As societies grow old, first in Japan and Europe and later in the Americas and industrialized Asia, labour productivity and hence opportunities for investment will suffer, all things being equal. The most efficient solution lies in international trade and the free movement of capital and labour across borders. But this is easier said than done, according to experts at a recent conference in Tokyo on global ageing sponsored by the Japan External Trade Organization and Washington, DC-based Centre for Strategic International Studies (CSIS).

Sylvester Schieber, vice president at Watson Wyatt, lays out the basic challenge: "How do we tap global youth to help the developed world's old?" He argues that developed economies have been pulled forward by appetites for improved living standards, and these advances have been achieved thanks to improved labour productivity, through changing labour force behaviour (i.e expanding women's role) and through the expansion of international trade. Gains since the second world war have fed an expectation that living standards will continue to improve.

But how realistic is such an expectation? Schieber notes that productivity in the United States grew 2.28% from 1995 to 2000, which is spectacular, but when the figures are broken down, over 40% of those gains are attributed to investment in computers and high tech. It is unlikely that gains in this sector û and hence in America's productivity û are sustainable.

One big reason is that relative ageing means a decline in the workforce. This is so extreme in the US that productivity must outstrip its growth rates over the past 30 years to sustain current GDP growth expectations û an alarming conclusion. Otherwise, if US productivity reverts to the lesser growth of pre-1995, then America will face a labour shortfall of 7% by 2010. And this is already happening in Japan and Germany: indeed, the shrinkage of workforces in the developed world will be a problem for the next three decades.

Furthermore, savings rates, and hence investment, will fall steeply as retirees switch from saving to consumption. Schieber argues as investment at home drops, this will help their current account balances; capital will be plentiful but any investor seeking growth will have to find it in emerging markets. This broad shift will exacerbate existing tensions in the globalized world: organised labour will continue to see capital shift out of their countries, which threatens to undermine their productivity; environmentalist concerns about capital flowing from clean to polluting economies will grow.

From this basic outlook stem two topics. First is immigration and the free flow of labour, which is an important tool to offset the problems of old populations. Anupam Khanna, chief economist at Shell International, argues that optimising labour markets will improve economic welfare, which in turn determines a society's ability to conduct pension reform.

Policy arguments in most countries, he notes, have shifted from whether to allow immigration to what kind of people to let in. Skilled workers such as Indian programmers in Silicon Valley are increasingly viewed as positive to local growth. "Immigration is not a silver bullet because the number of people required to change an age profile is too high. But it is one part of the solution because skilled immigrants can absorb capacity," he says.

Paul Hewitt, director at CSIS, adds global initiatives on trade as well as domestic welfare policies have in the past been based on fears of unemployment. Nafta, for example, was sold by the US administration as promoting new jobs. "Now tight labour markets will be driving policy," he says. "Going forward a great source of crisis will be labour shortages. The US is now experiencing its first-ever full-employment recession." Capital will naturally flee such situations, further hurting growth.

Political success now will not be based on job creation or protecting low-wage jobs, but on higher salaries amid a shrinking consumer base, which can only be achieved by productivity growth, Hewitt argues. Selective immigration can return the increase on education in some countries û after all, those Indian software programmers were taught on New Delhi's budget û and provide remittances in return, while also allowing OECD natives to retain good jobs. The main drawback will be in those emerging markets with few opportunities, where the young flee and leave behind only the old and the poor, as is happening in many parts of Central and Eastern Europe.

Germany is one country at the forefront of ageing, and it shows the limits of immigration û it allows in six times as many immigrants as the US as a proportion of population. But other countries have not opened their doors at all, and in the case of Japan, this is a fatal mistake. Now, politically the numbers of immigrants Japan needs to protect productivity levels makes it clear that immigration is not a panacea, says Hiroaki Fuji, president of the Japan Foundation.

He says Japan would need over 10 million foreign workers over the next 20 years to achieve that û a tenfold increase. It will have to make better use of its elderly and women in the workforce. But at the same time, Japan must start looking to import skilled workers. "'Small and beautiful Japan' must become 'diverse and beautiful Japan'," he argues.

The second area of debate about globalisation's potential benefits on the problems of ageing concerns the flow of capital. Hewitt notes that the shift of capital from high-growth markets is crucial, but it only works if there is a shared infrastructure of values and laws in both rich investing countries and emerging market destinations. "This will become the main area of diplomatic dialogue," he says.

Kenneth Courtis, vice chairman of Goldman Sachs Asia, says, "If emerging markets do not learn the lessons of the OECD countries regarding pensions, it will be a great failure of globalisation." He notes many emerging markets, particularly in Asia, face critical decisions about their pension systems, which will have a huge impact on their prospects for economic growth. He urges markets such as China to eschew ubiquitous pay-as-you-go systems.

Otherwise their urban labour forces, which are also on target to start rapid ageing in the near future, will create the same problems with which Japan must now grapple. He says emerging markets must implement fully funded, reserve capitalized systems instead. Such a move would also create domestic, long-term pools of investment that will catalyse the growth of local capital markets.

For now, however, emerging market investment is a dream. These markets are far too risky, says Maria Livanos Cattaui, secretary general at the International Chamber of Commerce. Corruption, red tape and other problems make many emerging markets an inhospitable environment for Western or Japanese savings. This is a great pity, she says, because it is precisely these markets, particularly in Africa, that so badly need this capital.

She says the only way out is for emerging market governments to encourage more foreign direct investment, which can act as a stimulus to local competition and teach investor-friendly policies. Local governments that continue foreign investor-friendly reforms will find over time an abundance of long-term capital.

Courtis is less impressed with the power of FDI. He notes even in China, which received nearly $44 billion in FDI last year (versus about $1 billion for India), this represents only 8% of GDP. "The key is mobilizing internal long-term resources," he says.

For emerging markets, both attracting FDI and building sustainable pension funds and capital markets is crucial to winning investment û that is nothing new. What is new is that these will become far more important issues to the West and Japan. Immigration can be a help to solving labour productivity problems, but the only way for them to sustain the growth in living standards for future generations will also have to rely on the free and safe movement of capital.

This means that these governments can be expected to apply further pressure on emerging markets to improve corporate governance and cut red tape. Emerging markets today in many cases will not face the pressures of ageing for decades, but these pressures will surely come, particularly to their urban populations. The ones that prepare today can avoid a Japan-like scenario. And for others such as China, ageing begins much sooner. It must make itself as attractive and safe for Western and Japanese savings as possible û quickly.

The final article in this series will look into the future and see how ageing will shape international finance over the next two decades, and what kind of structural reforms are required of ageing societies, particularly Japan.