Global Demographics: Emerging Markets to the Rescue?

Citi GPS Opinion Article

25 November 2013 – Looming demographics challenges in the advanced economies are now receiving considerable attention. The potential implications for government debt burdens, international competitiveness, and the availability of adequate supplies of labor are increasingly apparent. But what is the outlook for demographics in the rest of the world, particularly in the rapidly growing emerging-market economies? Will these other economies remain sufficiently youthful to offset the drag stemming from aging in the advanced world?

The answers to these questions are sobering. Our recent research finds that, although demographics in the emerging markets are likely to remain more favorable than in the advanced economies, there are reasons for caution. First, demographics in the emerging markets will be strikingly less supportive of growth in the years ahead than has been the case in recent decades. The emerging markets are better positioned than the advanced economies, but they face meaningful challenges themselves.

A second reason for caution is that Chinese demographics look broadly similar to those in the advanced economies. Consistent with this observation, we see the effects of population aging as likely to weigh heavily on growth in China, subtracting as much as 3 percentage points relative to the pace of expansion in recent decades. The difficulties Chinese policymakers face as they pilot their economy through this demographic transition strikes us as an under-appreciated global risk.

The information insight further frames this discussion. As shown in the left panel, the share of the working-age population in Japan peaked in the early 1990s, as the asset bubble burst and has subsequently fallen off sharply. Almost in lockstep, the Japanese GDP deflator (a broad measure of prices) also peaked and has since been on a downward trajectory. Similarly, nominal GDP first slowed, then stagnated, and eventually stepped down during the financial crisis. We do not believe that Japan’s twenty-year economic sclerosis can be explained solely by demographic variables, but these correlations are striking and suggest that demographics played a role.

The right panel highlights what this might mean in the years ahead for emerging Asia, a region which accounts for over half the world’s population. Notably, China’s working-age population share (that is, the share of people age 15 to 64) is slated to decline through the next two decades; indeed, the drop is expected to be almost as steep as that recorded in Japan in recent years. This doesn’t imply that China is poised for a Japanese-style stagnation, but it does suggest that demographics will be less supportive of growth than in the recent past. In contrast, other emerging Asian countries will generally see their working-age population shares continue to rise, albeit somewhat more gradually than in the recent past.

Several other features of global demographics are also likely to cast a shadow on world economic performance. The good news here is that the global population is expected to keep growing in coming decades, expanding at a pace of about 1 percent annually, just a little slower than in recent years. The bad news is that the working-age population share is poised to level off over the next few years and to decline thereafter, reversing the sustained rise in recent decades.

Our research indicates that the working-age population share has considerable economic importance, as it captures the availability (and perhaps even the vitality) of labor resources in the population. As such, we see this impending downturn in the share of the working-age population as pointing to a potentially troubling turning point for the world economy.

As a related matter, in recent decades the advanced economies have enjoyed larger working-age population shares than the emerging-market economies. But going forward, this advantage will swing to the emerging markets. The full implications of this demographic shift for the relative supplies of labor across countries and regions, as well as for the attractiveness of investment in various parts of the world, remain an open issue. Our sense is that these developments are likely to intensify incentives for immigration to the advanced economies (where capital will be relatively abundant) and for capital flows to the emerging markets (where labor will be relatively abundant). The clear conclusion is that sizable resource flows across countries will remain a fact of life in the decades ahead.

Overall, our view is that any demographic lift coming from the emerging markets is unlikely to meaningfully offset the headwinds from aging in the advanced economies. Rather, we believe that the world as a whole is likely to feel the strains associated with shifting demographics.

That said, there are important variations across countries and regions. While China’s demographic profile is set to deteriorate dramatically (as is Korea’s), countries such as India and Indonesia will face relatively supportive demographics. The open — and in our view uncertain question — is whether these countries are now well positioned to emerge as engines of growth for the global economy. Africa, another notable example, is likely to account for a sizable portion of global population growth over the next two decades and will find itself home to roughly one-fifth of the world’s population by 2030. This will have significant implications for Africa’s share of global migration flows, its voice in global deliberations, and the importance of its financial markets.

Although the headwinds associated with aging are likely to be significant, economic outcomes are in no sense predetermined. Aging poses serious challenges, but it also presents opportunities. The ability of market economies to adapt should not be underestimated. In the face of shifting demographics, we expect firms to substitute toward more capital-intensive production technologies, thus allowing labor resources to be used more efficiently. There is also scope to implement policies to blunt the adverse effects of aging, including measures to stimulate labor force participation—particularly of older workers. The task of structuring such incentives is one of the major challenges policymakers face as the global economy continues its transition into a very different demographic landscape.

For a full version of this report see “Perspectives: The Global Demographic Transition—What Role Are China & Other Emerging Asian Economies Likely to Play?” on Citi Velocity.