Can an ageing workforce explain low inflation?

BIS Working Papers  |  No 776  | 
20 March 2019



How do we explain low inflation? Inflation has remained low in many advanced economies in spite of declining unemployment rates and steady increases in employment. At the same time, the workforce is ageing. Baby boomers are working longer than their parents. Over the last 15 years, the proportion of people aged 55 to 64 who work has increased from 33% to 55% on average across the Organisation of Economic Co-operation and Development countries. In Germany, it increased from 40% to 70%. We look at how this ageing may affect wage inflation.


This is the first paper to analyse the channels through which an increase in the labour supply by older workers could impact wages. A first channel is the relative wages of old and young workers. As wages typically increase with seniority, a higher proportion of older worker should lift wages overall. A second channel is that older workers' willingness to keep working increases the supply of workers and reduces the equilibrium wage. We estimate the net effects of workers ageing on wages both in panels of countries and in a panel of 200 European regions.


We find that, over the last 20 years, the ageing of the workforce has reduced wage inflation. This result holds true across all the economies we tested, from the G7 advanced economies to small European regions. But the effects are small, perhaps because we estimate the net effects of two channels that work in opposite directions. 

We also find that unemployment has a large impact on wage inflation: "Reducing the unemployment rate by 1% increases wage inflation by 0.45% in G7 countries and 0.25% in euro area countries". These effects, which are highly statistically significant, have declined since 2010 in the G7 panel estimates but not in the euro area countries. 

In view of these estimates, the current situation of low wage inflation and low unemployment implies that the unemployment rate gives only a partial picture of the amount of slack in the labour market.



Why is wage inflation so weak in spite of the recent sharp reduction in unemployment? We show that this may be due to an ongoing change in the composition of the labor supply. Indeed, the participation rate of workers aged between 55 and 64 has increased steadily over the last decade, from a third to above a half on average across OECD countries. This is most likely the consequence of ageing and the reform of pensions. We show that the participation rate of workers aged 55 to 64 contributes to explain why wage inflation has remained weak over the last five years. Our second result is that Phillips curves are alive and well. When exploiting the cross-country variance of the data, wage inflation remains highly responsive to domestic unemployment rates, including after the Great Recession. 

JEL classification: E5, J3

Keywords: low inflation, ageing economy, Phillips curve