Declining Fertility and Aging of Society, Lifecycle, and Public Pension Finance

         
Author Name FUKAO Mitsuhiro  (Faculty Fellow, RIETI) /HASUMI Ryo  (Research Assistant, RIETI / Keio University Graduate School of Business and Commerce / Japan Center for Economic Research) /NAKATA Daigo  (Fellow, RIETI)
Creation Date/NO. May 2007 07-J-019
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Abstract

As a result of the Ministry of Health, Labour and Welfare's 2004 Actuarial Valuation of Public Pension Plans and its provisional estimates released in February 2007 it became widely recognized that the stability of pension finance was heavily dependent not only on population decline but also on a number of economic performance factors, particularly investment yield.



From an economic perspective, if households act in accordance with lifecycle hypotheses, then the aging of the population structure will have a strong impact on the course of Japan's saving-investment balance, which in turn could be expected to have a significant impact on investment yield. Accordingly, in this paper we use a computable overlapping-generation model to conduct an analysis of changes in interest rates caused by demographic changes in Japan, projected over the next 100 years. The simulation shows clearly that the investment return may be depressed during the period from the 2030s to the 2060s, and that the more the fertility rate declines, the more marked that trend will become.



In addition, in the paper we apply the results derived from the simulation to a pension funding model capable of representing the existing system in Japan, in order to investigate pension finance after factoring in the impact of the population structure on interest rates. This shows that progressive population decline and aging not only have a direct adverse effect on pension finance by reducing the number of pension subscribers, but also the indirect adverse effect of lowering interest rates as aging advances. This suggests the possibility that while reserves are being built up, the return on investment will decline.