An Aging World = Social and Economic Timebomb

A Booming Headache
The three major effects of aging in the United States would be the issue of paying the 79 million or so baby boomers their pensions, the effect of the older population on the savings rate (and subsequently the economy) and the strain on the government because of healthcare issues of the elderly.

For instance, a study has found that America’s 100 largest corporate pension plans were underfunded by $217 billion at the end of 2008. This is a huge problem when about half of US workers have less than $2000 saved up for retirement. Simply put, the unprepared will find themselves making the grim choice between their healthcare needs and food/utilities.

Social security is also in a fragile state. With 35% of Americans over 65 relying on social security as nearly 100% of their income, and the fact that the system pays out more benefits than it receives in taxes, the political and social landscape is set to explode.

How to deal with social security is certainly a headache for politicians. For instance, if the government just decides to print the money they need to deal with the shortfall of cash inflows, it would likely be too politically dangerous to consider as a viable solution.

Also, with US unemployment still high and around 46% of Americans disapproving of the Democrats’ efforts, Alena Kimakova, Associate Professor of Economics and Public Policy at York University, comments that the US pension system has problems both on the public and private side.

“Private pension funds suffer from risks associated with market downturns, employers going out of business or reneging on their pension contribution obligations,” says Kimakova. “Even in unionized environments, employers’ liabilities towards pension funds often get less consideration in negotiations than maintaining employment levels or avoiding shutdowns and moving operations overseas.”

Therefore, Professor Kimakova states, entitlements for younger contributors to the system will likely drop and/or change, which would be the most viable political alternative as it allows for the “time-distancing” of the unpopular measure. Things just seem more acceptable if the pain is deferred. She goes on to say that a gradual increase in the full retirement age has already been implemented.

[pullquote]… as the world quietly grows older, these trends will become apparent pretty quickly as they will have a lasting impact on every corner of the globe.[/pullquote]

“Those who were born in 1960 or later face a full retirement age of 67, compared to those born between 1943 and 1945 having 66 years as the normal retirement age, for example.”

Furthermore, Kimakova suggests that the US social security system could stand to be more progressive, because as of now, even the well-off are entitled to payouts due to the fact that the system only uses age as a benchmark.

On the issue of the savings rate and its effect, Kimakova says, “Traditionally speaking, American households have had very low savings rates and this is in part due to the developed financial markets in the US, which gives better access to loans for individuals, who then use these loans for consumption purposes.”

There are economic benefits to accessible loans, one of which includes the countering of wealth inequality and boosting economic activity and the GDP. However, the low interest rate environment (due to high productivity, well-developed financial markets, stable institutional environment, etc.) might be changing in light of the large public deficit and prolonged downturn of the economy.

Consequently, the effect of economic growth in the short to medium term is likely to be negative because domestic consumer spending has been the main driver of the US economy. However, the long term effect will be a beneficial one, as people will be saving more and living within their means.

As for the healthcare strain due to aging, the federal government will certainly feel the impact as Medicare pays for 56% of the elderly’s healthcare bills. In fact, public coverage of the elderly (Medicaid and Medicare) is 60% of healthcare spending for the 65+, while private insurance accounts are only 14%.

A silver lining, if any, would be the fact that the elderly spend upwards of four times the amount on healthcare as those under 65. This involuntary preference of the elderly to “consume” health services would likely facilitate a boom in the health industry—and there is evidence of companies already positioning themselves for the windfall.

Conclusion
In the case of Japan and US, they stand to lose their competitive advantages of a large domestic market and consumption respectively due to population aging. In the case of Japan, its strong cultural stance has resulted in an extremely closed immigration policy. This simply piles onto the negative growth, as its own citizens, for many reasons such as pessimistic economic expectations, either do not want to have children or cannot.

In regards to the US, low interest rates due to various advantages such as having the reserve currency of the world set as US dollars, have made it easy to take on more loans and thus marginale the idea of saving.
With lending at an all-time low and the fact that people over 65 tend to spend less, economic growth, as said before by Professor Kimakova, is definitely going to suffer in the next ten years. Meanwhile, China’s competitive advantage will likely remain due to infrastructure and institutions, but its main problem of pensions will likely become a major issue.

Despite these major issues and trends, it is surprising how demographic changes are rarely ever noticed. However, as the world quietly grows older, these trends will become apparent pretty quickly as they will have a lasting impact on every corner of the globe.

ARB Team
Arbitrage Magazine
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