Sang-Hyop Lee on the middle-income trap and demographic crisis in East Asia

Dr. Sang-Hyop Lee is Professor in the Department of Economics and Director of Center for Korean Studies and at the University of Hawaii at Manoa, and Senior Fellow at the East-West Center. He is also the Asian Team Leader of the National Transfer Accounts project. His studies focus on social welfare issues and population aging. He has published numerous articles including 10 books focusing issues on fiscal policy, population aging, and labor market with emphasis on Asian economies. His recent edited books include Aging, Economic Growth, and Old-Age Security in Asia (2011, Edward Elgar), Inequality, Inclusive Growth, and Fiscal Policy in Asia (2015, Routledge), and Social Policies in an Age of Austerity (2015, Edward Elgar), and the Demographic Dividend and Population Aging in Asia and the Pacific (2016, special issue of the Journal of the Economics of Ageing). Dr. Lee received his BA and MA in economics from Seoul National University, and PhD in economics from Michigan State University. On March 27, 2017, he spoke with Caroline Willian CMC '17.

Photograph and bio courtesy of Dr. Lee.

What kinds of strains does an aging population put on society? Are there strains that you see as distinct to East Asian countries?

Children and elderly people consume much more than they produce through their labor. For example, a five-year-old girl or boy does not work at all, nor do retired people work. During adulthood, people produce through their labor. They consume as well, but they produce much more. Therefore, there should be “intergenerational resource allocation."

There are only four ways people fund their consumption. The first way is working. Children and the elderly don’t do this. The second way is relying on family and friends. This is called private transfers. The third way is relying on government. In the United States, this includes pension benefits, medicare, and medicaid. These are also called public transfers. The fourth way is relying on saving or assets.

However, most countries rely on the public sector. There are some countries, like Korea and Taiwan, where people still rely on family. But in most countries the elderly rely on government. But when the population is aging, a larger portion of the population relies on others. Who will pay these taxes? Mostly, younger people will. And who benefits? Mostly, older people benefit. This is called a pay-as-you-go system. When you are young, you pay a social security tax; but this tax actually goes to the elderly immediately. So, there is no actual saving mechanism.Hence, the first strain on society from an aging population is fiscal. The question is whether this mechanism is fiscally sustainable. Most countries rely on this pay-as-you-go social security system. The second strain is that the labor market itself is aging, so labor productivity is decreasing. 

Moreover, in East Asian and Asian countries, income security for the elderly becomes an especially big problem. Since interest rates are down, relying on savings is very difficult. Twenty years ago the elderly relied on their savings because the interest rate was so high t. These days it’s closer to one percent. So the return to this capital savings is low. The family is also a problem because young people do not want to support the elderly. They no longer live together. Twenty or thirty years ago, it was a social norm to live together and for the grown up children to take care of their grown up parents. This is not the case anymore. 

There are some subtle intergenerational equity issues. Most young people in Korea complain that there are fewer jobs than in the past. They also have to pay higher taxes than the older generation did because there are more elderly. This has become an important political issue in Korea affecting how young people vote. 

Your work describes how economic development in East Asia has created a decline in fertility rates — a phenomenon called the income trap. Can you elaborate on the income trap and what in particular has caused this?

The declining fertility rates actually are not a fertility trap. This is called a demographic dividend. Previously the fertility rate was high and mortality rate was high. Now, during the demographic transition, the fertility rate decreases and the mortality rate also decreases. So there is a window where the working population becomes large, and there are more people who produce more than they consume. Right now people are worried about population aging. But in Korea in the 1970s and 1980s, population aging was not an issue. It was the other way around because there were more young people. They enjoyed this demographic transition. But since the 1990s, the fertility rate has declined very rapidly. Korea is okay as they enjoyed this dividend in the 1970s and 1980s. Japan enjoyed it in the 1960s and 1970s, growing about 10 percent per annum. But in other Southeast Asian countries like Thailand and Vietnam, for example, they are suffering from the middle income trap. They are not rich countries; they’re still developing. Put simply, in European countries, the population grew old after it became rich. But these days, developing countries are getting old before they become rich. That’s what I’ve named the demographic-driven middle-income trap. Korea and Japan were very lucky since they were able to get rich first, but that doesn’t happen in other countries. 

Are there social reasons why the populations are aging so early in the demographic transition?

It is a global phenomenon. The primary reason for population aging is not increasing life expectancy. Life expectancy increasing contributes, but the main reason is declining fertility rates. For example, my mom had nine sisters. I have only sibling. Cultural and social norms are changing.

There is one reason why Southeast Asia is different. In Korea, the fertility rate declined so rapidly due to education costs. Taking care of children is very expensive. Previously, parents didn’t spend much on their children, but now, parents pay for very expensive private tutoring and parents can’t afford as many children. 

Turning to the experience of specific countries, how has the decline in fertility rates impacted Korea’s economy and society?

It depends on the decade. In the 1970s and 1980s, the declining fertility rate created a huge working age population, resulting in the demographic dividend. But, beginning in 1990, the fertility rate declined rapidly. So now Korea is spending billions of dollars each year to increase fertility. Korea still has intergenerational equity issues. Women can’t work after having children for a while, but in these countries, there’s often no good child care leave system. People are also reluctant to use it because it is competitive within companies. So declining fertility rates were very beneficial in the 1970s and 1980s, but this decline was very rapid since the 1990s. Also, the labor market is not favorable to women in Korea, so this decline in fertility rates is no longer favorable to society. I could list at least ten issues that stem from this. For example, why does Korea have the highest poverty rate of the elderly out of OECD countries? The elderly expected that their grown up kids would take care of them, but they’re not anymore.

So this is a conflict. Of course, young people say, “We don’t have jobs and we don’t have money. How can we take care of our parents?” But it is an intergenerational equity issue. The current elderly are upset because they spent so much money on their kids’ education, and now they have the highest elderly poverty rate of any developed country. The old people feel they are betrayed.

The young people don’t think that way though. This is a social issue: we call it a generational gap or a generational divide. The support system is changing so rapidly. What parents want and what they expect from their children is very different from what the young generation wants and expects.

Can you expand on why the educational system is so expensive?

In Korea, there are two issues. One issue is competition. The education system in Korea is very competitive. Although it is easy to go to college, getting into a good college is hard. To enter top universities, high school students study a lot. The public education cannot cover everything students need to be competitive to enter good colleges.. Therefore, after public school students go to private tutoring until 11:00pm for example, costing parents a huge amount of money. Competition is the number one problem in Korea.

Since too many young people don’t have jobs, they don’t have houses; and so, they don’t marry. When you ask young people, “Why don’t you marry?” they respond, “I cannot afford, and I don’t want my kids to become slaves.” 
In contrast to Korea, Japan has enjoyed for several decades a similar level of economic development as the United States. How does Japan fit into the narrative of the middle income trap?

It’s a timing issue. Japan’s degree of the population aging is the highest in the world, but Japan’s development is different. It became rich before it aged. Also, even though Japan has a higher degree of elderly people, the speed of aging is faster in Korea. 

What are the current social policies supporting retirees in Japan and Korea? Are these programs adequate and affordable, given the graying of the population?

Taxes have been expanding very rapidly since the late 1980s. The social security system consists of three parts, like in many countries. One part is social insurance. Another part is public assistance. The final part is the social welfare service. Social insurance includes things like accident compensation, pension, medicaid, and unemployment. These are similar to the U.S.’s insurance system. 

In Korea, there’s another public assistance program called National Basic Livelihood Security System. This is just aid. Retirees mostly rely on the national pension system and health insurance. In Korea, almost 100 percent of the people are covered by health insurance. This is true in Japan as well. The cost of health insurance in Korea is much lower than in the U.S. One difference between Japan and the Korea is long-term health care. Korea doesn’t have very good long-term health care. They’re just starting it. Korea is still in the very beginning stages of providing for people who need long-term care. Japan actually started this ten years ago. The problem is cost; this is really expensive system. So Korea is discussing whether it should just support retirees and the elderly, in terms of this health care, because Korea’s medical costs have increased ten percent per annum. 

In Japan, the system is very good. They have an employee pension system, national pension insurance. Also, 70 to 80 percent of the elderly’s consumption is financed by Japan’s government. The rest comes from savings. Family doesn’t play much of a role in Japan. In Korea, 30 percent of consumption still comes from the family, 40 percent from savings, and 30 percent from the government. The Korean pension system fully matured in 2008. It’s only been ten years, and may look different ten years from now. 

Do you foresee a change in these policies?

The policies are already changing. In Japan, there was a pension reform. They’ve also changed the proportion of benefits - the multiplier, or how much you multiply your salary by in order to determine your benefits. Korea also underwent a huge reform over the past few years. They cut the government pension by 30 percent. They increased the tax as well. But there is no revolutionary solution for population aging issues.

What are the cultural challenges that prevent Japan and Korea from successfully addressing their demographic crises?

One of the cultural challenges that many people talk about is immigration. People realize that they might solve the problem by using immigrants. But in Japan and Korea, there is national sentiment. The sentiment is that the country is one nation; they don’t want outsiders. Culturally, it’s still hard to accept immigration. Compared to countries like the U.S. and European countries, they don’t socially accept immigrants the same way.

The biggest cultural challenge, as we discussed, is education. It becomes a competition. If the neighbors’ kids are learning tae kwon do, then your kids must learn it too. Those kinds of cultural issues don’t change. I left Korea 24 years ago. The country has changed so much, but in terms of this kind of culture, it has changed less. Actually it has gotten worse. It is too bad that Japanese and Koreans submit to peer pressure too much. 

The last issue is birth. In Korea and Japan still, most births are marital births. This is not like European countries. They have to marry to have children. It is not acceptable to have children out of wedlock in Korea or Japan.

Caroline Willian CMC '17Student Journalist
Featured Image Source: "An elderly japanese man with his [granddaughter] (portrait) Nagasaki, Nagasaki Prefecture, island of Kyushu, Japan." by Mstyslav Chernov/Unframe/ — Own work. Licensed under CC BY-SA 3.0 via Wikimedia Commons —
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