Demographic Dividend, Human Capital and Accelerated Economic Growth: Lessons from Asian countries and its implications for Eritrea
By Teweldeberhan Gebre
2. The population vs. economic growth debates
For over a century and half, two positions were held by demographers and economists. The first is by Thomas Robert Malthus and almost two centuries later by Paul Ehrlich (1968) held that population growth similarly threatens economic growth due to the gap between population growth and limited agricultural resources. The second position maintains that population growth can accelerate economic growth provided new technology was introduced in a situation of demographic pressure (Nelson and Phelps, 1966). More recently, however, a dominant third position has emerged and defies the first two debates by introducing new variables including population age-structure and demographic dependency ratio (Bloom and Williamson, 1997). With the introduction of the age-structure change into the debate of population and economic growth the concept of demographic dividend has been emerged through empirically established correlation between demographic age-structure change and economic growth (Bloom, et al., 2003, and Bloom et al., 2007).
Change in population age-structure is an inevitable consequence of the low fertility and mortality rates. Lee and Mason (2012) identified three broad phases leading to population demographic transition. First, demographic transition begins with high fertility and mortality rates, but in the process infant and child mortality begins to decline which accelerates population growth resulting from better child survival. This increases the proportion of children in the total population. In this case countries responded to the boom of children through initiating and expanding voluntary family planning programs to reduce fertility rates. Second, as a consequence of higher child survival fertility rate begins to decline while the number of the elderly (65+ years old) remains proportionally smaller against the total population.
As a result of fewer children and fewer elderly people the proportion of the working-age begins to rise and opens a new window of opportunity known as demographic dividend. When the demographic dividend reaches an-all time high level it begins to decline. Finally, as the share of the working-age population goes down the proportion of the elderly goes up which breaks up economic growth due to the rise of the old-age and net consumers (dependents) of the population. Provided resources were generated for the full period of demographic dividend by investing in human capital (child health and education) and provided workers saved and re-invested in their own retirement then population ageing might regenerate a second demographic dividend.
Demographic transition in the form of fertility and mortality decline goes together but not in a harmonized manner. As pointed out by Bloom, et al. (2003:30) mortality and fertility “… are not synchronized … lag between the two causes population growth, as fertility only begins to decline sometimes after mortality has dropped” substantially. Population age-structure occurs when the decline in mortality offers a unique baby-boom generation followed by the fall of fertility that decreases the number of successive cohorts. Hence, population age-structure begins to change when the baby-boomer generation reaches the working-age population (15 years old) opening new window of opportunity usually called, as stated above, demographic dividend or bonus that refers to the window of opportunity that opens up when the largest proportion of the population is in the working-age group and the proportion of dependents (children and elderly) is relatively smaller.
In the history of nations demographic dividend occurs only once and does not generate automatic economic benefits. Benefits of demographic dividend are realized under prudent government policies and strategies. If taken plainly, demographic dividend is an ambiguous term. In the words of Andrew Mason (2002:1):
“…demographic bonus or dividend is misleading if taken too literally, because it suggests that the economic benefits are certain. What the developing countries are actually experiencing is a demographic opportunity. Some are seizing the opportunity, but others squandering the chance to accelerate their pace of economic development.”
Hence, demographic dividend is achieved through strategic policies and investments in human capital and economic infrastructures including expanding employments to absorb the expanding labor force and promoting long-term economic growth through saving and investing in productive sectors as they have now resources due to smaller proportion of dependency ratios.
3. Demographic dividend, human capital and economic growth
Demographic transition besides affecting the pace of population growth comes with an age-structure change beneficial for economic and social development. As a matter of fact, demographic dividend reduces the dependency ratio and ushers in economic growth as experienced by Western and many newly emerging economies. Apart from the traditional population dependency ratio projections, wide literature are now emerging providing more insights on improving educational profile of the bulge workforce and the age-structure change accelerates economic growth, poverty reduction and sustainable economic and human development.
The question is, however, how has demographic dividend accelerated economic growth in the advanced world and emerging economies? In response to this question, Bloom, et al. (2003) have identified four major aspects whereby demographic dividend delivers its benefits to economic transformations. These are:
i. Increases labor supply: demographic age transition affects the labor supply in three major aspects. Overall demographic age-transition affects the total labor supply through the natural and inevitable age transition of the baby-boomer generation to the working-age generation which leads to lower young age dependency ratio. In this case the labor supply and people looking for work gets bigger and bigger for sometimes in the process of demographic transition and if absorbed by the labor market per capita production increases generating economic growth.
ii. Increases human capital and inter-generational skills transfer: least tangible but most significant effect of demographic transition is the accumulation of human capital. A society experiencing the full gain of demographic dividend is guaranteed to experience cultural transformation and starts to value its people as treasured assets. An educated worker earns higher than uneducated worker and education premium (wage) increases with the level of educational attainment. Moreover, as life expectancy increases parents are willing to invest more on their children’s education and health. Parents invest in their children’s health and education without now necessarily increasing family budgets as they have fewer children than their ancestors.
iii. Increases saving and investment: demographic transition encourages savings and contributes to national capital accumulation for investment and economic growth. Here two crucial factors are at work – the accounting and societal value change effects of demographic transition. It is true that the young and elderly consumption is in excess of what they give to society. In contrast, working-age adults tend to produce higher and save more. In effect, national and private savings increase capital accumulation and contributes to growth financing provided reliable institutions of banking and pension systems are in place.
iv. Increases labor force participation of women: firstly, with the decline in family size the chance of women to participate in the labor market increases and provides another boost for the economically active working-age population size. Secondly, small family size gives young women enormous chance to be educated and contribute to high productivity and high growth as their childbearing time and resources diminishes.
In order to understand the links between demographic dividend, human capital and economic growth many analysts and researchers have devoted time and resources believing that human capital is an important source of economic growth, innovation, reducing rural-urban poverty gap, and sustainable development. Based on an empirical study on the relationship between economic growth, age-structure changes, labor force participation, and education attainment Crespo, et al. (2013:1) have found out that “…improvement in education attainment is the key to explain productivity and income growth and that a substantial portion of the demographic dividend is an education dividend.” World Bank (2011) study indicated that human capital in the form of health and education is a major component of economic growth and wealth. The study also has revealed that intangible capital is the largest component of wealth in almost all countries and human capital represents a major share of the intangible capital.
Based on global panel of countries, Crespo, et al (2013) empirically measured the relationships between economic growth, changes in population age-structure, labor force participation, and educational attainment. They further pointed out that improved educational attainment is the key variable to explain productivity and economic growth and that considerable share of the demographic dividend is the result of education dividend.
In their empirical and theoretical analysis Becker, et al. (1994) they implied that both in absolute and relative sense education and other human capital rates of returns are higher in the developed countries than in the developing countries to the rates of physical capital depending on the fertility rates and rates of consumption growth. As such, they pointed out that the “brain drain” of educated and skilled people are invariably from the poorer to the richer nations mentioning why Indian academics, engineers and doctors ending up in the United States. Other studies indicate demographic dividend enormously contributes to economic growth through working-age population and labor productivity growth. For instance, in the 1960s and 1990s, a third of the economic growth in ‘East Asian Tiger’ countries such as the Republic of South Korea, Taiwan and Singapore was due to demographic dividend (Bloom and Williamson, 1997; Mason, 2002; and Bloom, et al., 2003).
In an attempt to decompose growth in per capita income in the developing economies, based on the World Development Indicators data, Attanasio, et al. (2006) have quantified growth in per capita income as explained by demographic factors and total factor productivity (TFP) growth. For the period 1950-2000, output per capita in these economies grew at an average rate of 2.20 percent of which demographic transition generated around 0.70 percent annual per capita income growth, which is just slightly below one-third of the observed growth in output. Continuing with the quantification of output growth, out of the 0.70 percent, 0.11 percent was due to improvements in the average quality of the labor force, 0.32 percent due to the rise of the labor force participation rates, and the remaining 0.27 percent due to the surge in the capital-population ratio weighted as a share of capital. Out of the two-third total output growth in these economies 1.5 percent annual growth was explained by the TFP.
Interestingly, based on the UN, Groningen Growth and Development Center (GGDC) and Credit Suisse data, Credit Suisse (2012) has decomposed real GDP growth of three ASEAN nations, Singapore, Malaysia and the Philippines into working-age population growth (population aged 15-64 years), labor productivity growth (real GDP per hours-worked), and labor utilization growth (hours-worked per working-age population). Growth in working-age population and labor productivity have significantly contributed to real GDP growth in these Asian nations. For the periods 1990-1999 and 2000-2011 working-age population growth in Singapore, for example, contributed by 35 percent in 1990-1999 and 49 percent in 2000-2011. On the other hand its labor productivity growth contributes 39 percent and 46 percent while labor utilization growth contributed by only 26 percent in 1990-1999 and 5 percent in 2000-2011.
From Table 1 below it can also be noticed that Singapore’s labor utilization growth significantly dropped from 26 percent in 1990-1999 to 5 percent in 2000-2011. In the Philippines and Malaysia labor productivity growth was the major contributor to real annual GDP growth for the period 2005-2010, by 63 percent and 64 percent, respectively, while labor utilization growth shows negative contribution.
In all the three countries the contribution of the working-age population growth to real GDP was enormous showing that demographic dividend (in the form of higher proportion of the working age population) has played important role in explaining real GDP growth. Thus, according to the report for GDP growth working-age population growth and labor productivity growth matters very much and so does the quality of the labor force in all the three nations in this study.
Although many factors can impact labour productivity the individual human capital is the most important factor. In his recent paper titled ‘sola schola et sanitate [Latin for only a combination of health and education]: human capital as the root cause and priority for international development’ Wolfgang Lutz (2009) has recognized the shortcomings of the three twentieth-century dominant population policies rationales, namely: (i) the acceptance of replacement-level fertility (2.1 child per woman) as a demographic goal, (ii) changing age-structure to capture the benefits of demographic dividend, and (iii) satisfying the “unmet need” for family planning.
He argues the need for explicit integration of education attainments into all three in one model is critical. He found out that the picture was completely changed when education was incorporated into his new population projection model. Lutz further argues, women’s education should be key priority in population policy and population policies need to be viewed as human resource management. Accordingly, he underlined that, in the context of the 21st century sustainable development endeavors, population policies should focus on human capital development and the emphasis must be on education and health.
4. Two stages of demographic dividend
Demographic window begs the very concept of demographic dividend also called demographic bonus. Mason and Kinugasa (2005) unpacked the benefits of demographic dividend into two stages:
i. First, it occurs when there is higher participation rates of the labor force due to the declining fertility and mortality rates which drops in the number of younger age dependency ratio. In this stage the labor force grows faster in contrast to the dwindling young dependent age population which frees some resources for investment in economic and social infrastructure development. This situation leads to rapid economic growth in per capita income. Demographic dividend lasts in a few decades though and, therefore it is transitional and temporary in nature. Overtime, the size of the labor force and its share against the younger and aging population declines and population growth surpasses labor force growth leading to slower growth in per capita income. In this stage a favorably lower dependency ratio is used to save money and invest resources in building a long-lasting social and economic infrastructures that is capable of supporting the overall economy and the well-being of the entire population of a nation afterwards.
ii. The second, and permanent, demographic dividend kicks off after the demographic window has shut down. Provided the benefits of the first dividend has been grasped, nations move from demographic bonus to demographic onus by providing the ageing populations with consumption that substantially reduces the labor income. The first dividend invokes citizens, private firms and governments to accumulate capital that translates into productivity by the time the share of the ageing population enters retirement period. If this capital is invested in the domestic economy it translates into capital deepening (measured by the rate of change in capital stock per labour hour) that leads into accelerated growth and output per worker. If that capital is invested in foreign countries it improves the current account and the national income. Nations are better off in both cases because per capita income increases in either way. Unlike with the first dividend the second dividend is not transitory in nature but permanent.
Now, it is clear that nations or governments that adopt the right policies and strategies would benefit from demographic dividend and those squander available national resources for human capital development earlier on during the first demographic transition process will end up underdeveloped forever and ever.
5. Demographic dividend vs. human development
From the discussions above the links between demographic dividend and human development is self-evident. Linkages between demographic dividend, human capital and economic growth can be highlighted in terms of the positive outcomes of human development. Nevertheless, it is important to note that basic universal education is one of the main pillars of the Millennium Development Goals (MDGs). Besides, in the last 25 years the UNDP’s Human Development Index (HDI), most widely used indicator of an average desirable human progress in education, health and income. The HDI, a normalized averages of education (mean years of schooling and expected years of schooling), health (life expectancy at birth), and GNI per capita income, compares nations’ progress in their human development status. As in Lutz (2009) there is good reason to believe that health and material wellbeing are to some extent driven by progress in the education attainments of the population, and that indeed human capital may be viewed as the driving factor for sustainable human development. Lutz argues education matters greatly for almost every aspect of progress in human development. Education empowers men and women alike and should be considered as a major development goal in its own right. In particular, universal basic education enhances health and empowers men and women equally.
It has indirectly been discussed that demographic dividend contributes not only to economic growth but also to human development in general. The links between demographic dividend and human development index (HDI) could be many, however, the following four can demonstrate the direct links between the two:
- Lower child dependency ratio due to the transition of the baby-boomer generation into the working-age generation accelerates economic growth provided the workforce is absorbed by the labor market which ultimately increases per capita income per worker and savings (HD – income dimension);
- Smaller family size due to the decline in fertility and mortality rates lift the chance of women and men alike to participate initially in the educational opportunities opened up for children and young people and later in the labor market which also leverages high productivity per worker and higher per capita GDP growth – also increased share in income of the working population (HD: education and income dimensions);
- Lower child dependency ratio allows more resources per child by both the state and parents. Governments and parents now have extra money per child to invest in education, health, child well-being and money to invest in other productive sectors. Low family size encourages women’s participation in education and the labor market participation by reducing their childbearing time and resources (HD-education, health, income and gender empowerment); and
- Better educated parents, especially women in society have fewer children, lower mortality and high child survival rates and longer life expectancy at birth (HD-life expectancy).
Hence, there is clear link between demographic dividend and human development impacting one another. In conclusion, at the national level there will be lower child dependency ratio allowing more resources per child without necessarily increasing taxation for education and health and more resources can now be allocated for improving qualities of education and healthcare. At the micro level due to fewer children per woman families can save and invest in their children’s education and health for a better future provided governments adequately prepared to provide quality health and education services to their citizens. In the longer-term, businesses can benefit from tax relieve and higher productivity due to higher human capital accumulation as they move up the global supply and production network value chains.
Part III continues…
Ehrlich, P. (1968). Population Bomb. New York: Ballantine Books
World Bank (2011). The Changing Wealth of Nations: Measuring Sustainable Development in the New Millennium. Washington, DC: World Bank.