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The Economic Consequences of Demographic Trends

Authors:
Milorad Katnić, PhD; Ana Krsmanovic, MSc
The Economic Consequences of Demographic Trends
Abstract:
Number of inhabitants on Earth is on the constant rise and in the recent decades the
growth is accelerated. In the following decades we can expect continuation of such
trends while the growth will be slower and geographically misbalanced. Population
is living longer so the demographic aging trend is more expressed.
Europe and America have experienced benefits of the baby boom generation born in
the period from 1946 to 1964. Following the sudden increase in newborns, causing
increased spending for the child care and education, new generations of those able
to work have emerged, increased productivity and contributed to the growth.
Demographic dividends expired; golden generations became silver and then went to
retirement. Now dividends became liabilities. The number of elderly in need for
assistance, additional health and social protection has increased, while the number
of the new able bodied and productive individuals which will pay for the additional
costs has reduced. If the fertility rates would increase than the post baby-boom
generations would face the double burden increased number of pensioners and
elderly demanding higher social and health “attention” as well as increased
number of children to rise and educate. Probably the Europe will face this like
situation in the decades ahead.
The main purpose of the paper is to analyze impact of demographic trends on the
individuals, the economy, the private and the public finances. Due to geographic
affiliation, and having in mind that the Europe as a continent is affected the most
with the negative demographic trends the paper more closely analyzes consequences
of these processes on the countries in the Europe and in Montenegro. Besides the
analysis of the consequences, possible policies and limitations for their
implementation the paper formulates policies for the decision makers.
Key words: Demographic trends, costs of population aging, economic growth
Demographic outlook of the world
Ministry of Finance, Faculty for international economics, finance and business, UDG; Ministry of
Finance
One out of mega-changes that humanity is facing is the rapid increase in the number
of inhabitants. It took 250,000 years until the world population reached one billion
of inhabitants, approximately in the year 1800. In order to reach number of two
billion of inhabitants on the planet another thousand years have gone (1927), and
then in only 33 years population has increased to 3 billion. Adnan Nević, who had
been born in the Bosnian capital Sarajevo on October 12th 1999, had been declared
as the six-billionth living person. Since then only 12 years have passed until the birth
of the seven-billionth living person was celebrated in October 2011 in accordance to
the official United Nations data. According to these measurements number of
inhabitants on Earth has never increased faster and until 2050 it will exceed nine
billions.
The population growth will be unequal and will differ among the continents and the
countries. Sub-Saharan Africa and Europe in 2000 had the same number of
inhabitants. Until 2050 the Africa will have three times more inhabitants than
Europe. In some countries number of inhabitants has reached its maximum level and
in following years will decrease. Such trends are already present in Russia and
Japan. China will reach the maximum number of inhabitants of 1,4 billions in 2025
after which the population will decrease.
Despite the fact that population will increase, according to the UN population
projections, the growth in the next 40 years will be lower as compared to the
previous 40 years. Africa is the continent which will continue to record the highest
population growth, while the Europe is the only continent which population will
begin to shrink already in 2050ties.
Table 1. Demographic trends until 2050.godine – Number of inhabitants and
percentage increase
Continent
1970 2010 2050 2010/1970 2050/2010
in ‘000 in %
1 Africa 365.970
1.022.23
4
2.191.59
9 179,3 114,4
2 America 511.080 934.611
1.197.81
8 82,9 28,2
3 Asia
2.158.83
2
4.164.25
2
5.142.22
0 92,9 23,5
4 Europe 656.687 738.199 719.257 12,4 -2,6
5 Western Europe 352.720 288.257 307.084 -18,3 6,5
6 Eastern Europe 303.967 449.942 412.173 48,0 -8,4
7 Australia i Oceania 19.181 36.594 55.233 90,8 50,9
Source: World Population Prospects: The 2010Revision, United Nations
The second important demographic trend which world is facing is the population
aging. Until 2050 global population will be much older. Number of inhabitants aged
over 65 will double, from 8% of total population in 2010 to 16% in 2050. The so
-called median age (the age at which exactly half the population is older and half
younger) will rise by a full nine years in 2010-2050, to 38, an increase that is
unprecedented in terms of size and speed. In rich countries, many people will have a
life expectancy of 100.1
Demographic aging of population today is the key challenge for the most countries
of the developed world. Africa is the only continent which is not facing demographic
aging, primarily due to low life expectancy at birth, while demographic trends in
Australia and Oceania and South America are not yet worrying. Demographic aging
affects the most population of the Europe, North America while Asia is on the
doorstep of the demographic aging.
Table 2. Demographic outlook of the world
Average
age
Share in
total world
population
Life
expectancy
at birth
1970-1975
Life
expectancy
at birth
2010-2015
Life
expectancy
at birth 2045
-2050
Africa 18.8 22.5 45.9 52.6 64.8
South America 28.4 3.50 60.9 74.1 79.5
North America 37.5 7.0 71.7 79.1 83.3
Asia 31.7 57.3 57.8 70.8 77.5
Europe 41.5 8.7 70.8 76.0 81.5
Australia and Oceania 29.4 0.9 67.3 76.4 81.0
World 29.9 100 58.3 68.5 75.4
Source: World Population Prospects: The 2010 Revision. New York: United Nations,
authors calculations
Higher life expectancy causes increase in the number of inhabitants, while declining
fertility rates influence decrease in the share of the young population, i.e. to smaller
number of newborns. Since 50ties in the last century, according to the UN data
fertility rate in the world is halved i.e. decreased from 4.95 in 1950ties to 2.52 in
2010.
1 Megachange, The world in 2050; Edited by Daniel Franklin with John Andrews, The Economist,
2012.
Graph 1. Fertility rates
Source: World Population Prospects: The 2010 Revision. United Nations
Demographic changes will have significant economic consequences in the coming
decades. These consequences will be especially expressed in the countries which
experience the highest degree of the demographic aging. On the same way as the
higher share of the active population could mean the more productive economy
lower costs for companies and the government, higher revenues, higher savings and
investments, the population aging is causing less productive and less competitive
economy, higher private and public expenditures. The demographic and economic
consequences will have different intensity. Besides Japan which is for several
decades faced with consequences of the old population (oldest in the world) which
has continued to age, the “biggest looser” of demographic changes will be Europe.
Consequences of demographic changes in Europe
Average age of Europe’s inhabitants is currently 41.5, which is by 11 years older
than an average inhabitant of the world. In the decades to come European population
will continue to age and by 2050 will reach average age of 49 years. According to
the DG ECFIN2 projections population of a working age in the EU countries will be
reduced by 16% up to 2050, while population aged over 65 will increase by 77%.
Dependency ratio (ratio of population aged over 65 and population aged between 15
and 65) will double reaching 51%. This means that in Europe on each person aged
over 65 there will be two persons of a working age instead of four persons which is
currently the case.
2 European Commission Directorate General for Economic and Financial Affairs
Aging process and higher share of persons aged over 65 in total population,
inevitably causes higher expenditures. The basic causes for the increases in the
governments’ expenditures are:
pension system based on the intergenerational solidarity,
health care,
welfare, and
long-term care.
Simultaneously, older population is also causing decrease of certain expenditures,
primarily costs of education as well as welfare benefits for unemployed.
DG ECFIN in cooperation with the EU member states has prepared the projections
of the future expenditures attributed to the population aging. Projections have
assumed that the pensions, health, education and unemployment insurance will not
be reformed. In accordance to the projections, in the first phase of the demographic
transition the employment rates will increase and on that manner alleviate effects of
aging. After 2018, when the baby boom generation is retired, working age
population will begin to decrease. The GDP growth in EU15 will decline from
average 2.2% achieved in the period up to 2010 to 1.8% in the period to 2030 and to
1.3% afterwards (projections did not take into account global financial crisis).Drop
in the GDP growth will be sharper in the EU103 decreasing from 4.3% in the period
until 2010 to 3% in the period until 2030 and to 0.9% after 2030. The sources of
growth will change significantly. Employment has contributed to the growth until
2010, it will have neutral effect until 2030, while after 2030 will have adverse effect
on growth.
According to projections, all these factors will cause increase in the public
expenditures by 4 percentage points of GDP in the period up to 2030 in EU15 and
euro zone, while the average expenditures in the EU10 will be higher by 1.5%. The
lower increase in public expenditures due to aging in EU10 is primarily influenced
by the pension reform in Poland and introduction of the second pillar. The highest
increase in expenditures is expected in the pension system, health care and long-term
care. On the other hand, due to lower inflow of the young people decrease in
education expenditures as well in unemployment related expenditures due to
increasing employment rates, is expected.
3 The EU member states joined in 2004 – Poland, Slovenia, Slovakia, Czech Republic, Lithuania,
Latvia, Cyprus, Malta, Estonia, Hungary.
Table 3. Overall public expenditures linked to the population aging in EU (pension,
health, education and unemployment related expenditures) as % of GDP
Source: DG ECFIN, 2006
General measures that the governments implement mainly relate to extension of the
working periods, in improving ratio between numbers of employed and number
pensioners and other welfare recipients’. The governments are more concentrated on
the provision of basic benefits and social security for the most vulnerable, among
which elderly. In the case that these measures would be sufficient for the control of
the welfare and pension expenditures, the healthcare expenditures remain an separate
issue. Average costs of the health protection and care for person aged over 65 are by
three to four times higher as compared to the young person. The concrete policies of
the decision makers are rare and nonsystematic, while the hope is entrusted in the
technological improvements and innovations which should decrease the costs of
health care.
2004 2030 2050
Belgium 24,5 28,6 29,8
Denmark 25,7 29,1 29,4
Germany 22,7 23,3 24,3
Spain 19,5 22,9 27,8
France 26,7 28,6 29,7
Ireland 14,8 18,0 22,0
Italy 24,7 25,5 25,7
Luxemburg 18,7 24,0 26,4
Netherlands 20,4 23,9 24,8
Austria 24,6 25,2 23,9
Portugal 23,9 28,0 33,6
Finland 23,8 27,2 27,2
Sweden 25,7 25,9 26,2
UK 18,6 20,5 21,9
Cyprus 16,5 20,6 28,3
Czech Republic 18,9 20,5 25,8
Estonia 17,2 15,0 14,5
Hungary 20,6 23,5 27,6
Lithuania 15,5 15,7 16,5
Latvia 17,1 15,4 15,5
Malta 17,2 18,8 17,2
Poland 23,5 17,4 16,7
Slovakia 15,6 15,7 17,8
Slovenia 23,2 27,0 31,6
Population aging, besides public expenditures would have significant impact on the
private expenditures, primarily to the private pension schemes, private health
expenditures and education expenditures.
Private pension expenditures in the period from 2000 up to 20084 have increased by
15% or by 0.3 percentage points of GDP. In case that similar trend is continued in
the period to 2050 it is expected that the private pension expenditures would increase
by 1.2 percentage points of GDP or by at least 60% as compared to the expenditures
in 2008, or from 2.1% of GDP to 3.3% of GDP. However, having in mind expected
reforms in the pension systems, the more significant increase in the private pension
expenditures could be expected. Private expenditures on health5 as percentage of
GDP in the period from 1995 to 2009 in the world have increased from the 3.3% of
GDP to 3.8% of GDP, or by 16%. The highest increase in the private health
expenditures occurred in the high income countries, by 23%. If these trends in the in
private health expenditures are continued private health expenditures will on average
increase by 1.4 percentage points of GDP up to 2050. In the case of the high income
countries, affected by the demographic aging, continuation of recorded trend would
mean increase in private health expenditures by 2.3 percentage points of GDP until
2050ties and will reach spending 6.6% of GDP on average in 2050.
Graph 2: Private expenditures oh health as % of GDP
Source: World Health Organization, 2010
Private expenditures for education, according to the DG ECFIN projections will
decrease, due to lower inflow of the young persons into education system.
Simultaneously, having in mind that the aging, especially in the affected countries,
causes the longer working periods of population, the need for continuous education
and lifelong learning will increase. In the period from 2003 to 2008 private
4 OECD, 2010
5 World Health Organization, 2010
expenditures for education in EU have increased by 0.02 percentage points of GDP
on average per year. If the similar trend is continued private education expenditures
will double in 2050 or increase from 0.75% of GDP to approximately 1.5% of GDP.
Overall, observing trends in the past 15 years, especially in the high income
countries, one can expect that the private expenditures which relate to aging up to
2050 will increase by 5 percentage points of GDP. If we take into account total cost
of population aging in EU, both private and public, the increase in total cost of aging
will range from 6.5 to 9 percentage points of GDP.
It is not clear how the countries in Europe will bear the burden of demographic
changes. Even the sudden positive change in fertility rate would give results after 20
years, and meanwhile the expenditures for childcare and education would increase.
Opening of borders for immigrants could mean more young and active work force
but also brings significant challenges in social and political life. In some European
countries accumulated wealth and income opens the space for flexibility while
poorer and less developed countries do not have such choice. Demographic changes
jointly with evidently longer term crisis destroy economies, public and private
finances.
Challenges of the demographic changes in Montenegro
Montenegro is facing similar demographic trends as the rest of Europe. According to
the MONSTAT’s demographic projections, population in Montenegro will increase,
while aging is evident.
Table br. 4: Demographic projections for Montenegro
Share of population aged over 65 in total population (average, brackets give
the lowest and the highest values by the scenarios)
2005 12.5%
2020 15.0% (14.4%-15.3%)
2030 17.5% (15.9%-18.6%)
2050 21.8% (19.6%-25.2%)
Source: Demografski trendovi u Crnoj Gori od sredine 20 vijeka i perspektive do 2050.godine,
MONSTAT
Share of population aged over 65 in total population will double from average 12.5%
in 2005 to 21.8% in 2050. Life expectancy at birth will increase from 72.4 in 2008 to
78.4 while the dependency ratio will reach 38% starting from current 20%.
Graph 3. Dependency ratio in Montenegro
Source: Montenegro: Projections of categories related to the pension system Ekonomski fakultet u
Ljubljani
Public costs of aging in Montenegro would, without structural reforms in the social
protection system and education, increase by the 6 percentage points of GDP until
2050. However with the reform in the pension system, which is the highest source of
expenditures, according to the projections, demographic aging will cost Montenegro
similarly to EU10 average.
Table 5. 5: Estimate of the public expenditures attributed to the population aging
with and without reforms
Sources: Montenegro: Projections of categories related to the pension system Ekonomski fakultet u
Ljubljani and authors calculations base on the EU10 projections
In the case of healthcare expenditures, without reforms in the health protection
system, public expenditures attributed to aging would increase by approximately 2
percentage points of GDP until 2050, while with existing reforms public health
expenditures will increase by 1.6 percentage points of GDP. Population aging will
influence on decrease of public expenditures for education by 0,2 percentage points
of GDP. Expenditures that relate to the unemployment insurance scheme will remain
the same since the EU accession process will probably influence that the amount of
unemployment benefit, currently relatively low, increase by which the positive
effects of decrease in the number of recipients will be neutralized. According to
2008 2030 2050 2008 2030 2050
% GDP without reforms % GDP after reforms
Pensions 9.07 12.1 13.3 9.07 9.8 9.3
Health 4.68 6.0 6.5 4.68 5.5 6.3
Unemployment benefits 0.21 0.20 0.15 0.21 0.2 0.15
Education 4.6 4.6 4.5 4.6 4.5 4.4
Total 18.56 22.80 24.35 18.56 20.00 20.15
rough calculations of the authors, and taking into account previous assumptions and
all reforms that are completed or are ongoing, total public expenditures attributed to
population aging will increase by 1.6 percentage points of GDP by 2050. In the case
of no-reforms (initiated and planned) public expenditures attributed to aging would
increase by the roughly 6 percentage points of GDP.
On the other hand one can assume that the private expenditures of aging in
Montenegro will be similar to those of the EU and countries with the similar income
level. Thus until 2050 private expenditures for pensions will increase by 1.2
percentage points of GDP, health care expenditures by 1.1 percentage points of GDP
while private education expenditures will increase by 1.5 percentage points of GDP
(assumption is that they will change similarly to those in EU).
Based on estimates, it is clear that the highest amount of costs will be born by the
individuals directly since until 2050 expected private aging expenditures will
increase by 3.8 percentage points of GDP while expected increase in public
expenditures is approximately 1.6 percentage points of GDP. These public
expenditures are also indirect cost to individuals through government redistribution.
This also means that the implemented and planed reforms have alleviated negative
impact of demographic trends on public finances but it is still present. Expected
increase in efficiency should also bring benefits by reducing administrative costs,
which in the social protection system make approximately 5% out of total social
protection expenditures. Through additional reforms and more importantly through
acceleration of economic growth the fiscal burden of demographic aging in
Montenegro could become ”bearable”.
Challenges for the creators of ideas and decision makers
The future of the world and especially the Europe will heavily depend on the
demographic changes and reactions of the policymakers. Pressure of the aging
related expenditures is already now so high that has partly contributed to the crisis in
the public finances that most of the countries in Europe are facing.
There are in general two possible choices for solving the issue of additional costs
caused by negative demographic:
implementation of policies that promote individual (personal) responsibility
for old age and reducing the role of “caring” state (by returning to pre
Bismarck period when the individuals were responsible for the provision of
existence in the old age, which is the core of the pension reforms in a number
of countries),
continuation of existing policies which would mean higher government
consumption, higher taxes and redistribution, i.e. to some new forms of
socialism, if the system of public finances would overcome all financial
crisis that inevitably would occur.
First choice assumes higher reliance on private initiative and personal responsibility
for the old age, strengthening the role of state in providing basic functions, including
social care for those who cannot secure existence. In the pension insurance system
personal responsibility means that payment of basic social security contributions to
the government is replaced by the individual investments and savings, either through
voluntary pension funds, insurance agencies or through private investments. Longer
work periods should influence the activity rates of population of a working age, i.e.
participation of the productive population. Innovation, technological progress and
promotion of the public private partnership should influence increase in efficiency
and reduction of costs in the health system. Efficiency of the state and administration
will be also important for the reduction of costs. Existing systems for registration,
calculation and exercising rights from the social protection and health care suffer
from obsolesce and lack of timeliness. E-government and application of new
technologies should significantly decrease administrative costs and make services
more efficient.
Second choice, delaying reforms means unreadiness of decision makers to face
demographic aging. Continuation of existing policies in Europe would bring increase
in government redistribution, lower incentives for individual responsibility, initiative
and care, which ultimately would cause lower productivity and economic growth. By
this base for redistribution would shrink and citizens due to government “care”
would ultimately become less wealthy and less socially secured.
Reforms that are currently implemented in most of the European countries could be
gradual transition towards higher individual responsibility but not the final solution.
Moto of the reforms “sustainable, adequate and secure” pension system with
upcoming demographic trends is not achievable. Existing pension systems, which
are in the same time the highest generators of the aging cost, with demographic
changes are neither adequate nor secure.
If in the future emphasis would be on the private pension schemes, private health
insurance and essential return to pre-Bismarck period, demographic aging and
challenges that the modern governments are facing could lead to decrease of the
transaction costs in terms of the reduction of governments that redistribute funds.
This would lead to lower tax burden and potential incentives for growth. Faster
growth is the most efficient way for the governments to resolve social issues and
challenges brought by demographic changes.
Conclusion
At one point in time, one hundred and ten years ago, in the development of society
and the state as a group of institutions with the purpose to provide certain services to
citizens, state (decision makers) have assumed heavy burden of provision of social
security to all citizens. Benefits of such policy are utilized and now mainly the costs
that have to be paid remained. These costs are so high and grow rapidly thus
threatening to destroy the state itself. It is not just the economic growth and
prosperity that are endangered but also ability of the state to fulfill promised and
expected social rights. As it becomes certain and clear, decision makers are
unwillingly pursuing unpopular reforms. However, it is not jet fully accepted that
collective responsibility, popularly called generational solidarity in existing
demographic outlook has exhausted its possibilities. Reforms of this system are
mitigation and not solution of the problem. Time has come for individualization of
responsibilities for all of those individuals that are able to create and take care for
themselves, and for the government to focuses to create the most favorable
conditions for development and individual “care”.
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Web-sites:
OECD – http//dx.doi.org
UN - http://www.un.org/esa/population/ordering.htm
World Health Organisation – www.who.org
EUROSTAT – http://epp.eurostat.ec.europa.eu/portal/page/portal/eurostat/home
... Political reforms should continue as more transparency is needed, and the judicial system and rule of law have to strengthen as preconditions for the solidification of market reforms. Demographic change becomes a big challenge (Katnić and Krsmanović 2012), as does youth unemployment despite efforts like the new apprenticeship law passed in 2012. ...
Article
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