The impact of population aging on public finance in the European Union

Abstract

Population aging is a process that shapes the economic environment in most of the developed economies. Thus, understanding the dynamics between public finance and the demographic variables enables policy-makers to adapt and to ameliorate their medium-term budgetary frameworks. The aim of this paper is to examine the fiscal implications of the demographic shift using panel data on 25 EU countries in the period from 1995 until 2014. In order to qualify the findings of previous literature, this paper considers the demographic variables as endogenous and applies the system GMM estimator to obtain the elasticity of several public finance categories with respect to population aging. The results indicate significant and positive impacts of the elderly share on expenditure for pensions and social protection. The higher positive impact on overall public expenditure compared with total government revenue confirms the negative effect of population aging on budget balance. An increase in the young population has a significant impact only on health expenditure.