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Pension moves by stealth

Pension moves by stealth
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First Published: Mon, Apr 16 2007. 12 04 AM IST
Updated: Mon, Apr 16 2007. 12 04 AM IST
There was an announcement last week that the government had decided to go ahead with the New Pension Scheme (NPS), without waiting for the passage of the Pension Fund Regulatory and Development Authority Act. This is a welcome step. A Pension Fund Regulator is already in place since 2005, anxiously waiting for the passage of the Bill to decide what it should do with the contributions that have been accumulating since January 2004. This decision will set it working.
Before looking at the ‘why’ and ‘what happens’ of this decision, it is important to briefly recapitulate the pension reform story. The Employees Provident Fund Organization (EPFO) and civil services pensions cover only a small percentage of those working, and even if we take into account the Public Provident Fund contributors, over 87% of the workforce has no pension coverage. It is only the civil service schemes that have defined benefits. The EPFO participants manage their corpus under guidelines of the government. There was much concern about the workforce that was not covered, including construction workers.
The ministry of welfare put together a report on Old Age Social and Income Security in 2000 which suggested a Defined Contribution (DC) scheme that should be market-based. Around this time, there was also work on civil service pensions in the finance ministry, to examine whether there should be a defined contribution or a defined benefit scheme. In 2003, after considerable debate, NPS, which was universal in nature, covering civil service recruits and the sector not covered till then, was announced. This would be a DC scheme, and the funds would be invested by pension funds in government bonds, savings certificates and market-linked products, to assure optimum yields. The structure required a regulator, and the regulator required an Act to be able to function. In the meanwhile, all civil service recruits since January 2004 contribute towards their pension, an amount matched by government. A corpus of over Rs1,700 crore is already in place, in government bonds, waiting to be better utilized.
Everyone is familiar with the inability of the government to pass the Regulatory Bill, since the Left parties, though not against DC (this already exists in EPF), are against investment of these funds in the market, and insist on security of benefits.
After valiant jousts at the windmill, the finance ministry has now decided to go ahead with the scheme, through executive fiat. There was little choice. The cost of pensions is around 10.56% of the net tax rate now, and likely to go up to 17% within a decade, a huge burden. Some 19 states have opted for NPS, and all new civil service recruits are now contributing a fixed proportion of their salary towards their pension. These funds are lying in government deposits, earning low returns, and need to be deployed urgently. There is urgent need to keep track of deposits and maintain accounts and, for the present, the National Securities Depository Ltd has been chosen to do this, given its excellent track record in the equities market. The government has been careful to announce that deployment of these funds would be in accordance with the guidelines for non-government provident funds—such as EPF. The regulator will now specify how the pension fund managers are to be selected.
However, this is an inadequate solution. The government guidelines tie down fund managers to low-risk, low-return investments, and to a fear of equity and other market instruments. This fear is at the root of the Left protests, and the interim solution glosses over that. The returns generated may not give comfort to the contributors, leading to further criticism of NPS. We already have the home ministry wanting to revert to the old scheme.
If we could confidently assure that a government-managed fund could do as well as the market, the objections of the Left would fade. There are other countries, most importantly Singapore, where the entire workforce is covered by a central provident fund. This is managed by a special purpose vehicle of government, and has an excellent track record of providing optimum returns to its subscribers. It is a pity that our government-managed funds, whether it is EPF or the erstwhile Unit-64, do not have such a track record. We have the best brains in the financial sector in the world, but are unable to manage a government fund.
It is a pity that this reform, needed so badly, has to proceed by stealth. There is no reason why a small proportion of the work force in government service alone should have defined pension benefits, and the rest of the workforce should have none. Apart from being iniquitous, it inhibits labour mobility between the private and public sectors. Finally, the defined benefit scheme, given longer lifespans, is too expensive and unaffordable. The latest step, albeit a small one, is in the right direction.
S. Narayan is a former finance secretary and economic adviser to the Prime Minister of India. We welcome your comments at policytrack@livemint.com
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First Published: Mon, Apr 16 2007. 12 04 AM IST
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