Can Economic Growth Survive Population Decline?

The demographic transition is causing greying populations,shrinking labour forces, and overall population decreases in manynations. Can economic growth survive?

As you know from this chapter, Real GDP = hours of work × labourproductivity. The number of hours of work depends heavily, however,on the size of the working-age population. If it begins to shrink,the number of hours of work almost always falls. In such cases, theonly way real GDP can rise is if labour productivity increasesfaster than hours of work decreases. The world is about to see ifthat can happen in countries that have populations that are greyingand shrinking.

The historical background has to do with the fact that asnations industrialize their economies shift from agriculture toindustry. As that happens, fertility levels plummet because theshift to modern technology transforms children from beingeconomically essential farm hands who can contribute to theirfamilies' incomes from a young age to expensive investment goodsthat require many years of costly schooling before they can supportthemselves.

As people react to this change, birthrates tend to fall quitedramatically. The key statistic is the total fertility rate thatkeeps track of the average number of births that women have duringtheir lifetimes. To keep the population stable in modern societies,the total fertility rate must be about 2.1 births per woman perlifetime (= 1 child to replace mom, 1 child to replace dad, and 0.1child to compensate for those people who never end up reproducingas adults).

Every rich industrial nation has now seen its total fertilityrate drop below the replacement level of 2.1 births per woman perlifetime. In Japan and many Eastern European countries, the numberhas been so low for so long that there are no longer enoughchildren being born each year to replace the old folks who aredying. As a result, their overall populations are shrinking.

Economists only expect that pattern to become more common andmore rapid, so that by the year 2050 the majority of nations willhave decreasing populations. But decades before a nation's overallpopulation begins to decrease, it faces a situation in which thelabour force shrinks while the elderly population swells.

That pattern is the result of each generation being smaller thanthe one before. As an example, the Baby Boom generation, bornbetween 1946 and 1964, is much larger than the Baby Bust generationthat followed it. So as the Boomers retire over the next twodecades, there will be a lot of retirees as compared to working-ageadults.

This trend can be quantified by the inverse dependency ratio,which is defined as the number of people of working age (ages 20 to64) divided by the number of dependents (seniors over age 65 plusyouths under age 20). In Canada, the inverse dependency ratio isset to fall from about 1.5 people of working age per dependent in2010 to just 1.16 people of working age per dependent in 2050. Thatis extremely problematic because it implies that workerproductivity will have to rise dramatically just to make up for therelative decline in the number of workers as compared todependents. If productivity doesn't keep up with the fall in theinverse dependency ratio, living standards will have to declinebecause there will simply be too many nonworking consumers relativeto working-age producers.

The place where this problem is likely to show up first isSocial Security. In 2013, for the first time in Canadian history,the number of retirees outnumbered young people in the 15–24 agegroup. Statistics Canada projects that the working population willcontinue to drop while the number of seniors collecting pension isexpected to rise. Clearly, worker productivity would have toincrease to keep up with the decline in the number of workersrelative to retirees.

Economists are uncertain about whether such large productivityincreases will be forthcoming. The problem is that consumptioncompetes with investment. A society with a larger fraction ofdependents is a society that is likely to devote an increasinglyhigh fraction of total output toward consumption rather thaninvestment. If so, productivity growth may slow considerably.

Another possible problem is that, historically, mosttransformative new technologies and businesses have been created byenergetic young people under the age of 40. With each generationgetting smaller, there will be fewer people in that age range andthus, possibly, less innovation and slower productivity growth.

Other economists are more hopeful, however. They view old peopleas consumers and demanders. As their numbers swell, inventors maysimply switch from inventing products for young people to inventingproducts for old people. If so, productivity growth and livingstandards could keep on rising at the rates we have come to expect.Moreover, Canada brings in about 250,000 new immigrants each year,which at least partially offsets the lower birth rate.

Question:

Would you expect a country with a total fertility rate of 2.7 tohave a growing or a shrinking population over the long run?  

What about a country with a total fertility rate of 1.2?

In 20 years, will Canada have more or fewer workers per retireethan it does today? What are the factors that will determine thesize and structure of Canadian population? What is meant by afalling inverse dependency ratio? Why does a falling inversedependency ratio make it harder for real GDP to continue growing?Suggest some solutions to overcome thisproblem?