How Do Nations Choose “Demographic Winter”? Is America Doing So?

Published August 11, 2009

World Congress of Families

To watch a video of the complete panel on “Family and Demography,” please click here.

I’m honored to address the Fifth World Congress of Families in Amsterdam. In our panel on “Family and Demography,” I will try to answer two important questions: First, how do nations choose “demographic winter”? Second, is the United States now doing so? I will update the model of fertility I presented at the last World Congress of Families, to explain why the recipe for “demographic winter” is the same combination of legal abortion and high social benefits now advocated by President Barack Obama and a majority in Congress. If the share of social benefits in national income doubles as now projected, U.S. “demographic exceptionalism” will end, as the birth rate drops from 2.1 to less than 1.7. Yet fertility would rise and above the replacement rate, not only in the United States but also most other countries, by ending legal abortion.

To understand the reasons, we must begin by recalling two highly significant features of family economics, which were first pointed out by Aristotle and St. Augustine.

Aristotle. Aristotle’s definition of man as a “rational” and “political animal” is well known. Indeed, these insights remain central to modern social science 23 centuries later, e.g. the World Values Survey. Yet the rest of Aristotle’s definition is curiously omitted: “man and wife…are [even] more inclined by nature to conjugal than political society.” This is why wealth takes two forms: people and property — or as University of Chicago economist Theodore W. Schultz called them, “human and nonhuman capital.” Both are “reproducible”; both may be tangible or intangible (e.g. our bodies vs. our education, a machine vs. a patent); both require maintenance to remain productive; and both depreciate in use. Labor compensation is the return on previous investment in people, while property compensation is the return on previous investment in property.

Yet there is an important difference: the rate of return on property is the same for everyone in a competitive market. But the rate of return on investment in people varies inversely with the age of the person. For example, the real rate of return on college tuition at age 20 was about 16 percent recently in the U.S while the stock market’s long-term average is 6 to 7 percent. But after about age 40, the return on further education fell below the rate in the stock market, and after age 50 turned increasingly negative. This accounts for the pattern of lifetime earnings in the following chart:

Labor compensation starts at zero during childhood, while we spend time learning valuable skills; but it rises rapidly between childhood and the mid-30s as we enter and gain experience in the labor market; then rises more slowly to peak at around age 50; and finally drops to zero. Property income also starts near zero early in life (for those with little inherited property), but becomes increasingly significant as the expected rate of return on investment in human capital falls below that on investment in property. And for those who acquire significant wealth from any source — whether inheritance, talent, luck, or hard work — the only practical way to save it is in the form of claims on property (stocks, bonds, etc.).

Augustine. The large differences between total income and consumption in each phase of life reveal the other essential but neglected feature of family economics: the central role of gifts. “Human society is knit together by transactions of giving and receiving,” Augustine noted. But these outwardly similar transactions are of two essentially different kinds, he added: “sale or gift.”

Family members acquire their incomes mostly by selling services or products to those outside the family. But within the family transactions are mostly gifts, not exchanges. We all need to be fed, clothed, sheltered, and transported, whether or not we earn income. Our income therefore typically exceeds consumption during active parenthood and the “empty nest” (after the children have left home); while consumption exceeds income during childhood and old age. These differences reflect extensive gifts, not only from parents to dependent children, but also between husbands and wives, and later from adult children to aged parents.

The retirement gap. Even with modern private capital markets, an inherent “retirement gap” arises from the fact that for anyone to retire, labor compensation must fall to zero, yet consumption ordinarily remains higher than the property income that could result from earlier saving of stocks and bonds. The “retirement problem” is how to fill this gap without either forgoing retirement, suffering a sharp fall in consumption during retirement, or lowering one’s total lifetime earnings and consumption (which would result if early in life one invested more in lower-yielding productive property and less in higher-yielding human capital).

Positive and negative impact of government retirement pensions. Without government social benefits, the retirement gap could be bridged only by a gift from someone (most often one’s adult children) whose own consumption is thereby reduced. Pay-as-you-go Social Security went a long way toward solving the retirement problem by providing an asset that private financial markets cannot. Starting a well-designed pay-as-you-go system therefore typically boosts the birth rate: for example, the American Baby Boom. However, once benefits have closed the retirement gap, any further expansion must come at the expense of smaller investment in people or productive property.

“Neoscholastic” fertility model. What I call “neoscholastic” economics differs from neoclassical economics, then, by recognizing gifts as well as exchanges. This also makes it much more accurate. Just four factors explain most variation in birth rates among the 50 countries for which sufficient data are available (comprising only about one-quarter of all countries, but two thirds of world population). The birth rate is strongly and about equally inversely proportional to per capita social benefits and per capita national saving (both adjusted for differences in purchasing power), which represent provision by current adults for their own well-being.

When these other factors are taken into account, a legacy of totalitarian government is also highly significant in reducing the birth rate, by about 0.6 children per couple.

Finally, the birth rate is strongly and positively related to the rate of weekly worship. This is because all gifts of scarce resources — whether rearing a child or devoting time to worship — require the same lowering of self and raising of others in our scale of preferences for persons.

But regular worship is not only positively related to fertility in a roughly linear fashion. It is also inversely related to the incidence of abortion, which (like crime in general) rises exponentially as the rate of worship declines.

There are four main reasons, then, for “demographic winter,” in order of importance: First, low rates of religious observance, which are associated with low birth rates and high incidence of abortion; second, social benefits so high as to displace gifts within the family, particularly the gift of life; third, legacies of totalitarianism; and finally, finally, heavy reliance on so-called “consumption” taxes, which penalize investment in “human capital.”

American demographic exceptionalism? So far, the United States has avoided “demographic winter.” One respected demographer, Nicholas Eberstadt, has argued that “U.S. demographic exceptionalism is not only here today; it will be here tomorrow, as well.” The Social Security Trustees’ “Intermediate Assumptions” similarly assume “demographic exceptionalism” will continue.

However, my own analysis contradicts this conclusion. First, as I showed in a paper published back in 2000, projected Social Security imbalances are entirely due to the reduction in population resulting from legal abortion.

Second, the Congressional Budget Office (CBO) now projects that the share of American national income absorbed by social benefits (mostly Social Security, Medicare, and Medicaid) will roughly double over the next 75 years. CBO also estimates that the expansion of these programs now proposed will worsen the problem considerably.

The basic choice. The United States therefore faces a clear choice. It can have legal abortion or a balanced social insurance system, but not both. If the share of social benefits doubles while legal abortion continues, the empirical relationships I have outlined strongly suggest that the U.S. birth rate will decline steadily from the current 2.1 replacement rate to less than 1.7 (Column 1). That would closely approximate the “High-Cost” assumptions in the Social Security Trustees’ latest report (Column 5).

Thus to avoid American “demographic winter,” rather than doubling, U.S. social benefits must not be permitted to increase at all as a share of national income. (For many European countries, achieving the same result would require a decline in the share of national income devoted to social benefits.) This would require two basic changes in fiscal policy.

Income tax reform. First, the cost of current consumption of public goods like defense and justice, which benefit all classes of taxpayers about equally, should be balanced with an income tax levied equally on labor and property income at the lowest possible rate.

Reform of social benefits. Second, “quasi-public goods” targeted more narrowly to workers or proprietors must be financed by current taxes on labor or property income respectively. This means each social benefit program must be balanced with current payroll taxes at a level calibrated to prevent the birth rate from falling below the replacement rate. Since the United States is now at the replacement rate, this means that rather than doubling, U.S. social benefits must not be permitted to increase at all as a share of national income. (For many European countries, achieving the same result would require a decline in the share of national income devoted to social benefits.)

The U.S. Social Security retirement system is easier to balance, because the program has an inherent link between benefits and prior contributions. Balancing the Medicare and Medicaid health insurance programs is much harder, because unlike Social Security, these programs never had such an automatic link, which would therefore need to be introduced.

Ending legal abortion. By far the easiest way for the United States to avoid a declining population and an unbalanced social insurance system is to end legal abortion. In that case, the U.S. birth rate would rise immediately to about 2.75 and instead of falling below 1.7, remain above the replacement rate through 2083 (Column 2). This would match or exceeding the Social Security Administration Trustees’ “Low-Cost” assumptions (Column 4).

In this respect, America is not a demographic exception, either now or in the future. What will be true of the United States in the future is true already of the rest of the world. Weighting each country equally (e.g. Holland equals China) the most recent Total Fertility Rate for all 50 countries I studied is 1.83; without legal abortion it would be 2.29. Weighted by population, the TFR of all countries is now 2.15 (India is higher, China lower); without abortion the world TFR would be about 2.70.

To conclude, the bad news is that “demographic winter” results from poor policy choices, and the current administration and Congress of the United States appear intent on repeating the combination of legal abortion and high social benefits that was the recipe for “demographic winter” in developed Europe and Asia. The good news is that, precisely because it is a choice, there is nothing inevitable about the outcome. It is quite possible that the United States, having avoided demographic winter so far, will choose it now. But it is also possible for both the United States and most other nations now suffering “demographic winter” to choose a new springtime for the family.

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