Wednesday, December 1, 2010

demographics and dealing with (U.S.) budget debt

I'm asked frequently about the extent to which the US can accumulate debt. The answer is complicated.

The best answer is broad: we're in a car driving the wrong direction quickly, but no one knows where the edge of the cliff is.

Why can't we be more specific? To draw an analogy to personal finance (a much simpler topic), there still isn't A number. But it's more complicated because the financial solvency of a nation is not simply a matter of past spending over revenues vs. some measure of (future) "ability to pay" and interest rates. It's complicated by figuring out reasonable expectations of that future, including demographic considerations (e.g, workers vs. non-workers) and commitments to make payments in the future (e.g., pensions, Medicare).

This article in the WSJ, by Nick Eberstadt and Hans Groth is a useful effort to lay out a "demographic stress test"...

Financial crises can erupt suddenly and unexpectedly. Demographic pressures, by contrast, gather slowly and predictably—but over just a generation they can transform the economic and social landscape irreversibly.

Such a transformation is already underway in the developed world. Twenty years from now, Western economies will be characterized by stagnating populations, shrinking work forces, steadily increasing pension-age populations, and ballooning social spending commitments. These demographic changes will mean major increases in public debt burdens and slower economic growth, as savings are diverted from investments and innovation that enhance productivity.

Consider the "big three" Western economies: Germany, Japan [which is in especially rough shape] and the United States...

• The U.S., meanwhile, can expect to see continuing population and manpower growth between now and 2030, thanks to relatively high birth rates and a robust inflow of immigrants (roughly half of them legal). America will remain the most youthful Western society, although its 65-plus population will be about 19% of the total, up from 13% today.

Nevertheless, entitlement liabilities—especially the unfunded liabilities in the health-care system—are on course to skyrocket in the decades ahead. The country's recently enacted health reform will make the burden heavier...

Maintaining economic growth in the face of these demographic trends will require rethinking current approaches to work and retirement, pension and health-care policies, and government budget discipline. Thanks to the recent financial crisis, we're now familiar with the concept of the "financial stress test" used to evaluate the soundness of banks and allied institutions. A "demographic stress test" for Western economies is now in order, so that voters and their elected representatives can cope with aging populations and declining work forces.

Such an exercise would assess how manpower availability, labor force participation rates, aging and budgetary commitments would, over the next 30 years, affect key measures of national economic well-being like growth and productivity, fiscal balances, and government debt. It would also indicate the extent to which adverse "baseline" costs and consequences could be mitigated or offset by changes in lifestyle, personal behavior and public policy. These could include, for example, later retirement thanks to healthy aging, increased attention to preventive health care, enhanced personal savings, and adjustments to health and pension schemes....


At December 1, 2010 at 2:55 PM , Blogger Jenna said...

Eric-- you keep talking about how complicated the current economic situation is...

For the rest of you - here's some serious advice --

BUY SILVER, preferably on the dips

True enough no one knows how close we are to the cliff's edge, but we are inching closer daily.


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