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Aug 11th 2012 | HEIJINGYING | from the print edition

Pensions

Fulfilling promises

China is beginning to face up to its pension problems

IN THIS village in the cornfields outside Beijing, a 74-year-old woman whiles away the

time in the forecourt of a local eatery, chatting to the owner stacking chairs around her.

She can enjoy an unhurried retirement thanks to the money her daughter sends, the

monthly pension her husband collects from his former employer, and, in the past few

years, a small pension, now worth 275 yuan ($44) a month, from the Beijing municipal

government.

Public pensions are fairly new to China’s

countryside. Security in old age used to

mean the family farming plot, not a pension

pot. But by the end of last year 326m rural

residents had been enrolled in a public

pension, according to the Ministry of

Human Resources and Social Security. That

is an increase of over 240m since 2009,

when China rolled out a new rural

programme, based on pilot schemes in

places like Heijingying. This wave of rural

Chinese joins nearly 300m city dwellers

enrolled in a variety of urban pensions. Add

them all up, and China’s social-security

system is now “basically” in place, the

National Audit Office (NAO) has just said.

That is just as well, because the system will soon have a lot

to cope with. The number of Chinese aged 60 or more is

projected to grow from 181m today to almost 390m in 2035,

almost a quarter of the world’s total. And only two working-

age Chinese will support every person in retirement. China is

turning Japanese (see chart).

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Pensions can rest on a variety of “pillars”, among them government handouts, schemes

financed by mandatory contributions, and voluntary arrangements. China’s pillars are all

of different heights, and some are wobbly.

In the countryside local governments pay a basic

pension which varies greatly depending on their

financial health. Personal accounts supplement this,

into which individuals may put money over their

working lives, encouraged by matching contributions

from the state. In the cities the main system

combines social insurance, paid for by payroll taxes,

with individual accounts, into which workers must

pay 8% of their earnings.

But a kind of apartheid is at work, distinguishing urbanites from country folk, and locals

from migrants. Ma Wanzhi, who now lives in Heijingying, enrolled in a scheme through her

employer, a factory making the incense sticks for temples. Her 61-year-old sister, on the

other hand, still lives in the neighbouring province of Hebei, where she collects a meagre

pension of 80 yuan a month. She supplements her income by travelling to Heijingying to

sell peaches by the roadside.

Like these women, many of China’s workers are highly mobile. Yet China’s pensions are

not. In principle, workers may take their individual contributions with them if they move,

as well as 60% of their employer’s. In practice, the system struggles to keep track of

the money. Only a quarter of migrant workers in the cities were covered by pensions in

2010, compared with four-fifths of locals, according to Albert Park of the Hong Kong

University of Science and Technology.

Another problem: the government envisages urban workers retiring on nearly 60% of

their final wage. But that assumes their contributions earn high rates of return, keeping

up with wage growth. In fact, most of the system’s assets languish in bank deposits or

government bonds, where they barely keep up with inflation.

And that is not the worst of it. A lot of individual accounts hold no assets at all.

According to Zheng Bingwen of the Centre for International Social Security Studies at

the Chinese Academy of Social Sciences, individual accounts held assets worth only 270

billion yuan at the end of 2011, even though 2.5 trillion yuan had been paid into them.

Local authorities had collected the remainder and diverted it to other, more pressing

ends. These include building stadiums, buying cars and outright fraud. The NAO identified

132 cases of malpractice in the 18 funds it investigated. Last month the former director

of a social-security fund in Gansu province was sentenced to death for embezzling 28m

yuan over a decade.

Embezzlement is to blame for only a small fraction of the money emptied from individual

accounts. Most of it goes to pay today’s pensions, including to workers who were made

to retire in their 40s from state-owned enterprises anxious to shed staff during the

1990s. Their legacy weighs heavily on China’s rustbelt provinces in the north-east.

Liaoning, for example, needed to impose a payroll tax of about 30% to meet its pension

obligations, says Stuart Leckie of Stirling Finance. By contrast, Shenzhen, a southern

city full of sunrise industries, got away with a 13% rate until recently.

These pressures have turned the “pre-funded” part of China’s pension system into a de

facto “pay-as-you-go” system, where today’s payroll taxes pay for today’s pensioners.

Some economists, including Peter Diamond, a Nobel prizewinner from the Massachusetts

Institute of Technology, think China should make its peace with this fact. It could

emulate Sweden, Italy and Poland by converting its empty accounts into “notional”

accounts.

Under this system, individuals contribute to personal accounts, just as they would in a

pre-funded scheme. But rather than relying on the financial markets to turn contributions

into fatter pension benefits, notional schemes work on an actuarial formula that takes

account of how well the economy has done and how long someone is expected to live.

And rather than pay benefits out of a pot of past contributions, notional accounts

remain empty, leaving pensions to be financed from current taxes, sometimes

supplemented by a central trust fund.

Even if China’s pension contributions were zealously guarded, they would fall short of the

amounts required. In a recent simulation, Zheng Song of the University of Chicago,

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Fabrizio Zilibotti of the University of Zurich and two colleagues show that pensions need

to be cut by over 35% to bring contributions and payouts into line over the long run.

However, they advocate delaying such a cut for 30-odd years. That would benefit

people who retire before 2040 at the expense of future generations. The move, the

authors argue, can be justified because China’s future generations will be much richer

than today’s. Someone who started work in 2000 (and will therefore retire after 2040)

will be six times better off than someone who started work in 1970 (and is therefore due

to retire soon). In future China will have many fewer workers for each person in

retirement, yet also much more output per worker.

Rather than cut benefits, China could instead raise the retirement age, by perhaps five

years. In the cities men now retire at 60, white-collar women retire at 55, and blue-

collar women retire as early as 50. The system would be far more sustainable if the

retirement age rose to about 65.

Moreover, if China’s elderly wanted to carry on working past the notional retirement age,

its social-security system should allow them to do so. In the countryside people can

collect their pension whether or not they continue working. That is sensible, because it

reflects rural practicalities. A farmer, after all, wants to continue to work on his field. As

Ms Ma, the peach seller’s sister, says: “In the countryside, people don’t use the word

‘retirement’.”

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