aging demographics

A Contracting Workforce Means Tepid Economic Growth for Advanced Economies

Over at the Fletcher Forum of World Affairs I have a brief article explaining how the aging of populations will not only place increasing burdens on governments providing entitlement benefits for the elderly, but will also strain economic growth.

But what is less discussed, and thus less well understood, is the effect of demographic transformation on economic growth itself. The problem is not strictly that the governments of these countries will be shouldering large obligations associated with a growing elderly population. It is also the fact that these countries will experience very low growth by historical standards because their workforces will be either stagnant or shrinking.

Total economic output can be expressed mathematically rather simply. Total GDP is the product of the number of workers in the formal economy and the amount produced per worker. It follows that yearly growth in GDP is a function of change in the size of the workforce and in productivity (i.e., the amount produced per worker).

For decades, Europe, the U.S., and other advanced economies have enjoyed strong growth because their workforces have been growing and capital investment and technology have allowed workers to produce more and more each year. That is now changing, however. Productivity is still improving, but workforces around the world are now barely growing and, in some countries, are about to shrink steadily for the foreseeable future.

You can read the rest of the post here.

posted by James C. Capretta | 11:37 am
Tags: aging demographics, economic forecasts
File As: Population/Demographics

The Canary in Europe’s Coal Mine

In the very short term, Europe may be able to weather the Greek debt crisis and cobble together a program that buys time, stems contagion, and avoids a precipitous downward spiral. That is not at all assured, of course. Indeed, it may in fact be unlikely, given the size of the hole that Greece now needs to fill under the IMF-EU bailout package and the nervousness of lenders and investors. The “austerity” program calls for fiscal consolidation (or deficit reduction) by the Greek government equal to 11 percent of GDP in 2010, 4.3 percent in 2011, and 2 percent in 2012 and 2013. Economists expect these cuts will push the country into recession, which will almost certainly exacerbate the social unrest on display in recent days. And even if Greece complies, debt would still hit nearly 150 percent of GDP in about three years before stabilizing thereafter. It’s hard to see this all playing out smoothly.

But even if matters do work out well over the coming weeks and months, what’s happening in Greece is almost certainly an early sign that Europe’s long-in-coming day of reckoning is now at hand.

Yes, Greece is an outlier. Its debt is higher than elsewhere in the eurozone. More taxes seem to go uncollected there than just about anyplace else. And the state apparatus looks to be almost beyond belief in terms of its size and drag on the economy.

But the most debilitating disease afflicting Greece is also present in every other western European country. They all have more and more people living off of an expansive social welfare structure, even as their workforce is aging, shrinking, and losing ground to global competitors.

A couple of years ago, the European Commission (EC) looked at the implications of population aging on public expenditures and economic growth in the EU member states. That study found that the working-age population in the EU countries will peak in 2011, and contract rather substantially thereafter.

GDP growth is a function of the changing size of a nation’s workforce, and its productive capacity. According to the EC’s projections, the EU’s working-age population grew at an average rate of 0.9 percent per year from 2004 to 2010, thus boosting overall GDP growth. But beginning in this decade, the workforce is going to contract, slowing GDP growth by an average of 0.1 percent every year through 2030. In other words, the shift from an expanding to a contracting workforce is worth about a 1.0 percentage point drop in GDP every year.

Meanwhile, the cost of the European welfare state is set to rise dramatically with population aging. The EC projected that pension and health costs will rise about 2.4 percent of EU-wide GDP from 2004 to 2030.

To survive the demographic tidal wave coming their way, European governments should have been running large primary budget surpluses in the years when their workforces were still growing and paying taxes. But most did not.Now, their choices are far less attractive. If lenders won’t finance their welfare states at preferential rates, European governments will have no choice but to impose even higher taxes on the shrinking number of workers who continue to produce goods and services, or ask those no longer working to cut their consumption dramatically. Either way, it’s a politician’s nightmare.

Which is why it’s hard to blame existing lenders to Europe’s most leveraged countries for becoming increasingly nervous that they could be the ones left holding the bag.

posted by James C. Capretta | 11:31 am
Tags: debt crisis, welfare state, aging demographics, Europe