Adapting to an Aging, Inflating World

I used to agree with the mainstream view that an aging population was deflationary.

The logic: old people don't buy new stuff.

Real world examples: Japan, Singapore, Germany, etc.

If inflation did pop its head up, governments would reflexively smash it with higher interest rates, never mind the resultant unemployment. Why? Well, the US did it in the 1970s. Since then, much of the neo-liberal project has been to transfer power from workers to consumers. Voters were happy with that trade-off then, so they probably would be again.

The numbers stack up politically. Inflation affects everyone. Unemployment only affects workers. I don't work. I'm team higher unemployment.

Anticipating a future of stable or falling prices, I relaxed going into the COVID pandemic.

Then inflation returned, even rich countries aged due to closed borders stopping the dilutive inflow of working-age migrants.

Despite central banks sharply increasing interest rates, inflation has remained high for longer than expected.

I know we should change our minds to fit new information, but we've gone from:

"Aging population = deflation"

to: 

"Aging population = inflation"

... in the blink of an eye.

Goodheart and Pradhan extend that to predict that an aging China will export inflation.

Of course, there are many causes and measures of inflation, and rates of inflation differ between categories. Leaving that aside, perhaps I was looking at the wrong age group.

According to the BIS, the working-age cohort has the strongest relationship with inflation. The very old and very young are inflationary as they consume but do not produce. So it is the relative number of middle-aged - the dependency ratio - that predicts inflation.

With the dependency ratio set to climb in upper-middle income countries for the rest of my foreseeable lifetime, what can I do?

And no, I'm not moving to a lower-income country.

Investment-wise, I'm not sure.

Aging could also prove inflationary, in our view. We don’t think older populations consume less, rather the mix of demand changes. Think more healthcare. 

-- Blackrock Investment Institute

Healthcare and Education stocks might seem like sure bets.

But they are subject to high and local regulation. Operation Warp Speed, which removed regulatory hurdles from COVID vaccine development, was only temporary. That's probably sated the political deregulation appetite for a while. There'll be fewer opportunities to widen margins through efficiencies as fewer efficiencies are approved.

So what about pure revenue growth, even if costs grow alongside? The real consumer of health and education services is not the average citizen, but the state through its compensatory regimes. This limited public spending, along with uncompetitive public alternatives and regulation discourage efficiency-seeking.

Why bother making your school/hospital more productive if:

1. You're not going to get any more money;
2. The state facility down the road doesn't;
3. You're not allowed to?

Stagnant margins don't anticipate outstanding returns.

Real estate?

While less capped by the government purse, land is subject to regulation at all levels of government. I hold, but don't like, direct real estate. I predict urbanisation will resume, because good luck finding doctors, childcare, or a community comfortable with minorities out woop-woop. Location risk - buying the peak in the wrong region - will bite many as net population flows return to cities. But who decides whether the area surrounding your massive illiquid purchase is going to be the next gentrified hub-burb or the next ghost town? 

Hammered by higher interest rates of late, commercial/industrial real estate could be defensive through diversification and flexibility. It would be easier for a REIT to leverage a portfolio of successful properties to convert a struggling logistics hub into aged care than it would be for me to turn my rental into, say, an early learning centre.

To be honest, I don't have great ideas about top line expansion. So what about the bottom line?

Consumption, not Investment

It may be easier to direct consumption than investment. That is, shrink future expenses rather than seek future income.

Despite (or perhaps due to) growing public spending in housing, education, and healthcare, these categories continue to drive inflation. Governments are understandably shifting more of the burden onto consumers.

A declining working-aged population doesn't drive up prices universally, but increases demand for, and removes labour supply from, already inflated products. This leaves less room for spending in areas where prices may be stable or falling. Despite falling prices an OLED TV may be unaffordable after paying school fees.  

How then would I plan to consume less future healthcare, education, and housing?

The big one: not have a kid. Think about it. No need for an extra room, childcare, or pediatricians.

But wait, there's more ...  savings.

Naturally a lazy fat-arse, I force myself to do daily exercise to delay frailty. I also block out time to read, game, and blog to safeguard my cognition.

Preventative spending in those categories can be thought of as investment. I have an annual health check, courtesy of expensive Japanese health insurance. I hire out server time to play with and learn about AI.

At the same time, there are other inflation laggards I can consume more of. I just mentioned server time which is in fact deflating. I can also walk and take more public transportation, which in contrast to private transportation lags general inflation.

Inflation? Really?

I shouldn't get ahead of myself. This could be wasted effort.

Well, duh. Of course I can't stop dying. I can try to have a smoother, more prosperous time doing so, though.

What I mean is, how inevitably will inflation rise with dependency ratio?

Because ... Japan.

Japan's dependency ratio has risen since the 1990's, but Japan's inflation has been pretty much zero until 2020.

I don't know what Japan is doing differently. My two big guesses, abstemious pensions and a falling population, have clear counter-examples. Australia's pension replacement rate is not much higher than Japan's, and Poland's population has been shrinking for longer. Both have higher rates of inflation.

Indeed, Korea and Portugal also show no link between higher inflation and a shrinking proportion of middle-aged. 

Summary

Inflation may or may not rise with dependency ratio.

Investments which could benefit from this face obstacles that may prevent them doing so.

However, I can shift consumption away from high inflation categories to those facing low or negative inflation.