Demographic Dividend in East and South Asia

Lund University

Master in Economic Demography

Department of Economic History

Demographic Dividend in East and South Asia,

The Economic Impact of Changes Age Structure in Population.

Md.Mazedur Rahman Khan

Master’s Thesis

27 May 2010

Supervisor:

Martin Dribe

EKHR 01

Master’s Thesis (15 Credits ECTS)

Spring 2010

Abstract.

The demographic transition of declining of mortality and fertility, causes changes in age structure of the population, provide countries a generation that is proportionately bigger than the predecessors and their successors. A greater share of population that is in the working age, gives the opportunities of economic growth in a country is called demographic dividend. The bulk working age population is expected to faster economic growth, boost labor supply, increase physical capital and expand human development due to transitional favorable dependency ratio. The aim of the paper is to examine, the nature of the effects of changes age structure on the Gross Domestic Products in the pre dividend period and dividend periods of the ten countries of East and South Asia. The changes age structure directly associated with the labor force and there is a good association between labor supply (support ratio) and human capital as well as physical capital in our data. We have evaluated the impact of these three mechanisms on the economic growth of the countries of the East and South Asia, 1960-2006.The results show that the effect of labor supply (support ratio), human capital (life expectation and schooling) and physical capital (total trade) is significant and positive on the GDP per capita in the demographic dividend periods and pre dividend period. The results also show that the effect of changes age structure on the GDP is higher in the demographic dividend periods than pre dividend period.

Key words: changes of age structure, demographic dividend, growth of GDP per capita, East and South Asia.

Acknowledgement.

I would like to give special thanks to my supervisor Dr. Martin Dribe from the Department of Economic History, Lund University, whose suggestions and encouragement highly motivated me to write the Master Thesis.

I would also like to express my deep appreciation to my mother Syadunnesa, my wife Tuhina and my daughter Mohsina who always have been inspired me during my study in Sweden.

Table of Contents

Page
Abstracts / 02
1. / Introduction / 04
1.1 / Research Problem / 05
1.2 / Aim and Scope / 06
1.3 / Outline of the Thesis / 06
2. / Background / 08
2.1 / The Demographic Transition / 08-12
2.2 / The Support Ratio and Dependency Ratio / 13-14
2.4 / The Demographic Dividend / 15-20
2.5 / Theoretical Background / 20-21
2.6 / The Hypothesis / 21-22
3. / Data / 22
3.1 / Sources of Data / 22
3.2 / Sample / 22-23
4. / Methodology / 23
4.1 / Statistical Model / 23-25
4.2 / Definition of Variables / 25-26
5. / Empirical Analysis / 27
5.1 / Statistical Results / 27-33
5.2 / Discussion / 39-41
6. / Conclusions / 41
References / 42-43
1. Introduction.
1.1 Research Problem:
The demographic dividend has been known as a window of opportunity for economic development.It is the optimistic concern of demography.There are many success stories of economic development in the world, have been driven partly due to a rising share of working age people in the population. Any human population consist of three broad age groups: (1)children or young (ages 0-14) who are mainly consumers and economically depend on prime age adults,(2)those of working age (ages 15-64),whose efforts are primarily responsible for economic production, (3) the elderly (ages 65 and older ),who are economically dependent on prime age adults.[1]The consequences of mainly declining fertility and reduced mortality among the young, change the structure of the population, the young makes the generation bigger than its predecessors and following decline in fertility makes it bigger also than its successors.[2] When these young enter in the working age, the greater share of population that is in the working age gives the opportunity of demographic dividend. According to Andrew Mason, “The demographic dividend refers to a one-time feature of the demographic transition. Fertility decline produces a period during which the working-age population grows much more rapidly than the child population. Thus, a larger share of the population becomes concentrated in the highly productive working ages.”
It is the first demographic dividend where decreasing young dependents and increasing working age population create opportunity for rapid economic growth. When this great share of working age population enters the age of retirement by declining share of working agepopulation and increasing the share of older age population, it is the beginning of second demographic dividend. The first demographic dividend creates an opportunity for economic development through high rates of savings, investment and it gives more favorable condition for human resource investment.

The relation between demographic variables and the economy is not deterministic rather the economic outcome from demographic change is policy dependent (Andrew Mason,July, 2005).The demographic dividend does not automatically ensure the economic growth of a country. It mainly depends on the activities of the respective countries before and during demographic transition period. There are various factors that are important to maximize the opportunity of demographic dividend. For examplethe development of strong institutions, effective development of policies that encourage research, innovation and savings, efficient allocation of labor, business friendly capital markets, strengthening of the global trading system, quality educational and health care systems, rapid growth in industrial and manufacturing employment, investment in human resources, sound political environment and the elimination of gender bias. While the first demographic dividend gives the opportunity to accumulate assets by extending period of retirement,high savings and lowering the burden of youth dependency, it is a good opportunity to deepening human and physical capital in the period of second demographic dividend as well as investing additional assets domestically or internationally to boost national income.[3]Thus the first demographic dividend produces a transitory bonus, and the second demographic dividend transforms that bonus into greater assets thus sustainable development. It depends on how effective the policies have been implemented. Thusthe demographic dividend period is a window of opportunity rather than a guarantee of economic development. The dividends are sequential, the first dividend begins first and comes to an end, and the second dividend begins somewhat later and continues indefinitely. They certainly overlap. The first and second dividends both have positive effect on economy.[4]

The countries of East Asia have utilized the opportunity of first demographic dividend successfully. The countries were poor in 1960, income of Japan was well below than United States and other Western countries but higher than the rest of the countries of East Asia. The countries were largely agrarian and traditional; there were no promising prospects of economic growth. The political and economic institutions were weak, rates of savings and investment were low but one of the bright characteristics was relatively high level of literacy. From 1960 to 1990 the economic success of the region was remarkable; Japan became the world’s second largest economy. The per capita income in Singapore exceeded the United Kingdom, Canada, Italy, and Australia. The standards of living had greatly improved in South Korea, Taiwan, Thailand and Indonesia.[5] On the other hand the countries of South Asia are about to pass through the favorable stages of their demographic transition. The high youth dependency rates is decreasing in South Asian countries, they might have chance to utilize the opportunity of demographic dividend.

The changes age structure deliver demographic dividend through the three main factors of economic growth, labor supply, physical capital and human capital (Andrew Mason, 2002).The direct effects of changes of age structure is labor supply. We have calculated labor supply by support ratio; it is the ratio of working age population to dependent population. The physical capital of an economy influenced by many factors, the changes age structure is one of them. There are association between age structure variable and physical capital variables in our data. The correlation between support ratio and total trade(physical capital) is0.50 and the correlation between support ratio and investment is 0.62.There are many factors that are associated with human capital ,the changes of age structure is one of among them.The correlation between support ratio and life expectancy(human capital) is 0.81 and the correlation between support ratio and years of schooling(human capital) is 0.70. Thus we can examine the physical capital variables and human capital variables as the product of changes age structure.

The study countries are five from East Asia namely Japan, Singapore, South Korea, Indonesia and Thailand and five countries from South Asia namely India, Bangladesh, Pakistan, Sri Lanka and Nepal.

1.2 Aim and Scope:

The aim of this paper is to investigate the nature of the effects of changes of age structure of populationon the economic growth in the pre demographic dividend period and the demographic dividend periodsof the countries of East and South Asia. The analysis will focus on labor supply, physical capital and human capital as determinants of economic growth. As changes of age distribution of population, direct effect the labor supply and indirectly affect the physical and human capital. The focus of this paper is to estimate how the human capital, physical capital and labor supply factors impacton economic growth between the pre demographic dividend period, demographic dividend periods. We will divide the total study period into three distinct time periods for each country such as pre demographic dividend period, first demographic dividend period and second demographic period.The pre dividend and dividend periods vary from one country to another and it depends on the dynamics of support ratio. We will also divide the total study period into four time periods such as time period1960-1970,period 1971-1980,period 1981-1990 and period 1991-2006 to compare the dividend periods with time trend.

The causes of demographic dividend are the combined effect of declining fertility and mortality. We will explain this process as a background that how fertility transition and mortality transition produce boomgeneration and change age structure of population to the favorable for economic growth. We will not investigate the process empirically. We will investigate empirically the impact of the human capital, physical capital and labor supply factors on the GDP per capita. We have considered the health variable life expectancy and education variable average years of schooling as human capital and total trade (openness) and investment as physical capital and finally support ratio as labor supply. The data was available from 1960 to 2006. This time frame of the data may not cover the three study periods because some countries first dividend period begins earlier than the study time and some countries first dividend periods end later than the study time period. But all the study countries begin the first dividend within the time frame of our study and most of them continuing it after 2006.Hence our main focus on the study will be pre dividend period and first dividend period. We will also examine the impact of second dividend period, though the study data range will cover very few countries that experienced second dividend.

1.3 Outline of the Thesis:

In chapter 1 the background of the research with a brief introduction of the research problem will be discussed to understand the demographic dividend. The aim and scope of the paper will also be explained in this chapter. In chapter 2 the previous research on demographic dividend and theories behind the demographic dividend and hypothesis of the study will be discussed. In addition the prerequisites of taking advantage of the demographic dividend and examples of some countries of the world that benefitted from the demographic dividendwill be discussed. Finally theoretical foundation of the impact of the changes age structure on economic development will be presented inthis chapter. The procedure of data collection and the sources will be discussed inchapter 3.Chapter 4 defines the regression variables and statistical model while chapter 5 presents the statistical results and discussion of the outcomes of the empirical analysis related to hypothesis and theoretical considerations. Chapter 6 ends the thesis with a conclusion.

2. Background.

This chapter, we will present the previous research on demographic dividend and theories behind the demographic dividend and other issues related to the hypothesis from various sources of literature. The prerequisites of taking advantage of the demographic dividend will also be discussed. Examples of some countries of the world will be discussed that benefitted from the demographic dividend. Finally theoretical foundation of the impact of the changes age structure on economic growth will be presented in this chapter.

2.1 The Demographic transition.

The demographic transition is a set of interrelated transitions.The mortalityusually ( but not always) begins to decline in the first phase of demographic transition while fertility remains high. In the first phase of demographic transition mortality declines mostly among infantand children, its result is bulge in the young age of population and increase young dependencyratio. The decline in mortality and the decline in fertility are not synchronized; usually fertility begins to decline some times after mortality (exceptional is France, fertility transition begins without a decline in mortality)[6].

The lag between the two causes population growth. This growth at the beginning of the demographic transition creates a boom generation; this generation changes the shape of the age structure of the population. Bloom and Canning (2003) explain the growth of population by the following graphs.

The boom generation is unique as fertility decline and mortality decline the result is bulge in the age structure. The result in age structure of population has changed with a bulge in the early age, the cohort of this large numbers of children in the age structure is the prime asset of a nation and they may contribute to unprecedented economic development. First, there are many young people, who need proper food, cloths, houses, health care and education.

The bulge wavemoves through the population in their life cycle and produce a large working age population. This working age population will contribute in the growth of economy. Finally they will be elderly people and dependent again.

The initial spurt of population growth happened between the beginning of the mortality decline and end of the fertility decline. Interesting is when the boom generation becomes adult, it creates its own echo, another new boom generation. They produce further boom, it is the population momentum, and its effects will be felt perhaps 50 to 100 years before the population age structure settled down. When the age structure remains constant the effect of population growth is neutral but when the proportion of workers rises or falls make the opportunities for economic growth.[7]

The systematic change in the age structure is the integral part of demographic transition and that continue long time after other rates have stabilized. The case of India as an example can give explanation of shifts in age distribution. The pre transitional total fertility rate and life expectancy of India was 6 births per woman and 25 years respectively (panel A and B). The mortality decline begins 1900 but it leads fertility decline after 50 years.The fertility transition of India is slow relative to East Asia but similar to Latin America’s. The population growth rate rose from less than 0.5 percent in 1900 to more than 2 percent per year by 1950. The result is bulge population and total population quadrupled in the twentieth century and will increase another 60 percent in twenty first century and population leveling out to near zero by 2100 (panel C and D).

The shifts in age distribution can be seen in the dependency ratios. In the first phase of the transition, when the mortality begins to decline but fertility remains high, mortality declined most at young ages, increase the proportion of children in the population and raising child dependency ratio. The mortality decline makes populations majority of younger’s that can last many decades, for India the period was about 70 years.This stage of demographic transition is the foundation of demographic dividend. Family find themselves with increasing numbers of surviving children. Both family and governments may struggle to fight for high number of children. The nature of benefits from demographic dividend depends on the performance of this stage with the high number of children by the respective countries.

Source: Lee, Ronald.(2003“Demographic Transition: Three centuries of fundamental change”, Journal of Economic Prospect,vol.17(4),P -181.

The second phase as fertility decline the working age population grows faster than population as a whole, thus the total dependency ratio decline. The rapidly growing a relatively large share of working age population contribute economic growth is the demographic dividend or gift or bonus. In India bonus occurs between 1970 and 2015. In third phase increasing longevity leads to rapid increase elderly and low fertility slows the working age population causes the old dependency ratio raises rapidly, thus total dependency ratio increase. It is the second demographic dividend. In India this stage occurs about between 2015 and 2060(Lee, Ronald. 2003).