Last night I joined my old friend and Bear, Stearns colleague Wayne Angell—a vice chairman of the Fed’s Board of Governors two decades ago—on CNBC’s Kudlow Report . Wayne took issue with economists who fear deflation; I tend to share those fears, although for different reasons than the ones usually cited. For the past several years I have been warning that the unprecedented wave of aging in the industrial world will have gigantic effects on financial markets. In a nutshell, people approaching the cusp of retirement save a great deal, which is to say that they buy future goods (securities) rather than present goods. In the extreme case the price of present goods may fall.

In May 2008, just as the great financial crisis was getting underway, I warned that demographics were the driving force:


The aging pensioners of Europe and Asia must find young people to pay interest into their pensions, and they do not have enough young people at home. Germans aged 15 to 24, on the threshold of family formation, comprise only 12% of the country’s population today and will fall to only 8% by 2030. But one-fifth of Germans now are on the threshold of retirement and half will be there by mid-century.

[ . . . ]

There is nothing complicated about finance. It is based on old people lending to young people. Young people invest in homes and businesses; aging people save to acquire assets on which to retire. The new generation supports the old one, and retirement systems simply apportion rights to income between the generations. Never before in human history, though, has a new generation simply failed to appear.

As the above chart makes clear, America’s population profile is far more benign than Germany’s, but it is aging nonetheless. There simply aren’t enough young people in America to borrow money from Europe’s and Japan’s aging savers.

The world kept shipping capital to the United States over the past 10 years, however, because it had nowhere else to go. The financial markets, in turn, found ways to persuade Americans to borrow more and more money. If there weren’t enough young Americans to borrow money on a sound basis, the banks arranged for a smaller number of Americans to borrow more money on an unsound basis. That is why subprime, interest-only, no-money-down and other mortgages waxed great in bank portfolios.

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