You Can’t Escape China’s Demographic Destiny

Melbourne, Australia
Wednesday, 28 April 2021
Twitter: @DRAUS

[4 min read]

Dear Reader,

For the past 40 years, China has provided the greatest demographic boom in world history. This was the result of three forces — total births, age distribution, and the relatively impoverished state of most of the population at the beginning of the process.

China’s population grew from one billion people in 1982 to 1.4 billion people today. That’s a gain of 400 million people in less than 40 years. China’s population pyramid (a graphical presentation of the total population broken out by age and gender) shows the overwhelming majority of the total population were between the ages of 15 and 40 as of July 1990. The population pyramid for July 2000 shows the bulk of the population between the ages of 25 and 50, or prime working age. That 2000 result is simply the same picture from 1990 but 10 years older.

China’s population is ageing rapidly

However, the 2016 pyramid shows the rapid ageing of the Chinese population. The bulge in the population distribution is now between the ages of 40 and 60. In another 10 years, that bulge will be between the ages of 50 and 70 with a substantial cohort in the over 70 range.

This ageing cohort might not matter if China had another bulge of younger workers coming along to fill the gaps. It doesn’t. The brackets from birth to 20 years old include only about 320 million younger people coming into the workforce in the decades ahead to replace the 420 million workers between the ages of 40 and 60 who will soon retire. That leaves a labour shortage of 100 million workers in China compared to recent decades. That shortage is partly the bitter legacy of China’s one-child policy, which was introduced in 1980.

As China was absorbing its growing population from 1990 to 2010, it was able to move poor villagers into manufacturing jobs in major cities and special enterprise zones. These jobs were low paid and were not high-value-added, but they were a vast improvement over village life for the hundreds of millions who made the migration. This manufacturing miracle made China the de facto low-cost manufacturer to the world. In turn, China has exported deflation to the world through lower prices.

The Great Moderation was imported from China
(like everything else)

Analysts point to inflation moderation from 1990 to 2010. They call it the Great Moderation. Deflation did not appear in prices. But its force was there, just hidden by excessively easy monetary policy, deficit spending, and a massive increase in debt. This goes back to the tug-of-war metaphor. China’s natural deflationary effect on the world (caused by demographics) was offset by monetary inflation (caused by zero rates and money printing) to produce price stability. Still, the deflationary vector was always there. It just had to be offset.

Now the demographic sweet spot that led to price moderation, low interest rates, and the reduction of global poverty is over. There are relatively few left in rural poverty who have not already migrated to the cities. China is moving to a rapidly ageing society with fewer prime-age workers to take up the slack.

Looking forward, not just in China but globally, we see a world in which more people are out of the workforce, mental impairment is on the rise, more people are needed as caregivers with little chance for productivity gains, and the working-age population is shrinking.

A world of labour shortages means inflation

A world with slow growth and a declining prime-age workforce means one thing: Higher wages. And higher wages in a slow-growth world means inflation. There is no avoiding a strong inflationary trend that may persist for 20 years or more, as it last did from 1965 to 1985. Inflation is the environment within which all other policy variables will be pursued.

There is nothing central banks can do to stop this. Workers who do not get the wage increases they seek will move and go elsewhere. They will have ample choices in a world of labour shortages.

Central banks will be late to identify the trend (as usual). Inflation will catch them by surprise. They may begin to raise rates to deal with the inflation, but this will have a devastating impact on public finances because of the high debt ratios.

No one worried about debt when rates were 0–1%. If that debt has to be rolled over with rates in the 7% range, even more money printing and monetary ease will be needed to cope. This will make inflation even worse. Central banks may find they don’t entirely mind inflation because it reduces the real value of public debt. Government can win in that scenario.

The losers will be savers, retirees, and those relying on insurance, annuities, pensions, and fixed-rate bonds to pay their bills. Contrary to what most believe, stocks do poorly in an inflationary environment. Costs for wages, inventories, fixed assets, interest, and rents tend to rise faster than revenues, which squeezes profit margins. The biggest winners will be those who invest in hard assets such as oil, natural resources, gold, silver, and real estate. Certain sectors of the stock market may outperform, especially healthcare.

Inflation is coming, eventually

This world-historic inflationary wave will not emerge overnight. Demographic waves move slowly and so do their economic consequences. But, much like a glacier, their force is powerful and the movement inexorable. The coming year will continue to be characterised by the deflationary and disinflationary forces that have emerged from the pandemic. This is the death rattle of 30 years of trending deflation.

Beginning in 2022, we will see the first signs of the inflationary wave. It will last for 20 years or longer. Central banks will continue to guess about natural rates, output constraints, target rates and exchange rates. Mostly they will guess wrong, but the process of trying to guess right will constrain their actions.

In the end, nominal rates will go higher to fight inflation, real rates will go higher to induce capital investment (needed to offset labour shortages), wages will rise, and inflation will outpace interest rate increases.

Stocks, bonds, and retirees will all suffer. Hard assets and governments with high debt loads will win. As always, those who move earliest to position ahead of these waves will gain the most. Inflation will be the global environment for decades to come. Everything else will be policy content at best or, at worst, mere noise.

Regards,

Jim Rickards,
Strategist, The Daily Reckoning Australia

PS: This content was originally published by Jim Rickards’ Strategic Intelligence Australia, a financial advisory newsletter designed to help you protect your wealth and potentially profit from unseen world events. Learn more here.