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Willetts: Europe's demographic future lies on its Atlantic seaboard

Speech at launch of pamphlet 'Old Europe ?'

Despite this pamphlet's rather grim title and the even grimmer photograph on the cover, this is not another bleak account of how we can't afford our pensions because we are all living too long. Instead, it is an attempt to get beyond the financial analysis of the pension crisis to a deeper understanding of the demographic and social changes behind it. And actually I am quite optimistic that societies and economies can adjust and will carry on doing so. But what really matters is how they will adjust.

The pamphlet begins by clearing away the widespread misconception that somehow the problem is that we are all living too long. It is good news that life expectancy is improving. These are not extra years of miserable incapacity; if anything we die fitter than before. Anyway life expectancy has been improving pretty steadily for 150 years. The problem is not longevity. The problem is that there are not enough young workers coming along behind. After the baby boom of the 1950s we have had the baby bust. Europe's real demographic crisis is not longevity but birth rates.

The biggest single reason for the golden years of growth in the 1980s and 1990s was that many European countries had a surge in the number of people of working age. We have had virtually no increase in the number of pensioners in Britain for 20 years and with falling birth rates we have had fewer children to maintain as well. The population has been bunched in the middle like a rabbit in a python. That means lots of producers and consumers and not many dependents. The fundamental economic change facing Europe over the next 50 years, is that the EU will have an extra 40 million people aged over 60 and an absolute reduction of 40 million in the number of people aged 15-60. The EU Commission has shown that this change in the age composition of the EU's population will on its own reduce its underlying growth rate from 2.1% to 1.3% per annum. America faces a very different demographic prospect. It is a younger country with a higher birth rate and much more migration. Its underlying growth rate will carry on at about 2.5%. America's population will overtake Europe's in about 2030. In 2050 America's economy will be an even bigger share of the world economy than it is today - perhaps up from 23% to 26%. Europe's, by contrast, will have fallen from 18% to 10%. This is why the age composition of the population matters. By 2050 Europe will have a shrinking population, a low underlying growth, and a falling share of world output.

Of course all of this does have an effect on pensions. We used to be complacent and think that somehow Britain was uniquely blessed when it came to pensions. Such complacency is long since over. At the heart of all this is the question of how we register claims on future resources. One way you can do it is a pay-as-you-go system in which future workers pay taxes to pay benefits. This can be sustained provided that you have got enough future workers to pay the taxes. It is the interaction of a pay-as-you-go system and a shrinking workforce which is devastating.

There is a widespread misconception that somehow the Continent's problem is that they don't have enough savings. This is untrue. Continent savings are not explicitly linked to age and therefore don't count as pension assets, though many of them, especially in France, are in practice used to finance retirement. The last thing that the Continent needs is more saving. What it needs is more consumption and more borrowing.

I then look in the pamphlet at three ways in which economies can respond. One option is for us all to work more. But this is easier said than done. High employment societies are very different from low employment ones. The best way to get more people into employment is to have a diverse labour market with a whole range of different types of work as many people, such as students or disabled people or parents with young children, might not wish to work in a conventional full-time job. The regulation of the European labour market around some notion of a standard job with standard hours is the biggest single obstacle to increasing employment. Even if there were a transformation in Europe's rate of employment we would be running to stand still. The absolute fall in the number of workers is so dramatic that the EU could reach its target of a 70% employment rate and still be facing reductions in its workforce.

Migration is another way in which economies can adjust. The UK has shifted to mass migration over the past few years. Increasing migration has been explicitly used by the Treasury to justify their claims that our underlying growth rate has gone up. But even if total output grows because of migration, output per head does not. This is why our productivity performance under Gordon Brown has been so poor. Moreover, competition at the bottom of the labour market forces drives down the wages of the low paid, hence the increase in income inequality which we have seen under this Labour Government. It is also difficult to see how any major European country could absorb the number of migrants that would be needed in order to offset the big demographic changes.

There is one other option - to have more babies. Europe faces a birth-dearth. Nobody wants to force women to have more children than they wish. But we have created an environment in which people are having fewer children than they aspire to. I'm not saying that women should go back into the home. The evidence is very significant. It is the societies with the most traditional roles for women (and men) such as Italy, which have the lowest birth rate.

This is not - emphatically not - a statement that a woman's place is in the home. Nor is this about forcing people to have more children than they want. But we have created obstacles to people having as many children as they would wish. It would be absolutely wrong to take away from women the opportunities that are at last opening up for them. The fresh evidence in the pamphlet breaks down the widespread - and false - belief that somehow traditional roles for women mean a higher birth rate. The opposite is the case. It is societies where women - and men- can combine work and children that have higher birth rates. Feminism is the new natalism.

It is because European societies are so different that their demographic prospects are very different as well. The worst demographic crisis is in the South and the East. Donald Rumsfeld's 'new Europe' is even older than old Europe. Britain was doing quite well. But our birth rate has fallen in each of the past 5 years, probably because high house prices are a very powerful contraceptive. It is France which is doing best of all. In the year 2000, for the first time since the French Revolution more babies were born in France than anywhere else in Europe. Europe's demographic future lies on its Atlantic seaboard.

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