In recent years politicians and thinkers in the developed world have found themselves struggling to explain three trends that have gripped advanced economies: the long-term fall in real interest rates adjusted for inflation, the fall in workers’ real wages, and the sharp rise in inequality between rich and poor.

In truth, these three trends are easy enough to understand if you take a global, rather than a national or regional view. They can all be explained by the economic rise of China. In turn, some ascribe China’s ascendance to the wise and benevolent leadership of the Communist Party. They are wrong. There is an altogether simpler explanation. At bottom, China’s growth has been driven by two powerful development impulses, which for many years Communist Party rule hindered rather than helped.

The first is clean water. The second is schooling, especially for girls. Clean water means better hygiene, which means lower infant mortality with more babies surviving to grow up and enter the workforce. Meanwhile, getting girls as well as boys into school doubles the pool of potential workers 15 years down the line.

What’s more, better educated women tend to have fewer babies, so they spend less time looking after their children and more time working. And with fewer kids to care for, they spend less of their income and save more.

The upshot, and it is a pattern that has been repeated across Asia in the last 70 years, is a powerful demographic sweet spot. An entire generation of educated workers grows up to enter the labour force, greatly increasing the economy’s output.

The everyday challenges of China's ageing population demand attention

And because there are so many of them, and because they have fewer children than their parents, the ratio of aged and infant dependents to workers plunges. As a result, the savings rate rises, providing the funds needed for productivity-enhancing investments in industry and infrastructure, giving economic growth a further boost.

This demographic sweet spot largely explains China’s rapid growth over the last four decades. But the effects were not confined to China. As China opened up to international trade, the entry into the world economy of its working-age population – as numerous as the entire working-age population of all the developed economies combined – completely changed the game for rich countries.

Such a big supply of cheap new labour going head to head in competition with advanced economy workers weighed heavily on wages in the developed world. At the same time, China’s excess savings – China’s workers and companies saved even more capital than China needed to fund its massive investment requirements – pushed down real interest rates around the world. And low real interest rates pushed up asset prices in the developed markets.

So even as ordinary workers in the US and Europe saw the real value of their wages stagnate or decline, the value of assets owned by their wealthy compatriots surged, greatly exacerbating inequalities.

So, viewed on a global scale, otherwise puzzling trends in the advanced economies can be easily explained as the effects of China’s demographic sweet spot.

Now, however, economists face a new puzzle. In the coming years China’s sweet spot will sour. As the current generation of workers ages, China’s working age population will shrink, the numbers of elderly will balloon, and dependency ratios rise steeply once again. And with China integrated into the global economy, these developments will affect the rest of the world at least as much as China’s earlier demographic trends.

Exactly what the effects will be is the subject of hot debate. Conventional wisdom dictates that as populations age, potential output falls, so interest rates tend to go down.

But according to a new paper by former Bank of England policymaker Charles Goodhart and economist Manoj Pradhan, China’s coming demographic shift is likely to reverse the big economic trends that have characterised recent years. In other words, inflation and interest rates will rise, wages will accelerate in real terms, and inequalities may narrow.

Foreign retirement home operators eye China's ageing population

As China ages and more workers retire, its savings rate will naturally fall. At the same time, its investment needs will also drop. However, Goodhart and Pradhan argue the supply of savings will fall faster than demand for investment.

Savings will fall as spending on ever more expensive healthcare accelerates. Meanwhile, investment will fall by less. That’s partly because China will still need to invest in new housing as the elderly prove reluctant to move from their existing homes to make way for the young. At the same time companies will have to invest in new labour-saving technologies as workers become increasingly scarce.

This combination will have several effects. First, China’s savings glut will dwindle, which will push up real interest rates around the world. Second, higher real interest rate will be negative for asset prices, which will erode the wealth of the world’s richest in the developed economies.

And finally, given institutional and capacity constraints, it is unlikely the growth of working age populations in India and Africa will fully offset the decline in China’s labour force. As a result, workers in the developed world will face less competition from emerging economies, so their real wages will rise, reducing income gaps.

So just as the domestic income inequalities that Western countries spend so much time fretting about were caused by demographic trends in China, in time they will be solved by the ageing of China’s population.

Tom Holland is a former SCMP staffer, who has been writing about Asian affairs for more than 20 years