Reaping the rewards of the second demographic dividend

Author: Tomoko Kinugasa, Kobe University

In discussions on how population dynamics influence a country’s economy, demographic dividends merit significant attention.

Investors in Fuyang watch the value of their assets ebb and flow as prices fluctuate on the stock market. It is reasonable to suggest that a simple lifecycle hypothesis determines saving: that consumption and savings behaviour is determined according to lifetime incomes. (Photo: AAP)

The first dividend occurs during the demographic transition process, when the working-age population increases as a share of the total population, and the percentage of both young and old dependents decreases. The second demographic dividend results from an increase in adult longevity, which causes individuals to save more in preparation for old age. This increase in savings can thus contribute to capital accumulation and economic growth.

From the 1960s to 1990s, many Asian countries went through rapid demographic transition. When economic development commences, both fertility and mortality rates are high. As a country develops, mortality rates, especially child mortality rates, decline rapidly. However, fertility rates do not decline at the same time because having many children is conventional and this situation takes a long time to change. So, during demographic transition, the population grows rapidly. Later, fertility rates begin to decline rapidly. Once the demographic transition is complete, both fertility and mortality rates are very low, and most developed countries experience population ageing.

In the second half of the 20th century, East Asian countries experienced remarkable economic development in both savings and GDP growth — this was known as the ‘East Asian economic miracle’. These countries, especially Japan and South Korea, used the first and second demographic dividends during this period. The first demographic dividend offers much potential for growth. There is a large working-age population, so remarkable economic development can be attained by taking advantage of an abundant labour supply. Demographic transition can also increase female labour-force participation because the burden of young dependents decreases.

This working-age population tends to save more than younger and older dependents, in part because it earns more. It is also reasonable to suggest that a simple lifecycle hypothesis determines saving: individuals determine their consumption and savings behaviour according to their lifetime incomes. If individuals know they will retire at a certain age, they save while they are working and withdraw their savings after retirement. In this case, a larger working-age population induces higher national savings, which creates capital accumulation and thus high economic growth.

While the first demographic dividend represents a country’s demographic structure, policies to take advantage of this dividend should be encouraged. Even though the working-age population may be large, economic growth would be slow if most were unemployed. Educational attainment and skills also influence how the first demographic dividend affects economic growth. During this period, the country must also keep in mind that the first demographic dividend does not last forever. As it only arises during demographic transition, the country will face an ageing population when it completes this transitional period, and it must prepare for such an eventuality.

The second demographic dividend has been paid only modest scholarly attention, although prominent demographers Professor Andrew Mason and Professor Naohiro Ogawa have emphasised its importance. Many countries must consider utilising it fully. Indeed, adult longevity continues to increase slowly after a country has completed demographic transition. Although some demographers insist that there are binding biological limits to such longevity, remarkable medical developments continue to contribute to increasingly longer lives.

According to the lifecycle hypothesis, an increase in adult longevity increases the savings behaviour of the younger generation. Thus, national savings are influenced not only by the level of adult longevity but also by the speed of its increase. If the level of adult longevity is high, the younger generation will have high savings. Theoretically, an increase in the level of adult longevity affects the national saving rate positively if GDP is increasing. The speed of increase in adult longevity will also positively influence the national saving rate, because only the savings made by the younger generation increase.

Most countries have experienced a significant change in the adult mortality rate over time. Yet such mortality transitions in Asian countries are distinctive from those seen in the West. In the West, there were two phases of transition, namely pre-transition and transition. In the pre-transition period, adult longevity was low and stagnant, while it increased steadily in the transition period. In Asia, mortality transition has begun later than in the West. The transition period in Asia has been interrupted by a catch-up period during which adult longevity has increased rapidly. Scholars consider that this rapid increase in adult longevity has contributed to a remarkable increase in savings and GDP in Asian countries.

The second demographic dividend will continue in most Asian countries even after the first demographic dividend has ended. In order to increase the benefits of the second demographic dividend, it is important to exploit the wealth accumulated by the older generation. It is also crucial to educate the older generation in saving money effectively. Moreover, because modern ailments such as obesity are increasing in many developed countries, there is no guarantee that adult longevity will continue to increase perpetually. Enhancing policies to maintain and even increase health and longevity will therefore be necessary.

Asian societies with ageing populations must confront several complex problems, such as a decreasing labour force and an increasing social security burden. However, if Asian countries can develop the second demographic dividend sufficiently, they will have a chance of developing sustainably thereafter.

Tomoko Kinugasa is Associate Professor at the Graduate School of Economics, Kobe University.

This article appeared in the most recent edition of the East Asia Forum Quarterly, ‘Demographic Transition’.