Will Population Aging Cause a Meltdown of Asset Prices

1
Will Population Aging Cause a Meltdown of Asset
Prices?

• Katie Moon
• Professor Horlacher
• 10/29/09

2
Agenda

• Theory
• Empirical Evidence
• Limitations
• Rate of Returns
• Cohort Effect

3
Theory

• Strong correlation between savings and level of
  SP500
• Implies a substantial fall in real level of
  SP500 in the near future as Baby Boomers retire.

4
Scenario

• Average individual lives for two periods
• Work when young
• Retire when old
• Total capital goods is fixed and does not
  depreciate
• Saving rate fixed

5
Empirical Evidence

• Slower decumulation of financial wealth than
  theorized
• In fact, according to SCF, financial wealth held
  by adults 75 gt adults 60-65
• Why?

6
Limitations

• Forward-looking Investors
• Knew about the Baby Boom cohort since the 1950s
• Hence, incorporate into asset prices
• Open Economy
• Able to trade between different countries
• Hence, US demographic change is not the only
  force that affects values

7
Rate of Return

• Rate of Return Amount/Price
• ROR has inverse relationship with Price
• 90s
• Larger demand (baby boom) ? Price Increases?
  lower rate of return ? other people decrease
  demand in stocks
• 00s
• Lower demand (retiring baby boom) ? Price
  decreases ? higher rate of return ? other people
  increase demand in stocks
• This offsets the effect of change in asset prices
  due to baby boomers.
• Over time, assets will revert to its long-run
  mean

8
Cohort Effects

• Baby Boomers will likely earn returns on
  retirement saving below current returns
• BUT Baby Boomers usually have less children,
  allowing them to save more
• Boost consumption and ability to save early on,
  increasing disposable income
• This outweigh the impact of poor asset returns in
  retirement

9
Sources

• Brooks, Robin. Asset-Market Effects of the Baby
  Boom and Social-Security Reform. American
  Economic Review 92 (2002).
• Poterba, James M. Demographic Structure and
  Asset Returns. The Review of Economics and
  Statistics 82 (2001.)
• Poterba, James M. Impact of Population Aging on
  Financial Markets in Developed Countries.
  American Economic review 4th quarter (2004).
• Poterba, James M. Population Age Structure and
  Asset Returns An Empirical Study. NBER (1998)
  Working paper 6774.