• Vanguard's research suggests a tug of war between artificial intelligence and demographics-driven deficits will shape the economic future.

  • The consensus view is that an ageing population will lead to anaemic economic growth.

  • Vanguard's new forecasting framework suggests AI is likely to be the catalyst for a surge in economic growth, surpassing the impact of the personal computer and the internet.

“If AI's impact matches that of electricity, it could offset demographic pressures.”

Joe Davis

Chief Economist and Head of Investment Strategy Group, Vanguard

The US Federal Reserve Board released its longer-run economic projections1 in March 2024, offering insights into the future of the US economy. However, the consensus view that the future of the world’s largest economy will resemble its recent past may be misguided.

The Federal Reserve Board’s projections, which were supported by similar insights released by the US Congressional Budget Office (CBO), include:

  • Real economic growth between 1.6% and 2.5% per year—a percentage point less than the growth rate since World War II.
  • Annual inflation of 2%.
  • Short-term interest rates between 2.4% and 3.6%, well below their current level.

The broad economic consensus is that our economic future will resemble the recent past—anaemic productivity growth, low inflation and near-zero inflation-adjusted returns on government debt.

Our analysis suggests otherwise: we give this scenario a 10%–20% likelihood. The most likely outcome in our view, with a probability of 45%–55%, is that artificial intelligence (AI) catalyses a surge in economic growth.

The next most likely outcome, at 30%–40%, is that AI fails to meet our expectations. In this scenario, a slow-growing, ageing population fuels government deficits and debt that limit growth and improvement in living standards.

A new megatrends forecasting framework

These projections are the output of Vanguard’s novel economic forecasting framework. The model integrates the short-term business-cycle variables that drive most economic forecasts with the slower-moving supply-side forces that determine an economy’s productive capacity over decades. These megatrend forces include demographics, technological change, deficits and globalisation.

Our analysis indicates that the future of the global economy depends on a tug of war between AI and demographics-driven deficits. The stronger of these two forces will determine the economic and financial outcomes that matter to workers, investors and policymakers.

Age-related spending and structural deficits

The US government ran a primary surplus in 141 of the 208 years between 1792 and 1999, almost 70% of the time. (A primary surplus means that tax revenues exceed government spending, excluding interest payments on the debt.) More recently, this pattern has flipped. The US recorded primary deficits in 20 of the 24 years between 2000 and 2023 (83%).2

The US government's shift from surpluses to deficits can be attributed to an ageing population, which has led to increased spending on healthcare and social security. These structural deficits, coupled with rising interest rates following Covid-19, pose a threat to economic growth and raise concerns about inflation and borrowing costs. According to CBO estimates, by 2054 the ratio of US debt to GDP will exceed 170%, up from about 100% today.

However, emerging technologies, particularly AI, hold the potential to boost economic growth and mitigate the impact of age-related spending.

The AI productivity opportunity

Technological innovation has historically been the primary driver of productivity growth and improvements in living standards. Vanguard's research highlights three key aspects of technological innovation:

  • General-purpose technologies (GPTs) such as electricity and the computer.
  • Automation of routine tasks that free workers to focus on more valuable work.
  • Labour-augmenting innovations such as power tools.

The conditions for the emergence of GPTs are present today, with increased capital investment in new technologies and sluggish productivity growth. If AI's impact matches that of electricity, it could offset demographic pressures and exceed consensus expectations for economic and financial outcomes.

But if productivity gains mirror those delivered by robotics, computers and the internet, demographics will dominate. Economic and financial outcomes will fall short of consensus estimates.

Sizing the odds: demographics vs. AI

Vanguard's research presents two scenarios for the future. In the first, most likely scenario, AI emerges as a significant general-purpose technology, surpassing the productivity impact of the personal computer and the internet. In the other scenario, AI fails to meet expectations, leading to modest productivity effects that are insufficient to overcome structural deficits driven by age-related government spending.

A graphic describes three scenarios for long-run, real U.S. GDP growth and their associated probabilities. Vanguard scenario 1 is that AI fails. Demographics dominate. Economic growth is less than 1.8%. It falls short of the real interest rate. The probability of this scenario is 30% to 40%. The consensus scenario is for economic growth between 1.8% and 2.3%. Growth roughly equals the real interest rate. The probability of this scenario is 10% to 20%. Vanguard scenario 2 is that AI succeeds. Productivity surges. Economic growth is greater than 2.3%. Economic growth is greater than the real interest rate. The probability of this scenario is 45% to 55%.  Beneath the three economic scenarios, a chart compares Vanguard’s base case scenario for the impact of Artificial Intelligence relative to three other technologies, Robotics, Computers/(ICT), and electrification. We make the comparison along three dimensions: transformation, efficiency, and augmentation.  Our base case is that AI will be more transformative than robotics and computers, less transformative than electrification. AI will lead to greater efficiency than robotics and computers, less than electrification. AI will do more to augment worker productivity than robotics but less than computers and electrification.

Source: Vanguard. Notes: We define transformation as a shock to the diffusion of general-purpose technology, efficiency as a shock associated with automation, and augmentation as a labour-augmenting shock where both output and employment rise simultaneously.

The eternal tug of war

Technology and demographics have always competed, as Thomas Malthus articulated in An Essay on the Principle of Population (1798). He argued that population growth would lead to war, famine and disease. In 1798, the earth’s population totalled 800 million. But in 2022, 8 billion people inhabited a richer, healthier planet. Technological progress neutralised the Malthusian warning: “The power of population is indefinitely greater than the power in the earth to produce subsistence for man.”

Yet the tug of war continues. Today, the struggle is between a slower-growing, ageing population and our capacity to improve, or even maintain, living standards. As economist Ester Boserup observed, however, “necessity is the mother of invention.” We expect technology to prevail—we’ll innovate faster than we age.

Read the full report, Megatrends and U.S. Economy, 1890–2040, here.

The Fed doesn’t specify a time frame for “longer-run projections,” noting only that it represents the Federal Open Market Committee members’ “assessment of the value to which each variable would be expected to converge, over time, under appropriate monetary policy and in the absence of further shocks to the economy.”

Sources: Vanguard calculations, based on government spending and outlay data from the Global Financial Database (for 1792–1961) and the Congressional Budget Office (1962–2023).

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