Demographic Demise and the Real Deficit Problem

Today United was approved in being able to dump its pension obligations on the Federal government.  This could open the floodgates for GM, Ford and others to run through bankruptcy and strip out their excessive benefit and pension plans.  Should we be concerned?  Is there a limit to have much obligation can be assumed by the US government? 

Yelnick noted a while ago of the declining birth rates in the West and how it would lead to shrinking populations and lower growth, sparking a global scramble for yield. The scramble has already begun, as we sit in the low yield environment of the Kondratieff Winter. Now the mainstream punditry is picking up on this theme.  The first week of May, the Wall Street Journal ran a first page column on retiring boomers withdrawing from growth stocks and moving their wealth (what they can hang on to) into income producing properties, depressing the stock market. McKinsey has also completed a study of The Demographic Deficit: How Aging Will Reduce Global Wealth.  Their core message is that aging populations will save less and spend more, and governments will be pressed to fund all those welfare programs to support the aging, further reducing private investment.  What these analyses have so far overlooked is the other side of the story: in a low return environment, how to pay for all of the unfunded obligations we have assumed? How to pay it back?

In Debt and the Delusionals, John MacKenzie lays out the scope of the problem.  Since the closing of the gold window by Nixon in 1971, US obligations both on the books and off have grown from $1T to $23T in 1994 and $43T in 2002.   We also have a myriad of derivatives.  The notional value of exchange-traded derivatives is estimated at $279T, and over-the-counter (unregulated) derivatives at $220T, for a total of $499T.  A trillion here, a trillion there, and soon you are talking of real money - let's round it up to $500T.  Underlying these instruments is real risk, which has been estimated at between $25T and $35T.  And now we have the potential of the floodgates opening on the assumption of private sector pensions by the US Treasury.  Grand total: $68-78T.  And if we begin to layer in the assumption of other liabilities, like pensions, these estimates get as high as $89T, a truly staggering figure.

With a GDP of $11T, half to the unproductive government sector, and a negative payments balance with the rest of the world, it is hard to see how we support all this liability.  Some of it stretches out over a long period, but the demographic demise means the ratio of productive workers to unproductive beneficiaries is going in the wrong direction. Worse, if the derivatives and current debt begins unwinding, it will cause a much more rapid shrinkage in the money supply (and velocity of money) than even a Greenspan can manage with his quickness to flood markets with liquidity. 

Some people view this demographic demise as a good thing, a way to accumulate more wealth in a few and avoid stressing the environment. Yelnick wonders if they know where wealth comes from?  As we invest less in productive activities and more in glittering goods and prolonging life, the engine of growth and therefore wealth creation will slow.  Perhaps we could sit on our stack of gold, if we had it; but the US is now a debtor nation, and getting deeper in hock every day.  For the past few years we have traded houses with each other at ever increasing prices.  Household wealth that had dropped in the Dot-Com Bubble has been regained in the Real Estate Bubble, but at a cost of more layers of debt.  And wealth of this sort can evaporate as fast as prices fall and debt gets called. 

The world went through something like this in the Middle Ages, during the Black Death, which in waves over 50 years took out about a third of the population of Europe.  A terrible tragedy with a silver lining - it marked the end of the feudal system.  With fewer peasants to till the land, free labor emerged, and wages went up.  Landed gentry also emerged, a new middle class where there had been none since the Fall of the Roman Empire.  Thus the foundations for capitalism were laid.

Promising for our circumstance? Perhaps for the emerging two billion of China and India, who will sort out this new world order; but perhaps not for the former feudal lords, who could eventually find even their Wal-Mart's unaffordable. 

Comments

[thebizofknowledge.com]

The demographic shift that we are facing as the baby boomers age and begin to retire hold dramatic implications for our socioeconomic future. Our economy simply cannot survive without growing, and business cannot survive without people spending.