baby boom: the demographic changes and the financial crisis

8/7/2019 Baby Boom: The Demographic Changes and the Financial Crisis

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DUBLIN INSTITUTE OF TECHNOLOGY

Baby Boom of 1946 and

Crisis of 2007/8How the babies of the baby boom era contributed

to the current financial crisis

Raza Ghulam Mujtaba

29-Mar-11



Introduction

A generation named the "baby-boomers" has put its stamp on the financial markets like no other.

From the Golden Age of Capitalism (1947-1964), through the Great Inflation (1966-1982), the

Great Expansion (1984-1992), the Great Bull Market (1995-2000), all the way to the HousingBoom (2001-2006), each stage of the baby boomers' life cycle has created significant

developments in the financial markets (Tokic, D, 2007). Some economists, on the left in

particular, believe that there is a relationship between the baby boom era and the current

financial crisis. The purpose of this essay is to investigate the above issue. This essay is divided

into two broader parts; first part will discuss the baby boom era and its impact on the economy

then, the second part of the essay will discuss its relationship to current financial crisis.

Baby Boom 1946 (The Golden Age)

The U.S. economy officially ended the Great Depression in 1946 after the World War II and entered

what is now known as the Golden Age. Perhaps the most important driver behind the new

prosperity was the baby boom. Newly weds moved into suburbs and purchased homes, furniture,

appliances and other housing related goods and services. The size of an average family grew

rapidly in that period due to the number of new born per family (see exhibit 1). This increased

consumption and as a result consumer spending increased sharply which boosted the aggregate

demand. Retailers had to stock shelves with inventories and manufacturers had to increase

production leading to an increase in Business Investment and consequently the Gross Domestic

Product (Tokic, D, 2007). The stock market responded positively to this growth and moved up

(see exhibit 2) until it met resistance in the mid 60¶s. Abel, A, (2002) states that a baby boom

increases national savings and investment and thus causes an increase in the price of capital, and

an increase in the price of capital is likely to result in inflation in future years. Abel, A, (2002)

also provides a key insight into the price movements in the stock market (see exhibit 2) which

supports the above statement by Tokic, D (2002), that rise in the GDP causes the stock market to

respond positively.



Great Inflation (1966-1982)

It was learned from the previous section that the rise in the GDP is likely to increase the price of

capital, Tokic, D (2002). Chen and Bakshi (1994), state that the Consumer Price Index (CPI)

increased at an average of 7.5% per year from 1966-82. The literature is filled with the possible

explanations about this rapid increase in the prices and one of the most striking is the age of the

population. The average age in the United Sates reached between 18-21 years in the 1965 and

more and more of the young population was moving out of the parents houses in search for work

or higher education (see exhibit 3a). Tokic, D (2002) believes that, this movement, lead to a

boost in the demand for the houses and apartments and as a result led to an increase in the house

prices and a steep decline in the apartment vacancy rate (see exhibit 3b). Marcin, T (1976) also

notes that a rapid demographic change, such as wave of population growth, resulting from the

baby boom, first increases the number of young householders who primarily demand apartments

and mobile homes. Then, as much as twenty years after the effects on multiple units are felt, the

peak demand for single-family housing will take place. As a consequence Mankiw and Weil

(1989) state that the demand for the construction of more houses increased and this led to the

increase of the commodity prices. It was not only the house prices that rose to record levels

during that period but also the price of the all sorts of commodities increased significantly. From

the chart (see exhibit 4) it is very clear that the core inflation which is an indicator of basic

commodity prices has increased significantly during 1970 to 1982.

Great Expansion (1984-92)

Following high inflation in the late 60s and 70s the Federal Reserve (Fed) acted to ³cool´ the

economy and prevent it from ³over heating´ with increasing the interest rate. The increase in the

interest has a tendency to slow the down the economic process with some very unpleasant

consequences the most unpleasant of them all is unemployment. The unemployment soared in

the 1970s in the United States with the reaching the highest point of 10% in 1981. Highunemployment resulted in easing the pressures of inflation and provided the Fed an opportunity

to ³flex its muscles´ by lowering the interest rate (Mankiw and Weil, 1989). The decline in the

interest rate led into creating a many opportunities for jobs and growth. This time was prosperous

time in the history of United Sates with the mean age of population ranging from 26- 30 years



there were as many people willing to work as possible and the stock market again responded

positively (Tokic, D 2002).

Great Bull Market (1995-2000)

It is important to understand that the investment behaviour of the different age groups is different

as shown in the diagram (see Diagram below). The average age of the baby boomer generation

was 47 years in 1994 and it was the time when they had started saving for the retirement and the

education of their children (Tokic, D, 2002). Chen and Bakshi (1994) concluded in their

hypothesis test that an investor in his 20s or 30s is more likely to engage in the house market

because of the systematic notion of family building. However, an investor in his late 40s is more

likely to invest in the financial assets rather than housing. Mankiw and Weil (1989) also

predicted that outcome based on the economic theories that the housing market will enter into

correction in the 1990s and the financial markets will enter into rallying with the funds flowing

from the investors willing to secure for their retirement. The increase in the demand for the

financial assets which paid good returns i.e. the growth stocks contributed to one of the greatest

bull markets in history. The Nasdaq Composite Index went from 700 points to more than 5000

points in that period i.e. (1995-2000).

Source: Birth Quake; Baby Boom and its Aftershocks, Diane, J. Macunovich.



Housing Boom (2001-2006)

This was perhaps the most challenging time for the baby boom generation with the average age

of the baby boom generation reaching just six years short of retirement. As a result, the would-be

retirees increased their consumption of the growth stocks and assets with an intrinsic value which

had least amount of risk involved and the housing market did appear to posses that character (see

Exhibit 5). Abel, A (2002) argues that although the most favourable investment by investors

wishing to save for the retirement is Government Bonds and growth stocks there was a surprising

interest in the housing market. Tokic, D (2007) believes that the reason for this interest had to do

with the dot com bust experienced in the early 2000s which led the United States into recession.

As a result of the recession that FED had cut the real interest rates which made acquisition of real

estate property as the most suitable choice. However, there is an alternative view to the above

hypothesis. Sibert, A (2010), believes that it was the imbalances in the Global economy that led

to the housing boom because investors all around the world were looking for risk neutral and

rapidly growing investments and the powerful standing of the United States was a comparative

advantage for the United States where the majority of foreign investment ended up.

It is worth noting that even if the alternative view is taken on board, this does not challenge in

any way the common belief of the relationship between the baby boom generation and the

relationship between their savings pattern and the housing market boom of the late 2000s.

The Ultimate Bust (Crisis 2007-present)

We discussed in the earlier section how the housing market entered into the boom in late 2000s.

It was established in the light of academic literature that one of the key factors in the housing

boom was the savings pattern of the population particularly who were born in the years

commonly known as the ³baby boom´ era. However it was not only the housing market

boom/bubble which eventually caused the crisis but the stock market was also riding sky high

without any assets with an intrinsic value backing the rally. Unsurprisingly there is a relationship

between the baby boom generation and the stock market bubble as well. Tokic, D (2007) noted

that when the ³baby boomers´ reached retirement they redeemed the mutual funds and stock

holdings once they retired. The reason for that according to Tokic, D (2007) was the need for

money to support daily expenses once the ³paychecks´ ended. To sell huge amounts of stock



holdings require a willing buyer. George, Z (2011) believes that the hedge fund industry

particularly from India and China were the willing buyers of those stock holdings because it

promised access to the American markets. This dealing between the hedge funds and investment

banks led to the creation of ³securitization´. Hence it can be said because the baby boom

generation were the biggest individual holders of the stocks in the American markets their

decisions did have an impact on boosting the bubble on Wall Street.



Appendix:

Exhibit 1: Demographic change per year per family in United States (Source Tokic, D 2007, see

references for citation)

Exhibit 2: Price Movements on S&P 500 (Source: www.standardandpoors.com/indices/sp-

500/en/us)



Exhibit 3a: The demographic chnages in the United States (Source: Bureau of Labor Statistics)

Exhibit 3b: Apartment Vacancy Rates in the US (Source: Tokic, D, 2007 see references for

citation)



Exhibit 4: The Consumer Price Index (Source: Bureau of Labor Statistics)

Exhibit 5: House Price Boom in the mid 2000s (Source: www.tradingeconomics.com)



References:

Abel, AB 2001, 'WILL BEQUESTS ATTENUATE THE PREDICTED MELTDOWN IN

STOCK PRICES WHEN BABY BOOMERS RETIRE?', Review of Economics & Statistics, 83,

4, pp. 589-595, Business Source Premier, EBSCOhost , viewed 29 March 2011.

Bakshi, G, & Zhiwu, C 1994, 'Baby boom, population aging, and capital markets', Journal of

Business, 67, 2, p. 165, Business Source Premier, EBSCOhost , viewed 26 March 2011.

Mankiw, G, and Weil, D, 1989,³THE BABY BOOM, THE BABY BUST, AND THE

HOUSING MARKET.´ Regional Science and Urban Economics19 (1989): 235-258.

Marcin, TC 1976, 'The Effect of Declining Population Growth on Housing Demand', Challenge

(05775132), 19, 5, p. 30, Business Source Premier, EBSCOhost , viewed 29 March 2011.

Tokic, D 2007, 'Baby-Boomers and Financial Markets: A Relationship in the Making', Journal of

Investing , 16, 2, pp. 77-84, Business Source Premier, EBSCOhost , viewed 26 March 2011.

baby boom: the demographic changes and the financial crisis

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