Demographics limit U.S. growth outlook

By Alex Brazier and Filip Nikolic | A key factor driving up prices in the U.S.? There aren’t enough workers to comfortably maintain the current level of production. As we’ve said before, that’s not because companies are producing an unusually high amount. It’s because production constraints – like the worker shortage – are making it difficult for the economy to operate at the current level of activity.

Unless the worker shortage can be solved, getting inflation down means reducing economic activity to a level that can be more comfortably sustained. In other words, a recession. The problem is: much of the shortage can’t be solved. And where it can be solved it will take time. It’s also not the only production constraint driving up inflation – but it’s a big one, which is why we’ll focus on that here.

U.S. unemployment is at a 50-year low. Yet the share of the population that’s in work is still well below where it was when the pandemic began. How come? Because there’s an unusually large number of people who aren’t working and don’t count as unemployed. They’re “outside the labor force”: think students, stay-at-home parents, retirees.

This is reflected in the participation rate – the share of the adult population (16 and over) inside the labor force. That rate fell dramatically in the pandemic as the economy shut down. And many of those who left the workforce then haven’t come back. See the A workforce not recovered chart.

We don’t expect the participation rate to recover much from here. Here’s why…

The population has been ageing. As the Growing older chart below shows, the adult population is steadily rising, but an increasing share of it is now over 64: the point at which many people typically leave the labor force by retiring.[i]

That means a bigger share of the adult population is not in the labor force – which explains the downward trend in the overall participation rate since 2010. It also accounts for most of the 1.1 percentage point drop in the participation rate since the pandemic started: we estimate almost 70% of it. See the green line on the Almost all down to ageing chart below.

With the share of the population aged 65+ set to keep rising, we believe the overall participation rate will continue its long-run downward trend from here: other things equal, we expect it to fall on average by around 0.2 percentage points each year.[ii]

Not only is the worker shortage key to understand current high inflation and the difficult choice facing the Fed, it will also be central to the future evolution of the U.S. economy. 

Slowing population growth, coupled with an ageing population, will mean the available workforce expands much more slowly in the coming 20 years than it did in the past 20. If the productivity of each worker continues to increase at the same rate, annual GDP growth could average around 1.8% in future, compared to 2.6% in the past.[v] See the Worker shortage = slower growth chart. That’s significant: the U.S. economy has never grown that slowly over a 20-year period since data began in 1920.

This isn’t a problem unique to the U.S. In fact, populations are ageing even more rapidly elsewhere – like China, which may also be less able to compensate that ageing with an inflow of working-age migrants or greater productivity: one reason why we think China is entering a slower growth phase.