The Demographic Transition and Investment Returns

Abstract

The transition to an older society, currently underway, should have a significant effect on investment returns. The size of the capital-using working-age population is no longer growing, which lowers the demand for savings. In addition, as the older share of the population rises, so will the supply of savings. Life-cycle models assume that the elderly will draw down the bulk of their savings in retirement. However, empirical studies show that well-to-do elderly, who own the bulk of the wealth of that demographic, do not take such drawdowns. Thus, as more boomers retire, the supply of savings will steadily rise, putting downward pressure on interest and corporate earnings rates. Capital gains boost investment returns, but such gains are one-time affairs; they do not continue forever. Moreover, should the ongoing demographic transition push the Federal Reserve funds rate (needed to maintain full employment) below zero, the result would be a chronically sluggish economy.