In 2050, nearly one in three European citizens will be 65 or older. Demographic change and population ageing is one of the greatest challenges that will affect the structure of the EU economy over the next couple of decades, through its impacts on labour markets, pensions systems and public finances.
The policy implications of this demographic evolution are profound: the proportion of people of working age in the EU will shrink at the same time as the number of those who potentially need support mechanisms, such as retirement benefits and public healthcare, expands. European societies will need to respond and adapt to this change.
The challenge varies considerably across Europe, since EU member states are at different starting points, both concerning their demographic outlook and also their labour market performance.
Assessing the relative position of EU countries according to the old-age dependency ratio – a demographic indicator that measures the proportion of people over 65 over the working-age population – shows that the best performing countries are Ireland, Slovakia, Cyprus and Poland. Old-age dependency ratio is often used to estimate the impact of demographic trends on welfare systems and, according to Eurostat projections, the average ratio in the EU is forecast to grow from 25.9% in 2010 up to 50.4% in 2050.
However, old-age dependency does not capture the fact that many people of working age are actually not working. This paper proposes a different ratio: the Labour Market Adjusted Dependency Ratio (LMADR). It calculates the proportion of people who are not in work as a proportion of the total population.
The new measure gives a different picture of EU performance: in 2010, the EU countries had a LMADR of 47.7% on average, meaning that, currently, in the EU, slightly less than half of the population is unemployed, retired or inactive for other reasons. The average LMADR in the EU would grow from to 47.7% in 2010 up to 56.3% in 2050. In 2010, the Netherlands (36.2%) and Denmark (38.5%) topped the ranking of EU countries, due to their labour market structure rather than their demographic outlook. Countries such as Sweden and Germany also presented a significant improvement of their relative position, as compared to using the old-age dependency ratio. Italy (55.4%), Hungary (55.2%) and Malta (53.8%) were the EU countries with the weakest position.
The results suggest that, in addition to demographic trends, labour market performance plays a critical role. The urgency of increasing labour market participation is recognised in the Europe 2020 Strategy, which sets the achievement of an employment rate of 75% for the 20-64 age group by 2020 as one of the five headline targets. However, since most action has to be undertaken by the Member States, it will be important to strengthen implementation of structural labour market reforms.
Effective policy actions exist. Three main areas of intervention can be identified from the analysis of the LMADR: 1. Labour market reforms are needed to achieve higher labour force participation, by involving the under-represented categories, such as women, migrants and people at risk of exclusion from the labour market. Tools directed at reducing labour market rigidities such as flexicurity measures should be supported and encouraged. 2. In addition to the increase in retirement age, the debate on pension systems reform must go further and focus on promoting labour market participation of the older cohort of the workforce. The sole increase in retirement age will not be enough to guarantee a sustainable system. Possible actions include financial incentives to continue working, flexible working arrangements, possibilities of second careers that do not penalize the accruement of pension benefits, value of pension rights linked to life-long contributions rather than final salary levels. 3. A change in attitude towards work is required. Being employed is one of the most important determinants of people’s well-being: the concept of employment as a source of identity and self-fulfillment should be promoted, giving enhanced attention to workplaces and working conditions.
Demographic trends and labour market aspects need to be considered jointly when assessing the impact of population ageing on the EU economy. A broader participation in the labour market will not only be a key driver for economic growth, fiscal sustainability and citizens’ well-being, but also the best response to the demographic challenge that Europe is facing.