Incorporating Demographic Change in Multi-Country Macroeconomic Models: Some Preliminary Results

Ralph C. Bryant and Warwick J. McKibbin
Warwick McKibbin
Warwick J. McKibbin Former expert - Economic Studies, Center on Regulation and Markets, Distinguished Professor of Economics & Public Policy - Crawford School of Public Policy, The Australian National University

April 1, 2003


Demographic shifts may profoundly influence the world economy, directly in the countries
experiencing the demographic change and indirectly through changes in global trade, capital
markets, and exchange rates. Though that point is now widely acknowledged, it is much less
widely understood that existing analytical tools are inadequate for assessing the generalequilibrium
and cross-border consequences of demographic change. The research reported in this
paper takes preliminary steps to improve the required analytical tools. We build on theoretical
work by (among others) Blanchard, P. Weil, Faruqee, Laxton, and Symansky that suggests a
revised life-cycle approach to consumption and saving behavior. We use this approach to
incorporate demographic structure into open-economy empirical macroeconomic models.
Changes in birth and mortality rates are combined with an approximation of age-earning profiles
to allow demographic shifts to influence human wealth, consumption, and asset accumulation.
Our preliminary work introduces the new approach into two simplified empirical models, a tworegion
abridgement of the IMF’s MULTIMOD model and a two-region abridgement of the
McKibbin MSG3 multi-country model. This paper reports preliminary simulation results. The
stylized shock on which we initially focus is an unanticipated and transitory demographic bulge,
analogous to the “baby boom” experienced by some industrial nations several decades ago. With
the passage of time, the shock results in population aging of the type now confronting industrial
nations. One set of simulation results describes the effects when the demographic bulge occurs
simultaneously in both of the two model regions. A second set considers the consequences when
the shock occurs in one of the regions but not the other. Our preliminary findings strongly
support the conclusion that this analytical approach is promising. They also strongly confirm the
hypothesis that differences across countries in the timing and intensity of demographic shifts can
have significant effects on exchange rates and cross-border trade and capital flows.