Crowded Out No More

Cripes, Blogger. With the reliability and consistency of a North Korea power grid.

Sorry to do this to you folks, but a post without a chart;

I did a piece testing whether or not there was indeed a crowding out effect.

There was.

I emphasize "was" because despite Reagan levels of deficit spending, interest rates under the Bush Jr. administration have remained historically low and for a long time.

Upon further investigation we find out the reason for our debt markets bucking this trend is because the Chinese and Arabs are more than happy to loan us money, thereby financing not only our current account deficit, but also inadvertently triggering a housing bubble through artificially low interest rates.

The fear then was, what would happen when it became apparent an entire generation of sociology majors (read Gen X) would not be able to produce the wealth necessary to pay back the trillions the Chinese and Arabs loaned us? Logic would dictate that they would turn off the valve of cheap money, the US government would have to borrow from a pool of finite domestic dollars, which would drive up interest rates.

But not so fast.

It was whilst driving down Hwy 280 listening to a piano concerto on public radio that this totally unrelated idea popped into my head;

"When the Baby Boomers retire or as they’re approaching retirement, they’ll switch their massive retirement holdings from equity to fixed income, providing yet another source of loanable dollars, thereby keeping downward pressure on interest rates."

In other words, the Chinese and Arabs may pull out, but the Baby Boomers, looking for consistent income and moving out of riskier assets as their death approaches, will come in. And arguably, this should already be happening as the Baby Boomers aren’t exactly young spring chickens any more and the elder of the Baby Boomers no doubt have already switched some of their portfolio into fixed income.

This will of course put downward pressure on long term interest rates and arguably keep long term money cheap, affording younger generations the ability to afford housing. Ironically, it seems the Baby Boomers will contribute something positive to the economy after all.