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The Burden of Ageing: Economic Impacts of Changing Demographics

Paper ID: 121 Last updated: 18/05/2011 14:19:19
Criteria: bullet Impact:  Likelihood:  Controversy:  Where: Domestic/National When: 11-20yrs How Fast: Years
0 people thought this paper expanded their thinking bullet
Keywords: bullet ageing, population, demographics, fertility, longevity, pensions, retirement, socio-economic policy, urbanisation, welfare economics

Summary bullet

Population ageing is emerging as a major demographic trend in the United Kingdom and many industrialised and developing countries, with potentially important economic implications. The impacts of such demographic trends are uncertain and varied, with the effects likely to be felt in the economy, labour market, health system, tax and spending patterns, new “grey” markets, and socially in terms of inter-generational tensions, as well as the more obvious pressures on pension schemes. There are potentially wide ranging policy consequences, particularly in relation to pension reform and migration. However, population ageing may not become the crisis that some have predicted.

Discussion bullet

Over the past 300 years, the world’s population has increased around ten fold. Sparked by the publication of the Limits to Growth report [1], the British press in the 1970s was full of dire predictions of overpopulation. However, in Europe and parts of Asia, governments are now concerned with birth shortages and population ageing. Birth rates have been falling worldwide and people are living longer and healthier lives. [2]

Worldwide, people are living 30 years longer on average than they did a hundred years ago, and life expectancy is still increasing by nearly 4 months every year. [3] Regarding mortality risk by age, the UK has witnessed significant declines in almost every age group. [4] Females continue to live longer than males, but the gap has been closing: life expectancy at birth is now 77.4 years and 81.6 years for men and women respectively. By 2050, female life expectancy is projected to be as high as 87.7 years and male life expectancy as high as 83.6 years. [5] Although assumptions about the future vary slightly, [6] most statistical agencies now assume a continued increase in life expectancy.

On the other hand, the total fertility rate (TFR) is below replacement level of 2.1 children per woman in most industrialised countries; birth rates are also dropping in most developing countries; childlessness is becoming more common; and the average age at which women have their first child is nearing 30 years. Between 1960 and 2000 the TFR in the UK dropped from 2.72 to 1.64 children per woman. [7] However, the period of year-after-year drops in fertility seems to be over. Although there are still countries (for example, Germany and Romania) where fertility has continued to decrease over the past decade, a number of European countries have recently recovered from their all-time lows in fertility. In the UK, for example, the TFR has increased from 1.63 in 2001 to 1.96 in 2008.[7] According to the Office of National Statistics, two-thirds of this rise can be attributed to women born outside the UK.[8] Recent publications suggest that improved gender equality offering a more equal distribution of domestic duties between men and women could also be an explanation for this trend break. [9] [10]

Despite the recent rise in the number of births, there is little uncertainty surrounding the projection that over the next several decades the mean age of the UK population will further increase. The proportion of people aged 65 and over is projected to increase from 16 per cent in 2008 to 23 per cent by 2033.

Longer life, of course, is an impressive testament to the rapid progress in economic, social and public health spheres in Europe. And equally, declining fertility is the consequence of increased freedom of choice regarding reproductive decisions of couples, and of women in particular. [11] But this paper casts the spotlight on uncertainties facing the economy: changes in retirement age and the overall proportion of people in work; impacts on productivity; the savings/spending impact for old and young; and the new markets. Some of the possible impacts of an ageing population in terms of society, health, wellbeing and participation in the political sphere are discussed in Sigma Scan Issue Paper 1 “Age and Engage: ‘Global greying’ until 2030 and the rise of the empowered senior citizen”.

Implications bullet

One of the direct impacts of an ageing population is that the relative size of the workforce will decline over the next decades, leading to a smaller tax base. Furthermore, the labour force will become older and potentially less adaptable to modern day challenges. [12] The negative natural growth rate of the UK population may lead to a shortage of young skilled workers. Eighty per cent of workers in the labour force obtained qualifications more than ten years ago, and some expect that most new technologies will be obsolete in ten years. [13]

At the same time, the relative and absolute size of the old-age population will increase. The primary concern is the likely effect on public budgets and expenditure. The OECD has estimated that some 40 to 60 per cent of public spending is sensitive to the age structure. The sustainability of pension systems are at stake as expenditure will increase while at the same time contributions are levelling off.[14] As Professor Nicholas Barr at the London School of Economics puts it: “The problem is not that people are living too long, but that they are retiring too soon.” [15] Other age-specific public expenditure includes healthcare and long-term care, which as a percentage of GDP in the UK are estimated to rise by 30 per cent. [14]

To counter this latter trend for Europe as a whole, one forecast sees the tax burden rising from over 40 per cent on wages today to 60 per cent by 2030 and close to 70 per cent by 2050, effectively cutting take-home pay by a quarter. On the other hand, and in part driven by soaring public debt as a consequence of the 2008-09 economic crisis, considerable cuts in public expenditure are planned over the next years. For the pension system, this will likely include higher retirement ages, cuts in pension benefits, and increasing contributions.

The pension challenge will require higher savings if the effect is not to be borne purely by an inter-generational transfer from working-age people to the old. [16] The recent crisis in the stock market has further worsened the outlook for pension funds in the future. The policy implications range from the immediate (pensions reform, promoting labour mobility including inward migration) to the medium to longer term (e.g. health service planning, benefits reassessment as costs rise). Although the UK's funded pensions are relatively high compared to other countries, [17] a degree of compulsory savings (through public and/or occupational schemes) becomes more probable as an option. [18] Pressures for means-testing rises as the working population decreases.
The economic burden of dependency of an ageing workforce may be counterbalanced by reduced young-age dependency (the ratio of young people in the population and the working age population) and increased female labour participation. [19] The proportion of GDP spent on education and healthcare for young people will likely decrease. Some argue that the ratio of labour force to population will actually increase in most countries, because declining fertility has been (and may continue to be) correlated with greater female labour force participation. Bloom and colleagues show that for every unit reduction in fertility, women tend to work two years more over their lives. [20] Furthermore, fewer children generally mean healthier, smarter, and better-educated children as parents divide their resources among fewer offspring, which in turn could boost to economic growth. [21]

In poorer countries populations will also inevitably age in the longer term future. The speed of this process may actually be considerably faster than in richer countries. The decline in mortality and fertility is likely to be steeper, as many of the transitions that are considered drivers of longevity (e.g. access to improved sanitation) and low fertility (e.g. mass contraception) tend to take place over a shorter period in the developing countries than was the case in the industrialised world. These countries lack the private savings for funded pension schemes and are forced to rely more heavily on traditional family networks and continued employment of the elderly.

When considered in an international context, the effects on future UK economic competitiveness may compare relatively favourably to a number of other industrialised countries. A number of central and southern European countries, for example, continue to have a sustained low fertility rate, and have maintained generous and inefficient public welfare systems based on a pay-as-you-go (PAYG) mechanism. In these systems current pension benefits are funded by the contributions of the currently active labour population. By 2050, for example, the gap in size between the UK and German economy, based on population changes alone, would fall from 20 per cent (in 2005) to 7 per cent. [22]

Early indicators bullet

Changes in total fertility rate and age-specific mortality will be the earlier guides to the demographics, with migration rate modifying the change.
Female age at first birth and involuntary childlessness.
Pension and welfare system reforms in other countries.

Drivers & Inhibitors bullet

Drivers:
Medical progress lengthening life spans.
Competing pressures of work and family life causing further postponement of family formation.
STDs or obesity pandemic could impact fecundity and further increase involuntary childlessness.
Falling fertility rates and increasing age at first birth.
Female participation in higher education.
Pressures on pension funds and the savings industry.

Inhibitors:
Considerable growth in productivity per capita, for example through new technologies (such as Artificial Intelligence), may outpace the dependency ratio. This could compensate for the reduced size of the labour force.
Increased healthy life expectancy and subsequent ability to be participate in the labour force.
Medical or technological aids may facilitate extension of working life.
Sudden increase in elderly mortality as a consequence of threats of new epidemics and/or antibiotic resistant strains of disease.
Increasing female labour force participation.
Improving gender equality fostering more equal distribution of domestic duties between men and women.
Increasing inward migration of young workers.
A new baby boom.
Assisted reproductive technologies could extend reproductive lifespan.
More severe economic crises could dwarf the impact of ageing.

Parallels & Precedents bullet

Thomas Malthus’ economic warnings concerning the dangers of population growth.
The baby boom driving post-war economic growth.
Mass migration to the US early 20th century driving the United States' economy.
Low fertility in France in the early 20th century and subsequent recovery following generous government investments in the family.

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