The Economic Impact of an Aging World

During the week of June 10, 2024, French markets were rocked by a government bond sell-off after a strong showing by the far-right National Rally party in the European Union election. With polls suggesting the party might win a plurality of seats in the upcoming French parliamentary election, investors feared a promised social spending program, including a reduction of the minimum retirement age from 64 to 60, would further strain the already struggling French economy.1

As it turned out, the left-wing New Popular Front coalition, which also promised expensive social spending and a reduction in the pension age, won the most seats on election day. The initial reaction in the government bond market was muted, but analysts predicted further turmoil to come.2 By contrast, when France raised the retirement age from 62 to 64 in 2023, aiming to strengthen the economy,     workers took to the streets in protest.3

Supporting senior programs

The French conflict over the retirement age reflects a fundamental social and economic issue throughout the developed world. Put simply, the world population is getting older, which means the percentage of  workers in the population who can drive the economy and support old age pension     and health-care programs is gradually diminishing.

The U.S. Social Security program is a prime example. In 1960, there were 5.1 workers paying into the program for each beneficiary. In 2024, there are 2.7, projected to drop to 2.3 by 2040. Because of this     demographic shift, Social Security no longer pays for itself and has been partially supported by trust fund reserves built up when there were more workers per beneficiary. The reserves for the Old-Age and Survivors Insurance Trust Fund, which helps support retirement benefits, are projected to run out in 2033, at which time program income would cover only 79% of scheduled benefits unless Congress takes action to increase funding.4

Medicare faces a similar challenge. The Hospital Insurance Trust Fund reserves, which help pay for Medicare Part A inpatient and hospital care benefits, are projected to be depleted in 2036, at which time payroll taxes and other revenue will pay only 89% of costs. Part B medical benefits and Part D prescription drug coverage are automatically balanced through premiums and revenue from the federal government’s general fund, but they will require an increasingly larger share of the federal budget unless economic growth outpaces spending.5

Longer lives, fewer children

The shift to an older population is driven by two demographic trends: people are living longer and having fewer children. One in six people in the world will be age 65 or older by 2050.6 The United     States is already at that level, with more than 17% of the population age 65 or older in 2022, projected to reach almost 23% by 2050.7 Many other developed nations are even older. In 2022, the median age in the United States (the age at which half the population is older and half younger) was 38.9, the     highest on record.8 In 2021 (most recent data), it was 48.4 in Japan, 46.8 in Italy, 44.9 in Germany, and 41.6 in France.9

The fertility rate, the average number of children born to each woman, has dropped throughout the world, due to a variety of factors including education, access to birth control, employment opportunities, and lifestyle choices. In the developed world, a fertility rate of about 2.1 is considered the replacement rate at which a country’s population remains stable. It is slightly higher in developing nations with higher mortality. Most developed countries have been below replacement since the 1970s, so they have depended on immigration to maintain or grow population.10 The U.S. fertility rate was 1.62 in 2023.11 Although fertility is higher in developing countries, it is dropping. Based on preliminary data, one academic study suggests that the global fertility rate may be near or below replacement for the first time in human history.12

Challenges and solutions

Spending on programs for an aging population is already straining economies throughout the world, and the economic pressure will increase as populations continue to age. The burden is not only the cost of the programs, but also the potential for lower production and tax revenue from a workforce that is smaller in proportion to the total population. This is likely to drive up government debt, and increased government borrowing, along with competition for a smaller pool of workers, may lead to higher     inflation.13

So far, government programs to encourage couples to have more children have not had a significant impact, and there is no clear correlation between the fertility rate and child-care and housing costs,     student debt, employment, religious beliefs, or local laws governing  contraception and abortion. This suggests that the decision to have fewer  children is more deeply ingrained in fundamental lifestyle choices. For developed countries, immigration may continue to provide a larger workforce, but recent immigration to developed nations has tended to be unskilled workers.14

The funding gap for government pension programs such as Social Security can be addressed by a combination of solutions that may be politically unpopular but are unlikely to derail the broader economy: higher retirement ages, increased payroll taxes, and means testing for wealthier     beneficiaries.15 The larger question is how to keep growing the global economy. This may require increased worker productivity driven by recent technologies and greater integration of older workers into the workforce.

U.S. worker productivity increased at an annual rate of 2.9% in the first quarter of 2024, well above the annual average since the end of World War II. If this trend continues, it could help balance some productivity loss as older people exit the workforce. Americans are already working longer, about one out of five of those age 65 and older was employed in 2024, almost double the number in 1985.16 The long-term solution may require rethinking the traditional model of a career, with more opportunity for     lifelong learning and late-life career development. Studies indicate that working longer may help prevent cognitive decline, but it also could help balance the macroeconomic effects of global aging.17

Projections are based on current conditions, subject to change, and may not happen.

1) Bloomberg, June 16, 2024

2) CNBC, July 8, 2024

3,     17) The New York Times, January 21, 2023

4) 2024     Social Security Trustees Report

5) 2024 Medicare Trustees     Report

6, 9–10) United Nations World Population Prospects     2022

7–8) U.S. Census Bureau, 2023

11)     National Center for Health Statistics, April 2024

12, 14)     The Wall Street Journal, May 13, 2024

13) Bloomberg,     May 21, 2024

15) Social Security Administration, September     27, 2023

16) U.S. Bureau of Labor Statistics,     2024

Real Estate Roundup: Feeling the Impact of Higher Rates

U.S. commercial real estate prices fell more than 11% between March 2022, when the Federal Reserve started hiking interest rates, and January 2024. The potential for steeper losses has chilled the market and still poses significant risks to some property owners and lenders.1

On the residential side of the market, the national median price of an existing home rose 5.7% over the year that ended in April 2024 to reach $407,600, a record high for April.2 Despite sky-high borrowing costs, buyer demand (driven up by younger generations forming new households) has exceeded the supply of homes for sale.

Here are some of the factors affecting these distinct markets and the broader economy.

Slow-motion commercial meltdown

The expansion of remote work and e-commerce (two byproducts of the pandemic) drastically reduced demand for office and retail space, especially in major metros. An estimated $1.2 trillion in commercial loans are maturing in 2024 and 2025, but depressed property values combined with high financing costs and vacancy rates could make it difficult for owners to clear their debt.3 In April 2024, an estimated $38 billion of office buildings were threatened by default, foreclosure, or distress, the highest amount since 2012.4

In a televised interview on 60 Minutes in February, Fed Chair Jerome Powell said the mounting losses in commercial real estate are a “sizable problem” that could take years to resolve, but the risks to the financial system appear to be manageable.5

Locked-up housing market

The average rate for a 30-year fixed mortgage climbed from around 3.2% in the beginning of 2022 to a 23-year high of nearly 8% in October 2023. Mortgage rates have ticked down since then but not as much as many people hoped. In May 2024, the average rate hovered around 7%.6

The inventory of homes for sale has been extremely low since the pandemic, but a nationwide housing shortage has been in the works for decades. The housing crash devastated the construction industry, and labor shortages, limited land, higher material costs, and local building restrictions have all been blamed for a long-term decline of new single-family home construction. Freddie Mac estimated the housing shortfall was 3.8 million units in 2021 (most recent data).7

Many homeowners have mortgages with ultra-low rates, making them reluctant to sell because they would have to finance their next homes at much higher rates. This “lock-in effect” has worsened the inventory shortage and cut deeply into home sales. At the same time, the combination of higher mortgage rates and home prices has taken a serious toll on affordability and locked many aspiring first-time buyers out of homeownership.

In April 2024, inventories were up 16% over the previous year, but there was still just a 3.5-month supply at the current sales pace. (A market with a six-month supply is viewed as balanced between buyers and sellers.) The supply of homes priced at more than $1 million was up 34% over the previous year, which may help affluent buyers, but won’t do much to improve the affordability of entry-level homes.8

New construction kicking in

Newly built homes accounted for 33.4% of homes for sale in Q1 2024, down from a peak of 34.5% in 2022, but still about double the pre-pandemic share. The growth in market share for new homes was mostly due to the lack of existing homes for sale.9

April 2024 was the second highest month for total housing completions in 15 years, with 1.62 million units (measured on an annualized basis), including single-family and multi-family homes.10 This may cause apartment vacancies to trend higher, help slow rent growth, and allow more families to purchase brand new homes in the next few months.

Renters are seeing relief thanks to a glut of multi-family apartment projects that were started in 2021 and 2022 — back when interest rates were low — and are gradually becoming available. In Q1 2024, the average apartment rent fell to $1,731, 1.8% below the peak in summer 2023.11

Effects weave through the economy

By one estimate, the construction and management of commercial buildings contributed $2.5 trillion to U.S. gross domestic product (GDP), generated $881.4 billion in personal earnings, and supported 15 million jobs in 2023.12 And according to the National Association of Realtors, residential real estate contributed an estimated $4.9 trillion (or 18%) to U.S. GDP in 2023, with each median-priced home sale generating about $125,000. When a home is purchased (new or existing), it tends to increase housing-related expenditures such as appliances, furniture, home improvement, and landscaping.13

Both real estate industries employ many types of professionals, and the development of new homes and buildings stimulates local economies by creating well-paying construction jobs and boosting property tax receipts. Development benefits other types of businesses (locally and nationally) by increasing production and employment in industries that provide raw materials like lumber or that manufacture or sell building tools, equipment, and components.

Shifts in real estate values, up or down, can influence consumer and business finances, confidence, and spending. And when buying a home seems unattainable, some younger consumers might give up on that goal and spend their money on other things.

If interest rates stay high for too long it could accelerate commercial loan defaults, losses, and bank failures, continue to constrain home sales, or eventually push down home values — and any of these outcomes would have the potential to cut into economic growth. When the Federal Reserve finally begins to cut interest rates, borrowing costs should follow, but that’s not likely to happen until inflation is no longer viewed as the larger threat.

1, 3) International Monetary Fund, January 18, 2024

2, 8, 10, 13) National Association of Realtors, 2024

4) The Wall Street Journal, April 30, 2024

5) CBS News, February 4, 2024

6–7) Freddie Mac, 2022–2024

9) Redfin, May 20, 2024

11) Moody’s, April 1, 2024

12) NAIOP Commercial Real Estate Development Association, 2024

What Stubborn Inflation Could Mean for the U.S. Economy

The U.S. Bureau of Labor Statistics April 10, 2024 released the Consumer Price Index (CPI) for March, and the increase in CPI — the most cited measure of inflation — was higher than expected. The rate for all items (headline inflation) was 3.5% over the previous year, while the “core CPI” rate, which strips out volatile food and energy prices, was even higher at 3.8%. The month-over-month change was also higher than anticipated at 0.4%.1

The stock market dropped sharply on this news and continued to slide over the following days, while economists engaged in public handwringing over why their projections had been wrong and what the higher numbers might mean for the future path of interest rates. In fact, most projections were off by just 0.1% — core CPI was expected to increase by 3.7% instead of 3.8% — which hardly seems earth-shattering to the casual observer. But this small difference suggested that inflation was proving more resistant to the Federal Reserve’s high interest-rate regimen.2

It’s important to keep in mind that the most dangerous battle against inflation seems to have been won. CPI inflation peaked at 9.1% in June 2022, and there were fears of runaway inflation like the 1980s. That did not happen, and inflation declined steadily through the end of 2023. The issue now is that there has been upward movement during the first three months of 2024.3 This is best seen by looking at the monthly rates, which capture the current situation better than the 12-month rates. March 2024 was the third month in a row of increases that point to higher inflation.

High for longer

While price increases hit consumers directly in the pocketbook, the stock market reacted primarily to what stubborn inflation might mean for the benchmark federal funds rate and U.S. businesses. From March 2022 to July 2023, the Federal Open Market Committee (FOMC) raised the funds rate from near-zero to the current range of 5.25%–5.5%, to slow the economy and hold back inflation. At the end of 2023, with inflation apparently moving firmly toward the Fed’s target of 2%, the FOMC projected three quarter-percentage point decreases in 2024, and some observers expected the first decrease might be this spring. Now it’s clear that the Fed will have to wait to reduce rates.4–5

Higher interest rates make it more expensive for businesses and consumers to borrow. For businesses, this can hold back expansion and cut into profits when revenue is used to service debt. This is especially difficult for smaller companies, which often depend on debt to grow and sustain operations. Tech companies and banks are also sensitive to high rates.6

In theory, high interest rates should hold back consumer spending and help bring prices down by suppressing demand. So far, however, consumer spending has remained strong. In March 2024, personal consumption expenditures — the standard measure of consumer spending — rose at an unusually strong monthly rate of 0.8% in current dollars or 0.5% when adjusted for inflation.7 The job market has also stayed strong, with unemployment below 4% for 26 consecutive months and wages rising steadily.8 The fear of keeping interest rates high for too long is that it could slow the economy too much, but that is clearly not the case, making it difficult for the Fed to justify rate cuts.

What’s driving inflation?

The Consumer Price Index measures price changes in a fixed market basket of goods and services, and some inputs are weighted more heavily than others. The cost of shelter is the largest single category, accounting for about 36% of the index and almost 38% of the March increase in CPI.9 The good news is that measurements of shelter costs — primarily actual rent and estimated rent that homeowners might receive if they rented their homes — tend to lag current price changes, and other measures suggest that rents are leveling or going down.10

Two lesser components contributed well above their weight. Gas prices, which are always volatile, made up only 3.3% of the index but accounted for 15% of the overall increase in CPI. Motor vehicle insurance prices made up just 2.5% of the index but accounted for more than 18% of the increase. Together, shelter, gasoline, and motor vehicle insurance drove 70% of March CPI inflation. On the positive side, food prices made up 13.5% of the index and rose by only 0.1%, effectively reducing inflation.11

While the Fed pays close attention to the CPI, its preferred inflation measure is the personal consumption expenditures (PCE) price index, which places less emphasis on shelter costs, includes a broader range of inputs, and accounts for changes in consumer behavior. Due to these factors, PCE inflation tends to run lower than CPI. The annual increase in March was 2.7% for all items and 2.8% for core PCE, excluding food and energy. The monthly increase was 0.3% for both measures.12

Although these figures are closer to the Fed’s 2% target, they are not low enough in the face of strong employment and consumer spending to suggest the Fed will reduce interest rates anytime soon. It’s also unlikely that the Fed will raise rates. For now, the central bank seems poised to give current interest rates more time to push inflation down to a healthy level, ideally without significant slowing of economic activity.13

All investing involves risk, including the possible loss of principal, and there is no guarantee that any investment strategy will be successful. Projections are based on current conditions, subject to change, and may not happen.

1, 3, 8–9, 11) U.S. Bureau of Labor Statistics, 2024

2)The New York Times, April 10, 2024

4) Federal Reserve, 2023

5) Forbes, December 5, 2023

6) The Wall Street Journal, April 15, 2024

7, 12) U.S. Bureau of Economic Analysis, 2024

10) NPR, April 18, 2024

13) Bloomberg, April 19, 2024

How long can Consumers Keep Carrying the Economy?

Consumer spending accounts for about two-thirds of U.S. gross domestic product (GDP), so it plays an outsized role in driving economic growth or slowing it down.1 For the last 18 months, U.S. consumers have kept the economy strong despite high inflation and rising interest rates. There is much discussion as to whether consumer spending will continue into 2024.

The Federal Reserve recently did not adjust interest rates. Raising interest rates has the same impact as increasing consumer spending. Both the level of consumer spending and increased interest rates help combat inflation. The Fed’s actions regarding interest rates try to balance numerous factors including consumer spending and employment. A reversal of spending and interest rates could lead to a recession

Measuring spending and inflation

The standard measure of consumer spending is personal consumption expenditures (PCE), released each month by the Bureau of Economic Analysis (BEA). Economists look at the monthly change in PCE  for the short-term trend and the year-over-year change for the longer-term trend.

September PCE increased 0.7% over August, a strong monthly growth rate and up from 0.4% in August over July. The September increase was 0.4% measured in “real” inflation-adjusted dollars, which indicates that consumers were spending more than the rate of inflation. The annual change in PCE was 5.9%, well above the 3.4% annual change in the PCE price index, which is the Fed’s preferred measure of inflation. (The Fed’s target for PCE inflation is 2%.)2–3

The pandemic effect

The current consumer spending story began with the pandemic recession, when a broad range of business activity stopped, and consumers received large government stimulus packages with little to spend it on. In April 2020, the personal saving rate — the percentage of personal income  that remains after taxes and spending — spiked to a record 32%, almost double the previous high. It declined as businesses reopened but remained above pre-pandemic levels until late 2021, when stimulus had ended, and high inflation made spending more expensive. The September 2023 saving rate was just 3.4%, well below the 6.5% average before the pandemic.4 While a low saving rate could be cause for concern in the long term, it indicates that consumers are willing to spend their income despite higher prices.

Why are consumers spending instead of saving?

Multiple explanations have been offered for this high-spending/low-saving pattern. Some lower-income consumers may be spending a larger percentage of their income because they must — they are spending more for basic needs due to high inflation. People with more disposable income might still be responding to pent-up demand for goods and services that were not available during the pandemic. And, after the tragedies and disruptions of the pandemic, some consumers may prefer to spend now and worry less about the future. The expensive housing market could be adding to this trend by making a typical saving goal seem unattainable to younger consumers.5

On a macro level, however, consumers may be spending instead of saving because they still have substantial savings. Although it was thought that pandemic-era savings were nearly exhausted, revised government data suggests there may be $1 trillion to $1.8 trillion in so-called “excess savings” still available. About half of this is likely held by households in the top 10% income bracket, but that still leaves a large savings buffer that could continue to drive middle-class spending for some time.6

The recently released Federal Reserve Survey of Consumer Finances revealed a similar story. The average inflation-adjusted median net worth of American families jumped by a record 37% from 2019 to 2022 — more than double the previous highest increase in the Fed survey, which is released every three years. Every demographic group saw substantial increases, but the largest by far was for consumers under age 35, whose net worth increased 143%. Because this survey only went through 2022, it does not capture the effects of continuing inflation in 2023.7

Wages and inflation

While pandemic-era savings may support consumer spending well into 2024, only wages can maintain strong spending for the long term. The question is whether wages will keep up with inflation without rising so quickly that they drive inflation even higher. For the 12-month period ending September 2023, average hourly earnings increased 4.2%. This was above the 3.4% PCE inflation rate over the same period, but down from the 5.1% pace of wage increases a year earlier.8 The fact that wage growth is keeping up with inflation while also slowing down bodes well for the goal of taming inflation with continued consumer spending.

Holiday spending

The winter holiday season, officially defined as November and December, accounts for about 20% of retail spending for the year, and is even more important for some retailers. An annual survey by the National Retail Federation found that consumers plan to spend an average of $875 this year on gifts, decorations, holiday meals, and other seasonal items. This is up from $833 in 2022 and slightly above the five-year average.9  Two broader surveys have found declines in consumer confidence in recent months, but it remains to be seen whether this leads to a decline in spending.10-11 While the winter holidays are not a “make or break” situation for the U.S. economy, this year’s holiday spending may provide clues to consumer behavior in the new year.

1–2, 4) U.S. Bureau of Economic Analysis, 2023

3, 7) Federal Reserve, 2023

5) The Wall Street Journal, October 1, 2023

6) Bloomberg, October 10, 2023

8) U.S. Bureau of Labor Statistics, 2023

9) National Retail Federation, 2023

10) The Conference Board, September 26, 2023

11) University of Michigan, October 27, 2023

Rising Oil Prices Could Be a Threat to the Economy

Oil prices have increased more than 30% since late June, driving up transportation costs for consumers and businesses and putting financial markets on edge. West Texas Intermediate crude, the U.S. benchmark for oil prices, was $93 per barre September 27, the highest level since August 2022. Brent crude (the global oil benchmark) rose above $96.1

Gasoline prices have followed suit. On September 27, the national average price for a gallon of unleaded gas was $3.83, up from $3.75 a year earlier. The price in California, the most expensive state for gasoline, averaged $5.89 per gallon.2

Market dynamics have impacted fuel prices in recent months. This adds concerns about broader inflation and the nation’s economic prospects.

Tight oil supplies

Oil prices are sensitive to shifts in the delicate balance between supply and demand in the global market. Much of the third quarter’s increase has been attributed to a combination of record-high global demand and coordinated supply cuts.3 On September 5, Saudi Arabia and Russia announced the extension of voluntary production cuts (1.3 million barrels per day combined) through the end of 2023. These cuts, which began in June, are on top of cuts that were previously put in place through 2024 by the Organization of the Petroleum Exporting Countries (OPEC), along with Russia and other allied oil producers (dubbed OPEC+). In total, supply cuts are expected to reduce global crude inventories by 3.3 million barrels per day in Q4 2023.4

OPEC is a coalition of 13 member countries, led by Saudi Arabia, which regulate their output to support oil prices. OPEC joined forces with the 10 OPEC+ countries in 2016 so they would have more power to influence prices. The two groups produced about 59% of the world’s supply of crude in 2022.5

Even so, OPEC does not have the iron grip on the oil market that it once wielded. Due to advances in shale drilling methods, U.S. oil production has more than doubled since 2011. The United States has been the top oil-producing nation since 2018 and was responsible for 20% of the world’s total in 2022. Saudi Arabia and Russia followed behind with 12% and 11%, respectively.6

Pain at the pump

Crude accounted for 57% of the nationwide cost of a gallon of gas in 2022, with the remainder reflecting refining costs, marketing and distribution, and taxes. Moreover, market conditions and gas prices vary widely by state and region.7

Gas prices also respond to seasonal demand shifts. For example, they tend to climb in the summer, when more drivers hit the road for vacations, then decline in the fall. In addition to the rising cost of crude, extreme heat in 2023 forced refineries in the Southeast to operate below capacity for safety reasons, pushing up prices even more than would be typical in the summer.8

On the bright side, the national average gas price is still below the record of $5.02 set in June 2022, when global oil costs spiked in the months following Russia’s invasion of Ukraine. And most states switch to a cheaper winter blend by October, which could deliver some price relief.9

Will U.S. drilling fill the gap?

Gasoline and heating oil (both derived from crude) are essential expenses for many households, which may leave them with less money to spend on other goods and services. A broad pullback in consumer spending — which accounts for about two-thirds of U.S. gross domestic product (GDP) — could take a significant toll on growth.10

Extended periods of high oil prices have been blamed for bringing on recessions in the past, and low prices have sometimes provided an economic boost. But this relationship has become more complex as the United States has expanded its presence in the global oil market. The United States has been called a swing producer because production levels often fluctuate in response to market prices. High oil prices tend to benefit producers by pumping up company profits, and they incentivize more hiring and drilling. A surge in drilling could have a positive impact on GDP that offsets some of the negative forces.

But more U.S. production is not guaranteed. With oil prices sitting above $100 per barrel for much of 2022, companies were reluctant to invest in drilling.11 In recent weeks, U.S. producers have reportedly added drilling rigs in the shale oil patch at the fastest rate since November of 2022, but it’s still unknown whether U.S. production will increase enough to lower prices.12

Inflation and the Fed

When fuel costs are high, businesses must decide whether to absorb them — lowering profit margins — or pass them on to consumers, which could reignite inflation across the economy.

Measured by the consumer price index (CPI), inflation increased 0.6% in August and was up 3.7% over the previous year. A 10.6% surge in gasoline prices was responsible for more than half of that monthly increase.13

The Federal Reserve has been raising interest rates aggressively to control inflation by slowing economic activity. Despite the rate hikes, the economy has remained surprisingly strong, so higher fuel costs may help the Fed’s efforts to slow the pace. Even so, the inflationary effects associated with rising oil prices appear to be another risk to the economic outlook that Fed policymakers must consider as they decide the future path of interest rates.

1) The Wall Street Journal, September 27, 2023

2, 9) American Automobile Association, 2023

3, 12) The Wall Street Journal, September 19, 2023

4) Bloomberg, September 12, 2023

5–7) U.S. Energy Information Administration, 2023

8) Associated Press, August 2, 2023

10) U.S. Bureau of Economic Analysis, 2023

11) The Wall Street Journal, February 24, 2022

13) U.S. Bureau of Labor Statistics, 2023