Introduction
Currently in the United States economists are debating the seriousness of
the country's aging population problem. Some people believe that our economy
will not be able to support the growing elderly population and our government
should be working to solve the problem now. There are other economists that
believe our aging problem is not that serious and that our economy will
be able to support our elderly in the future. This is a very difficult issue
and the government is looking at many different ways to help solve the problem.
Many believe that the government can limit the size of the problem by being
more fiscally responsible. The United States also has a very low national
savings rate relative to other developed countries. Increasing the national
savings is another potential solution to this problem. This problem does
not have a clear cut solution. The topic has been thoroughly researched
and economists have come up with several different proposals to help solve
the problem.
Economists have had mixed opinions on the effects that changes in the national
savings rate would have on the aging problem. The common idea used to be
that increasing the savings rate would help the future economy because it
would increase the demand on future resources. Other economists believe
that the ideal policies to solve the aging problem would be to try to decrease
the national savings rate (Cutler et al.,1990). Currently Economists are
currently undecided on whether it is ideal to have a higher or lower savings
rate. The most recent argument made has been is that the savings rate does
not need to be increased or decreased and that future workers will have
to pay for most of the burden of the aging population. (Elmendorf, 2000).
Using fiscal policy to solve the problem of the aging population has also
been debated for years. For fiscal policy to be effective, the government
budget has to affect the decisions of Americans about how much money to
save. The traditional point of view is that high government debt will lead
to higher future taxes so people will begin to save more money. These two
forces offset each other so in fact fiscal policy has no effect on the national
savings rate. There is another point of view that lowering the amount of
money the government borrows would in fact increase savings.
The National savings rate in the United States is lower than that of most
other comparable developed countries. There have been numerous explanations
for this phenomenon. Some believe that the federal government has some policies
that lead to Americans saving significantly less. An example of this would
be the capital income taxes, which taxes money citizens make through capital
gains. Also the concept of pay-as-you-go retirement policies such as Social
Security lead to Americans saving less than other countries. The economic
successes in the United States in the late 1990s also could have had an
effect on the national savings rate. People's expectations could have been
that their future wages would be higher so their current savings rate would
be relatively lower. Although a higher savings rate would probably be the
most ideal change for the future American economy, it is very hard to use
data to prove that point.
Consumption Issues
Consumption patterns will be very important for the future state of the
American economy. The aging problem will happen for two different reasons.
The first reason could be that the national fertility rate could be falling.
Another reason could be that the national life expectancy could be rising.
These two possible explanations will lead to very different consumption
patterns and problems. If the national life expectancy rises, there will
be more elderly retired people with the same amount of children. This means
there will be a larger number of dependants and the consumption per person
in the country will decline. If the national fertility rate decreases, consumption
patterns will move in different ways. There will still be a rising number
of retired workers in this situation. This rising retired population will
have a larger effect on the consumption patterns than that of the decreasing
population of children, so the consumption per person should still decline.
The difference between the two effects is the decrease in the size of the
labor force. Since there are fewer workers, there is less capital needed
to maintain the minimum level of capital for the steady-state. This means
that there is less savings needed to maintain the same level of growth in
the steady-state. The problem in the United States will likely be caused
more by the declining levels of fertility rather than the increasing life-expectancy.
This means that in the future, the amount of consumption in the United States
to stay in the steady-state will eventually decline.
The decrease in fertility in the United States is lowering the percentage
of workers in the population. This also decreases the amount of capital
needed to be added to keep a certain capital to labor ratio. These two factors
cause the amount of feasible consumption in the economy to be decreased.
Another effect of the decreased fertility is the "capital intensity
effect"(Elmendorf, pg 62). This means that even though the amount of
capital in the economy may not increase at all, the capital to labor ratio
will actually increase. This would lead to lower returns on savings. These
different effects mean that the policy makers must decide how to solve the
problem. All policy makers want to keep consumption levels fairly constant,
but the decreased return on savings means that consumption should rise.
The decision should be based on how much the people are willing to substitute
present consumption for future consumption and capital for labor.
In both cases the capital to labor ratio will increase when the drop in
fertility happens. Eventually in both scenarios, the ratio will drop back
down to the initial steady-state capital to labor ratio. The changes in
demography in the country should in theory have no effect on the steady-state
ratio. A decrease in fertility rates will lead to three major changes for
the economy. Since there are less dependants in the economy, the level of
consumption will drop. Since there is more relative capital to every worker,
the national savings rate will drop, leading to an increase in consumption.
Finally due to the "capital intensity effect", there will be an
increase in the current levels of consumption. This would not happen if
the rate of return is affected by a world interest rate and not the national
wealth per worker. If that was the case, the increased level of capital
due to the drop in the population of workers would not lead to decreased
return on savings.
It is very difficult to estimate what the ideal level of consumption should
be to help with the aging population problem. The first step in trying to
predict this level is to assume the current levels of savings and capital
to labor ratios are the economy's steady state values. When you make these
assumptions, it is easier to look at only the impact of the aging problem.
Some of the assumptions are not very realistic but it is still the most
practical way to look at the data. For example, it is very hard to assume
that interest rates will remain the same in this time period because American
interest rates are affected by the world rates. Another factor in analyzing
the data is how much American capital would go to developing countries and
how effective these countries would be in using our capital. If large amounts
of American capital were sent to these developing countries, Americans could
save more money and would not have the detrimental effect of lowering the
rate of return on savings.
A factor that must be looked at when predicting ideal consumption levels
is the elasticity of substitution of consumption patterns. If people refuse
to change their consumption patterns no matter what the savings rate of
return is, the elasticity would be zero. This would lead to a sizable decrease
in consumption and a very significant increase in the savings rate. There
would be a large increase in capital, leading to increased wages, but also
the real return to capital would drop. The elasticity of substitution, however,
is most likely not zero. In an article published by Elmendorf in 1996, he
predicts that peoples actual elasticity of substitution is probably closer
to .33. Under this assumption, real wages will not increase by nearly as
much as if the elasticity was zero. Based on his assumption about the elasticity,
the United States should try to reduce their consumption, but only by a
small amount. Another aspect of his theory is that the reduction in the
consumption levels would not have to be so large if these decreases did
not happen immediately. If this theory is correct, most of the burden of
the aging population should be placed on the future groups of workers.
Most of the debate regarding the aging problem in the United States has
focused around the issue of programs such as Social Security and Medicare.
These programs are based on pay as you go ideas which may have large problems
due to the rising proportion of retired workers in the United States. The
number of people receiving Social Security benefits is rising much faster
than the number of workers paying Social Security taxes right now. This
means that the taxes paid by the workers must rise, but the amount of money
handed down by the elderly also increases. This means that the change in
consumption patterns of workers depends on whether the taxes are increasing
faster or the money handed down by the elderly. Another way that reductions
in fertility rates would change a country's consumption rates would be due
to a decreasing labor to capital ratio. The growing elderly population will
be saving their money, and there will be a smaller working population so
the amount of capital relative to workers will increase.
The aging population will force the federal government to spend more money
in programs such as Social Security and Medicare. The percentage of federal
spending on the elderly is projected to increase from 7.5% of the national
GDP in 2000, to over 13% in 2060 (Elmendorf 2000, pg 70). This trend is
likely to continue as the demographics in the United States are not projected
to change in the near future. For these programs to be successful in the
future, the immediate increases in taxes brought in would have to increase
by almost two percentage points.
Larger Problem for Country or Government?
The aging problem in the United States is a problem not only for the Nation
as a whole, but also for the government. However, it is difficult to say
whether it would hurt the nation or the government more. These two problems
are linked, however, because more than half of the elderly population's
consumption comes from the government programs Social Security, Medicare
and Medicaid. The governments problem can appear much worse because they
have to pay for all of the programs but receive very little of the money
handed down from the elderly. There is a way to empirically check to see
which side has to bear more of the burden for the aging population. The
one assumption that must be made in these tests is that
Interest rates must be fixed. The country must suffer a reduction in consumption
by 1.5% as compared with the hypothetical situation of no aging problem.
The government, however, would be forced to increase taxes by around 3%
to support the elderly.
Conclusion
The aging problem in the United States is going to be an issue for a long
time because the fertility rate and life expectancy rate trends are not
predicted to change. This is a problem that needs to be addressed from several
aspects to be solved. The government should not try to focus on increasing
the national savings rate, because changes in the rate have not been shown
to lead to significant changes to the problem. Most economists' opinion
is that the best way to solve the problem is through slightly higher consumption
rates. Other ways to solve the problem would be if investment opportunities
in developing countries improved so that the investment would not lead to
a reduction in the domestic labor to capital ratio and the return on savings.
The problem of a growing elderly population in the United States is a complex
issue, and does not have a simple solution. Economists must continue to
look at the effects of changes in fiscal policy and savings rates in the
future in order to help solve the problem.
Cutler, David, M., James M. Poterba, Louise M. Sheiner and Lawrence H.
Summers. 1990. "An Aging Society: Opportunity or Challenge?"
Brookings Papers on Economic Activity. 1, pp 1-73
Elmendorf, Douglas W. ; Sheiner, Louise M. (2000), "Should America
Save for Its Old Age? Fiscal Policy, Population Aging, and National Saving,",
Journal of Economic Perspectives v14, n3 (Summer 2000): 57-74.
Elmendorf, Douglas w. 1996. "The Effect of Interest-Rate Changes on Household Saving and Consumption: A Survey." Federal Reserve Board FEDS Working Paper 96-27