Economic and environmental impacts of demographic changes in a life-cycle model

Abstract

This thesis develops a tractable life-cycle model with rich demographic details to investigate the impact of demographic changes on the macroeconomy, external imbalances, and countries' carbon emissions. In doing so, it makes two contributions to the literature. First, it offers a tractable life-cycle model that can capture demographic dividends in both the short and long runs, making it a suitable framework to incorporate into large-scale economic models used for climate policy. Second, it contributes to the climate economics literature by emphasizing the importance of using life-cycle models for long-run projections when countries are under significant demographic changes.

The thesis is comprised of three interrelated chapters. The second chapter develops a tractable life-cycle model that captures demographic dividends through three distinct channels: changing productivity with age, the time cost of children, and life-expectancy changes. It then combines this framework with an energy-dependent production function used widely within the climate economics literature to investigate the impact of demographic changes on economic growth, factor prices, and carbon emissions in the short and long run. The results show that the effects of demographic changes on emissions can significantly depend on projected fertility and mortality patterns. The annual change in economic growth due to demographic dividends may be small. Still, demographic dividends can accumulate over many years, causing significant differences in the long run, with implications for models that inform climate policy. Models that can't consider the demographic dividends due to changes in fertility and mortality may underestimate a country's baseline emissions when fertility goes down and overestimate them when fertility goes up.

The third chapter further develops the model by incorporating the consumption cost of children along with pay-as-you-go pensions and government expenditure. Using this framework, the third chapter investigates the importance of child dependency (that is, consumption and time cost of children) on the economy and external imbalances between two large countries, both during demographic changes and at steady-state. It finds that some key parameters determining factor prices in the model are endogenous to model structure. Specifically, it shows that the parameters must be chosen differently across models with and without child dependency in order to start from the same interest rate in the steady-state. Different calibration affects the magnitude of the transition dynamics of all models. These results show how important it is to use realistic OLG models to explain the past and predict the future.

The fourth chapter combines the frameworks developed in the second and third chapters by merging a two-country life-cycle model with an energy-dependent production function to investigate the sensitivity of carbon emissions baselines to alternative demographic outlooks across countries. Comparing carbon emissions mitigation efforts can be misleading if countries' baseline emissions trajectories do not account for demographic dividends and spillovers due to unsynchronized demographic changes and asymmetric institutions. Through capital flows, differences in the timing, speed, and magnitude of demographic changes can reduce the emissions baseline in one country while increasing it in another relative to the baseline with no spillovers. Furthermore, differences in institutions such as pension and social security systems amplify spillover impacts. Models that do not consider the effect of demographic changes and institutions on the economy run the risk of underestimating or overestimating countries' carbon emission reduction efforts. So, this paper suggests using life-cycle models in studies that intend to compare countries' carbon emissions mitigation efforts. It also offers a suitable modeling framework.