How Do Baby Boomers Affect Interest Rates? A Functional Analysis of the Impact of Age Distribution on Macroeconomic Trends

The phenomenon of “falling stars” in the U.S., declining trends in nominal yields since the 1980s accompanied by falling trends in inflation and real interest rates, calls for a coherent explanation of the long-term driving forces. Using a parsimonious non-parametric method and data on the demographic age distribution, we estimate the functional demographic (FD) trends as aggregated generational impacts. The FD trends fit the low-frequency movements in interest rates remarkably well. Decomposition analysis shows that baby boomers’ life-cycle impact dominates the trends in interest rates. The FD trends of inflation and real rates are consistent with the “falling stars” pattern