Age and Inflation

• Author: Mikael Juselius and Elöd Takáts

Age and Inflation Finance & Development, March 2016, Vol. 53, No. 1

Mikael Juselius and Elöd Takáts

Baby boomers drove down inflation when they joined the workforce and will drive it up as they retire

Inflation was chronically high in the 1970s and seems to be chronically low now. Its shift coincided with the progress of the so-called baby-boom generation as it marched from adolescence through working age in many advanced economies.

Conventional economic wisdom says these two slow-moving trends are unconnected: the boomers should not affect inflation, because inflation is a monetary phenomenon that can be controlled by monetary policy. But our research found a strong link between trend inflation—the average rate at which prices increase over a several-year period—and the age structure of the population.

Specifically, we found that the larger the proportion of young and old in the total population, the higher inflation. Put another way, when the working-age population is larger, the effect is disinflationary. This link between age and inflation holds for a large number of countries across all time periods.

These effects are large enough to explain most of trend inflation. For instance, the baby boomers increased inflation by an estimated 6 percentage points in the United States between 1955 and 1975 and lowered it by 5 percentage points between 1975 and 1990, when they entered working life. Trend inflation is currently low and stable as the decreasing share of young people offsets the effects of the increasing share of old people in the population.

Given that inflation is a monetary phenomenon, why did central banks fail to offset the inflation pressure flowing from the changing age of the population? There are at least two natural explanations. First, political pressure may have impelled central banks to cater to the inflation preferences of dominant age groups. Alternatively, the inflation-age structure pattern could reflect the failure of central banks to anticipate movements in the equilibrium real interest rate—the rate that results in stable inflation. But neither of these two is a good explanation for what we see in the data.

It is not totally clear why an economy’s age structure affects inflation, but the relationship is strong and has some striking practical implications. For one, it weakens the argument that expectations play a major role in inflation formation, a thesis that arose from the inflationary experience of the 1960s and 1970s. Furthermore, the relationship between age structure and the rate of...