China's Northeast Points Way to Pension Reform

By Tamora Vidaillet

China

March 12, 2006

 
Greying Li Xianglin has tended the rusting machines of his run-down car parts factory for 14 years. He is looking forward to the day he can put his feet up.

Thanks to pension reforms being piloted in northeast China , Li says his retirement is more secure than ever, even though his state-owned firm no longer provides cradle-to-grave welfare and has shed half its workforce in the past year.

"When I retire, I‘ll be comfortable," the 52-year-old said. "I‘ll be able to go to the shops and pick what I have for dinner," he said as he recalled bitter years in the 1960s when even food was scarce.

Only when people feel their old age is provided for will they be confident enough to spend more and save less, restoring balance to an economy over-reliant on exports and investment.

Stitching together a pension system that pays for itself and gives retirees enough to live on is also needed to defuse a ticking timebomb in China‘s finances and to nip in the bud any discontent among a rapidly aging population.

Li has held an individual account since Beijing in 1997 embarked on reforms of its public pension system, which the Organization for Economic Cooperation and Development (OECD) says covers just 14 percent of the active population.

To complement the basic flat-rate pension, Beijing introduced a second pillar that provides a pension varying according to contributions paid into individual accounts.

But until the Northeast pilot scheme ring fenced them, those contributions were diverted to pay current pensioners.

"Now I know my six percent contribution doesn‘t move, which gives me more security," said Li, who earns 900 yuan a month.

The pensions experiment began in Liaoning province in 2001 and was extended in 2004 to the neighboring rust-belt provinces of Heilongjiang and Jilin .

Now that the schemes have achieved a degree of success, plans are in place to spread them to eight more provinces this year.

In Changchun‘s gleaming new social security headquarters, where laid-off workers scan job ads on computer screens, officials are gearing up to host a meeting of 1,300 managers from across China to kick-start the initiative.

"They will come and learn about our social security reforms," said Zang Zhong Sheng, who heads Jilin‘s bureau of labor and social security. "Our reforms have not only benefited the province but the whole country."

Some 3.2 million, or 90 percent, of Jilin‘s urban workers are covered by the new urban scheme, he said.

The problem facing any country choosing to switch from a pay-as-you-go regime, where today’s taxpayers pay for today‘s pensioners, is how to fund the transition to a system of personal accounts where funds are invested in bonds and shares and drawn down in old age.

The International Monetary Fund reckoned the minimal cost in 2003 of shifting to a viable pension system was 7 percent of national income, now about $160 billion, but said it could be much higher. That figure, moreover, did not cover the unknown pension liabilities of local governments.

Yet sticking to the current system may spell financial ruin. The World Bank has estimated China‘s so-called implicit pension debt -- benefits paid to today‘s pensioners and the pension rights of current workers -- at 141 percent of national income.

And China is aging so quickly that a solution is urgent.

Growth in the working age population will slow around 2010 and its ranks of over-65s will have quadrupled by 2050. By that time, every 10 adults will be supporting 7 children or pensioners, up from 4 today, according to Goldman Sachs.

"There is a small window of opportunity of one to two decades -- the demographic dividend period -- in which you can start accumulating funds," said Yu Xiaoqing, a pensions specialist with the World Bank in Beijing .

Delay would only widen the funding gap between contributions and payouts. "If they don‘t use this window, the system is going to be even harder to sustain," Yu said.

That makes the experiments in the Northeast crucial.

But individual accounts will work only if the money can be invested in assets that yield a lot more than bank deposits. For now, such instruments are few and far between in China .

"Should the government step up the pace? It depends on how the money can be managed and parallel financial reforms," Yu said.