How will ageing societies work?

Unless fertility rates rise dramatically in advanced economies in the next 20-30 years, their ageing populations will become a serious problem.

The issue is not that we are living longer and have many years ahead of us after retirement; both of these things are cause for celebration. But the change in the age structure of our populations is going to give rise to a spate of economic problems, to which we will have to develop various coping mechanisms. One fundamental issue is labour force participation.

With the surge in the numbers of those aged over 65, the dependency ratio in rich economies will rise from about 27 per cent to around 46 per cent by 2050. That’s a fall from about 3.7 working age people per retiree to just over two people. In the absence of compensating policies, this change in age structure is going to lower the labour force participation rate—the proportion of those of working age who are actually working.

Thanks to medical advances, as people reach the traditional age of retirement they may be able to carry on working for a few years. They will remain, therefore, members of the working age population, which has conventionally been defined as 15-64 but which may nowadays have an upper limit of 67 or even 70. Yet if labour market, employment and retirement practices don't change, many will in reality drop out of the labour force, and consequently the participation rate will decline.

A fall in the labour force participation rate is indicative of weakness in the labour market, and of slower growth in the economy and in wages and salaries. And as we know from the last decade, it’s also a phenomenon associated with adverse social and political trends.

Looking back over the last decade to the financial crisis, we have seen a significant difference in labour force participation when comparing the United States with Europe. The latter has fared much better. In the US in 2008, the rate was over 66 per cent, but by 2015 it had fallen to 62.3 per cent. Since then it has inched back up to stand at 62.8 per cent. European countries have not experienced such a fall overall, even in countries like Spain and Italy which have traditionally had rather sclerotic labour markets.

Public policies are the main reason Europe has done better, but it is nevertheless true that for Europe, as for the US, the ageing effect is ubiquitous and widespread. The tendency for ageing to result in lower participation rates is something we should expect to continue unless public policies can address it.

The prospect is not cast in stone. It is not only possible to mitigate the ageing effect on labour force participation, but also to offset the effects of other things that might drag participation rates lower. These include the impact of technological change and robotics, a higher tendency for younger people to spend longer in education and training, and importantly, the persistent under-representation of women in the work force.

In a recently published study in its bi-annual World Economic Outlook, the IMF looked at the main reasons for changes in labour force participation rates between 1995 and 2011 for men and women aged 25-54, young people aged 15-24, and older workers aged over 55. The contribution of ageing to participation was negative in all cases except for older workers where it was slightly positive. The group most adversely affected was young people.

Technological change lowered participation across all groups but the scale of the impact was actually quite small by comparison with ageing, which accounted for about half the change. It is possible that the downside effect of technology has increased in more recent years.

We have experienced rising levels of automation for decades, but also rising levels of employment and productivity, so it is curious when we are told that new technology is negatively associated with jobs and productivity. And it is almost certainly wrong. It is true that labour markets are not always as strong as they look and that lack of productivity is a problem, but there are other factors that can explain these problems. We will certainly have to address the issue of looking after those digitised out of work, but if anything the pace of change in technology and its diffusion across sectors and industries need to speed up.

In any event, ageing is the key factor that is pulling overall labour market participation down, but the good news from the IMF’s study is that tax and benefit policies, public labour market programmes designed to encourage people into or back into work, and rising levels of educational attainment all proved to be strongly associated with higher participation across all groups, especially women aged 25-54, and older workers aged over 55.

These last two groups should be the focus of our attempts to offset the consequences of rising age structure on our societies. What matters is well thought out labour market and employment programmes, good child care policies, and a commitment to higher levels of educational attainment and lifelong learning.