By Lyman Stone

O

n Sept. 20, 2017, at 6:15 a.m., Hurricane Maria made landfall near Yabucoa, Puerto Rico. As it passed over, it would drench the island in several feet of rainfall, trigger thousands of landslides and shred buildings to pieces with its 100-mile-per-hour winds.

The storm would lead to the deaths of more than 2,000 Puerto Ricans. It would leave the entire island without electricity for days, and parts of the island without power for months. Virtually the entire agricultural output of the island was destroyed in a day, including a large coffee sector which will take decades to revive, if it ever does.

In the months that followed, hundreds of thousands of Puerto Ricans would flee to the American mainland, abandoning homes, communities and jobs. In the aftermath, commentators worried about how Puerto Rico would ever recover—whether Maria would turn large sections of the island into ghost towns. There was a palpable sense that this disaster would depopulate Puerto Rico.

But another hurricane had already hit Puerto Rico—not Irma, another large storm that had struck Puerto Rico a month earlier, but the fierce cyclone of demographic decline, which made landfall decades before Maria. Puerto Rico’s fertility rate had fallen below replacement by 1997, back when times were supposedly good for the island and before its special tax status was removed.

Since then, the birth rate has fallen steadily, and today it hovers at around one child per woman, the lowest birth rate anywhere in America. As a result, Puerto Rico is now in its third year where deaths outnumber births. It has one of the highest average ages of anywhere in the United States. Its rates of entrepreneurship are similarly low, and its credit markets, public and private, are in disarray.

It’s easy, and appropriate, to blame policy changes or hurricanes for Puerto Rico’s woes. But underneath all these problems—making every crisis harder to come back from, every punch harder to counterpunch, every loss seem unrecoverable—is an inexorable tide washing away the island’s economic vitality year after year: demographic decline.

Puerto Rico’s case is severe. But it is not unusual.

America’s birth rate fell to a record low in 2018, and early indicators for 2019 show a continued slide downwards. This may be a problem for a whole host of reasons. Americans reliably say they want two or three kids, despite averaging just 1.7. In the long run, a smaller generational cohort may make it hard to pay for public obligations and debts. Plus, a growing body of economic research suggests that slower population growth reduces innovation, entrepreneurship and economic dynamism, making everyone worse off.

However, these problems are all a bit distant from community banking. Aggregate trends around the nation will be what they will be, but local variation can be enormous. Even during the worst recession years, some places will still grow; and even during the best of boom times, some communities will struggle. If something as directly relevant to banking as the business cycle can have its effects swamped by idiosyncratic differences across communities, then is there really any reason banks should care about the much more diffuse impact of low birth rates?

In fact, demographic changes can have powerful, pressing implications for banks of all sizes. Changes in marriage behavior have large impacts on how much and what kind of housing the local market demands. Changes in childbearing likewise affect housing, but also impact the viability of local government budgets, and thus the viability of their bonds. Finally, changes in life expectancy can radically alter the challenges facing a young person’s financial planning.

Where have all the babies gone?

The most fundamental of all demographic processes are births and deaths. Around the United States, on an age-adjusted basis, births are getting less common, while deaths are getting more common.

When births drop below somewhere around 1.9-2.1 kids per woman, that means that a community is not producing enough children to replace itself without relying on migration. The U.S. on the whole is now well below replacement rate fertility (see figure 1). But many states are even further below replacement-rate fertility. In the northeast and on the Pacific coast, the average woman can expect to have something more like 1.5 or 1.6 children, while in the middle of the country, birth rates are still nearer 1.9 or 2 kids per woman (see figure 2).

When states have low fertility for a long time, it ultimately harms their population growth. And when their population growth remains low for long enough, it ultimately endangers local public and private finances. A clear example of this can be seen in the case of Puerto Rico.

Around the world, negative interest rates are becoming more and more common, which economists widely attribute at least partially to demography. Low birth rates and an aging society create a savings glut alongside diminished demand for new lending, which pushes bond yields down, even into negative territory. While private interest rates will never go negative, risk-adjusted returns could—if demographic decline goes too deep.

At the local level, these macroeconomic factors play out in a different and painful way. Demand for new houses dries up, meaning that many homeowners carry paper wealth—and with it an assessable tax burden—that is increasingly illiquid. The base rate at which people walk away from mortgages will rise, even in good economic times.

A recent paper published by two economists from the University of Michigan illuminates another effect of demography: differential responsiveness to monetary policy. In communities with more working-age people (that is, places that had higher birth rates two to four decades earlier), monetary easing tends to result in more new business startups, and more lending to those businesses. But in communities with more young or old households, monetary easing has little beneficial effect at all, or just feeds into consumption or debt reduction. Thus, fertility patterns from decades ago determine which communities, and which bank lending portfolios, stand to gain the most from Federal Reserve interest rate cuts.

That’s not the only effect of fertility rates on business formation. Two different papers released by the National Bureau of Economic Research, written by different teams of researchers using different methods and looking at slightly different outcomes, both found that fertility rates have a causal influence on business formation and start-up activity decades later. Low fertility rates result in less population growth, which results in slower growth, or even shrinkage, of the market, which in turn results in less favorable economics for entrepreneurship. Entrepreneurs need a growing market in which to thrive, or else they face the insurmountable obstacle of monopoly power from established businesses, or else what other researchers have called “consumer inertia,” whereby older, more cautious consumers are unwilling to consider new brands and products.

Demography matters, and the reason it matters is largely because it has a decisive role to play in determining rates of business startup activity and patterns of business growth—two areas where banks obviously have a deep interest.

But it must be noted that public budgets will feel the pinch as well, especially as pension costs rise. Cuts will be made to other public cost centers, most notably schools, roads, and emergency services. Many states are already triaging public services in rural areas, a trend which will accelerate as demographic decline spreads more widely throughout the country. And as public service quality deteriorates, competitiveness for private investment will too.

This is why in countries with declining populations, like Bulgaria, Estonia, Georgia, Korea, or Japan, so-called “primate cities”—dominant commercial and political capitals—experience gangbuster population growth even as the country on the whole shrinks: public resources are triaged to concentrate on areas with economies of scale, private investment follows and outlying communities wither into dust. Travel the Bulgarian countryside today, and you will see a vision of Maine in the 2040s. It is beautiful—and empty.

‘Deaths of despair’ reshape financial planning

The demographic crisis that begins in birth ends, like life itself, in death. Not that the crisis itself dies out; it deepens and worsens. Rather, death is becoming more common across almost all ages. For prime-age people in their 30s, the odds of dying have risen by nearly a quarter in just the last decade (see figure 3).

This is a moral catastrophe first and foremost, as hundreds of thousands of lives are snuffed out by the family of manmade plagues public commentators increasingly call “deaths of despair.” Alcoholism, drug abuse and suicide are tearing wide swathes through the working-age population, leaving businesses bereft of workers, children shorn of parents and elders at home alone, wondering what darkness has fallen on their communities. It is unusual, perhaps, to present such rhetoric in a journal of banking, but it is appropriate. Within a few years, if current trends continue, deaths of despair will be so severe that their death tolls will be greater among prime-aged Americans today than they were among fighting-age Americans during the World Wars. Already, the odds of a modern 30-50-year-old dying from suicide, alcohol, or drugs in America are 10 times as high as the odds an 18-35-year-old in 1960 had of dying in Vietnam (see figure 4).

As a result of this crisis, life expectancies in America are falling. For all the talk in Silicon Valley of radical life-extension technologies, Americans are actually dying younger. But this trend is driven by young deaths, not old ones: life expectancy for people already at age 65 is still improving.

In other words, retirement planning is changing. Many more young people will never make it to retirement than in the past: they have their very own domestic World War to survive first. If they make it through the Normandy of opioids and the Bulge of suicide, then they are likely to survive a very long time indeed. Thus, retirement planning today has two very different elements. First, of course, is conventional management of savings and investments. But secondly, young people today desperately need lifestyle management. The exploding demand for lifestyle management apps and devices, personal trainers, life coaches, and YouTube gurus shows that young Americans today are responding to the deluge of dangers they face by seeking advice about how best to live. This is relevant to bankers as well. First of all, it suggests a different way to bundle services, and, second, dead clients don’t buy new services. Bankers care about healthy and thriving communities, and they respond to their neighbors’ needs.

In other words, the shift in American life expectancy creates complications for financial advisers in particular. It’s not enough to counsel a client to put their money in mutual funds. They also need to be advised on mental health and wellness because they likely already purchase related services, because ignoring this angle exposes banks to needless risk, and because it’s simply the right thing to do.

And indeed, changing life expectancy and birth rates together create an additional challenge for financial planners: public risk management. Low birth rates and high working-age death rates alongside greater lifespans for retirees are a recipe for insolvency for pensions of all kinds, but especially underfunded public pensions. Recognizing this, it is vital that financial advisers help their clients plan for a future of much tighter public budgets. Tax rates are likely to be higher. There’s no guarantee that tomorrow’s policymakers will protect Roth IRA assets from taxation upon in a world where long-lived retirees are a huge cost driver. A restive public may demand that these retirees pay their fair share and see tax-free Roth earnings as a juicy target.

Benefits are likely to be lower, either through direct reductions or via sneakier benefit cuts, such as by raising eligibility ages, tightening survivorship rules or altering inflation indexing. For more complex services like Medicare, there may be other forms of triaging: fewer eligible sites to receive care, or stricter rules about what constitutes necessary care.

In other words, a world of lower population growth is a world where younger savers face far greater uncertainty, and thus need to save far more income, while also keeping an eye on their own odds of survival. Put most bluntly, selling life insurance to young people should be a growing business on the demand side, but may end up being costlier to pay out than insurers currently expect.

Of course, some young people may see no reason to buy insurance, as they will have no child or spouse to collect it. Younger Americans are increasingly isolated and alone.

Going it alone

If birth and death are the bread and butter of demography, then marriage is the knife. Married people have more babies and have much lower odds of dying. Marriage dramatically reduces the odds of death for men in particular while modestly lowering the odds of death for women.

But the point is that marriage is the demographic engine, and the increasing postponement of marriage among upper-class Americans, and the growing total abandonment of marriage among many working-class Americans, is yielding its demographic harvest. Increasingly isolated Americans, and especially men, are engaging in high-risk, anti-social behavior that greatly increases their odds of death, while these same generations are simply not replacing themselves with children. This despite the fact that birth rates among married people have been approximately stable for two decades.

Most bankers recognize the role that marriage plays. Married couples come in together to open new bank accounts. They take out life insurance policies on each other. They buy and move into a new home together. They start planning in a different way for their life together. And that life is more likely to actually occur, thanks to marriage’s positive influence on demographic fundamentals. But more than this, economic and sociological research has shown that married people tend to be happier and wealthier. This isn’t just selection effects either: marriage actually creates new economies of scale and scope for a couple, allowing new specializations in the household, eliminating redundant costs, and giving a stable legal guarantee of future life circumstances. In other words, married people make great customers.

The decline in marriage rates (see figure can at first look like a good thing. A society composed entirely of working singles will have twice as many bank accounts and schedule twice as many appointments with financial advisers. Likewise, the decline in birth rates can also, at first, look like a good thing: clients avoiding kids have more money to save and invest, and may consider more advanced products.

But after a few decades, this process collapses. Or, to put it another way, after a few decades, this process is now collapsing. A world composed of single workers has twice as many bank accounts, but five times as many suicides. It puts much more in its retirement account, which is good, since workers in that world really need to save extra given that Social Security will now be insolvent. In other words, the short-run thinking of a society that leans into a world of less marriage and fewer children ultimately leaves everybody worse off.

Community banks can’t rewrite society—and can’t be asked to do so. But they can keep their eyes open. Bundling life coaching services and physical fitness programs with financial advising is probably a winning market strategy. Many financial services companies got their start as mutual aid societies for churches or other communities where this “holistic life planning” approach was normal. Modern banks may need to bring that model back.

Beyond this, banks should be aware of how long-term demographics may impact their community. Migration is volatile and won’t last forever. If local birth rates are low, then banks should plan for diminished market size 30 years down the road.

Demography is not destiny. The future can be changed through a variety of channels. But, alas, demography is a powerful force, and change is not easy. Thus, banks would be well-served adapting to these harsh new demographic realities—and planning accordingly.

Lyman Stone is a senior adviser at the population forecasting firm Demographic Intelligence. He is an adjunct fellow at the American Enterprise Institute and a senior fellow at the Institute for Family Studies. His work has appeared in numerous publications, including the New York Times, the Wall Street Journal, the Boston Globe, the Washington Post, Vox, National Review, Foreign Policy, and the Federalist. He, his wife, Ruth, and their daughter Suzannah live in Hong Kong.