The Gold Report: In your latest book, "The Demographic Cliff: How to Survive and Prosper During the Great Deflation of 20142019," you write about the aging of the Baby Boomers and the wave of Gen-X'ers that follows. What does that tell you about the next five years?
Harry Dent: I discovered this relationship, which I call the spending wave, in 1988. Peak spending happens at about age 46 in the U.S., Japan and most developed countries. That is when a generation will earn, spend and borrow the most money. After that age, spending declines.
More than 20 years ago, we predicted Japanese spending would peak in the late 1980s, and U.S. spending around 2007. Now, Europe is hitting its demographic peak and will start dropping off. The drop off will be especially steep in Germany, the United Kingdom, Austria and Switzerland some of the strongest economies in Europe. How will Europe's rebound continue with these countries plunging in the years ahead?
TGR: Much of Germany's economic strength is based on exports. Would that protect Germany through the decline?
HD: Not really. Slower spending in the rest of the world will mean fewer exports. Take autos, one of Germany's strongest industries. Automobiles are the last thing to peak in the demographic life-cycle, around age 53. What happens when those sales are off around the world in the years ahead? Germany is doing everything right, but you can't fight aging.
TGR: Another wealth transfer scenario being discussed is people moving from rural areas to cities, and the subsequent development of a middle class, China being one example. That middle class is driving toward consumer products, including cars. Could strong exports to China help Germany?
HD: China is the second biggest car market in the world and the second largest economy. China has over-expanded everything and moved people from rural to urban areas two to three times faster than any country in history. I think that will backfire. China has big bubbles in real estate24% vacancy in condos. If the U.S is printing money, China is printing condos! I think China will fall like an elephant in the next couple of years.
It will be hard for Germany as an exporter to do well in a world where lower commodity prices are hurting emerging countries, and demographics are pointing down, hurting developed countries.
TGR: But people still need and want consumer products.
HD: Let me put you in a wealthy Chinese person's shoes. The top 10% of people in China control 60% of income and almost that much of the spending. They have invested almost all of their money in real estate in China, which is three times as overvalued as California was at the top of that bubble. Do you think those people are going to be buying Mercedes when real estate crashes and their wealth suddenly vaporizes?
TGR: You're heading to Australia soon. What do that nation's demographics tell you?
HD: It's the golden country. Its real estate is some of the most overvalued in the developed world, only after London. It has high export exposure to China and Korea, but it has lower debt30% of gross domestic product, excluding consumer mortgages and such. It has high immigration, which may get higher when the crisis hits at first from Asia and China. Its population is now 23 million. That could grow 6070% in the decades ahead no other developed country is looking at that type of growth in this new era of aging economies.
Australia is the developed, wealthy country that could get hit the least hard in the crisis and could grow for decades to follow. If I could choose one country to live in during the downturn and for the decade to follow, I'd be in Australia. But it is exposed to high real estate valuations, falling commodity prices (on a reliable 30-year cycle we track) and on its high exports to China that will crash ahead.
TGR: The Jan. 10 U.S. jobs report showed lower-than-expected job growth and a lower unemployment rate because people have stopped looking for jobs. Is this a new norm?
HD: Yes. Part of the aging process in the U.S. is two-worker households where they get the kids through high school and college and one of the workers decides to stop working. Some people drop out of the workforce voluntarily, and some people just give up. In the last five years more younger people have been giving up. But as we move ahead, it will also be more aging Baby Boomers dropping out: second earners first and then retirement. How can a country grow with a declining workforce? And countries like Japan or most of Europe have much worse trends ahead than we do demographically.
TGR: Another trend is Baby Boomers holding on to their jobs past the usual retirement age. What impact does that have on the economy?
HD: The average person retires at age 63. Baby Boomers will stay in the workforce longer; this is already occurring in Japan, which has aged earlier and faster than us. My prediction is in the next 10 to 20 years we'll be retiring at 75. This is a problem for the younger generation entering the workforce and it's why youth unemployment is so high in Europe, the U.S. and Japan.
TGR: As the 20-to-46-year-olds move into jobs left by Baby Boomers, will there be a corresponding increase in spending on their part?
"China has big bubbles in real estate 24% vacancy in condos. If the U.S is printing money, China is printing condos!"
HD: Yes, over time. Young people start at lower incomes, so it takes a while for them to amass financial momentum. In between generation peaks, like 1929 for the Henry Ford generation, 1968 for the Bob Hope generation and now 2007 for the Baby Boomers, there's a gap when the younger generation is not earning enough to offset the decline of the older generation. Eventually, they get strong enough and generate the next boom. That next boom is from around 2023 to 2036 or so for the first wave of the Echo Boom.
TGR: I read that the next generation will reach its peak buying years in the 2020s.
HD: I'd say their trend will turn up about 2023. Japan has already gone through that. It had a smaller echo boom than the U.S. and its echo boom generation is in a positive spending cycle into 2020; it's just not very big. But as I said above, the next generation sees its first peak in spending in the U.S. around 2036 or a bit later, then a final peak around 20552056 or so.
TGR: If the echo boom generation in Japan isn't spending during its peak spending years, will Japan be able to sustain any recovery?
HD: In Japan, the older generation sold out the younger one. It had jobs for life and all sorts of benefits. The younger people are not getting the same benefits. Some 35% of young males have no interest in sex, dating or marriage; 41% of married couples aren't having sex. They've given up. They don't want to have kids because they don't see how they can support them. That only bodes for worse demographic trends for decades to come. Japan is committing Hari-Kari!
TGR: To what extent is that trend of the older generation selling out the younger generation occurring in North America or Europe?
HD: It's not as bad in North America. We had a larger echo generation than Europe, which had almost none.
The point of this book is that demographic trends can only get worse as the Baby Boom drop-off works its way around the world. Governments think they can keep stimulating their economies until we return to normal. If they stop stimulating and I think they'll end up tapering to only a minor degree this year economies will drop like a rock, even in the U.S. and Europe. Stimulus has less and less effect as it is artificial. Like any drug, it takes more and more to keep the "high" or bubble going. Even a minor tapering will hurt the economy.
TGR: What's the alternative? Do we just hold this pattern?
HD: Stimulus works less well over time because it is borrowing from the future, and the future isn't good. At some point, there will be a crisis and two things will happen.
First, a lot of debt will deleverage, giving relief to everyday households, businesses and consumers in the private sector longer term, despite the short-term bank and business failures. We deleveraged a ton of debt in the 1930s: loans were written off; banks went under. The government wants to avoid that, but it does provide long-term relief and cash flow as a major benefit longer term.
Second, we will have to reset our entitlement programs to account for the rise in life expectancy. We would be retiring at age 75, not 65. That would allow the workforce to stay stronger longer, people to earn longer, spend a little more and contribute to entitlements longer before drawing down on them.
There is no way Europe, Japan or North America can pay the entitlements promised to their citizens. The next generation is smaller. The entitlement deficits only grow for decades to absolutely unsustainable levels.
TGR: Is part of the reset telling Baby Boomers they can't start collecting Social Security until age 75?
HD: Yes, and that they have to stay in the workforce. The average retirement age is 63, and people live until 85 on average at that age. To retire at 63 and have 2223 years to play shuffleboard is totally unrealistic. Even at 75, the life expectancy is still 13 years. That's long enough to retire, deal with health problems and be taken care of by government, pension plans, Social Security, Medicare.
We've been promised this, so nobody wants to give it up. No politician is going to campaign for it. The only way out is to have a crisis, admit our imbalances are related to debt, entitlements and demographics, and deal with them as we did in the 1930s.
TGR: Are we already in that crisis and just not paying enough attention?
HD: Yes. Surveys show that 7090% of households say things aren't any better than five years ago. The stock market improved, but wages are as low or lower. People are worried about losing their jobs or making less money. We have a friend who's a handyman. He used to make $27/hour, now he averages $18/hr. That's a huge haircut.
Among the top 1020%, unemployment is 3.54%. They still make $100,000150,000/year, up to $600,000/year. They're doing better than ever because they peak later in their cycle and they've benefited from the stock market and quantitative easing (QE) that has fueled it"the wealth effect." Compared to the average person, the affluent are earning way more than they have since the 1920s. That's another reset. You can't have the generals moving ahead and the troops not.
TGR: How does the reset start? What triggers it?
HD: There are a lot of triggers. The whole financial system is so overleveraged with many derivatives backing up everything else. The global system is tied together: demographics pointing down in most developed countries, debt ratios more than twice what they were at the top of the roaring '20s bubble.
"All you need is one crisis and the whole system gets hit. It melts down faster than the Federal Reserve can act."
All you need is one crisis and the whole system gets hit. It melts down faster than the Federal Reserve can act. The Fed is talking about tapering now. It would need to keep escalating to prevent this sort of crisis, and even that doesn't work past a point.
TGR: If interest rates stay low, what does that mean for the bond markets? Lending? Financials?
HD: Treasury bonds are likely to head up in the early stages of the next financial crisis, likely into around mid-2014. Then they will go down again as we move into a deflationary stage of debt deleveraging as occurred in the 1930s. Bank lending will dry up even faster than in 20082009. Financial stocks will take the greatest beatings again after rallying strongly for five years. Gold, like bonds, will likely rally into the early stages and then collapse again as it did in late 2008.
TGR: In "The Bubble Booms" chapter of your book, you write that major bubbles occur only once in a human lifetime, making it easy to forget the lessons from the last one. Did we experience that once-in-a-lifetime bubble in 2008 or was that just the warm-up act for an even bigger bust?
HD: That was the warm-up act. What happened in 20072008 was similar to going from the 1929 bubble boom to the beginning of a demographic downturn and a debt bubble deleveraging. We should have gone into another Great Depression. Why didn't we? Governments around the world have anted up about $10 trillion ($10T) in QE$3T and rising in the U.S. alone. We've run $7T in fiscal deficits just since the start of the Obama administration. It wasn't his fault; the economy went down.
TGR: So how do you survive and prosper?
HD: Basically, you get out of the way.
TGR: "You" being individuals or governments?
HD: Governments have no way out. They're checkmated. Individuals can protect themselves with several strategies. First, businesses and individuals can get more defensive now. They can get into safe investments and let the next bubble crash. Our target for the Dow is near 17,000 on the upside, 5,0006,000 on the downside. Let it go higher, then go lower, then reinvest.
Second, look to the dollar index. In 2008, the U.S. dollar index went up against other currencies. It was a safe haven. Everybody thought gold and silver would be safe in 2008. They weren't. Gold declined 33%; silver 50%. A U.S. dollar index like the exchange-traded fund (ETF) PowerShares DB US Dollar Index Bullish (UUP:NYSE) has not declined much and rallied 27% in the second half of 2008. The dollar index could easily go up 2040% by 2016 or so. You could make money in the downturn without a lot of downside risk.
Third, if you're really aggressive, short stocks. Have at least some portion of your portfolio short in stocks. Peter Schiff and Porter Stansberry and I agree there is a crisis and that a reset is needed. They argue there will be inflation or hyperinflation; I argue that we will have deflation. If you can't determine which of us is right, short stocks. Stocks don't like rising inflation or deflation, but deflation is the worst.
Lastly, have cash-safe, U.S. dollars. Put a percentage of each category in your portfolio in cash. Or, keep some stocks that pay high dividends and hedge them with leveraged shorts and ETFs to protect their capital value while you collect the dividend.
TGR: In a deflationary environment, what happens to interest rates?
HD: They again may rise in the early stages, but they ultimately fall for years. Long-term and short-term interest rates were the lowest in the last century for the entire 1930s deflationary downturn. It's a great time to borrow for sound long term infrastructures and business investments.
TGR: Gold likes it when governments print money, and governments are doing just that. Yet, gold has been flat for 18 months. You predict it might fall further.
HD: Around $700/ounce ($700/oz) is a certainty in gold by 2015 to 2016 and $250/oz is a possibility well down the line by 20202023. Governments are fighting deflation. If government stimulus fails, we will have deflation, not inflation. Our point was proven when the U.S. escalated with QE3 and QE3 Forever, then Japan went off the reservation with three times its stimulus, yet inflation dropped. Holy smokes! That wasn't supposed to happen. It was proof they were actually fighting deflation and losing the war.
It makes sense to have a little gold or silver. There may even be a rally for Q1Q2/14 because it's been so beaten down. But there will be a drop to at least $700/oz in the next few years, and keep declining.
TGR: Gold could also be considered the fear trade, and the U.S. dollar the safe haven. With all these global crises, wouldn't we see the U.S. dollar and gold go up appreciably?
HD: Yes and no. Gold is sensitive to financial crises. In Q1/14 or a bit later, gold is likely to go up, maybe back to $1,400/oz. When the crisis sets in and we see debt deleveraging and banks in trouble, gold will smell deflation, and it will go down again, as it did in late 2008.
TGR: You mentioned that sitting with cash, specifically the U.S. dollar, is one strategy to prosper during the deflation. Doesn't your cash deflate at the same time?
"The companies that come out of this owning the market are those that get lean and mean, even if their revenues, earnings and profits all decline."
HD: No. Your cash buys more because prices are down. Consumer prices, especially financial assets, real estate, commodities, gold, stocks and beachfront property, go down. If you hold cash during inflation, your purchasing power goes down. In deflation, your purchasing value goes up. Few people understand this simple reality as almost none of us were alive in the deflation of the 1930s.
TGR: In our last interview, you recommended two strategies: 1) investing in sectors favored by technology and demographic needs, specifically biotech, medical devices and pharmaceuticals, and 2) investing in international countries that are not dependent on commodity exports. Do those two strategies still hold?
HD: I would not buy emerging countries now because their bubbles are bigger than ours. When the world crashes, they're the tail on the dog and will go down as much or even more, despite having good demographic trends. The time to buy these demographic sectors above is once the crash bottoms in 2015 or 2016when you see a Dow at 5,0006,000.
TGR: Energy independence for the U.S. is a current trend. Would energy commodities, specifically natural gas, survive a downturn?
HD: Natural gas has moved counter to oil for the most part. Natural gas providers' earnings may hold up better, but their price-earnings ratios will go down because the whole world sees risk everywhere. A general economic downturn puts pressure on all purchases.
If you are holding stocks for dividends, yes, be in those types of sectors. But don't expect any major sector to go up when the whole world is crashing.
TGR: Won't the dividends of commodity-oriented, needs-based companies go down along with the rest of the market?
HD: The best companies, if their earnings don't go down a lot, will try to keep their dividends up to bolster their stock price. The dividends will decline or hold steady, at best. However, the price-earnings ratio, the value of your stock, can still go down. It may decline 3040%, compared to 5080% drops in other sectors. That's the difference.
TGR: The stock market has returned to higher levels since the 2008 crisis. Why?
HD: Because of the government stimulus. Without this massive stimulus, we would have seen a depression. Bank reserves have gone up over $2T from almost nothing, all on money given to them by the Fed.
TGR: What's to keep governments from doing the same thing after the next crash?
HD: They will do the same thing again. I differ from most people in that I believe in the broader economy. It needs a winter season. It needs to deleverage debt, rebalance and reset entitlements, to get real about the demographics. If we make those adjustments, we will come out of this, especially when demographic trends improve again. We just have to take some pain, and nobody is willing to take pain. As in 2008, there will come a point where short-term stimulus will not offset the meltdown in debt and financial assets. Central bank stimulus has created a whole new set of financial asset bubbles that will have to burst. That is its consequences, not rising inflation that most gold bugs (who do understand the financial and debt crisis) warn about.
TGR: The Boomer generation is moving into its retirement years. Will the pain and resetting last through the end of the Boomers' lifetimes or is it a shorter, quicker occurrence?
HD: Some of both. If we get a trigger and things fall apart, it will be really steep in the next few years. But the demographic trends don't turn back up until the early 2020s in the U.S. and elsewhere; they never turn back up in a lot of European countries. Japan gets worse after 2020; China after 2025.
There will be a reprieve, and then the economy will get better 7 to 10 years from now. Between now and then, apart from government stimulus, we will have no growth. This is true even for emerging countries. Their stocks are down more than 20% since early 2011. Good demographics can't help them when commodity exports are so important to their best jobs, industries and stock markets.
TGR: Should people be sitting in cash waiting for the next big pullback?
HD: Yes or almost. Stocks are getting very overvalued, very bubbly. We're not telling people to pull out of stocks yet, but we expect to issue a strong sell signal between late January and early May.
My motto is: Long-term trends are easy for forecast; the short-term trends and key trigger points are harder. You have to make calculated guesses.
TGR: What are the technical drivers of that expectation?
HD: Economist Robert Shiller recommends measuring a stock's price against the average earnings of the last 10 years. That indicator says we're as high as in all the great peaks except for the tech wreck in early 2000. Investment advisers are 62% bullish, 14% bearish. That's the most extreme I've seen in my whole career.
My favorite driver is margin debt. It's gone up higher with every bubble. It will peak in the next few months. When that turns the other way, it's over.
TGR: How fast will it turn?
HD: It turns fast. In 2007, it peaked late in 2007 and dropped like a rock throughout 2008. You have to notice when it appears to be peaking and make a calculated bet to get out. You'd rather be a little early than a little late. Even in bubbles, stocks go down in a burst faster than they went up as the bubble built. It takes five to six years to build most bubbles. In a bust, those gains can be lost in 18 to 30 months.
We're not getting out of stocks quite yet and certainly not out of gold. I would wait for a bounce to start selling gold.
TGR: When you say "out of gold," do you mean gold equities or the commodity?
HD: I like to trade the commodity. We do sectors, not individual stocks. I originally thought gold would go to $2,000/oz, but it broke at $1,525/oz. That shouldn't have happened. Gold has been wounded, but it's due for a bounce. The U.S. may have to back off of tapering. Europe, and maybe Japan, are likely to increase stimulus again. Gold will like that, at first.
TGR: Before it drops to $700/oz?
HD: How much of a drug can you take before you fall down and hit the pavement? Stimulus is an artificial performance enhancer. It makes you feel better in the short term, but as you take more of a drug to keep from coming down, eventually you hit bottom. That's where we're heading.
TGR: How high will gold go before falling?
HD: The bottom of that long channel between $1,800/oz and $1,525/oz is the real resistance. I'm telling my clients close to $1,400/oz would be a good time to sell gold. I would not sell at $1,240/oz here.
TGR: Any other predictions or tips on prospering during deflation for our readers?
HD: Businesses need to hunker down. This is survival of the fittest. We need to eliminate inefficient, overleveraged businesses. The companies that come out of this owning the market are those that get lean and mean, even if their revenues, earnings and profits all decline.
I'm not a bearish person by nature. I've been bullish since the late 1980s. I look for changes in cycles up or down. As long as the cycles are changing, you can prosper.
TGR: Harry, I appreciate your time and your insights.
Harry S. Dent Jr. is founder of Dent Research, an economic research firm specializing in demographic trends, and editor of the Survive and Prosper and Boom and Bust newsletters. His mission is "Helping People Understand Change." Dent is also a bestselling author. In his book, "The Great Boom Ahead," he stood virtually alone in accurately forecasting the unanticipated boom of the 1990s and the continued expansion into 2007. In his new book, "The Demographic Cliff," he continues to educate audiences about his predictions for the next great depression, especially between 2014 and 2019 that he has been forecasting now for 20 years. Dent regularly lends his economic expertise to the media on television, in print, and on the radio, and is sought after as a panelist and speaker for international forums around the world. He earned his Master of Business Administration from Harvard Business School where he was a Baker Scholar. Subscribe to the free daily Survive Prosper newsletter at harrydent.com.
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