The past decades have seen various positive structural developments for the economy:

• Workforce growth.

• Globalisation and the rise of China. Because China opened up to foreign companies and international trade from the late 1970s, Western companies were able to take advantage of a huge reservoir of cheap labour in China. At the same time, the strong emergence of the Internet, container transport etc, allowed for far easier and cheaper communications and transportation of goods. This gave companies the opportunity to produce at low cost in China and sell the products in the West. As China’s prosperity increased, China also turned into an increasingly important sales market.

• The aforementioned developments left inflation and wage increases under strong downward pressure. At the time, central banks pursued increasingly loose monetary policies to prevent a prolonged period of deflation. This resulted in low to negative real interest rates, rising asset prices and continued credit supply growth. As a result, consumers still had the means to consume more, even though production largely moved to low-wage countries. In addition, interest charges as a percentage of income remained low due to the low interest rates.

• The services sector grew significantly faster than the goods sector, meaning that demand for commodities increased less rapidly than the economy and high commodity prices had a smaller negative impact on economic growth.

• Finally, after the Cold War, governments spent less on defence and the US, as the undisputed superpower, assumed the role of ensuring a ‘rules-based international order’ in which international trade could thrive.

The above developments had considerable benefits for Western financial markets:

• Savings of China and many other emerging Asian economies have consistently been higher than consumption. The excess savings largely ended up in Western capital markets. This contributed to downward pressure on real interest rates and upward pressure on asset prices.

• Due, in part, to increased life expectancy and government policies, workers have started saving more for retirement. This has also increased the supply of capital, thereby reinforcing the downward pressure on real interest rates.

• Ultra-loose monetary policies have created considerable upward pressure on asset prices.

• Corporate earnings improved. Due to said developments, the cost of key corporate expenditure items (wages, capital costs, commodities) increased only moderately or even declined while companies managed to increase their sales as central banks and governments boosted the economy significantly.

It’s becoming a worse time

However, we are now at a turning point where many of the above positive developments are reversing.

This is largely due to demographic trends. To start with, the final cohort of the baby boom generation will reach retirement age in the next few years. This baby boom generation is relatively large in the West; subsequent generations are smaller. This means the following for many Western countries:

• The workforce is already shrinking or this is imminent. Immigration provides relief in many countries at this point. In many countries, however, policymakers aim to curb immigration.

• Populations will shrink (over the next few years) if fertility rates do not rise and policymakers manage to curb immigration.

• The baby boom generation will be dissaving on a large scale. This will stimulate the demand side of the economy far more than the supply side. It will also slow down or may even reduce the supply of excess savings flowing into financial markets.

• The group of pensioners is growing relative to the number of working people. This means that a larger proportion of the government budget will go to pensions and healthcare. This leaves less money for investments that can stimulate future growth.

Globalisation brakes

The changing geopolitical climate is also contributing to the turnaround from a largely positive climate to gathering clouds:

• Tensions are rising between the West on the one hand and China and Russia, among other countries, on the other, prompting countries to ramp up their defence budgets. Defence spending is usually detrimental to productivity growth and has an upward effect on real interest rates.

• Geopolitical tensions are leading to deglobalisation; countries want to reduce dependence on other countries, so they are outlining policies to build or expand their own production of ‘strategic products’.

• The above may also lead to deglobalisation of capital flows as governments adopt policies to retain more domestic capital for fear of freezing/confiscation or to expand their own capital markets.

Non-productive investments

Finally, there are developments that require large-scale investment but which will provide relatively little productivity growth. In addition to more spending on defence, pensions and healthcare, it mainly concerns the following factors:

• The transition to renewable energy. This requires many investments, both for generating sustainable energy and transporting it.

• Measures to absorb the impact of climate change (eg sea level rise, increasing drought) on the economy.

Investment in these items will stimulate economic growth in the short term, but will negatively affect the growth capacity of the economy in the longer term. Because they will put such a large drain on available capital, real interest rates will rise more than they otherwise would have, jeopardising other investments.

Consequences for economy and markets

Overall, declining workforce growth/contraction of the workforce and the trend of deglobalisation will result in more structural upward pressure on inflation and real interest rates. This will increase the downward pressure on asset prices.

Slowing globalisation, ageing populations/tightening labor markets and the energy transition/climate change have a negative effect on economic (trend) growth. Ageing populations reduce the workforce and will ultimately lead to population shrinkage in many countries.

Deglobalisation has a negative effect on productivity. First of all, countries can and will specialise less in sectors where they have a competitive advantage. Secondly, it will become more difficult for companies to achieve economies of scale if exports become more difficult. Thirdly, countries will be more inclined to erect import barriers, which will reduce competition.

The latter reduces the drive to innovate and exerts downward pressure on the economy’s growth potential.

We believe that, for the time being, governments will invest a great deal of money in sustainable energy and measures to address climate change, without making significant cutbacks on other spending.

Public deficits will consequently remain relatively large, contributing to ongoing labour market tightness and upward pressure on commodity prices.

In summary, we believe that, over the next decade, demographic trends and globalisation headwinds will produce a far less positive climate for equities and long-term bonds than has been evident in recent decades due to the following factors.

• More downward pressure on the growth capacity of the economy.

• More structural upward pressure on inflation.

• Fewer excess savings finding their way into the asset markets.

• Growing concerns about public finances.

• More upward pressure on the prices of key inputs for companies, namely higher labour costs, higher interest charges and higher commodity prices.

Compared to the returns of the last decade, investors should price in far lower returns on equities over the next decade. This also applies to (government) bonds – especially those with long maturities. In contrast, over the next decade, we expect a better performance from commodities and hedges in general (gold, but also real estate).