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It’s been a long while since a paper caused as much stir in financial circles as Matthew Klein’s Inequality, Interest Rates, Aging, and the Role of Central Banks. Mr. Klein is a former columnist at The Economist and the Financial Times and is also co-author of the recently published Trade Wars are Class Wars.

Tuesday’s paper spread quickly among macro-focused hedge fund managers, bond traders and economists because of its implications for longer-term interest rates. Mr. Klein argued persuasively that aging population demographics, wealth inequality and low interest rates are all part of the same phenomenon, and no sustainably higher interest rates will occur without massive government policy initiatives to redistribute wealth.

Slowing population growth and a steadily rising average age has been a feature of developed world countries and China since the 1960s. At the current pace, the combined population of high income countries and China is set to decline beginning in the 2030s. “Put another way,” writes Mr. Klein, “the number of children aged 0-14 in these economies fell from a peak of more than 600 million in the mid-1970s to about 465 million now.”

Declining populations imply little need for investment to expand capacity in order to meet the future consumption needs of younger age cohorts. Not only is overall consumption set to fall, but the economic activity that would have been generated by investing in new capacity is also missing. Both of these factors depress growth and interest rates.

Wealth inequality, caused in part by the declining younger populations, is another trend in developed economies. This also results in declining consumption because the uber-wealthy don’t spend a significant proportion of their annual income or capital gains. A technology titan, for instance, might be 100,000 times more wealthy than the average home owner, but they are not about to buy 100,000 homes. The excess wealth, merely saved, does not contribute as significantly to economic growth as if it were spent.

Mr. Klein views the current situation as similar to the early 1930s, another era with extreme wealth inequalities. He writes, “The Great Depression didn’t really end until wartime mobilization caused a surge in incomes and production that wiped out old debts, levelled the wealth distribution, and gave people confidence in the future… Not coincidentally, interest rates marched up for decades until the early 1980s.”

The full nine-page paper is much more in-depth than this summary, of course, and I can’t recommend it more highly. For investors, the implications are that low rates will continue to be a feature of markets, likely including the domestic housing market, until major societal changes take shape.

-- Scott Barlow, Globe and Mail market strategist

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