How Demographics Drive the Economy

Demographics—statistical data related to a population—play a key role in rates of economic growth. That's because the makeup of any population can influence the supply of labor and productivity—known as the demographic dividend.

Labor force participation, birth rates, the different ages of those in the workforce, and their skills and education can have an impact on a nation's economic prosperity. So can technological innovation, which throughout human history has played a major role in driving broad and meaningful prosperity.

There's a potential challenge on the horizon for economic growth. That is the combination of the retirement of a large demographic group (baby boomers) from the workforce and the declining U.S. birth rate.

How Demographics Drive the Economy

Economic growth depends on productivity gains and a stable or growing labor force.

Service industries have dominated the U.S. economy over the past several decades. But due to increased competition and technological advances, productivity gains are diminishing in the service sector. At the same time, baby boomers have been entering retirement, changing labor demographics.

Working-Age Populations

Globally, working-age populations are declining, at times dramatically, as witnessed in Japan. Some of the increasing costs relating to an older population will be borne by fewer workers and put strains on government programs such as Social Security and Medicare. 

While life expectancies have been increasing for most demographic groups, birth rates have fallen by nearly 50% since the 1950s.

A key factor in economic prosperity in the developed world from the end of World War II through the 1980s was an ever-increasing working-age population. The U.S. and European working-age populations appear to have peaked, and are expected to drop by nearly a full percent through the year 2040.

Quality vs. Quantity

However, since the Industrial Revolution and the emergence of new and different technologies, it's become clear that it's not simply the number of working-age people that's important. The quality of human capital—that is, the level of skills and education of workers—can also have an enormous impact on economic growth and prosperity. In fact, some countries with small populations and declining birth rates have very strong economies.

Population, Productivity, and Prosperity

The labor force participation rate is a metric that tells us what percentage of people in a country are employed or actively looking for work.

Those people who are unemployed but no longer actively searching for work are not included in this number. The current rate of 62.8% as of August 2023 points to a sizable portion of people without jobs who are not looking for jobs. 

This suggests the potential for a future decline in global economic growth due to a smaller workforce population.

On the other hand, one reason why the global economy has continued to grow despite this lower rate (compared to those from the late 1970s through 2020) is the advance in technology that has boosted labor productivity.

Even with fewer people working, each worker has become more productive. And although year-on-year productivity growth has slowed since the 2008 financial crisis, the absolute output per worker is now at about its all-time high.

Technological Advances Support the Economy

Many feel that to sustain economic growth, either the birth rate needs to increase by a large amount, or productivity needs to keep increasing. Given the planet's many challenges, population growth may be problematic. On the other hand, productivity has all kinds of potential.

For instance, to increase productivity, workers can work harder or smarter. Or innovative technologies can play a role with new tools that drive productivity. Each worker can then contribute more economic output without sacrificing quality of life.

Technological progress, therefore, lies at the heart of the economy of the future. The new types of jobs that will be made available to the labor force and the degree to which they employ technological advances will become paramount.

Those individuals who do not develop proficiency in software programming, computer hardware, networking, or other areas of the IT sector may become less of a driving force in the new economy.

Technologies in Place

Already, we have witnessed technology replace in part some middle-class job categories such as bank tellers, travel agents, stockbrokers, librarians, translators, and tax accountants. These are jobs, once so familiar to many Americans, that likely will never be the same.

Take TurboTax, the software and website dedicated to preparing tax returns. Millions of people now use this or a competing program. Each taxpayer pays to use the program and e-file their taxes.

While the methodology may have changed for some, the economy activity can continue as people use either or both human assistance and/or systems for their tax returns.

E-Commerce

E-commerce has taken a huge amount of market share away from traditional brick-and-mortar businesses. The sharing economy and P2P platforms have removed the need by many for things like hotels, movie theaters, and taxi drivers by creating alternative marketplaces for those services or activities.

The future will only accelerate this pattern. Google and universities around the world have developed driverless cars, which will one day eliminate the need for any sort of driver or chauffeur.

Improvements in robotics and 3-D printing promise to revolutionize the way that products are manufactured and make companies rethink the need for warehousing and managing excess inventories.

This may accelerate the existing trend of job losses in manufacturing.

While people may lose their jobs to technological innovations, those who have trained themselves in the relevant skills will be at an advantage. Those who are comfortable using technology and can understand how various technologies work may be in most demand.

The Bottom Line

Demographics do not determine the fate of economic growth, but they can be key to an economy's growth potential. An aging population coupled with a declining birth rate in the developed world points to a potential decline in future economic growth.

Education, skills, and increases in productivity can lessen the impact of such population shifts. And technological advances are one source of productivity boosts, even as they may lead to the elimination of certain jobs.

Those workers with the most relevant technology skills will be able to position themselves to excel in the future economy.