Got demographics? (page 3 of 3)

Between 1985 and 1990 the Nikkei tripled, hitting a high just shy of 40,000 in December of 1989.

Today, we see a very different Japan. The present rally notwithstanding, the Nikkei is still down over 60% from the top - more than fifteen years later! Japan has spent the last fifteen years in and out of recession, never able to get any real momentum. So what caused Japan to fall into this hibernation? The falling desire of Japanese consumers. Low consumer demand due to the aging of the population meant low profits for Japanese companies, which in turn led to decreased hiring and even lower demand. A vicious cycle developed with no way out. This cycle - lower demand, lower profits, lower production, etc., is exactly what we see in our future.

The Japanese consumer got old. As he slowed his purchases in the early 1990s, the economic bubble burst despite all efforts to keep it inflated.

The Bank of Japan cut interest rates from 6% to zero, essentially giving money away in the hopes that someone would spend it to build a factory, increase production, or to consume. In the standard formula, lowering interest rates spurs consumption and investment. As the reward for saving money gets smaller, the incentive to spend it gets bigger. But an odd thing happened in Japan; interest rates dropped, but savings remained high. Consumer spending stayed flat and then fell. New investment in productive assets stalled - Japanese business already had more than enough capacity.

The United States will start "turning Japanese" around mid to late 2010. The demographic trends that have powered the economy since the early 1980s will peak at this time and finally reverse as the Baby Boomers begin to save every dollar they can spare for their impending old age. Demographically, we will be in the same place as the Japanese when they began their slow, grinding decline in 1990. And when consumer demand falls, American businesses will have a hard time turning a profit. Stocks will likely enter a long bear market, and investor portfolios will be ravaged.

Our policymakers will follow the example of the Japanese, because it is the only model they can reasonably be expected to follow. And as in Japan, the policies used will ease the pain a little but will certainly not cure the disease. Americans, long scolded by the rest of the world as being spendthrifts, will suddenly start to resemble their Asian counterparts in their saving habits. Consumer spending will fall, and the economy will scratch and claw frantically just to avoid falling into the abyss of deflation, the likes of which haven't been seen on American shores since the 1930s.

The moral of the story? Save and invest as much money as you can in the next five years, and put your money more in growth stocks as opposed to real estate or bonds. Enjoy the grand finale of the greatest boom in history! But as we get closer to the demographic turning point, you need to get conservative. You'll need to start "acting Japanese."