OECD warns world at risk of “new low growth era”

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By Leith van Onselen

The Organisation for Economic Cooperation and Development (OECD) has released a new report, Going for Growth, which warns that the world is at the “beginning of a new low-growth era”, unless it can find ways to boost productivity. From the AFR:

“The global economy’s momentum remains sluggish, heightening concerns that there has been a structural downshift in growth rates compared with pre-crisis levels”…

“Weak global demand, pressures from budgetary consolidation and remaining dysfunctions in financial markets are exerting a drag on trade, investment and job creation”…

“The crisis has dented potential growth of many advanced economies, while some emerging economies are running into bottlenecks.”

“A return to healthy and sustainable growth calls for ambitious and comprehensive structural reforms”…

The way I see it, there are a number of reasons why global growth will be structurally lower over the decades ahead, irrespective of the pace of “structural reform”.

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First and foremost, the world is facing rapidly ageing populations following the end of the “demographic sweet spot” – i.e. where there was a high proportion of working-aged people supporting only a small pool of dependents. Such an advantageous age structure had affected almost all of the world’s major economies and produced a population structure optimal to economic growth – that is, where the largest segments of the population were neither young nor old, but in the middle (i.e. working age).

However, with the large baby boomer cohort entering retirement, demographics are turning into a curse, whereby a shrinking proportion of workers will be called upon to support a growing share of dependents (mainly retirees).

An interesting report released last year by Index Universe estimated that population ageing alone would slow real per capita GDP growth by at least 1% across 12 major economies:

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We forecast growth in Real Per Capita GDP (holding everything else constant) for every five-year interval between 1950 and 2050, based on the demographic linkages observed in the 1950–2010 data spanning 22 countries. These are not “normal” GDP growth rates, they are abnormal GDP growth rates, reflecting the impact of a demographic tailwind or headwind…

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All 12 countries will confront varying speeds of demographic headwinds in the coming decades, first in the developed economies, then in the older emerging economies (China and Russia), and finally in the younger emerging economies (Brazil and India). These headwinds get stronger over time and appear to stabilize in the developed world and the older emerging economies only after about 2040. For the younger emerging economies, the demographic headwinds do not become acute for perhaps another 20–30 years.

All 12 countries enjoyed demographic tailwinds during the past 60 years, so these headwinds will feel more obstructive than they are. It is human nature to consider our personal experience to have been “normal,” so we evaluate subsequent events in comparison with this self-referential “norm.” If the people of Japan consider the former tailwind of 2–3% to be “normal,” then a future 2% headwind will feel like a ponderous 4–5% drag, relative to expectations. On average, the countries in this analysis enjoyed benign demographic profiles that boosted GDP growth by around 1% per year during much of the past six decades…

Clearly, changing demographic suggests the high growth rates experienced in the decades leading-up to the global financial crisis (GFC) were an anomaly and growth is likely to be far more sedate going forward as the population ages and dependency ratios worsen.

To add insult to injury, pre-GFC growth was juiced by the rapid accumulation of debt, both private and public. This was unsustainable and cannot be continued infinitum. Similarly, the global economy will increasingly face energy and resource constraints, which should further constrain growth in the decades ahead.

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Nevertheless, despite the world’s lower growth potential, the OECD’s focus on improving productivity is welcome given that, in the long-run, it is the only way to boost overall living standards.

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About the author
Leith van Onselen is Chief Economist at the MB Fund and MB Super. He is also a co-founder of MacroBusiness. Leith has previously worked at the Australian Treasury, Victorian Treasury and Goldman Sachs.