Aging Nations Like Low Prices Over High Income: Cutting Research

Photographer: Tomohiro Ohsumi/Bloomberg

An elderly woman walks through a shopping street in Okayama, Japan. Wealth effects differ the world over as consumers in Europe and Japan are less affected by changes in equity and home prices than those in the U.S. Close

An elderly woman walks through a shopping street in Okayama, Japan. Wealth effects... Read More

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Photographer: Tomohiro Ohsumi/Bloomberg

An elderly woman walks through a shopping street in Okayama, Japan. Wealth effects differ the world over as consumers in Europe and Japan are less affected by changes in equity and home prices than those in the U.S.

The older a country’s population, the lower its inflation rate, posing a challenge for central banks in the world’s industrial nations, according to a UBS AG (UBSN) report.

Special Report: Seeking Gold in a Graying Population

Singapore-based economist Andrew Cates of the Swiss bank’s global macro team plotted average inflation levels over the last five years against changes in the dependency ratio, which compares the very old and very young to the working-age population.

The resulting chart showed nations that have aged in recent years typically faced very low inflation and, in the case of Japan, deflation. By contrast, those that have been getting younger, such as India, Turkey and Brazil, have relatively strong price pressures.

“Since aging demographics will now start to feature more prominently in the outlook for many major developed and developing countries this is clearly of some significance for how inflation might evolve,” said Cates in a May 30 report.

The finding clashes with the view of economics textbooks, according to Cates, which tend to say a slowdown in population growth should put upward pressure on wages -- and therefore inflation -- as labor supply shrinks. Still, this ignores how demographics influence demand for durable goods and property, Cates said.

He cited a Federal Reserve Bank of St. Louis study that says because the young initially don’t have many assets, wages are their main source of income. The young are therefore comfortable with relatively high wages and the resulting inflation.

By contrast, because older generations work less and prefer higher rates of returns on their savings, they are averse to inflation eating away at their assets.

“Whichever group predominates in any economy will therefore have more ability to control policy and more ability to control economic outcomes,” said Cates.

* * *

The U.S. manufacturing industry is poised for a renaissance that could add 2 million jobs in coming years after suffering through “extraordinary severe” headwinds for decades, Citigroup Inc. said.

The sector has not only borne the brunt of globalization, it’s also been hit by an economy shifting toward services, economists Nathan Sheets and Robert A. Sockin said in a May 31 report. Those factors led the industry’s share of nominal gross domestic product and employment to decline sharply in the past half century, with about 5.6 million jobs lost since 1997, they wrote.

“The silver lining, however, is that despite these long-term challenges U.S. manufacturing has emerged more profitable and productive than at any time in the post-War period,” they said. “Our analysis indicates that the sector’s underlying fundamentals are broadly favorable: the dollar is at a competitive level, unit labor costs are well contained, firms are holding substantial quantities of cash, and debt-service burdens are low.”

Because the world’s largest economy needs the creation of 5 million jobs to return the labor market to equilibrium, the manufacturing sector will play an important role in normalization, they said. Cash-rich manufacturers will drive business spending, the economists wrote, estimating domestic holdings of about $550 billion.

“The size of these holdings suggests significant capacity for future capital investments once business confidence picks up more vigorously,” Sheets and Sockin said. “We conclude that U.S. manufacturing is poised for a decade of much stronger performance, both relative to its own historical performance and relative to the rest of the economy.”

* * *

It’s size that matters in how much chief executive officers are paid.

In an update of research first done in 2008, Xavier Gabaix and Augustin Landier along with Julien Sauvagnat studied whether most variations in CEO compensation can still be explained by the demand for executives.

As large firms have gotten even bigger in terms of their market value, executive compensation has increased by a similar proportion as all firms have a higher willingness to pay for talent, Gabaix and Landier said in their original research, which predated the financial crisis.

The economists found this relationship held through the turmoil of 2007 to 2009. In a working paper published this week by the National Bureau of Economic Research in Cambridge, Massachusetts, they found the average market value of the largest 500 U.S. companies decreased by 17 percent and CEO pay by 28 percent during that period. From 2009 to 2011, average market value rebounded 19 percent and CEO pay rose 22 percent.

This suggests their original “size of stakes” hypothesis still holds, they said. Gabaix works at New York University, Sauvagnat at Malakoff, France-based CREST and Landirer at the Toulouse School of Economics.

* * *

Glimmers of hope for the Greek economy are beginning to emerge.

In a June 4 report, the Washington-based German Marshall Fund of the United States identified four notable achievements.

Greece will soon have reduced its government spending without interest payments by almost a third. Revenues have risen by more than 6 percentage points since 2009 to 45 percent of gross domestic product, said author Juergen Matthes, head of the international economic order department at the Cologne Institute for Economic Research.

The budget deficit has fallen nine percentage points relative to GDP. When adjusted for the business cycle, it has shrunk by 14 points, an almost unprecedented amount.

While the economy continues to decline, the country has made progress in overhauling its labor market, removing obstacles to employment, the research group said.

“Although the Greek economy still has several obstacles to overcome, the glass actually appears half full rather than half empty,” said Matthes.

* * *

Measuring the success of the Federal Reserve’s asset-buying program is best done if the anticipation of the purchases is also accounted for.

A study published last week by economists at the Fed Bank of Kansas City found that financial markets tended to begin pricing in the effects of various Fed programs before they were formally started. They also followed news stories and Internet searches to assess how early action was being predicted.

Failure to include such trading means the effect of the quantitative easing on long-term interest rates is understated, said economists Andrew Foerster and Guangye Cao.

* * *

Wealth effects differ the world over as consumers in Europe and Japan are less affected by changes in equity and home prices than those in the U.S.

So say Tom Pugh and Andrew Kenningham of Capital Economics Ltd. in London.

In Europe, the authors estimate that shares account only for about 10 percent of wealth in Germany and France, while residential property prices are lower in most euro-area nations than a year ago. The Japanese hold less than 7 percent of their financial assets in stocks and home prices are still below their 2012 level.

“The low share of household assets held as equities and the weakness of most property markets mean that any wealth effect is likely to be small,” said Pugh and Kenningham in a June 4 report.

The U.S. may be better placed to transform the gains in assets into spending given equities account for about 30 percent of financial holdings and property prices are up around 10 percent over the last year, they said.

To contact the reporter on this story: Simon Kennedy in London at skennedy4@bloomberg.net Shamim Adam in Singapore at sadam2@bloomberg.net

To contact the editor responsible for this story: Stephanie Phang at sphang@bloomberg.net

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