'Population Structure Changes and Interest Rate Sensitivity of Consumption' Paper
Interest Rate Sensitivity of Consumption Decreases Due to Aging
Weakened Monetary Policy Function When Interest Rate Sensitivity Declines
A study has found that the rapidly progressing population aging may impair the monetary policy function of central banks and increase interest rate volatility.
On the 8th, Jaeho Lee, Director of the Research Department at the Bank of Korea, published a paper titled "Changes in Population Structure and Interest Rate Sensitivity of Consumption" in the academic journal of the Korean Economic Association, making this claim.
According to the paper, South Korea is experiencing a trend where the consumption expenditure share of the elderly is significantly increasing due to rapid aging. The proportion of consumption expenditure by those aged 50 and above rose from 24% in 2006 to 50.8% in 2022.
The interest rate sensitivity of consumption decreased with age. For example, when interest rates rose by 1 percentage point, consumers aged 40 reduced their consumption expenditure by 2.92%, whereas those aged 60 only reduced it by 1.92%.
The lower interest rate sensitivity among the elderly is due to differences in the size of net financial asset holdings. Consumers holding 10,000 KRW in net financial assets reduced their consumption expenditure by 5.02% when the average lending rate increased by 1 percentage point, but those holding 100 million KRW only reduced consumption by 3.30%. Since the elderly aged 60 and above have a higher proportion of net financial asset holdings compared to those in their 30s and 40s, their consumption activities are relatively less affected by interest rate increases.
Due to population aging, the overall sensitivity of national consumption expenditure to interest rates is also expected to decline. The study results indicate that in 2021, a 1 percentage point increase in interest rates led to a 2.49% decrease in total consumption expenditure, but by 2041, due to aging, the decrease is expected to be only 2.24% under the same conditions. Over 20 years of population aging, the interest rate sensitivity of consumption expenditure decreased by 9.71%.
Director Lee explained, "Elderly individuals with substantial financial assets experience increased interest income when interest rates rise, which reduces the decline in consumption caused by the interest rate increase," adding, "This means that as the proportion of the elderly increases, the interest rate sensitivity of consumption decreases."
However, real estate is estimated not to have a significant impact on the interest rate sensitivity of consumption. Even if the prices of real assets like real estate immediately fall due to interest rate hikes, such assets are difficult to liquidate quickly, so real estate assets have less influence on the interest rate sensitivity of consumption compared to financial assets, the analysis concluded.
Monetary Policy Effectiveness May Weaken as Elderly Consumption Share Increases
The paper warned that as the consumption share of the elderly increases, the effectiveness of monetary policy in economic adjustment may weaken depending on the interest rate sensitivity of elderly consumption. Due to the weakening effectiveness of monetary policy, central banks may need to adjust the benchmark interest rate more frequently.
Director Lee stated, "In the aging era, more active interest rate adjustments than currently practiced are expected to be required for monetary policy to achieve the same economic adjustment effects." He added, "As fiscal policy's growth effects are expected to weaken in the aging era, and monetary policy effectiveness may also decline, it is necessary to proactively research and develop various policy tools that can complement the interest rate's economic adjustment function."
Elderly people are drinking beverages and talking at a fast food restaurant in downtown Seoul. [Photo by Yonhap News]
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