Macroeconomic and distributional effects of demographic change in an open economy—the case of Belgium

Abstract

AbstractWe construct and parameterize an overlapping generations model for an open economy with individuals who differ in innate ability. Key endogenous variables are hours worked, investment in human and physical capital, and per capita growth. The model replicates important data in Belgium since 1960 remarkably well. Simulating it, we observe that behavioral adjustments by households and firms contribute to reverse the negative arithmetical effect of future demographic change on per capita growth. Individuals work and study more. However, with unchanged policies, there remains a net negative effect on annual per capita growth of almost 0.3%-points on average in the next 25 years. This is mainly due to adverse consequences of reduced fertility and a declining working-age population on (the return to) physical capital investment. Model projections also point to rising income inequality induced by demographic change. Differences in the capacity of individuals to respond to increasing life expectancy by investing in education, and by saving, are key.