The rising share of older people will put significant pressure on Social Security and Medicare in the U.S., which are structured as pay-as-you-go programs, with current workers providing support for current retirees. Other developed countries’ government pension and healthcare funds will also be stressed. Projected longer-run fiscal imbalances are unlikely to be sustainable, and it seems likely that governments will need to respond with some combination of increased borrowing, reduced benefits, increased taxes, program restructuring, and policies intended to stem the growth rate of healthcare costs. Longer-run fiscal sustainability will depend on what combination is used, and how effective the actions are.
According to CBO projections, under current policy, the federal deficit as a share of GDP will more than triple over the next 30 years, from 2.9 percent in 2017 to 9.8 percent in 2047.35 During this time period, outlays for Social Security and Medicare are projected to rise from 8 percent to 12.4 percent of GDP. As a result, the federal debt-to-GDP ratio rises dramatically, from 77 percent in 2017 to 150 percent in 2047. This increase dwarfs the run-up in debt to fund World War II. The extent to which such an increase, per se, will crowd-out productive investments and lower economic growth is debatable. But the sovereign debt crisis in Europe over 2009-2012 shows that high debt levels can pose severe problems if investors lose faith in the ability of governments to service their debts, generating spikes in what had previously been viewed as risk-free rates.
If financing the funding shortfall through increased government borrowing is undesirable, raising taxes and reducing benefits or other expenditures are not very appealing either. Depending on how such policies are implemented, they could ultimately hurt the economy’s longer-run growth prospects, leaving the fiscal outlook even worse. Moreover, in a world where countercyclical fiscal policy is constrained, business cycle volatility could rise, and monetary policy could find itself near the zero lower bound more often, potentially requiring the use of nontraditional policy tools such as asset purchases and forward guidance in order to meet monetary policymakers’ economic objectives.
More effective policies to overcome the effects of the aging population on fiscal imbalances would focus on reducing the rising costs of healthcare, not just on health insurance. In addition, policies that increase the growth and productivity of the workforce would address not only fiscal imbalances but the downward pressure on longer-run growth from demographics or other sources. Policies that increase immigration, not reduce it, that support continuing education, that encourage R&D and innovation, and that provide incentives so people work longer should receive attention.
