The main theme of this blog, It Does Not Add Up, is our country’s huge and out-of-control, national debt.  This rapidly growing debt will have very serious long-term consequences.

There is a simple connection between inflation and debt.  Higher inflation means higher interest rates because investors will insist on higher returns.  But higher interest rates mean higher interest payments on the debt.  In recent years, interest rates have been so low that our debt is virtually free money.  This has lulled national leaders into complacency.  As interest rates rise, interest payments on the accumulated debt will increase dramatically and, before long, will cause a new fiscal crisis.

The threat of inflation is rearing up, short-term and long-term.  Short-term because of the expected rapid recovery from the pandemic, see here and here, as vaccines become widely available.  This is not especially alarming in the short term.

It is the long-term, fundamental trend which should be of great concern.  This is well explained in a new book, “The Great Demographic Reversal: ageing societies, waning inequality and an inflation revival” by the economists Charles Goodhart and Manoj Pradhan.

Consider:

• Between 1990 and 2017, the working-age population of China increased by 240 million and in the USA and Europe by 60 million. The employment of women also greatly increased.  This meant a dramatic decrease world-wide of the dependency ratio, the ratio of workers relative to non-workers.
• The effective labor supply for the world’s advanced economic trading system more than doubled over the 27 years from 1991 to 2018. The inevitable result is a weakening in the bargaining power of the labor force.
• This produced a strong deflationary force which has been so aggressive that it has caused inflation to remain at or below 2% since 1990.
• Over the next few decades, the steady decline in birth rates to below the rate at which the population is self-sustaining will bring about a sharp reduction in the growth of the labor force in many countries.
• This means that the deflationary bias of the past 30 years will change to an inflationary bias. The sharp worsening of the dependency ratio around the world means that non-workers who consume but do not produce will outnumber the workers who do produce.
• The bargaining power of the decreasing number of workers will increase and so real wages, and the relative income share of labor, will start rising again. This produces inflation.
• It also means that inequality between lower-income and higher-income workers will begin to fall.

Conclusion.  As the demographic trend reverses, and the current world-wide surplus of workers over non-workers begins to make a fundamental shift in the other direction, workers will be able to demand higher wages.  This will have a large inflationary effect.  It will also lessen inequality.  In other words, our current climate of low-interest rates, low inflation, and higher inequality will reverse to high inflation, high-interest rates and less inequality.  This demographic reversal has many implications for public policy.  Stay tuned!

Sign-up for my Email Newsletter
Follow me on Facebook
Follow me on Twitter