China’s Ad-Hoc Pension System to Get Simpler

China’s Ad-Hoc Pension System to Get Simpler

(Photo by Giulio M)


In late December 2014 China’s government announced its intention to merge two of its pension systems together and eliminate policies that favor civil servants over other employees. The move will simplify China’s complex pension system, currently plagued by excessive fragmentation. Under the current system, civil servants do not need to contribute to the pension fund and can receive as much as 90% of their pre-retirement salary. Urban employees, in contrast, must contribute a large portion of their income to the fund and receive relatively low benefits upon retirement. By moving millions of civil servants into the Urban Employee Pension Scheme, China will begin consolidation of its complex pension system. Currently, China has four pension systems, covering urban employees, rural inhabitants, civil servants and unemployed urban residents respectively. The move also seeks to alleviate wealth inequality, ease social tension, and better stabilise China’s pension system for a coming wave of retirees.

Prior to the start of China’s reform and opening up period in 1979, pensions and other kinds of social welfare were handled by State-Owned Enterprises (SOEs) and an individual’s work unit. As many SOEs entered the competitive marketplace in the 1980s and 1990s, they lost government subsidies that used to fund welfare for their employees. The result was a gradual collapse in the “iron rice bowl” social welfare system.In the early 1990s, an attempt to mitigate the crisis was made. The government established local social security bureaus and required local officials to collect and pool SOE pension contributions. Pooling eased the burden on SOES and allowed workers some limited pension portability as they could now change jobs without losing their pension, provided they still worked for an SOE within the same local government distict. These pension fund pools would later form the basis of China’s current basic pension system.

The government took another stab at pension reform in 1997. The urban employee pension system extended pensions to those working for private enterprises but scaled back benefits for new retirees, who went from receiving 80% of their pre-retirement salary to just 60%. Employees and their employer must contribute 8% and 20% of the employee’s salary respectively. Though the system is open to private enterprises, high costs have deterred workers from joining the system. Furthermore, the real rate of return on the pension pool has been exceedingly low, at less than 2 percent. As a result, future retirees are unlikely to receive more than 40% of their pre-retirement salary. This, combined with limited portability, has further deterred contributions and made funding the system problematic. The systems set up for rural workers and the urban unemployed also remain desperately underfunded. These systems split funding between the central and local governments as well as the enrolled beneficiary.

While the reforms will certainly bring China one step closer to a unified national pension system by 2020, many obstacles have yet to be overcome. Portability is a major hindrance as many provincial pension funds are still managed at the local level, though this is slowly changing. Reform of the hukou system, which ties benefits to one’s household registration, will need to be accelerated alongside budgetary reform. Unification of China’s pension and healthcare systems is an essential task in achieving Li Keqiang’s vision for “people centered urbanization” that goes beyond building roads, sewage systems, and highways. More broadly, reform of China’s welfare programs is also essential for reducing China’s dependence on fixed asset investment and debt for growth. Providing a better social safety net will encourage consumer spending and help shiftChina’s economic model toward more sustainable and balanced growth.

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