Wednesday, November 08, 2006

Impact of Demographic Change in Australia

Note to reader: I wrote this piece in November 2005. I am repeating it here because it contains material that is still relevant. For more recent material see:

In October (2005) some Ndarala colleagues and I attended a Slattery IT conference held in Sydney to celebrate the internet's birthday.

One thing that stood out to me was the failure of any speaker to mention the demographic change now underway throughout the world, a process that is already reshaping life and markets. How, I thought, can you define a business plan if you do not understand the key variables affecting the size of your target demographics?

Then, checking round our own colleagues, I found that even amongst a generally well informed group like this one the topic was poorly understood. I thought therefore that I should provide a briefing focused especially on Australia as a case study.

The material in this briefing is largey drawn from a speech given by the Australian Productivity Commission's Garry Banks, supported by some of our own work. I should note that the views expressed are my own, and should not necessarily be attributed to Mr Banks.


To start with two headlines.

Head line one. On current projections, the number of Australian voters 51 and over will pass the total of all voters under 51 in 30 year's time.

Headline two. On current projections, the population of the Ukraine will decline by 43 per cent between now and 2050.

The point? We have already entered a period of population change that will fundamentally reshape the pattern of human life. And the effects are already with us.

A Few Definitions

Before going on, I need to give you a few definitions.

By workforce, I simply mean the number of people available to work. In turn, the size of the workforce is determined by the population times the participation rate.

Not every one is willing or able to work. The participation rate simply means the proportion of the population working or willing to work. We can use this term in a general sense to cover all the people interested in work. We can also use the term in terms of normally defined working ages or of particular age cohorts.

Dependency or the dependency rate simply means the workforce as compared to the rest of the population.

Overview of Australian Trends

We traditionally speak of population as a pyramid, with lots of young people as the base then tapering away to a peak marked by a few aged survivors. As of today we should more properly talk of the population as a beehive, with a smaller base, a bulge in the middle followed by a smaller top. By 2045 the population structure will more closely resemble a coffin, to use Garry Bank's phrase, essentially a rectangle with slight tapering at top and bottom.

Three things have contributed to this structure.

Number one is changing birth rates. High birth rates following the war created the baby boom. The initial effect here was a sharp increase in the dependency rate since the new children had to be fed, housed and educated by the working population. This was followed by a progressive increase in the work force, a sharp decline in the dependency rate, as the baby boomers reached working age. Birth rates then fell significantly. The immediate effect here was to further reduce the dependency rate. The longer term effect was to bring forward population aging.

Migration is the second thing contributing to the changing population structure. The large migration programs after the war added to Australia's workforce, helping reduce the dependency impact created by the baby boom. But now the aging of the migrant population itself is affecting the age structure of the population.

While both changing birth rates and migration have contributed to changing population structures, their impact is in fact dwarfed in statistical terms by a third factor, increased life expectancy.

Between 1971 and 2002, there was at least a 50 per cent fall in the yearly probability of death for every age from 42 to 77 years for both sexes. Without this, we would be looking at an aged dependency ratio of something over 15 per cent in 2005. With it, we are looking at an aged dependency ratio in 2005 of around 44 per cent.

We now need to factor something else into the equation, the changing participation rate.

Between 1946 and today, the participation rate (the proportion of the population in the workforce) rose from around 53 per cent to 63 per cent due in part to changes in the population structure, in part to large scale entry of women to the workforce. So the overall workforce grew significantly as a consequence of combination of absolute increase in numbers in the working age population with an increased participation rate, underpinning economic growth during the period.

This effect now goes into reverse as a consequence of population aging, with the participation rate over the next forty years projected to fall in the absence of change from 63 to 56 per cent. Further, an increasing proportion of the workforce will be made up of older workers less likely to work longer hours.

Economic Impacts

Population change will have significant economic impacts.

Looking at the macro level first.

In the absence of change both productivity and per capita economic growth is likely to be reduced. At the same time, costs associated with the aging population will rise. Here the Productivity Commission has estimated that increases in Australian spend directly associated with aging (health, aged care & carers, aged pensions) will total 5.6 per cent of GDP by 2045.

These costs will have to be funded in some way, or service levels reduced.

These macro effects are well recognized. Less well recognized are some of the distributional effects, including varying geographical impacts across Australia. For example, because population age structures vary greatly between regions so will the impact of aging vary.

To illustrate with just one example.

On the raw data, some areas such as the mid north coast of NSW that have experienced rapid population growth because of retirees face a growing age crisis in areas such as health followed by something close to population collapse. Will this actually happen? Probably not because declines in things such as real estate prices will attract new residents. But those people have to come from somewhere, probably Sydney. This in turn has implications for metro population growth. Will Sydney in fact experience the scale of population increase built into the current planning debate? I really wonder.

Policy Responses

A lot of the policy discussion in regard to the impact of and responses to aging population has focused on fiscal issues. How do we afford it? What do we have to cut? Other discussion has focused on birth rates and on getting the older worker to work more. In fact, if we drill down, we find that the position is far more complex.

To begin with, increasing the birth rate will not affect immediate outcomes simply because of the lag before those kids will enter the workforce. The immediate impact would be an increase in dependency rates followed by a later improvement in population structures.

The effects of immigration, the second often cited response, are also complex. Yes, immigration can reduce the shorter term dependency ratio and play a useful role, especially in meeting key skills shortages. But the actual size of migration required to completely avert the aging impact would give Australia a total population of 110 million by 2050.

Increasing older age participation rates as well as older age working hours is the third frequently quoted response. There is clearly scope for doing more here. However, Australia already has quite high participation rates for both older age males and females by OECD standards. So there will be some increase in both participation rates and average working hours, but the effect is likely to be less than common discussion would suggest.

An alternative would be to increase participation rates among the prime age population. Here I found to my surprise that there is one area where our performance is in fact poor by OECD standards. That area is males aged between 25 and 54. Yes, male participation rates are still higher than female rates. However, whereas our female participation rates are in the middle of the OECD pack, only Poland and Hungary have lower male participation rates. So we can clearly do something to increase work force participation for both prime age males and females.

At the end of the day, however, all these possible changes link back to one collective policy response and that is increased productivity. The more we can increase overall productivity, the less the likely negative impacts from population aging.

Market and Service Issues

My starting point in this report was my surprise at the failure of people at the Slattery IT conference to mention the impact of demographic change. I also suggested that those impacts were already with us. I will finish this report by pointing to some examples.

I have already mentioned in previous reports increasing service demands associated with moves to encourage older workers to remain in employment.I have also mentioned in previous reports the growing interest in business succession planning and associated issues linked to firm acquisitions and mergers. However, I did not bring out the link with the aging population. And there is a direct link.

Recent BRW articles pointed to a general aging among the owners/controllers of small and medium businesses, suggesting that business owners were tending to hang on for longer. That's fine, but I would suggest that it is laying the 'basis for a subsequent crisis.

To illustrate.

Franchising has been a rapid growth area. A number of the more mature franchises are now at the point where franchisees wish to exit. At the same time, new franchises are still being established and are also competing for possible franchisees. I do wonder just where the required franchisees are to come from.

In professional services areas such as law and accounting, the average age of partners has been rising. This is most pronounced in regional Australia where perhaps as many as a quarter of current practices will have to be sold, wound back or closed over the next decade. So there is going to be quite dramatic change and restructuring.

Returning to the Slattery IT internet conference, I was quite astonished at how many presenters were still focused on the static or even diminishing younger age cohorts as the key market, how few were targeting older age groups. And yet this second area is the area where real growth lies in all the western economies. The success of eBay is no coincidence simply because it does target the area where the real money is.

1 comment:

Dr. Leonid Gavrilov, Ph.D. said...

Thank you for your interesting post!
I thought perhaps you may also find this related publication interesting to you:

Aging of Population