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Monday, April 28, 2008

Global Demographics - (Almost) Uncharted Waters

by Claus Vistesen: Copenhagen

This post is something of a departure from our normal practice here at Global Economy Matters, since most of the posts on this blog deal with the explicitly economic aspects of global demographic changes, while we normally post more demographically oriented posts on our companion (sister) blog Demography Matters. In this case, however I am going to make an exception, owing to the interest of the paper I am reviewing here for economists generally, and also since it provides a nice companion piece to Edward's post on global food prices.

The topic is consequently global demographics, what we know about them, and even more importantly what we don't know. Such questions cannot be adequately answered in even the most ambitious blog post. However, if we want some sort of basic orientation then we could do a lot worse than visit a recent paper by David S. Reher entitled Towards Long-Term Population Decline: A Discussion of Relevant Issues. The paper is as per usual walled for non-subscribers of a university server but you can get a long most adequate survey of the paper here at Edward's Demography Resources.

Let us begin with the abstract which contains two crucial points that are very important to take away.

This paper contains thoughts on the process of imminent population decline under way in much of the developed world and quite possibly in other world regions as well. We are witnessing the beginnings of a vast trend change which promises to bring to a close a period of population growth that has lasted for several centuries. It can be shown that this great change is a byproduct of the demographic transition that unleashed a number of the forces leading to where we are today. The extent to which much of the developing world will follow the reproductive trends of the developed world, with their social and economic implications, is discussed. The decades ahead for much of the world will lead us into mostly uncharted territory that bears few similarities with past periods of population decline. The purpose of this paper is to stimulate reflection and debate on a subject that looms as perhaps the key social issue of the twenty-first century.

As many of you may know from rudimentary knowledge of demographic processes the original idea of the demographic transition always encompassed the idea that fertility would stabilize at replacement levels once the final stages had been dispensed with. This is then to say that the original idea of the DT envisioned a notable degree of balance (homeostasis) in the level of population with the obvious exception that an ever marginal decline in mortality coupled with a rise in longevity would steadily translate into ageing of the world's population. We know now that this idea of a balanced steady state (and no, this choice of word is NOT coincidental) in fertility must be seriously doubted and for all intent and purposes discarded as a valid theoretical explanation. Consequently, it is only very few developed countries today that can boast a fertility rate at replacement levels and indeed if we pull out the ruler none of the developed economies save perhaps the US qualifies for the strict definition of replacement fertility. This must then be the first important thing to take away at this point. The demographic transition or more specifically the evolution of fertility and rising life expectancy is not over and at this point there does not appear to be a theoretical governing mechanism to provide a balance. On the contrary and most worryingly we are now observing that the rapid decline in fertility which has occurred across a wide batch of developed economies is now being repeated, and more importantly fast forwarded, in the context of many emerging and transition economies. Notable examples here would be Eastern Europe, large parts of Asia, as well as Northern Africa. Conclusively this leaves us with two intertwined points which are absolutely crucial to be aware of. Firstly, and as I have argued before the demographic transition is not over and following from this is, as mr. Reher puts, the fact that we are moving into uncharted territory.

In general, I would say that Reher's small article is a good starting place if you want to understand some of the issues at work and also if you want to understand what the historical background of the demographic transition is. Reher frames his discussion around the issue of population decline and how world is now moving into a new regime of steady to declining population dynamics. Obviously and since mortality rates have declined much faster than fertility rates it will take some time before the global population actually start falling in numbers even if of course notable asymmetries are present. For example Russia's population is already declining and so is Japan's and unless aggregate European fertility rates rise to an almost unimaginable number the population will begin to decline slowly here too in a few years (also it has to be said with important asymmetries). Even though this perspective is important I am not a big fan of narrating the demographic changes in the context of population decline. There are two main reasons for this. First of all I think that population decline on a global scale need not be a detrimental development for the human race. In fact, a considerable amount of evidence supports this. Secondly, because I am convinced that the main economic effects from demographic changes need not be found in the context of declining populations in absolute numbers but rather in the form of the rapid and relentless process of ageing which is sweeping the planet in these years. Reher of course also notes this and mentions several times the potential impact of ageing. However, I like to take it even further. Another way to look at the demographic transition is consequently to look at it as a transition in age structure of a society. I am thus very much in tune with the original work on this conceptualization by the Swedish demographer Bo Malmberg. In this way and from a macroeconomic point of view the focus on ageing and changing age composition of a society opens up an important unattended flank in the realms of macroeconomic theories of growth and capital flows. In this context I feel that the following issues are very important to keep in mind ...

  • The implied notion of an economic steady state runs into severe calibration issues in the context of the ongoing demographic transition. Growth theorists, of course, were always from the beginning aware of the potential effects of a skewed relationship between old and young people in a society. A whole battery of research consequently exists under the common notion of OLG (overlapping generations framework) which deploys standard life cycle assumptions to derive steady states in a modeling context of a rudimentary age structure of society. However, the theory runs into distinct problems when trying to formulate a steady state framework for countries that do not appear to exhibit a steady level of output growth over the long run. In this way, the steady state becomes a proverbial moving target. In addition there is evidence to suggest that the demographic transition is not a deterministic process but rather path dependent and thus endogenous to the growth process itself. Given the fact that we don't how this process ends it makes the potential modeling endeavor extremely difficult.
  • Economies today are not closed but highly interdependent. If we couple this with the fact that the process of ageing occurs in radically different tempi across the batch of global economies I believe a number of important externalities can be identified in the context of the global economy. What does it for example mean that Japan is running a near 0% interest rate policy because it has found it impossible, after more than a decade, to effectively escape deflation? What does it mean for global capital flows that some economies are now, not only prone as the original theory predicts, but rather dependent on external demand to grow? And what happens as all the global economies steadily age thus all becoming ever reliant on external demand to grow?*
  • Growth is above and beyond driven by the availability and quality of human capital; both on a macroeconomic and microeconomic level. Institutional set-up matters in the sense that they can make or break an economic edifice depending on their efficiency but without human capital the economic engine does not work. Institutions can be a powerful catalyst for the quality of human capital but on the other hand modern institutional arrangements also seem to be at the very heart of the dramatic decline in human capital formation (fertility) we have observed and indeed are observing. Moreover, there is evidence to suggest that a negative feedback mechanism is at work with respect to the quantity and quality of human capital. And as Edward likes to frame it, a society has a maximum capacity for growth when its age structure is at a specific golden level (i.e. when the most productive cohorts (say 25-45) are at their maximum size relative to the whole population). Yet, as the demographic transition ripples through this median moves steadily upwards and in this context the extra productivity extracted does not carry the same weight as it did before. In fact, and going back to the idea of a steady state it seems a very sound theoretical assumption to state that in order to observe a steady state of economic growth we need to have a balance by which the size of the most productive cohorts is fairly stable (the US would seem to be almost the only empirical precedent here).

These are but some of the questions which arise in the context of the global demographic changes and their impact on the economic environment.

If we return to Reher's piece I think that a couple of noteworthy rather random points can be extracted.

As I have relentlessly been arguing in the context of the topic at hand one of the most preoccupying concerns is that the observed and lingering trend in the developed world now seems to be repeating itself in the context of the world's emerging economies. In fact, as we have seen a wide array of transition countries are now finding themselves with severely damaged population dynamics. Reher is very specific on this topic which he uses essentially to argue that the world is now, for better or worse, entering a completely new and unknown demographic regime. Also he latches on to the idea that the demographic transition is indeed a path dependant process and not one which occurs automatically in the context of a pre-scheduled process of catch-up growth from the point of view of transition economies ...

Throughout the developing world, aging and its attendant economic and social challenges will become an acute social issue relatively soon after it becomes a central concern for societies in the developed world (Demeny & McNicoll, 2006b, 257–259). The intensity of change will leave these nations with but a brief window of the opportunity for modernization within which to take full advantage of the ‘‘demographic dividend’’ derived from their own transitions (Bloom et al., 2003).

What drove (and drives) this rapid demographic transition in the first place? This is perhaps where Reher is most elaborate. He consequently engages in a large and detailed discussion of the social change that occurred along side the demographic transition. Specifically, Reher devotes a large section to the changing role of women in our society and what effect this has had on childrearing. As far as I can see especially an elaborate account of the quantum effect of fertility emerges (curiously without a reference to the original work by Becker and Barro). Reher especially devotes attention to the process of family planning and completed family size. This is then an entrance point to the tempo effect (postponement of births) of fertility decline. As such, at any given point in time couples (or women) have a desired family size but the steady process of birth postponement may exert a notable influence on the final fertility level (i.e. cohort fertility). Moreover, Reher also refers to studies by the Austrian demographer Wolfgang Lutz who has devoted a lot research to the idea of a convergence towards a common very low level of fertility in Europe. An even more interesting side issue here is to actually develop a theory to explain these developments in desired family size potential convergence towards a one-child ideal. A considerable amount of debate has been made in the context of European sociological studies and specifically in relation to studies which have shown how many women in Europe's low fertility regions do not want to have children at all. A couple of months back Edward had a very elaborate piece on Demography Matters on this topic. Ultimately of course the idea that all this in the main can be pinned on the emancipation of women in terms of labour force participation and the social changes which accompanied it remains a rather dubious theory. Edward shows us as much in a recent very detailed analysis of Italy's demographics.

Finally, Reher manages to hit the proverbial nail on the head with his comments on international migration and the potential for ageing societies to mitigate their demographic travails through importing labour.

Labor shortages will be one aspect of the issue of aging. In some countries, this shortage of working age population is easy to predict because numbers of births have already been declining for several years. We believe that it is only a matter of time (perhaps 2–3 decades) before they begin to affect many or most societies in the developing world. The availability of surplus labor (potential migrants) to compensate the dearth of labor in the developed world may eventually be called into question, as the sending countries begin to suffer labor strictures of their own.


International migration itself, the focus of much current attention and concern, is unlikely to represent more than a temporary and rather inadequate solution for skewed age structures and population decline for two reasons. (1) Fertility among migrants, while initially higher than among the native populations, very quickly tends to decline to levels holding in the host society. (2) More important, perhaps, is the fact that many sending regions will be experiencing labor shortages of their own within two or three decades. It is unquestionable that these countries currently have abundant supplies of surplus labor that can be funneled fairly directly to receiving countries, normally developed ones, suffering from labor shortages. This situation, however, cannot be sustained indefinitely because of the dramatic fertility decline
taking place among those sending countries.

The only problem here with Reher's account is his time frame. 2-3 decades is way too optimistic. These issues are here today and very soon, if they are not already, they will come on the political agenda most prominently in Eastern Europe where for example the EU is still spinning the inter-relationship where CEE and Baltic migrants travel to the West as a positive one. The fact is that it is not and if the EU does not wake up to this they may end up with a lot dissatisfied new member countries.

In Conclusion

Reher's piece is well worth more than a scant glance. What I particular like was already emphasised in the beginning of this review. The demographic transition is not over but remains an ongoing process and this means that the global economy or society is moving into uncharted waters. At this point we already know a lot about the effects of demographic change but since we don't know the extent and/or the end of the changes themselves we are faced with a rather peculiar scientific problem. Personally, I tend to, unlike Reher, focus mainly on the dramatic force of ageing which is sweeping across the global economies. Especially, I like in this context how Reher emphasises the fact that the demographic transition seems to be moving much more rapidly in emerging and transition economies. This is a very important empirical fact to take away. In this respect I also think that Reher manages to pinpoint very accurately the issues which pertain to global trends of migration from the point of view of the sending countries rather than the traditional spin that this is a win-win situation for all parties involved.

A lot of literature is out there on this topic of the general trend in global demographics but I do think that Reher's piece is one of the better specimen.

* In more technical economic terms we are speaking of the fact that the global economies, as a result of ageing, will tend to have the same time-preference for consumption over saving thus leading to the optimal policy choice of many countries becoming the nurturing of a perpetual external surplus vs. the rest of the world. The formal theoretical impetus for this argument can be found in the notion of the inter temporal approach to the current account (see also here).