The
challenge for India
Do new initiatives go far enough?
By:
Robert Palacios
Insights 42,
June 2002
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.
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