Most experts, including the Japanese government and the UN, estimate that Japan's population (currently 127 million) will peak by 2007, and then fall steadily to 100 million by 2050. An ageing population with a declining growth rate has some dire implications for Japan's long-term economic growth, and is thus negative for investing in Japan.
However, a detailed analysis of the population age distribution and factors behind the declining population growth trend shows a somewhat benign and counter-intuitive, medium-term outlook (in the next 30 years) before the dire long-term outcome plays out (in over 30 years' time). In particular, Japan's overall labour pool will rise, due to rising participation rate by the females.
Contrary to the current trends, overall consumption and savings may rise. Females' earnings and, hence, their consumption power will rise. Consumer spending patterns will change towards high-quality services.
Nevertheless, the dire long-term impact of a shrinking and ageing population is set in stone. This should force the government to take new, and perhaps unprecedented, policy initiatives to address the problem. These could include relaxation of immigration laws and measures to improve the framework for working females to have children.
The change in the household composition and in the consumption pattern and the rise in female economic power will have implications on the performance of different asset classes in the market.
The ageing problem
The population will be stable if the so-called replacement rate is at 2.1, meaning that every female produces 2.1 children in her lifetime. The figure (with the decimal point) takes into account the fact that slightly more male than female babies are born, and not all women survive to their full child-bearing age. If the fertility rate is higher than 2.1, the population is rising.
Japan's fertility rate has fallen below 2.1 since the 1970s, and is now at only 1.29. The government estimates that Japan's fertility will stabilise at about 1.3 in the next 45 years, but other estimates see Japan's fertility rate fall towards 1.
Whoever is right, Japan's population is still going to decline. The problem stems from falling birth rates, lower marriage rates on the back of higher divorce rates, and late marriage.
The overall birth rate of Japanese women in their child-bearing age (15-44 years old) has been falling since 1990. This means that Japanese women are giving birth to fewer children.
More crucially, the fall in the birth rates of women in the main child-bearing ages between 20 and 34 years old has far outstripped the increase in other age groups, according to government data. And the key reasons for the drop in the fertility rate are lower marriage rates and higher divorce rates, with an increasing number of divorced women not remarried.
The overall marriage rate has been falling since the 1970s. In particular, marriage rates for young women (20-29 years old) have been falling fast, outpacing the rise in the marriage rates for older women (over 29 years old). This reflects the fact that Japanese women are delaying marriage for working, with data showing that the falling marriage rate is accompanied by a rising female labour force (see chart).
Meanwhile, the divorce rate has climbed sharply, from less than 1% in 1970 to almost 5% for the 20-24 year-olds and over 6% for the 15-19 year-olds in recent years. The negative impact on fertility rate is mainly due to the fact that more divorced women are not re-married. This can be seen in the sharp jump in the divorce women-to-married women ratio. The main damage comes from the ratio for the main child-bearing age groups (20-34 years old), which has jumped from 2.6% in 1970 to almost 8% now.
Empirical studies show that the falling fertility rate of married women is positively correlated with late marriage. Over the past 35 years, a one-year rise in the average marriage age reduced fertility rate by 0.26 children. With the average marriage age rising by 3.4 years since 1970, just late marriage alone is estimated to have reduced the fertility rate by 0.88 (or 39% from 2.25 in 1970).
Declining fertility and death rates combined to make Japan's population shrinking and ageing. There are no signs of reversal for these long-term trends. But there still could be some bright spots for the medium-term.
Not so bad in the medium-term
Contrary to the conventional wisdom that Japan's shrinking and ageing population will translate to declining income and savings, labour discretionary earnings and savings could rise in the medium-term. This is because the dependency ratio will fall.
The dependency ratio is the non-working population (those between 0-14 and over 65 years old) divided by the working population (age between 15 and 64). Since the working population has to support both the youngs and the olds, the ratio measures the burden imposed by the non-working groups on the workers.
Japan's declining birth rate will certainly reduce her population growth in the long-term. But it will also lower her dependency ratio in the short- to medium-term. Japan's population dynamics show that the decline in the number of children will more than offset the rise in the old population. The children's decline will also exceed the fall in the labour force in the next 35 years. These forces will reduce the numerator more than the denominator, resulting in a fall in the overall dependency ratio.
With a smaller burden to support the non-working population, workers' discretionary income and savings will rise. Of course, the problem of supporting an ageing population still remains over the long-term, when the smaller pool of children reaches working age.
Though Japan's labour force will shrink over the long-term, the rise in female participation in the labour force will offset somewhat the negative impact of a declining labour force on income and demand growth in the medium-term. The rise in the female labour participation rate is the most notable in the 25-34 years old groups, which has risen by an average of over 20 percentage points since the mid-1970s (from about 40% of the labour force in 1975 to over 60% now). This compares with the overall female participation rate, which has risen by less than 5 percentage points. This rise in female labour participation rate helps explain the fall in the marriage and birth rates.
Higher female participation in the labour force will raise the labour pool by mobilising the un-utilised female labour. This will, in turn, offset the gradual contraction in the labour force. If the rise in female labour participation outpaces the natural contraction of the labour force, overall income and demand growth would rise. Meanwhile, with more un-utilised female labour to be employed in the coming years, women's spending power will rise.
Change in demand pattern
With more females choosing a career over a family and declining marriage and fertility rates, Japan's household composition will shift towards smaller size. According to government estimates, the average family size will fall to 2.4 persons by 2020 from 2.6 today. The share of typical households with parents and children will fall to 35% from 40% in 2000 (when the last census was conducted). Meanwhile, the share of single-person households will rise to 33% of all households from 28%.
With fewer children, consumption pattern will shift to facilities catering for adults and the old-aged. This means increasing demand for services, like entertainment, travel/tourism, wealth management and banking, health care, and elderly facilities.
Nevertheless, spending per child will rise, as characterised by China's experience since the adoption of the "one-child" policy in 1979. In China's one-child society, each family has 4 grand-parents from the 2 parents who only have one child. The "golden child" has been treated with the best of what the family can afford. Money will be spent on buying quality rather than quantity. This also means more demand for services, like tuition and other educational and recreational services. This development has been unfolding in Japan, but demand for the high quality services for children will rise further. The overall consumption pattern will shift towards more and more services, especially high quality services.
What will the government do?
A shrinking and ageing population adds burden to the working population and aggravates the government's fiscal deficit, cutting into the country's growth and living standard over the long-term. Tokyo needs to address these problems soon. It may even employ unprecedented measures to reverse the dire population trends, including immigration and changing the institutional framework for working women to have children.
Tokyo has always resisted the idea of letting in foreigners, due to a strong preference for homogeneity to build an integrated society. But as the negative impact of an ageing population becomes imminent, Tokyo will likely relax immigration laws as the quickest way to address the population problem. Through immigration, the labour force will expand, boosting GDP growth, raising the ability of the workforce to sustain the ageing population and increasing tax intake, thus helping to cut the budget deficit.
Japan's framework for working mothers has been extremely unfavourable. There are inadequate childcare facilities. There is a long waiting list for building childcare centres, estimated at 24,000 units, mostly in large urban cities despite the declining birth rate. Meanwhile, households are taxed without sufficient child benefits. Legal support for pregnant and working mothers is inadequate. The corporates' long-working hours and disliking about taking long holidays, including maternity leave, are also discoursing working mothers. All this will have to change to boost birth rate.
Thus, new laws to help working mothers have to be enacted, more childcare centres are needed, tax incentives to have babies have to be raised and friendlier working practices for working mothers are needed. Unfortunately, the recent measures to raise taxes and pension contributions to address the fiscal deficit and pension liability problems act to discourage people to have babies. The long time lag for changing the legal and institutional frameworks to raise the birth rate suggests that Tokyo will likely have to resort to immigration as a stop-gap measure to halt the deteriorating population trend.
Market implications
Contrary to the poor long-term outlook for Japan stemming from her declining population, higher discretionary income and savings, due to the falling dependency ratio, will provide a medium-term support for her asset market.
Shrinking household size and the rapid growth of "dual-role" households, which include husband-wife two-person households, single-parent households and single-person households (all of which have grown by over 100% since 1975, versus the 5% growth rate for typical nuclear households with husband, wife and children) points to a preference to urban living. Hence residential properties of smaller size, with facilities catering for adults and the old-aged will see rising demand in the medium-term. Retail properties, especially in the high-end of the market, will benefit from the rising spending power of women.
Given all this medium-term support, Japan's property stocks, including the J-REITs (or Japan real estate investment trusts), will probably out-perform the broader market in the coming years. Retail stocks with exposure to the upscale market should also do well, as the female economic power continues to unfold.
Last but not least, with the consumption pattern shifting to services, Tokyo is likely to continue to attract population from other parts of the country, due to its service-based economy and leading position as an economic engine in the country.
Chi Lo, an Economic strategist based in Hong Kong, is author of "The Misunderstood China, Uncovering the Truth Behind the Bamboo Curtain" Pearson Prentice Hall 2004.
