Ageing causes more inflation
To a large extent, the current level of inflation is a consequence of the corona crisis. This is immediately the main argument for labelling it as temporary. Yet the risk of this temporarily higher inflation is that it settles between the ears. Especially when there is scarcity on the supply side, the logical reaction is for prices to rise. This is even though at the moment there are more vacancies than unemployed people. The long pendulum from the capital to labour has been set in motion. Unions used to be powerful, now there is the even greater power of social media. Yet there are precisely structural factors that will keep inflation high in the coming years. The just-in-time principle of globalization has given way to the just-in-case principle of deglobalization. Technology has depressed prices for years, but now just about every major tech company is a monopoly, not exactly a market form known for lower prices. Further, the government is getting bigger, also good for higher inflation and central bankers now see inflation as a solution to the debt problem rather than a threat. A structural factor that also has a major impact on inflation is demographics. Global ageing will cause inflation to rise.
Ageing is wrongly linked to deflation
Japan is a country with an ageing population. The working-age population (ages 15 to 64) has fallen from 87 million in 1994 to less than 74 million today. In 40 years, it will be down to 48 million. In nuance, that shrinking labour force did cause 13 per cent of the labour force to now consist of people over 65. It is quite normal in Japan for a person to continue working into old age. In parallel with this shrinking labour force, Japan experienced two lost decades of regular deflation. It is tempting to link these two issues together; after all, they are both typically Japanese problems. But the deflation was not caused by demographic factors, but by the bursting of a double bubble of unprecedented proportions. By the late 1980s, both the housing market and the stock market had risen sharply. The weight of Japanese stocks in the world index was approaching 50 per cent and a valuation of 200 times earnings for a Japanese bank was quite normal. Those banks financed plenty of real estates, with loans that were worth nothing when real estate prices came under pressure. It took until Shinzo Abe to address this problem, and Japan is still struggling to escape from the negative debt/deflation spiral.
The impact of the baby boom wave
After World War II, there was a birth wave in many parts of the world. This was especially true in 1946 and also 1947, but even in the twenty years that followed, significantly more children were born than in the period before and after. With the advent of contraception in the late 1960s and the breakdown of the pillarization movement, on the other hand, the number of children fell sharply. Assuming a retirement age of 65, the people from 1956 will retire this year. By stretching that retirement age a bit, we manage to postpone the problem, but not put it off. That means the number of baby boomers retiring will continue to rise over the next decade. Those people are also getting older thanks to better lifestyles and modern medicine. Between 2000 and 2015, the life expectancy of the world’s population increased by an average of five years. Those baby boomers also managed to save more for their retirement because of the power of the trade unions in the 1970s. All those pension savings depressed interest rates in the 1980s and 1990s. It is sometimes argued that the debt problem was created in the 1980s, but there was a savings bubble that made this possible. A worker who does not consume all income and defers some through savings allows prices to fall. After all, more is produced than consumed. Now that these people are retiring, the roles are reversed. They acutely stop producing and, because of favourable pension plans and increased life expectancy, will only consume for years to come. Less supply and more demand just make for rising prices.
No one exports more deflation
Since the 1970s, there has been a migration of companies to low-wage countries. Helped by container transport and improved global communications thanks to satellites, it became increasingly easy to produce stuff cheaper somewhere else. With Made in Japan, Made in Korea and Made in Taiwan, the emphasis in those years was on cheap and less on good. They exported products at prices that Western producers could not compete with, and that depressed inflation worldwide. In recent years, China has taken over that role. That country is now home to the world’s factories. Due to the sharp increase in urbanization in China, there was for many years a sufficient supply of cheap labour. Those times are over. Beijing no longer worries about whether there are enough jobs, it is now about an affordable house, cheap education or good healthcare. This means that China needs to produce more for its own people and no longer needs to rely so much on exports. And there are some countries like Vietnam, Indonesia and Nigeria that can partly take over China’s role, but the effect will be much weaker. There is also an ageing population in China, not because of the baby boom generation, but because of the one-child policy that has been in place for years. So this too will cause China to produce much less and consume more.
So it’s not surprising that deglobalization, big tech monopolies, the pendulum of capital-labour, the greater influence of government and central bank policies will lead to more inflation, but don’t count on being saved “like Japan” by a positive effect of demographics. On the contrary, demographic factors actually contribute to more inflation. It’s time for investors to design their portfolios accordingly.
