The challenge for India
Do new initiatives go far enough?
In the past 50 years, policymakers in India have made precious little
progress towards providing a viable alternative to the family as the main
source of income security for the elderly. Will recent government initiatives
help India navigate its demographic transition in the 21st Century?
Although India's population is young, in the last three decades life
expectancy upon reaching age 60 has risen by 15% and fertility rates have
halved. The ratio of elderly to working-age people is expected to double
in the next 30 years. Yet, as noted in a recent World Bank report entitled,
'India: The Challenge of Old Age Income Security', only 1 in 10 Indian
workers participates in a pension scheme. There are two main types of
pension schemes - a defined benefit pension scheme for civil servants
and those administered by the Employees' Provident Fund Organization (EPFO).
Both appear to be unsustainable in their current form.
Cost of security
The civil servants' scheme operates much as it did prior to independence
and continues to be financed directly from the budget. Because there are
many more pensioners today and they are living longer, the government's
pension bill in 2000 was more than 1% of the GDP, or 15% of revenues.
Established in 1952, the Employees' Provident Fund was gradually extended
from 5 to 179 industries. Nevertheless, labour force coverage has barely
risen - from 1% to 5%. High rates of withdrawal from account balances,
a fixed retirement age and investment returns below income growth combine
to produce inadequate balances at retirement. Since 1995, part of the
provident fund has been converted to a defined benefit scheme, but projections
show that unless the real value of benefits is cut, the scheme is not
sustainable.
A social assistance scheme that provides cash transfers to the poor elderly
was introduced at the state level in the 1960s and 1970s and at the national
level in 1996. There is almost no information available on poverty among
the elderly and little evidence of the impact of these meagre cash transfers.
However, several studies have raised concerns about targeting, administrative
efficiency and even corruption.
Growing deficit
The World Bank study highlighted the adverse effects of the pension system
on the rest of the economy. The growing fiscal burden of the civil service
scheme threatens to 'crowd out' financing of other programmes and to add
to India's burgeoning deficit. The EPFO helps to finance this deficit
by investing exclusively in government-guaranteed debt but, as a result,
deprives the economy of an important source of long-term finance. The
perception that mandated contributions are largely a tax on labour encourages
informal sector activity.
In March 2001 the Indian Government announced changes, including the
introduction of a contributory scheme for civil servants and a new scheme
to cover informal sector workers. Progress has been slow, however, and
specific plans have not been formulated. In the meantime, there are no
plans to reform the EPFO schemes and voluntary, private pensions continue
to develop in a regulatory vacuum.
The World Bank study views these distinct areas as interrelated. Old
age support should be based on programmes that provide secure income-smoothing
mechanisms for workers who can save for old age, and poverty alleviation
programmes for those who cannot. Achieving these objectives implies, among
other things:
- rationalising the defined benefit elements of the formal sector schemes
through changes to benefit formulae and retirement ages
- shifting defined contribution plans to private management investing
in a diversified portfolio with appropriate supervision
- increasing funding of social assistance schemes targeted to the elderly
subject to verifiable effectiveness.
Robert Palacios
The World Bank
1818 High Street NW
Washington
DC 20433
USA
T +1 (0)202-473-9787
Rpalacios@worldbank.org
See also
www.worldbank.org/pensions
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