Future Shock
As Boomers Retire, a Debate:
Will Stock Prices Get Crushed?

For tens of millions of baby boomers and younger workers, the basic long-range financial plan is simple: accumulate stocks and bonds while working, then slowly sell them off to keep up a comfortable lifestyle in retirement.

Not so fast, says Jeremy Siegel, the Wharton School finance professor well-known until now for recommending stocks as a long-term investment. In speeches and a new book, he is warning that a flood of boomer retirees with trillions of dollars of assets to sell over the next 20 to 40 years threatens to crush stock and bond prices. He says it will take a massive investment in U.S. stocks by people in India, China and other developing countries to prevent a market meltdown.

Robin Brooks, an economist at the International Monetary Fund, scoffs at the warning. He thinks the wealthy individuals who own a large percentage of U.S. stock won't need to sell, and companies may boost dividends so retiree investors can hang on to their shares.

As politicians debate Social Security, economists are debating the future of another plank of Americans' retirement plans: the stock market. The ratio of working-age people to retirees will decline over the next 30 years to an estimated 2.6 to 1 from 4.9 to 1 today. Simple supply-and-demand economics suggests that as retirees dump their holdings into a thin market, stock prices could plummet.

But will they? Prof. Siegel says it's possible to take some common-sense assumptions -- for example, that people will continue trying to retire in their early 60s -- and show in an economic model that stocks are in for trouble. "God knows, I want to be an optimist," he says. "But I don't think there will be enough assets from U.S. sources going forward to pay for people's retirement."

Dr. Brooks contends that even if demographic trends do hit elderly people's pocketbooks, those without savings who depend on government assistance will bear the brunt. History shows, he says, that it's impossible to predict big macroeconomic changes decades in advance -- the global economy simply has too many moving parts.

"Whether we will see some sort of crash or slow crumble over the next decade or so, I don't know," says Andrew Abel, another finance professor from the Wharton School at the University of Pennsylvania. "But it is certainly likely enough that it has got to enter into people's planning."

Prof. Siegel, 59 years old, was born in November 1945, just before the baby boom started in 1946. As a child, he delighted in charting the number of morning glories in his backyard. Thus began a lifelong passion in explaining and predicting trends, including the stock market. He earned his economics Ph.D. at the Massachusetts Institute of Technology and has taught at Wharton since 1976.

His 1994 book, "Stocks for the Long Run," came just as the bull market was switching into high gear, turning him into a sought-after stock-market guru. Prof. Siegel used historical data going back to 1802 to argue that stocks have consistently been better investments than bonds. The book sold more than 350,000 copies and was translated into eight foreign languages. His reputation got another lift in 2000 when he warned that technology stocks were overpriced just as the tech bubble was about to burst.

A markets junkie, Prof. Siegel delights in rising early to check financial news. Personally, he favors index and sector funds with low management fees, and his high hopes for developing markets have drawn him to foreign-market funds. A popular lecturer, he speaks to his students with market data displayed behind him on huge screens.

In 1935, average 65-year-olds worked until they were 69 and were dead before they were 77. Today, the average worker retires at 62 and can expect to live another 20 years. And the number of retirees will start surging in a few years when the first big chunk of the 1946-64 baby-boom generation retires.

Jumping off from those numbers, Prof. Siegel's model highlights a fundamental contradiction between common expectations today and reality. He starts with several reasonable-sounding assumptions: Productivity will continue to rise modestly but not leap forward. Taxes, the retirement age, immigration and life expectancy will stay broadly in line with current expectations -- as will the percentage of income that working people consume. In that case, the model suggests, retirees can't possibly maintain 90% of their preretirement standard of living, the typical level they now seek.

Prof. Siegel thinks it's likely retirees would try to sell their assets -- stocks, bonds and real estate -- in a desperate effort to keep up their living standard. But in the aggregate they would fail, assuming foreign buyers don't step in, he says. The imbalance between U.S. buyers and sellers would drive stock prices downward, leaving people with far less money than their account statements today suggest they'll have.

The cumulative gap between what retirees would need to keep 90% of their standard of living and what they'll actually get -- given all those assumptions -- is about $123 trillion between now and 2050, the model suggests. That's the U.S. figure; if the same calculation includes Japan, Europe and other industrialized regions, the gap rises to $347 trillion. The results change with different assumptions. The entire gap would be eliminated if people kept working on average into their 70s.

Initially, Prof. Siegel's model was limited to money available in the developed world. When he built a model covering the entire world, he was amazed: People in countries such as China, India, Indonesia, Brazil, Mexico and even Russia were projected to increase their wealth substantially, beyond what they were expected to consume domestically. They could dramatically increase their purchases of U.S. stock.

"By the middle of this century, I believe the Chinese, Indians and other investors from these young countries will gain majority ownership in most of the large global corporations" in the U.S., Europe and Japan, he writes in his new book, "The Future for Investors."

And that, he says, is how the baby boom could pay for its retirement. "The whole country is going to be like Florida," he says in an interview -- meaning the U.S. will slowly sell assets to foreigners just as retirees in Florida live by selling their stocks and bonds to people in other states. But "if the Chinese and the Indians don't come in, it will be bear-market times."

While finishing up his book last year, Prof. Siegel visited the San Francisco home of the eminent economist Milton Friedman, with whom he had taught at the University of Chicago in the mid-1970s, and showed off his findings. Prof. Friedman, now 92 years old, bluntly told his former colleague he disagreed. "There is no problem with this for the stock market that I can see," Prof. Friedman says in an interview.

Rather than racing to sell assets, typical retirees will be happy to hold their stocks and bonds and live off whatever dividends, interest and pensions they get, Prof. Friedman believes. "Jeremy is a good friend of mine and a former student," he says with a chuckle. "I have a bad habit of being frank."

Prof. Siegel has plenty of allies, however. Yale University economist John Geanakoplos argues that baby boomers have influenced stocks for decades, contributing to a slow market in the late 1960s and the 1970s as they came of age and aiding the long post-1982 boom as they started building nest eggs. "Baby boomers are reaching the end of the line and soon are going to have to be selling," says Prof. Geanakoplos, a boomer himself. "We should not rationally expect the same rates of return on our investments that our parents did."

Dr. Brooks at the IMF says the Siegel camp is too obsessed with models and demography. He got his Ph.D. in economics from Yale by developing a computer model that showed small but measurable downward pressure on stock prices as the baby boomers aged. Later he changed his mind. "There really is no link historically between demographics and demand for stocks," he says, adding that he speaks for himself and not for the IMF.

Now 34 years old, Dr. Brooks grew up in Germany with a British father and a German mother. He used to raid his parents' wine cellar and barter the wine for belts and canteens from American soldiers. Long attracted by the openness of U.S. society, Dr. Brooks came to Yale in the mid-1990s. Now he works in a small Washington office with two computers and some old calendars on the wall. Like Prof. Siegel, he has tended to put his savings into index funds with low management fees. But Dr. Brooks also owned some tech stocks that he failed to sell in 2000, and admits to losing big on the likes of WorldCom and Lucent Technologies.

Dr. Brooks kept up his interest in baby boomers and stocks after joining the IMF in 1998. He came to believe that variations in things like technological innovation, oil prices and government policies could greatly alter the calculations, far outweighing the small impact of an aging population. "I had been a bit naive about the financial markets," he says today. "There is an awkward discrepancy between the kind of story Prof. Siegel tells and the historical experience."

Simple models based on demography rarely work, says Dr. Brooks. They suggested that Americans would boost their savings in the 1990s as boomers reached their peak earnings years. Instead, savings rates plunged. He and others also see little evidence that boomers have been affecting stock prices since the 1960s.

Even accepting Prof. Siegel's model as a framework for discussion, Dr. Brooks notes that it doesn't necessarily imply pressure on stock prices. The hit to retiree living standards may come instead from the inability of government payments to keep up with retirees' needs. Dr. Brooks worries about the many baby boomers who have no stock at all, haven't saved much for retirement and will turn to Uncle Sam to cover their medical care and other basic needs.

"The stock-market meltdown issue is sort of a side issue. The bigger question is: How do we pay for all the people who haven't saved?" Dr. Brooks says.

Dr. Brooks argues it's unlikely that a rush among retirees to maintain their living standards would put pressure on stocks. The richest 1% of the U.S. population owns about 53% of the stock in individual hands, according to Federal Reserve data from 2001.

The richest 10% own more than 88%. Dr. Brooks argues that these people aren't likely to sell more than a small part of their holdings. He thinks companies will boost dividends, permitting older investors to keep their stocks -- a point also made by Prof. Friedman.

Finally, Dr. Brooks disputes Prof. Siegel's projections of heavy investment in U.S. stocks by developing countries. Such countries in the past have fallen short of expectations as often as they met them. "We don't begin to understand savings behavior in the U.S. How can we claim to predict savings behavior and money flows for emerging markets?" he asks.

Many other economists share Dr. Brooks's view that the impact on government programs, not on the stock market, is the key issue in an aging society. Laurence Kotlikoff, chairman of the economics department at Boston University, has constructed models showing a risk of sharp tax increases as governments are pressured to cover medical and other costs for improvident boomers. When he goes to Florida, he is chagrined to see bumper stickers reading, "Spending My Kids' Inheritance," which he views as the boomers' sad theme. But his studies suggest stock prices would actually rise in this environment, partly because companies would be buying less new equipment, paying bigger dividends and buying back more shares.

Prof. Siegel says he has taken just about all the naysayers' points into account. Even if the super-rich 1% don't sell stock, he says, the market could still feel considerable pressure from middle-class investors as well as pension funds that hold shares on behalf of middle-class retirees. Dividends can only rise so far in a fast-paced economy where companies must keep investing in new technology to survive, he says. The assumptions of his model could prove wrong, but Prof. Siegel doubts Americans are going to work until they're 70, impose huge taxes on working people or be able to boost productivity at China's pace.

Write to E.S. Browning at jim.browning@wsj.com