Arthritic Australia: What the ageing population will do to growth

It will be impossible for Australia to maintain its growth rate with the working-age population dwindling. Japan’s experience offers a worrying preview of the impact an ageing population has on an economy.

Most market analysts spend little time thinking about demographics, which is a shame because they pose a significant threat to the Australian and global economies. Japan’s experience suggests that with a rising share of our population retiring it will be practically impossible to maintain existing levels of economic growth, which will only be compounded further by most developed countries suffering the same problem at the same time.

Yesterday the Australian Bureau of Statistics released its quarterly report on Australian demographics. It received little media attention but it highlights one of Australia’s greatest economic challenges -- one that will be shared across most of the developed world.

Over the past few decades, Australia has experienced favourable demographics that have helped to boost growth. Until recently Australia had a relatively young population, flush with working-age individuals. That, combined with strong population growth and a once in a lifetime mining boom, created an environment perfect for strong growth.

But in recent years, that process has begun to change and our demographics are beginning to work against the Australian economy. The first of the Baby Boomer generation hit retirement age in 2011 and since then we have witnessed a sharp decline in the labour force participation rate.

Based on the age characteristics from the beginning of 2011, the ageing population has reduced Australia’s participation rate by around 0.6 percentage points (though the effect is close to 2 percentage points since 2000). On a technical note, just be aware that the recent uptick in participation isn’t evidence of an improvement so much as it is a statistical illusion (Why the jobs figures don’t add up, March 13).
Graph for Arthritic Australia: What the ageing population will do to growth

Not all states will be affected equally though and the ABS demographics data provides some additional insights. The age characteristics differ extensively by state; Tasmania and South Australia have the oldest residents, while both territories remain noticeably younger than the rest of Australia.
Graph for Arthritic Australia: What the ageing population will do to growth

Our mining strongholds, Western Australia and Queensland, are younger on average and that combined with strong growth in resource exports is likely to ensure that they remain two of strongest growth regions.

But our manufacturing strongholds, Victoria and New South Wales, are both older and economically insecure. Both states are likely to undergo a significant economic transformation over the coming decades, as our manufacturing sector marches slowly towards extinction.

Regardless of the state or territory there is one inalienable fact: the share of the population in their prime working age years (25 to 54 years old) is on the decline. This means that we are relying on an increasingly small share of the population to generate more output.

How problematic can this be? Japan offers an illustrative guide.

In 1989, 11.6 per cent of Japan’s population was over 65 years old (compared with 13.4 per cent in Australia in 2013). Now it is well over 20 per cent and only set to get worse as Japan’s population begins to decline.

The economic impacts of these developments were significant. Average real GDP growth slowed sharply throughout the 1990s and has never properly recovered. This is despite the fact that growth in GDP per working age individual has actually been fairly reasonable for Japan over the past two decades. Quite simply, it is practically impossible to maintain existing levels of trend growth in the face of an increasingly older population.
Graph for Arthritic Australia: What the ageing population will do to growth

Australia’s ageing problem perhaps isn’t as significant as that of other advanced countries and certainly not as concerning as China’s predicament (courtesy of the one-child policy). Nevertheless, with our working-age population set to decline to 1970 levels by 2030 we face an unprecedented economic challenge.
Graph for Arthritic Australia: What the ageing population will do to growth

As Japan found out first hand there are no easy answers and that will only be compounded by the fact that most advanced countries plus China will be experiencing the same problems at exactly the same time. Higher productivity growth is the only real solution and while there are certainly exciting developments in the fields of robotics and computing I wonder whether that can be enough to curb the impending decline in Australian and global trend growth.