Demographic-asset time bomb

Michael Stastny lays down the stats, showing first a graph of the expected age composition of Austria (as a proxy for Europe) from now through 2050 (by province!), and secondly a graph showing savings accumulation/dispensation by age, and invites everyone to connect the dots.

The point Poterba is trying to make is that during the last fifty years, the real level of stock prices, as measured by the real value of the S&P 500, has moved in tandem with the fraction of the adult population in this age group. Whether this pattern reflects a causal link between demographic variation and the stock market, and whether it is likely to predict future asset price movements, is the central issue that the empirical work addresses. The worrying implication is that when this group starts to retire after 2010, share prices will fall as they become net sellers of assets to the next, less numerous generation of investors.

The US' population is aging, but growing, whilst Europe's is aging and declining, meaning that relatively speaking Europe will get 'older' than the US. If the "income smoothing" model of savings/spending is correct, there will be more sellers on the market in a few years in an absolute sense, but again, marginally European investors will sell more than Americans. Thus, wherever Europe tends to invest will have a downward pressure on asset prices in the coming decades.

Where do European assets mainly get invested? (ulp. Though I admit at the moment I don't have any data in front of me to support my suspicion that Euro investment flows in large part to the US.)

Though I disagree with Michael about markets reflecting all available information (EMH), I agree that there is more to asset valuation than simply looking at how many people are looking to sell now vs. tomorrow (and adjusting accordingly), so I'm not sure there is a catastrophe coming for asset prices, though the relative composition of who owns what may change significantly in the coming decades (will capital flows change? Will Americans save more, relatively speaking? Who knows...).

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I don't think there is any

I don't think there is any conflict between this and the EMH. When the demand for investments is higher, the price point of investments is higher, and the market rate of return on investment should be lower. If demographic shifts cause the amount of investment money to decrease, the stock market will fall. On the other hand, that also means that new money coming in will earn a higher rate of return. Perhaps this will stimulate increased investment to at least partially offset the demographic effect. Also the decreased stock market price does not represent a decrease in the expected stream of dividends - simply in the price people are willing to pay for those dividends.

This doesn't seem disastrous to me, although it is going to hurt those with substantial investments. It seems like protection would come from investing in stocks with high dividends, whose return is based on dividends rather than increasing price.

The EMH does not imply stock prices now should be what they are going to be in decades. The stream of dividends between now and then is much more relevant to the price. It does mean that as we get there, prices should steadily shift in anticipation, rather than moving suddenly.

I don't see why stock prices

I don't see why stock prices don't reflect all available information, but then again my knowledge of the matter is, admittedly, amaturish to say the least.

But that's not really why I'm commenting. What I really want to comment is this: let's not forget about the effects of the deaths of the baby-boom generation, which, as every trusts and estates lawyer will tell you, should result in unprecedented wealth transfers to younger generations. And I don't think it's crazy to suppose we youngsters will simply invest these transfers right back into stock markets.

This is to say nothing of how much the markets will soar if one party or the other ever gets up the courage to actually privatize some of the social security system.