Abstract: The article summarized the views of experts on the impacts of demographic change at the 5th Bund Summit. They pointed out that the peaking of the working-age population and total population is China’s “new normal”, which will bring about China’s economic “new normal”: the supply shock will continue, and demand-side factors will become the main constraint on economic growth, especially in terms of household consumption. In response to the demographic change and economic transition, China could learn from Japan’s experience. China needs to strengthen targeted macroeconomic policy and the ability to respond quickly on the one hand, and to increase the weight of the demographic factor in policymaking on the other hand.
I. The New Normal and Uniqueness of China’s Demographic Trend
Cai Fang, Chairman of China Finance 40 Forum Academy Committee (CF40) and Chief Expert of the National Think Tank at the Chinese Academy of Social Sciences (CASS), pointed out that China is currently facing two demographic "new normals". The first new normal is the declining trend of China's working-age population since its peak in 2011. The second new normal is that China's total population peaked in 2021. In the same year, the proportion of elderly people aged 65 and above in China rose to 14%, which reached the threshold for an aging society.
Charles Goodhart, a member of the British Academy and Emeritus Professor of the London School of Economics and Political Science, noted that, based on the trend of demographic pyramid changes in China from 1993 to the present and over the next 30 years, China is experiencing, or will soon experience, a demographic transition from a relatively young population structure to an ageing one. This trend is relatively common in many developed economies, but China's demographic change shows unique features:
First, gender imbalance in China is relatively more pronounced. Over the past 30 years, the gender ratio in China has been skewed towards males, and the current male population in China is significantly larger than the female population. This feature is even more prominent among the non-elderly population, whereas the gender ratio in other economies is relatively balanced.
Secondly, China is ageing at a relatively fast pace. The increase in the ageing population relative to the young population in developed economies shows an incremental trend, with similar population in all age groups at this stage featuring a barrel-shaped population pyramid. In contrast, China's population pyramid shows a shrinking pattern, with the older population having begun to outnumber the younger population significantly, and the gap is expected to continue to widen in the future.
II. Japan’s Lessons: Implications of Demographic Factors for Macroeconomy
Some Western economists and market observers believe that many of China’s current demographic and economic characteristics are similar to those of Japan 15-20 years ago and that Japan's experience is instructive for China.
Masaaki Shirakawa, a Distinguished Guest Professor at Aoyama Gakuin University and Former Governor of the Bank of Japan, illustrated the impact of demographic factors on the macroeconomy, using the Japanese experience as an example. He first pointed out that low fertility, rather than rapid aging, was the main driver of demographic change in Japan. Japan's population did not age particularly fast 15-20 years ago, but the relatively low birth rate caused the total population to decline. Nevertheless, the economic impact of aging was also significant. Japan's GDP growth rate was the lowest among the G7 countries, but the growth in GDP per capita of the working-age population was much higher than in other major developed economies.
He further explained the mechanism of the impact of demographic factors on the macroeconomy in the following aspects:
First, the impact of demographic factors on asset prices. The current asset price bubble in Japan corresponds to the end of the demographic dividend and the decline in the working-age population. The decline in residential housing demand weighs on commercial housing prices, adding to the pressure on the economy.
Second, different macroeconomic implications of different demographic factors. In general, population ageing leads to inflation by reducing the supply of labor, but the mechanism of population decline is the opposite. People's expectation of future population decline reduces current demand, especially investment demand, while the current population determines current supply, and demand shortages thus put downward pressure on prices. Mr. Shirakawa believes that this mechanism still exists in Japan and will emerge in China in the future.
Third, the impacts of population migration on macroeconomy. Migration of labor from rural to urban areas will lead to a productivity rise. A relaxation of China's household registration system will help migrant workers and their families better settle in cities, which would boost productivity. In contrast, Japan witnessed the end of its urban migration dividend in the 1970s. Changes in demand also had an impact on inflation.
Fourth, the impact of demographic factors on growth through the social contract. In an aging society, there is a correlation between demographic change and productivity growth. From the perspective of human resource allocation, the life-long employment system in Japan somewhat affects the efficiency of labor factor allocation, which in turn inhibits productivity growth.
From the perspective of government investment, when the old outnumber the young in a society, the government will prioritize transfer payment over public investment because the operation period of the latter is too long. This will lead to inefficient government investment and lower potential growth rates. Resource allocation across regions also becomes more difficult in societies with declining populations. The high cost of maintaining public infrastructure will also reduce productivity growth.
III. The Implications of China’s Demographic Trend for the Macroeconomy
Cai Fang pointed out that the demographic "new normal" with two characteristics will bring about a new "new normal" for the Chinese economy:
On the one hand, the supply shock will continue. The working-age population is declining faster than in the past, and labor shortages are putting pressure on the supply side. In addition, demographic-related factors such as the slowdown in the improvement of human capital and the limited scope for urban absorption of rural labor will also constrain the potential growth rate from the supply side.
On the other hand, demand-side factors will become the main constraint on economic growth, especially in terms of household consumption. China's economy has been driven by household consumption since three years ago, with the contribution of consumption to GDP growth exceeding that of investment and exports. In 2018, China's GDP growth rate was 6.6%, of which the contribution of household consumption to economic growth was about three percentage points. However, as of now, consumption has yet to fully recover.
Cai Fang argued that three demographic factors in China inhibit the growth of consumption:
First, the “scarring effect” caused by the pandemic. Household income has slowed down significantly compared with the past, becoming the most direct constraint on the current economic recovery.
Second, income and distributional effects. Slower employment growth has led to slower income growth than in the past, which in turn slowed down economic growth. In addition, the income gap in China is still wide, with the Gini coefficient as high as 0.466. Higher-income groups have a lower propensity to consume, while lower-income groups have a higher propensity to consume, and income inequality inhibits the unlocking of consumption demand among lower-income groups.
Third, the "pay-as-you-go paradox" in the context of population ageing. Under the current pay-as-you-go social security system, population ageing will further incentivize precautionary savings in society. Not only will the older age groups reduce their propensity to consume out of concern for the future, but the working-age population will also face three constraints.
1) The corresponding expenditures of the working-age population, as contributors to the pay-as-you-go pension system, crowd out a portion of consumption.
2) The coverage of the current pension system is still limited, and the working-age population is still subject to certain obligations to support their parents.
3) Given the change in the dependency ratio, the working-age population cannot count on future young people to support their pension needs, thus creating an incentive for precautionary savings.
Goodhart pointed out that China's aging trend may lead to the adjustment of the pension model and push up the household savings rate. From the current Chinese pension model, 90% of the elderly choose to live at home, 7% of the elderly rely on the community, and 3% of the elderly live in nursing homes or other organizations. In terms of the trend in China's dependency ratio, at present, an average of five young people support one elderly person; in the next 20-30 years, it is expected that an average of 1.5 young people will have to support one elderly person.
The problem of the dependency ratio will become more acute, which also means that the predominantly home-based model of life after retirement will no longer apply to the future demographic structure. One possible effect is that the household savings rate will continue to rise. This is because people realize that they may not be able to rely on their families for their old age care in the future, and will need to accumulate substantial savings to provide for their future retirement.
IV. Policy Implications and Suggestions
According to Mr. Shirakawa, one potential advantage of China's economic transition from rapid to steady growth in dealing with real challenges is that it can learn a lot from Japan's experience. In response to the demographic change and its possible economic impact, he believed that Chinese policymakers could adopt the following approaches:
First, there should be no confusion between economic sluggishness caused by demographic factors and cyclical factors. Over the past two decades, many economists have argued that the low growth rate of the Japanese economy was caused by deflation, corresponding to the prescription of easing policies. However, relevant policies have hardly solved the economic slump caused by structural problems; instead, they have undermined economic efficiency and potential growth rates. Therefore, China needed to avoid confusing economic weakness caused by demographic and other factors with economic weakness caused by cyclical factors.
Second, there should be adequate policy preparations for the possible economic impacts of demographic issues. Mr. Shirakawa identified two types of extreme scenarios for response, arguing that the speed of consensus-building and policy response was crucial:
On the one hand, the economic impacts of the bursting of an asset bubble depend on the speed of policy response. However, pre-emptive measures are difficult for any country, so the ability to develop a reasonable consensus quickly is also a key factor in successfully dealing with the bursting of asset bubbles.
On the other hand, it is important to distinguish between mild deflation and sharp deflation. The latter must be avoided at all costs, while success in preventing the collapse of the financial system could avoid a sharp deflation, depending also on the willingness and ability of the government and society to act quickly. Mr. Shirakawa believes that China has the condition to do so.
Finally, based on the judgment of structural problems, the weight of demographic factors in policy formulation could be increased: first, adaptive strategies in response to demographic change should be established. Social and economic structures need to be adapted to better respond to demographic changes, with a focus on making pension systems more sustainable. If this goal is not achieved, fiscal deficits will continue to climb. At the same time, it is also important to improve productivity. This involves not only the development of technology itself but also how to fully utilize its outcome. For example, in the context of shrinking and aging populations, driverless technology can be a good solution to the corresponding social needs. However, the popularization of this technology is also based on people's confidence in existing safe driving technologies.
Second, a remedy for population decline should be found at the social level. According to Mr. Shirakawa, demographic issues are a reflection of social problems. It is difficult to solve demographic problems completely, including low fertility, only from the perspective of economics. In Japan, for example, a large part of the cost of raising children involves the income that women give up by ending their careers; in addition, maternity leave in Japan is not very long. These factors reduce the willingness of young couples, especially women, to have children and ultimately lower the labor supply. Therefore, it is crucial to create an appropriate social atmosphere to make young couples more willing to have children.
Mr. Goodhart also stated that there is hardly a panacea for increasing fertility. One possible suggestion is to consider providing more opportunities for the elderly to continue working if they are in good health and to provide assistance to elderly groups in poor health, especially the disabled. All these social issues need to be carefully studied and addressed in a timely manner.
