Heterogeneity of Young and Old Individuals: Macroeconomic Effects and Policy Implications

This dissertation consists of two chapters which study the macroeconomic effects and policy implications of the heterogeneity of young and old individuals, especially in the process of population aging.

The first chapter examines the effects of (heterogeneous) household sentiment on business cycles and finds its implications for fiscal policy. Empirical analyses show that individuals, especially the young, can have more pessimistic or optimistic views about the future economy than the data-generating measure. This household irrationality stems from the fact that individuals, especially the young, place more weight on recent observations when they form expectations. The life-cycle learning model incorporating the household weighting schemes demonstrates that the household sensitivity to recent observations amplifies the effects of technology shocks. However, amplification effects become less extensive as the population ages since older households have lower sensitivity to recent shocks and thus, they have less pessimistic or optimistic expectations than younger households. Simulation results also show that a 10%p increase in the old population ratio leads to about a 16% decrease in the output volatility. Moreover, this chapter provides some fiscal policy implications. First, the government spending multiplier declines about 10% when the old population ratio rises by 10%p. Furthermore, welfare analyses find that sensitive reactions to recent observations amplify the effects of government spending and improve the welfare of the population. However, their welfare from government spending deteriorates as the population ages since the amplification effects become weak in an aging society.

Also, the second chapter examines how industrial restructuring induced by population aging affects the effectiveness of monetary policy. Using the euro area panel data, I estimate that a 1%p increase in the proportion of the population 65 years or over raises (lowers) the share of the service (manufacturing) industries by 1.07%p (1.21%p). This is attributed mainly to the heterogeneous consumption patterns of the young and old. Chapter 2 also finds that identified monetary policy shocks in the euro area have less significant impacts on service industries' output than on manufacturing industries' output due to the weak cost of capital channel in the service sector. As a result, the output effects of monetary policy decrease by up to 33% as the old population ratio rises by 10%p since population aging leads to an increase in the share of the service sector. Lastly, the theoretical model that combines overlapping generations and a new Keynesian framework with two sectors provides the mechanism for a decline in the output effects of monetary policy in an aging society. That is, the cost of capital channel of monetary policy does not operate well as the population ages due to the expansion of the service industries.