Arnott: Demographics And The New Normal

September 10, 2013

15 Keep in mind that this profile is a generic one that could represent most countries with the same life expectancy and hence is not U.S. specific.
16 Of course, the threshold of 65 for senior citizens will come under intense pressure, as a diminishing roster of working-age people supports a soaring roster of seniors. This will become especially acute given the steady improvements in the health of senior citizens throughout the developed (and emerging) world. The work force will be supporting people who are entirely capable of continuing to work. Perhaps future research will deliver more compelling results with a longevity-dependent retirement age. As the saying goes, "70 is the new 50"!
17 Given the statistical challenge in using all the information from the numerous and highly correlated independent variables—age groups—in a regression setting, we borrowed from the methodology developed by Fair and Dominguez [1991] and Higgins [1998], to fit a polynomial across the regression coefficients of all age groups, thereby reducing the parameters in the model and extracting (much) higher statistical significance.
18 It's interesting to note that AC/2012 measured the impact of demography on RPC GDP growth in two ways, based on "demographic shares" (the size of each five-year age cohort, as a percentage of the overall population) and "demographic changes" (the five-year rate of change in the demographic shares). We do not show the graph for the linkage between "demographic changes" and RPC GDP; it's fair to say that it looks like a near-twin of Figure 7. These two approaches provide radically different results in both estimating the magnitude of the tail wind during Phase II, and the head wind we're likely to face in Phase III. Demographic shares would suggest a huge Phase II tail wind and a huge Phase III head wind; demographic changes would suggest much more benign tail wind and head wind. Of course, steady state has demographic changes pegged at zero, by definition. Comparing zero change with the actual demographic experience (moderate, steady change toward more seniors and fewer young people) will seem benign, while comparing Phase IV on Figure 1 with Phase II will seem very daunting. Because the reality is likely to be between these two outcomes, we present the average of the two "forecasts," with an array of obvious caveats.
19 It's interesting to note that the term "emerging markets" was coined in the early 1980s, to make "third world" investing more palatable. The term has become entirely descriptive in the past 20 years, as these economies have truly emerged from pervasive squalor to exhibit a blend of entrepreneurial energy, self-reliance and a burgeoning middle class.
20 When forecasting y by means of y=a+b×x, if we drastically change the domain of our x variable, we enter uncharted territory and introduce unknown (and unknowable) errors into our results. Suppose we apply data from the 19th century to forecast the 20th century; the forecasts would likely have been directionally correct, but with abnormally large errors.

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