The U.S. economy continues to progress at a slow rate of growth; and this may well be as good as it gets. The U.S. economy managed an average growth rate of 3.6 percent during the 60 years leading up to the Great Recession. Over-leveraged consumers, a real-estate bubble and inadequately capitalized financial institutions all contributed to the magnitude of the recession, among other factors. In the aftermath, all three issues have corrected to more-sustainable levels. In the course of a typical economic cycle, such corrections would inevitably lead to a period of faster-than-trend growth. This time, however, it has been different.
Gross domestic product has grown at a paltry rate of just 2.2 percent since the Great Recession ended, despite massive intervention from fiscal and monetary policymakers. While the stars are lining up to produce better results in the short-term, there remain significant challenges for long-term growth coming from many directions. One such challenge is the aging of the U.S. population. As such, the halcyon days of 3 percent-plus GDP growth may be a thing of the past.
Key among the factors lining up for growth in the short term is a better consumer. Household net worth is up almost $27 trillion from the nadir of the cycle, and over $12 trillion from the previous peak. Household debt as a percentage of net worth has dropped from 24.7 percent in 2009 to 16.2 percent in the most recent Federal Reserve report. Even better, monthly debt payments have dropped as consumers have refinanced debt into lower interest rates. As an example, the average outstanding mortgage rate has fallen from 5.5 percent in 2007 to 3.9 percent currently, cutting $292 billion in annual mortgage expenses for homeowners.
But while the balance sheet of the consumer has been improving, the income growth has been a stubborn laggard. However, with a tighter labor market, that trend is likely to reverse this year. Job growth has been stable at a net pace of near 200,000 per month for 18 months. Even more impressive, the Bureau of Labor Statistics reports that there are now over 4.1 million job openings, consistent with a frothy labor market and, consequently, wage gains. Businesses increasingly report that it is difficult to find qualified applicants for their existing job openings, another leading indicator for wage gains. Unfortunately, even if consumers do begin to see some income growth, it is unlikely to be sustained at too brisk of a pace given the weaker long-term growth prognosis. With help from an improving consumer, the economy is likely to pull out a good year or two of growth. Longer-term, however, there are big challenges on the horizon.
While no forecaster can claim much accuracy in long-run projections, it is telling that both the Congressional Budget Office (the non-partisan Washington group tasked with modeling the economic and budgetary impact of policy for lawmakers) and the Federal Open Market Committee (the monetary policy-making arm of the Federal Reserve) have both issued weak long-term growth forecasts. The CBO has projected “potential” GDP to average just 2.1 percent over the next decade. Meanwhile, the FOMC members have cumulatively forecast a longer-run growth rate of just 2.2 percent to 2.3 percent.
One significant factor that is likely contributing to such weak growth forecasts is the aging of the population. Specifically, as the Baby Boomers move out of the work force and shift consumption habits, economic growth is likely to be depressed by both accounts.
From an output standpoint, fewer laborers means less output. If a factory with 100 laborers making widgets loses 10 laborers, they should be able to produce 10 percent fewer widgets. Changes in the supply of laborers can, to a certain extent, be offset by changes in productivity. For example, if the 90 laborers are able to become 11 percent more productive, they could then replicate the same output as the original 100 laborers. This combination of labor force growth and productivity growth has historically been a positive underlying force for economic growth. Since 1950, the average rate of growth of the age 16-65 population has been 1.2 percent annually. Productivity growth has averaged an annual rate of 2.1 percent since 1950. Combined, the two factors have helped produce an average rate of growth in the economy of 3.6 percent. However, through 2040, labor-aged population gains are projected to average just 0.4 percent, with the next decade seeing almost no gains.
Assuming there are only limited changes in how many seniors work or an immigration policy that brings millions of laborers into the economy, smaller gains in the labor force necessarily means that GDP growth will be limited to the gains realized in productivity. Historically, it has been difficult to achieve gains in productivity over 2.5 percent for any sustained period. Currently, nonfarm productivity is growing at an annual rate of 1.4 percent, which has been the average since the beginning of 2010. As such, from an output standpoint, the aging of the U.S. population is likely to be a drag on growth for decades.
Another outworking of an aging population is a change in consumption habits. Consumers hit their peak spending years between 35 and 54. During those peak spending years, spending rises to almost 1.2X median consumption for all consumers, according to the BLS’ annual Consumer Expenditure Survey. It then falls to 0.9X for consumers aged 65-74 and 0.7X for those aged 75-plus.
For the decade ending 2020, there are projected by the Census Bureau statistics to be another 14.5 million people aged 65-plus, the lower spenders, and 2.7 million fewer people between the ages of 35-55, the highest spenders. All told, the shift in consumption habits of an aging population are likely to cut in half historical consumption growth inherent to the growing U.S. population.
Craig Dismuke is chief economist for Vining Sparks.
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