controlled for the structure of the economy and partly controlled for high public saving,<sup>15</sup> we can treat the remaining residual as a result of the special characteristics described in section II.2.<sup>16</sup> Part of the remaining residual is due to high government saving. The rest might be explained by factors including dividend policies and precautionary saving.

Looking ahead, purely on account of structural developments captured by the variables in the regressions, saving, investment and the saving-investment balance in a country like China would decline only mildly in the decades ahead. Specifically, on the basis of these regressions and our projections for the determinants (see figures 2 and 3), we would expect a fall in gross domestic saving of only a few percentage points between now and 2025, depending on exactly how rapidly industry would decline, as a share of GDP. The negative impact of a decline in the importance of industry and lower public saving is partly offset by a higher GDP per capita. A similarly modest decline would be expected for investment between now and 2025. As a result, no significant decline in the— currently high—saving-investment balance would occur. This finding is largely consistent with the results of Fehr, Jokish, and Kotlikoff (2005).

Our scenario in IV.2.3 shows a larger fall in saving and the saving-investment balance in the case of discrete policy adjustments over and above those structural developments. These possible policy adjustments include reforms on dividend policies and capital transfers, fiscal policy reforms aimed at shifting the composition of government spending from investment to current spending and lowering precautionary saving, and financial market reforms.

# **IV.2.2. A closer look at the impact of demographics in the decades ahead**

In the coming 2 decades, demographics will likely have a small net impact on China’s saving, and its impact is likely to be dominated by other factors.

China is in the middle of a demographic transition. Economic theory suggests that the demographic transition boosts saving in its early phases. Eventually, though, it should reduce saving as a larger portion of the population retires and reaches old age.<sup>17</sup> Consistent with this, empirical research finds negative effects on domestic saving of higher young age dependency ratios (YADR) and old age dependency ratios (OADR), with the impact of the latter stronger. Our otherwise preferred specification (3) does not find a statistically significant negative effect of the young age dependency ratio (YADR) on saving, at odds with expectation. It does find an expected, statistically significant negative effect of the old age dependency ratio (OADR). Our other specifications (1) and (2) find expected, statistically significant, negative effects of both dependency ratios.

> 15 We have only partly controlled for high public saving because the estimated coefficient is 0.30 instead of 1.

> 16 Interestingly, our model can explain Japan’s relatively high saving and investment in the 1970s and 1980s quite well, with positive residuals for saving of only 1-3 percentage points.

> 17 There remain, however, some uncertainties about saving behavior in later stages of the life cycle, and studies based on microeconomic data have cast some doubt on the extent to which the elderly save.

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