Mind the (Expectations) Gap: Demographic Trends and GDP – By Rob Arnott and Denis Chaves

For today's Outside the Box we have a very special research piece by Rob Arnott of Research Associates and his colleague Denis Chaves. Rob was with us at Leen's Lodge last week, and in the final evening discussion session he asked an interesting question having to do with demography and GDP growth. I was intrigued by it, but the group soon moved on without fully exploring Rob's idea; so I mentioned it to him again later, and he was good enough to send along the following paper.

Rob's description of their work, in an email to me this afternoon, gives us a pretty good synopsis:

[W]e show that the past 60 years—which we think of as “normal”— enjoyed a demographic tailwind which we can quantify.  It was worth about 1% per year, meaning that, if we think of 3% growth as normal, it’s really 2% growth plus a demographic tailwind of 1%. 

The coming decades—due to the rising support ratios from the aging boomers—will experience a demographic headwind of (very roughly—these will be wildly out-of-sample conditions) roughly the same 1%.  So, if 3% growth was normal, 1% growth (again, very roughly) becomes normal.  This is the reason behind my concerns regarding the legacy of monetary and fiscal experiments, and debt and deficits we leave our children.

One can see the potential for higher growth from new sources of ingenuity and the ongoing human experiment with technology, but the headwinds Rob talks about are very real and need to be factored into our analysis of the future structure of our portfolios.