...

The "pie" of resources is not a fixed sum. Growth creates the goods for consumption.

Note that population and consumption are at all-time highs, but most commodity prices are lower than they were a generation ago, particularly corrected for inflation.

I agree that Belgium and Denmark may be shooting themselves in the foot. They should be getting all the "Polish plumbers" they can, while the supply lasts. Ukrainian ones too, come to that.