YOU DECIDE: Is demography driving economics?

Date posted: September 16, 2011

Dr. Michael Walden is William Neal Reynolds professor of agricultural and resource economics at N.C. State University.Dr. Michael Walden is William Neal Reynolds professor of agricultural and resource economics at N.C. State University.

Media Contact: Dr. Mike Walden, 919.515.4671 or michael_walden@ncsu.edu

By Dr. Mike Walden
North Carolina Cooperative Extension

When, as a child, I was confused about some problem, my father would say, “Son, maybe you’re missing the forest because of the trees.” Of course, what he meant was that I was too focused on the small pieces (the trees) of the problem to see the answer in the big picture — the forest.

The same could be said of many of today’s economic questions. Various groups debate causes and solutions with no apparent agreement. Are they putting too much attention on the trees and not enough on the forest?

A strong argument can be made that the answer is “yes,” and the forest that is often being missed is demography. Demography is the study of human population and its characteristics. For current economic issues, the important demographic factor is the number of people in various age ranges.

Of course, age affects many of our likes, dislikes and preferences. For example, I (a college professor over age 60) prefer different music, movies and even food than the college students I teach. If I say Sinatra, Gable or meatloaf (the food, not the singer), many of my students’ eyes will glaze over!

But demography also has a big impact on public finances. Public expenditures on a per person basis are generally greatest for the young and the old. Young people need to be educated, so public spending on K-12 schools, colleges and universities rises as the number of young people increases. At the other end of the age spectrum, older persons use more health care, and much of this is provided by government spending.

It’s well known that we are an aging society. In 1950 only 8 percent of the population was 65 and over; by 1990 it had risen to 12.5 percent; and in 2010 the rate was 13 percent. Further, with the large baby boom generation moving into retirement, the elderly slice of our population will continue to grow, reaching 19 percent in 2030 and more than 20 percent by 2050.

At the same time, the percentage of our population that is young will change very little, slipping less than one percentage point in the next 20 years. This means the growing proportion of our elderly population will be accompanied by a reduced proportion of those in their peak working years.

This then is the forest of our future, the graying of our population and the increased number of elderly persons (usually retired) relative to those working. This forest has and will continue to have a profound effect on federal government finances and the continuing debate over the national debt.

The reason is that three big federal government programs — Social Security, Medicare and Medicaid — are being driven by our aging population. Currently, Social Security is in good financial shape. It has a surplus in its investments. But the latest report from the Social Security trustees states the surplus will be exhausted in 2036, after which taxes collected for Social Security will only be able to pay three-fourths of promised benefits. In short, Social Security is expected to have a funding problem down the road.

Medicare already has a funding problem. According to the Social Security trustees, who also oversee Medicare, the program already spends more than it receives in fees. Additionally, Medicaid — which spends 26 percent of its funds on the elderly — is totally supported by taxpayer funds.

Currently, Social Security, Medicare and Medicaid account for 43 percent of federal government spending. With the elderly population growing faster than other age categories, the Congressional Budget Office estimates that by 2035, these three programs will account for over two-thirds (67 percent) of total federal government spending. Social Security and Medicare alone will account for over 60 percent of the federal budget. This is why most plans for addressing the national debt and federal spending include some modification to these programs.

Another way in which the forest of our aging population could affect the economy is in investments. Logic supports the notion that elderly persons are more likely to sell their stocks and convert them to cash for living expenses than would younger persons. Such selling puts downward pressure on stock prices. Indeed, new research from the Federal Reserve Bank of San Francisco has found an inverse relationship between the prices of stocks and the aging population; that is, stock prices fall as the relative size of the elderly population increases.

I think my father was right. Stepping back and looking at the big picture can help us fit the pieces together and perhaps come to some realizations and answers. When this step back is done today, some say the pieces fit together to spell “demography.” You decide if their sight is clear!

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Dr. Mike Walden is a William Neal Reynolds Professor and North Carolina Cooperative Extension economist in the Department of Agricultural and Resource Economics of N.C. State University’s College of Agriculture and Life Sciences. He teaches and writes on personal finance, economic outlook and public policy. The College of Agriculture and Life Sciences communications unit provides his You Decide column every two weeks. Previous columns are available at http://www.cals.ncsu.edu/agcomm/news-center/tag/you-decide

Related audio files are at http://www.cals.ncsu.edu/agcomm/news-center/category/economic-perspective/

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