The market for pensions in India is largely confined to the urban middle income and rich even as 90% of the workforce continues to march towards old age without savings to assist them in managing their twilight years.
India has a very large young, informal sector workforce that makes up 70-80% of its workforce. This includes construction workers, drivers, farmers, maids, poultry farmers, home-based workers, casual labour, street venders, handloom workers, dairy farmers, landless farm labourers and other daily wage labourers. They are not part of any pension scheme. All of them engage in physical labour and are unable to work full time once they are 55 or 60 years old.
The government launched the National Pension Scheme (NPS)-Lite Swavalamban for them in 2010. Not impressed by NPS and attempts to foster saving habits among poor, we now have a Pension Parishad demanding a minimum pension for every elderly person.
The economics of a universal pension is simple. If the 100 million current elderly are paid Rs.2,000 per month—it implies an annual bill of Rs.2,40,000 crore or about 2.5% of India’s gross domestic product (GDP). This is not high considering the US spends over 5% of its GDP on social security.
However, in the US, employees and employers together pay 12.4% of wages as social security tax and 2.9% of wages as medicare tax. The US spends 22% of its federal budget on pensions and an equal share on healthcare. As against 45% in the US, less than 3% of population pays taxes in India. The point is simple—India cannot afford a tax funded universal pension.
The other option is to build on the Swavalamban initiative. At the lowest end of the income bracket, unskilled labourers under the job-guarantee scheme earn Rs.122-191 per day, so setting aside Rs.10 for old age is possible. However, this is not happening and for good reasons. Any pension system designed with the poor in mind needs to focus on:
Awareness: Workers need to understand the benefit of deferring current consumption and saving for their old age.
Access: Incomes are irregular. They need to be able to access a flexible distribution system easily.
Affordability: Distributors and product suppliers’ fee cannot be high. If it cost Rs.5 to collect Rs.100 then that’s a 5% cost. Add an inflation of 5-6% to this and you have a pointless exercise, which can only generate negative real returns;
Adequacy: Poor need high real returns. Monthly pension could drop by as much as 15% if the real returns on savings are lower by 1%.
Assurance: Workers need systems that ensure they will not be defrauded.
When we think of pensions market, these are not one-time challenges—they are conditions which need to be continually met. Else, we will have poor coverage, dormant accounts, expectation mismatch, service disruptions and fraud.
NPS Swavalamban tackles affordability—it provides a co-contribution of Rs.1,000 per annum; being a government-backed scheme, it tackles assurance to an extent. However, it struggles on awareness as very little thought and action has gone into this. Access is another problem as banks don’t want to sell it, most aggregators are ill-equipped to service pension customers and some aspects of adequacy have been resolved as workers and aggregators see NPS-lite as only Rs.1,000 per annum scheme. No one is looking to collect more savings even if the worker was capable of doing so.
The upshot is that we need better products. A life cycle fund where the debt-equity ratio rebalances automatically over time is a good solution. Interestingly, NPS already provides this through its auto choice option. But auto choice is not available to poor workers. Instead, 85% of their savings are invested in debt leading to poor real returns.
NPS-lite encourages workers to save Rs.1,000 a year for their old age by offering a matching annual co-contribution of Rs.1,000 through Swavalamban. Some states such as Haryana and Karnataka are offering an additional Rs.1,200 from their own budget to NPS-Lite subscribers from these states. In this situation, it could be useful to rethink the Swavalamban strategy where a worker will need to save, say, Rs.2,000 a year to avail a co-contribution of Rs.1,000 under Swavalamban. This will encourage higher savings without costing the government more.
To broad-base the impact of the Swavalamban benefit and jump-start higher voluntary enrolments, we should broad-base the pension products that are eligible for the Swavalamban benefit. For instance, why not extend the scheme to informal sector workers who invest in other well regulated pension schemes of life insurance firms and mutual funds?
The cost of an annual pension co-contribution of Rs.1,000 by the Union government and a similar co-contribution by the states for 200 million individuals will be Rs.40,000 crore. If 200 million workers too save Rs.10 a day, their aggregate savings will be in the Rs.60,000 crore range per year. This adds up to Rs.1,00,000 crore per year, which seems like an interesting pension market size. For the worker, this implies an annual combined saving of Rs.5,000 and a realistic possibility of an inflation adjusted pension of Rs.2,000 per month after 25 years.
Forcing banks or other intermediaries to sell the NPS-Lite is a short-term solution and will at best produce many dormant pension accounts. This will not solve the longer-term objective of encouraging sustained micro-savings or delivering optimum pension benefits to millions of low-income workers.
Ashish Aggarwal is an executive director at Invest India Micro Pension Services, which delivers pension saving schemes to over 400,000 low-income workers across India.
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