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Longevity Is Putting Southeast Asian Economies at Risk

Professor at Kiel Institute for the World Economy

The demographic transition of Southeast Asia from aging to aged is not only under way, it has accelerated and is putting the region’s economies at risk.

Although it took about 25 years in Japan for a doubling of the share of persons aged 65 and older (from 7 percent to 14 percent) between 1970 to 1995, this timespan declined to 22 years in Thailand and just 20 years in Vietnam.

The critical factor: the lower the income, the faster is the transition. Longer life expectancy due to better access to health care, lower mortality rates and declining fertility rates impact poorer countries more than the richer ones. The most often cited implications of this transition are declining productivity, lower economic growth and growing pressure on the sustainability of pension systems. The latter is vital to prevent both an overburdening of the “sandwich generation,” which is the middle-aged segment of the population financing both the education of children and the well-being of the elderly, and a fatal intergenerational distributional conflict.

A lesser-known factor of aging is the change of demand patterns in the countries from goods to services, and within services, from business services related to investment and manufacturing to personal services related to private consumption. Except for Singapore, whose share of services in GDP of almost 74 percent in 2016 even exceeded the world average (69 percent), and the Philippines (59.5 percent), all ASEAN countries show lower services share in GDP than the average of low- and middle-income countries.

How can ASEAN countries rapidly bridge that gap between the traditional export-oriented supply structure, focusing on agricultural and manufactured goods, and a domestic market-oriented sectoral structure demanding more qualified services for a rising number of middle-income people, many of them at the brink of old age or already aged? The range of these services is wide and heterogeneous, comprising health services, housing, public infrastructure, entertainment, tourism and travel, and financial and insurance services. So is the supplier structure comprising public and private suppliers as well as foreign and domestic ones.

A Difficult Gap to Bridge

There are two challenges in bridging the gap—one of enforcing price incentives and one of the openness of markets. Price incentives for service supply would be provided by an appreciation of the real exchange rate—that is, rising prices for domestic labor relative to the world market prices for goods. That would support real income gains for the local population and an inward orientation of production acting against the traditional export focus of ASEAN economies.

Such incentives would fuel import demand and would come at the cost of many jobs in the export-oriented sectors. Yet, the real exchange rate is not a policy instrument in ASEAN as the countries have no influence on world market prices. Instead, they can promote a move toward nominal exchange rate appreciation by gradually fading out any incentives for exports. But there is an important caveat. As an inter-sectoral move of labor from the primary and manufacturing sectors to services takes much more time because of very different skill requirements as compared to an intra-sectoral shift of labor (say between employment in metal manufacturing and chemicals), ASEAN countries could be threatened by a so-called j-curve effect: losses in traditional export jobs first and gains in promising services jobs later. To mitigate the risks of a j-curve effect, price incentives can only be gradual through encouraging a smooth process of internal reallocation of resources toward inward-oriented non-tradables (the core of services).

How can ASEAN countries bridge the gap between an export-oriented and a domestic market-oriented structure?

That brings us to the second challenge—the openness of markets. Traditionally, all over the world, service markets are always less open to foreign competition than markets in manufacturing. This is because there is a wide range of non-tariff barriers against foreign supply of services (given that there are no tariffs against import of services)—these are often put in place to protect local employment in services to preserve the cultural identity of locally provided services, or to protect consumers against services produced under standards that are perceived as undercutting local standards.

This observation holds true for ASEAN, too. Neither is there free trade in services within the ASEAN economic community, nor are foreign suppliers from outside ASEAN subject to national treatment—that is, the same treatment as local competitors. Finally, ASEAN has embarked upon an ambitious consumer protection strategy plan, which leaves open whether such protection includes the principle of mutual recognition of foreign and ASEAN standards of service supply or whether foreign suppliers would have to meet ASEAN standards. The experience with consumer protection plans in other integration schemes such as the EU suggests that they are often part of some discriminatory treatment of foreign supply so that consumer protection turns into disguised protectionism.

Tricky Road Ahead

The two challenges of expanded service supply in aging ASEAN economies are still unfinished business. Export-oriented manufacturing continues to enjoy political priority over domestic-market-oriented service supply, and national service markets are still strongly protected. Unless the structural transition of economic sectors follows the demographic transition, ASEAN economies will serve the demands of their aging societies badly. They will also forego economic gains as the growth potential of high-quality services is far higher than that of export manufacturing, in which process innovation following digitization threatens to shorten supply chains and to destroy many jobs in ASEAN economies.

It is the coincidence of technological innovations being much stronger in manufacturing than in services and the demographic transition that makes sectoral transition to services an ever more urgent task for ASEAN policymakers.

Rolf J. Langhammer

Professor at Kiel Institute for the World Economy

Rolf J. Langhammer was vice-president of the Kiel Institute for the World Economy from 1997 until 2012 and professor at the Kiel Institute. He retired from the vice-presidency in 2012 but continues to work at the Institute. He has served as consultant to a number of international institutions (EU, World Bank, OECD, UNIDO, ADB), as well as to the German ministries of economic affairs and economic co-operation. He is also a member of the Scientific Advisory Council of the Federal Ministry of Economic Co-operation and Development.

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