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Tuesday, October 11, 2005

Who Eats, and Who Gets Eaten

Laurence Kotlikoff has a new paper: Will China Eat Our Lunch or Take Us to Dinner? – Simulating the Transition Paths of the U.S., EU, Japan, and China (together with Hans Fehr and Sabine Jokisch from the University of Wuerzburg). The paper develops a dynamic, life-cycle, general equilibrium model to study the interdependent demographic, fiscal, and economic transition paths of China, Japan, the U.S.,and the EU.

Regular readers of this blog will know that Kotlikoff et al have been developing an OLG -based model (Kotlikoff is one of the grandfathers of OLG) to examine the impact of asymmetric fertility changes on the OECD countries. This time they add China, and, well.......

"Adding China to the model further alters, indeed, dramatically alters, the model’s predictions. Even though China is aging rapidly, its saving behavior, growth rate, and fiscal policies are currently very different from those of developed countries. If successive cohorts of Chinese continue to save like current cohorts, if the Chinese government can restrain growth in expenditures, and if Chinese technology and education levels ultimately catch up with those of the West and Japan, the model’s long run looks much brighter. China eventually becomes the world’s saver and, thereby, the developed world’s savoir with respect to its long-run supply of capital and long-run general equilibrium prospects. And, rather than seeing the real wage per unit of human capital fall, the West and Japan see it rise by one fifth percent by 2030 and by three fifths by 2100. These wage increases are over and above those associated with technical progress, which we model as increasing the human capital endowments of successive cohorts".

So on this account it's China to the rescue, China saves the world.

I don't think they've quite got it, (I smell something fishy in the way they use 'effective labour' for a start, but there is more).

What I think we may need to do is to look at this endogenously: just what is the impact on saving of rapidly rising life expectancy coupled with only being able to have one child in the context of a high level of uncertainty over future pension entitlements?

Otoh I definitely think that there is a certain symmetry through artificial demographic shocks in both cases: in the US a demographic jump-start through immigration, and in China through administratively imposed low fertility. This is why the two of you seem to be so strapped together, and I do think it is worth *starting* the analysis with this point of departure.

Bottom line: I don't think the issue is as simple as Kotlikoff and co make it out to be. But the paper is definitely worth a read.