13 Apr 2017
An aging US population is starting to take its toll on the country's ongoing economic expansion.
The fastest-growing group within the American population is people aged over 65 - a trend that has been accelerating since 2007. They are also the group with the lowest workforce participation. Macquarie expects this trend to deepen, applying pressure on labour force and gross domestic product growth in the years ahead.
“The baby boom generation is so large that it is creating a massive headwind for labour supply growth," says Macquarie Securities North America Economist David Doyle. “With the economy on the cusp of full employment, we expect that this trend will soon constrain output growth."
These impending labour-supply issues could cloud the outlook for investors, who have recently focused on signs of strengthening activity and increased government spending, to raise bets that the US economy is beginning to accelerate.
While labour demand improves, Doyle expects labour supply will tighten as the economy nears full employment. As fewer productive workers enter the market, output should suffer.
The baby boom generation is so large that it is creating a massive headwind for labour supply growth."
Doyle has reduced his forecast for US growth from 2017 to 2020 by an average 30 basis points a year. Doyle's new estimates are as much as 70 basis points below the market's consensus for 2018 onwards.
America's largest group is retiring
The share of the US adult population aged over 65 years old has grown steadily in recent years, from around 16 per cent of the total at the start of this decade to a predicted 22 per cent in the early years of next decade.
According to Macquarie's calculations, around 120,000 jobs per month will be required this year to keep the unemployment rate at 4.5 per cent – Macquarie's estimated trough level for the current expansion. By 2020, that breakeven jobs level will fall to around 45,000 per month.
Demographics and the US Federal Reserve
In January and February, US employment increased sharply, with over 217,500 payrolls added a month. In March, non-farm payrolls grew by 98,000.
To stop wages from heating up and spurring inflation, the Federal Reserve may need to raise rates faster and earlier than many previously forecast, Doyle says.
“The economists at the Federal Reserve have probably come to the conclusion that this demographic trend could create a significant issue unless they slow things down."
“In order to cool down labour demand, they may need to be a little bit sharper and more aggressive than they otherwise would have been, or risk being left behind the curve," says Doyle.
Doyle expects The Federal Reserve, which in March lifted the overnight funds rate by a quarter-point to a target range of 0.75-1 per cent, may lift rates twice again in 2017 and once in 2018. He previously estimated two hikes each in 2017 and 2018, and one in 2019.
The global crisis effect
While the aging demographic phenomenon has been in place for several years, it has not squeezed labour supply until now because of the dramatic rise in unemployment in the aftermath of the global financial crisis. The jobless rate has fallen to 4.5 per cent, from 10 per cent in 2009.
“The aging trend feels like it is happening very suddenly," says Doyle. “But the reason is that after the financial crisis you could have a couple of hundred thousand jobs added every month without causing labour supply constraints."
Impact on growth and yields
An aging working population also hurts productivity. Firstly, as individuals who are over 55 are less likely to improve their skills; and, secondly, because the more people retire, the more replacements with little experience join the market.
Because of potential labour-market constraints, Macquarie has cut its estimate for 2017 US GDP growth to 2.2 per cent, from 2.5 per cent. The predicted growth rate for next year and 2019 has fallen by 20 and 30 basis points, respectively.
Doyle has also trimmed his estimate for the 10-year Treasury yield's 'fair value' to 2.3 per cent from 2.7 per cent, and has cut this cycle's upper-end forecast for the Fed Funds rate to 1.75 per cent from 2 per cent.
“The expansion is durable and should continue," says Doyle, “but growth expectations are elevated and need to moderate."
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