Growing Pains

We measure the economic growth of the country via the Gross Domestic Product. Gross domestic product (GDP) is the monetary value of all the finished goods and services produced within a country's borders in a specific time period. Though GDP is usually calculated on an annual basis, it is calculated and reported on a quarterly basis in the United States. After one of the worst recessions this country has seen ended in 2009, you'd think that the country would ramp up growth, but it has been anything but a ramp.

So why has the American economy grown so slowly since the Great Recession?  This year, GDP growth will fall somewhere in the 1.5% to 1.8% range, below the 3% growth rate that is considered a sign of robust economic health.  Critics have blamed everything from China’s slowdown, to globally outsourced manufacturing, and to fiscal fights in Washington.  But new research from economists at the Federal Reserve Board points to a different—and much simpler—explanation.

The researchers started with a demographic prediction model.  The model recognizes that the economy was destined to grow rapidly when the workforce is heavily weighted toward young accumulators, as it was in the 1960's and 1970's when the Baby Boom generation entered the workforce.  The good times continued as the labor force matured and the Boomers reached a high consumption stage of their lives.

But then the Fed economists asked: what happens when the Baby Boomers start to retire, as they did starting in 2005, and in increasing numbers since?  The boomer generation had fewer children than their parents did, so the research shows that as the workforce aged and retired, there were fewer people left in the workforce.  Economic output inevitably declined, no matter what happened in China or the manufacturing sector.

Over the past decade, the research shows that what economists call “capital”—machines, factories, roads, buildings, etc.—has become abundant compared to labor, which has depressed the return that investors receive for investing in capital.  This doesn’t just mean slower economic growth; it also leads to a decline in interest rates (due to a slowing demand for capital).  This helps explain why interest rates rose in the 1960's and 1970's, and have gradually declined in the subsequent decades.

The conclusion?  The U.S.—alongside many other developed nations—is experiencing a decline in workers compared with retirees, which happens to coincide with the lingering effects of the financial crisis.  The power of demography is like the tide; don’t blame the government or the Fed for not intervening, because they don’t have the power to overcome the shortage of workers (just ask anyone in Japan, suffering from one of the worst economic declines over the past twenty years due to an aging population and tight immigration policies).  More babies, and maybe more immigrants, represent better solutions.

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Sources:

http://www.federalreserve.gov/econresdata/feds/2016/files/2016080pap.pdf

https://www.washingtonpost.com/news/wonk/wp/2016/10/07/theres-a-devastatingly-simple-explanation-for-americas-economic-mess/?tid=sm_tw

The MoneyGeek thanks guest writer Bob Veres for his contribution to this post