Chapter 3Demographics and the Economy

In the previous chapter, I discussed the impact of demographic factors on innovation. In this chapter, I will analyze how demographics affect the many other aspects of an economy—including employment and old-age support.

Low Fertility and Old-Age Support

The demographic impact on old-age support is the most frequently mentioned effect of a low fertility rate. Holding the output of each worker constant, an increase in the number of the elderly or children relative to the number of workers will result in a decrease in output per capita and lower economic growth.

In traditional societies, children support their parents in their old age. In modern societies, private savings and public pensions are the main sources of support. A large portion of the fiscal revenue in developed countries is used to provide old-age support, including both direct pension payments as well as medical benefits. The public expenditure to support the elderly is financed via taxes collected from the younger, currently employed, generation. Therefore, in an aging society, as government expenditure to support the elderly increases, the tax burden and the fiscal deficit also rise. Figure 3.1 shows the relationship between aging and public expenditure as a percentage of GDP. As expected, the higher a country's dependency ratio is, the higher its public expenditure is as a share of GDP.

Figure 3.1 Aging and public spending

Data Source: World Bank, 2015.

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