Standard Life Investments

Weekly Economic Briefing

Global Overview

When I’m 64

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Corporate tax cuts are the flavour of the month, having been placed at the top of the policy agenda in the US, UK, Japan and Australia. Although revenue-neutral tax reform would have some macroeconomic benefits, the prospect of unfunded tax cuts jars with the fiscal challenges facing many economies. Debt levels in the average advanced economy have increased 37 percentage points of GDP (ppts) since 2007 and by 12ppts in emerging markets. Moreover, the proposed erosion of government tax revenues ignores a bigger ‘elephant in the room’ – ageing populations. With the number of people aged over 60 projected to double by 2050, expenditure on pensions and healthcare will increase markedly. The IMF has estimated that under current policies, spending on pensions will have to rise by 0.9% of GDP, and spending on healthcare by 2.5% of GDP by 2030 in the average advanced economy. The net present value of these outgoings by 2050 is calculated at just over 100% of current GDP. This is not just an advanced market phenomenon. Certain emerging markets face significant demographic headwinds and rising demand for public services as they grow richer. Pension spending is estimated to rise by 1.7% of GDP and healthcare by 1.1% in the average emerging market over the next 15 years. Naturally the scale of the challenge varies from country to country with the UK, Korea, New Zealand, China, Thailand, Ukraine and the Netherlands all facing large increases in expenditure.

Hard decisions will need to be made to support ‘greying’ populations. These might include a higher retirement age and more aggressive means testing. On healthcare there is scope in many countries to improve cost efficiencies. Other areas of expenditure can be targeted too. However, because it is doubtful that these long-term fiscal gaps can be entirely plugged through expenditure restraint, taxes almost certainly need to rise as well. As a result, policymakers will have to work hard to reform tax systems to ensure that revenues can be raised with a minimum of distortion. A less painful avenue is through aggressive structural reform and capital deepening to boost long-term growth, which would help lower the burden. Disappointingly, these priorities seem to be a long way from the public debate.

Growing pains