CHAPTER 1 INTRODUCTION OF THE RESEARCH...
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CHAPTER 1 INTRODUCTION OF THE RESEARCH TOPIC
Transcript of CHAPTER 1 INTRODUCTION OF THE RESEARCH...
CHAPTER 1
INTRODUCTION OF THE
RESEARCH TOPIC
1. INTRODUCTION OF THE RESEARCH TOPIC
1.1 PENSION SYSTEMS IN INDIA – AN
INTRODUCTION
“By providing financial protection against the major
18th& 19th century risk of dying too soon, life insurance became
the biggest financial industry of the century. Providing financial
protection against the new risk of not dying too soon enough
may well become the next century’s major and most profitable
financial industry” - Peter Drucker.
With the changing social and economic environment, making
one’s future secure by way of pension provides great relief to retired
persons and helps them live a financially secure and dignified life
after retirement. Meticulous financial planning adds to the quality of
life in the years to come and if the person further provides for
healthcare he can add years to his life.
Pension in India has traditionally been based on financing
through employer and employee participation. Majority of the
population is not covered by any formal pension scheme, as the
coverage in employee pension schemes has been restricted to only
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the organized sector. Only about 12% of the working population in
India is covered by some form of retirement benefit schemes. That
means 88% of population still does not have access to any form of
retirement planning and has to rely on their own earnings or
traditional and informal methods of old age income security such as
the joint family system. However, traditional shelter for old age is
reducing day-by-day because of changing social patterns.
1.1.1 CHANGING SOCIAL PATTERNS
India is seeing a change in its family structures from the joint
family system to the nuclear family system. It is mainly because of
the increasing migration of younger generations to different places
of the work which diminishes the old age financial support.
Moreover, the increased life span and increased medical expenses
during old age are beyond the means of a common man to sustain.
Hence there is a pressing need to re-examine the existing formal and
informal pension systems.
1.1.2 DEMOGRAPHICS
India, like many other countries in the world, has been forced
to face the phenomenon of a `graying society’- a major concern the
world oversince the past two decades. According to the World
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Bank Statistics 2001 on Population1, nearly one-eighth of the
world’s elderly population lives in India.
As per the Census 20112, the total population of India is
1210.2 million and the elderly population (defined as being aged 65
years and above) is 5.6% (male 31,892,823/female 35,225,003) as
per CIA World Fact Book, February 2013.
As per the Old Age Social and Income Security (OASIS)
Project3, the total population is expected to rise by 49% from1991 to
2016, and the number of elderly (person aged 60 and above) is
expected to increase by 107%. In other words, the percentage
growth in the elderly population is more than double than that of the
population as a whole. Both male and female population in India at
age 60 today is expected to live beyond 75 years of age. Thus, an
average person should have adequate resources to support
approximately 15 years post retirement.
Demographic patterns in India will also exert pressure on the
informal system in the coming decades. Fertility rates have dropped
1The World Bank Statistics on Population - www.worldbank.org ‐ 2001 2Census Info India - Provisional Population Totals - Population density- www.censusindia.gov.in ‐ 2011 3Project OASIS Report – S.A. Dave & Committee, Ministry of Social Justice & Empowerment - 2000
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from 6.57% in 1960 to 3.22% in 1998. As per the National Sample
Survey Report4, 6% of the elderly did not have surviving children.
Individual longevity risk arises because it is impossible to
know when a particular individual will die. This can be managed
through risk pooling which is performed by pension funds and
insurers who sell annuities. The annuitants who die early generate a
`mortality profit’ that funds the annuities of those who live longer
than average.
It is by now a well recognized reality of the Indian financial
market that most financial instruments in India are `push’ products
and not really `pull’ products. Thus according to Mr. D. Swarup5
`Pension products globally are wholesale products sold to employers
1.1.3 EXISTING STRUCTURE OF THE PENSION SYSTEM
India, like most other developing countries, does not have a
social security system to take care of the elderly. The following are
some of the reasons:
• Inadequate disposable income
• High rate of poverty
4Report on “Morbidity, Health Care and the condition of the Aged” National Sample Survey - 1995-96, 5“Pension Reforms in India - A Social Security Need" - Address by Sh. D. Swarup, Chairman on the occasion of first annual day of the Social Security Association of India – March 2008
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• Unemployment
• High fiscal burden
• Unawareness about pension
To tackle the above issues, India adopted a pension policy
that envisaged co-funding of pension both by employer and
employee by introducing New Pension Scheme for government
employees who joined service after 1st January 2004. As a result,
the coverage had been restricted to mainly Government employees,
with only some private sector employees having the access to a
similar system. The components of the formal old age income
security system in India are classified in Figure No. 1 below:
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The mainstay of the Indian pension system is the government
employees’ pension scheme viz. State Government Pension Scheme,
Central Government Pension Scheme and newly introduced New
Pension Scheme. The public sector employees have a separate
pension scheme and recently number of public sector companies
adopted New Pension Scheme for their newly recruited employees.
The mandated pension schemes for the private sector employees are
Employees Provident Fund Organization’s (EPFO) Employee
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Pension Scheme (EPS), Employee Provident Fund (EPF),
Occupational pension plans by insurance companies and New
Pension Scheme. This is followed by voluntary schemes such as
Public Provident Fund (PPF), New Pension Scheme (NPS),
voluntary pension plans by life insurance companies and mutual
funds pension plans.
Previously, the General Provident Fund scheme which was of
a Defined Benefit (DB) nature and provided a lump-sum
disbursement on retirement was provided to the government
employees who were employed before 1st January 2004. There were
three retirement benefits viz. provident fund, gratuity and pension.
Another important retirement benefit was the Gratuity scheme which
was regulated by the Payment of Gratuity Act 1972. The
Government sponsored schemes for old age income security in India
is exhibited in Table-1.
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Table 1: GOVERNMENT-SPONSORED SCHEMES FOR OLD AGE INCOME SECURITY IN INDIA
Compulsory Programme Legal Coverage Effective Coverage Financing Employees’ Provident Fund (EPF)
Employees in firms with more than 20 employees
About 5.8% of the labour force
Employer and employee contributions
Employees’ Pension Fund (EPS)
Same as above with some exemptions
About 5.4% of labour force
Employer, Government Contributions
Civil Service Pension Scheme
Civil servant at state and federal level
About 3.5% of the labour force
State or central government budgets
Government Provident Fund for those who have joined service prior to 1st January 2004
Govt. employees who joined service before 1st Jan 2004
Most civil servants Employee Contributions
Special Provident Funds
Coal Miners PF, Seamen PF, Assam Tea Plantation PF and Jammu and Kashmir
About 0.5% of the labour
Employer and employee contributions
Voluntary, Tax-preferred Public Provident Fund (PPF)
All individuals About 0.8% of the labour force
Contributions
Superannuation Plans All employees About 0.2% of labour force
Contributions
Personal Pensions All individuals About 0.2% of labour force
Purchase of annuity-like products
Social Assistance State Level Social Assistance
Varies by state Varies by state State budgets
National Old Age Pension Scheme
Destitute persons over the age of 65 years
About 15.2% of population over the age of 65 years
Central budget
Source: World Bank (2001), India: The Challenge of Old Age Income Security, Robert Palacios – www.worldbank.org
The above mentioned table describes the legal coverage,
effective coverage and the contributions of the employees / employer
of the different schemes for old age income security in India. A firm
having more than 20 employees is mandatorily required to subscribe
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to the Employees’ Provident Fund Scheme where both employer and
employee contribute 12% equally. The Employees Pension Scheme
(EPS) is a part of the EPF scheme where 8.33% of the employer’s
contribution and 1.6% of the government’s contribution collected to
provide pension to the employees. The Civil Service Pension
Scheme is meant for civil servant at state and federal level where the
contribution is budgeted by the State and Central Government every
year. The Government Provident Fund scheme was for those who
had joined before 1st January 2004 where all civil servants
contributed every month. The Special Provident Fund was created
for Coal Miners, Seamen, Assam Tea Plantation and Jammu &
Kashmir where employer and employees contribute equally. The
above mentioned provident funds were compulsory for all the
employees who covered under different schemes.
Under voluntary tax-preferred schemes such as Public
Provident Fund (PPF), any individual can subscribe to the scheme
with minimum Rs. 500 contribution per year and maximum no limit.
Superannuation plans of life insurance companies are also one of the
good options for pension as well as tax saving instrument where an
individual contributes as per his / her capacity.
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The Social Assistance programmes include State Level Social
Assistance and National Old Age Pension Scheme. The State Level
Social Assistance varies by state and it is declared in the state
government budget every year. The National Old Age Pension
Scheme was introduced specially for destitute persons over the age
of 65 years which is again declared in the budget by Central
Government every year.
However, the situation started to change with a rising fiscal
burden. The pension burden on the Government treasury in the year
2001-2002 was around Rs. 220 billion for the Central Government
and for the States Government it was around Rs. 260 billion6. Since
the government employee pension was a given benefit of one-rank-
one-pension, i.e. pension increased with every salary revision, the
Government’s liability after the Fifth Pay Commission increased
manifold. This induced the Government to take major steps in
pension reform by introducing the `Defined Contribution’ New
Pension Scheme (NPS) to all Government employees who joined
after 1.1.2004. The scheme then opened to all Indian citizens in
May 2009 to cover maximum population. The scheme is explained
in detail in Chapter 5.
6 Article on “Pension Business in India” Vaidyanathan - Indian Institute of Management-Bangalore - Management Review Journal - September 2004
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The mandated pension for the organized sector is governed by
the Employee Provident Fund & Miscellaneous Provisions Act
(EPFO) 1952. 188 industries and classes of establishments, that
employ 20 or more persons, come under the purview of the EPFO7.
There are three schemes under the umbrella of the EPFO viz. the
Employee Provident Fund (EPF), 1952, a defined contribution
scheme, the Employee Pension Scheme (EPS), 1995, a defined
benefit scheme, and the Employees Deposit-Linked Insurance
Scheme (EDLI), 1976. The maximum possible replacement rate is
50% of the terminal wages – the average of the last 12 month’s
salary. Out of 314 million workers, 47 million were regular salaried
employees of whom some were covered by government pension and
remaining was covered under the EPFO8. This constituted about
11% of the total workforce.
In 1993, the Government introduced a pension scheme for
nationalized banks and insurance employees which is a defined
benefit, index linked scheme.
7 Employee Provident Fund Organisation (EPFO) Annual Report- 2011 8 Project OASIS Report, S.A. Dave and Committee- Ministry of Social Justice & Empowerment- 2000
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1.1.3.1 SOCIAL SECURITY SCHEMES OUTLINED FOR
ECONOMICALLY BACKWARD COMMUNITIES
The Pension Fund Regulatory and Development Authority
(PFRDA) launched the NPS-Swavalamban scheme, for the benefit
of poor people to strengthen social security in India. This was one
of the major pension reform initiatives undertaken by the
Government of India. It is a funded scheme wherein the
Government contributes per person Rs. 1000/- annually for 5 years
on the condition that the person should also contribute Rs. 1000/-
every year to his account. The Government is trying to inculcate the
habit of saving among the poor which would aid them in the creation
of a retirement corpus.
1.1.4 WORLD BANK’S THREE PILLARS
The World Bank came up with a three-pillar9 pension model
as follows:
a) Non-contributory Pillar (Basic Pension) - The first pillar is an anti-
poverty pillar that is non-contributory and guarantees a minimum
income in old age.
9 Book published by World Bank “Averting the Age Old Crisis - pension reforms across the globe” 1994 – Robert Palacious
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b) Contributory Pillar (Forced Savings) – This benefits only contributor
to the scheme.
c) Contributory Pillar (Voluntary Savings) – The third pillar is a
voluntary savings pillar, available to anyone who cares to
supplement their retirement income as provided by the first two
pillars.
It was observed that India is lacking the first pillar of pension.
The second pillar was comparatively stronger consisting of
Government and occupational pensions. However, the coverage was
limited to just 11% of workforce, indicating that the majority of the
workforce in the unorganized sector was yet to come under any such
pension plans. Even regular salaried employees, the organized
sector were not fully covered. Most workers opted for schemes
under the third pillar i.e. voluntary savings.
1.1.5 CHARACTERISTICS OF PENSION SYSTEM
Traditionally, specialists have divided pensions into the
following three categories. Table-3 illustrates the differences
amongst these.
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a) Unfunded Pension - Also known as `Pay-as-you-Go’ (PAYG), it
functions on a defined benefit basis. It is also called non-
contributory pension. The benefit is given from the current
government revenue. It adds to the burden on the Government
treasury, leading to a rise in contributions.
b) Fully Funded Pension - In this system, the accumulated pension
reserves equate to the present value of all pension liabilities owed to
current members. The reserves are invested in a fund of specifically
held identifiable and available assets.
c) Partially Funded Pension - Partially funded pension system shares
features of both PAYG and Fully Funded individual accounts. This
system has both the contribution and benefits defined and any
shortfall is met through contribution at the time of payout.
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Table 2: CHARACTERISTICS OF PENSION SYSTEM IN INDIA
Source: Pension Product Designing – L.Khan, R.C. Rao, S.Kumar
Global Symposium on Pension, National Insurance Academy - 2002
1.1.6 INDIAN PENSION MARKET
India has a bright future of pension market. Hefty salaries,
growing life expectancy, health care consciousness & management
and government initiatives like pension reforms are making India a
potential country for pension business.
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Majority of working population in India expects to maintain
the current living standards and to have better quality life after
retirement.
India is experiencing a demographic transition characterized
by declining fertility rate and increasing life expectancy. People are
having fewer children but live much longer than before, so the
population is aging rapidly. Projections indicate that the proportion
of population age 65 or older, that may be classified as retired will
rise to 8 percent in 2031, and it will rise to over 13 percent by 2051.
In absolute terms, the number of persons age 65 or older will grow
from 62.5 million in 2011, to 121.8 million in 2031, and 229.4
million in 205110.
As per the study conducted by Asian Development Bank in
200411 only 52 million workers were covered under formal pension
system while 310 million were uncovered. This indicates the vast
potential in Indian pension market.
10 White paper on “Market structure and challenges for annuities in India, Mukul Asher and Deepa Vasudevan – PRC WP 2010-15, Pension Research Council, The Wharton School - 2010 11 A study conducted by Asian Development Bank - 2004
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The International Monetary Fund12 estimates that Indian
market would grow from Rs. 1500 billion in 2010 to Rs. 4000 billion
in 2025.
Indian pension market is set to grow at a rapid pace to reach
about Rs. 20 lakh crore by 2015 from the present level of about Rs.
15.4 lakh crore13. Pension products account for over 30% of the total
insurance market.
The prominent players in the industry include, life insurance
companies, Pension Fund Regulatory Development Authority and
Mutual Funds.
Presently Indian pension market is fragmented in nature due
to too many regulators. The pension funds offered by Insurers are
regulated by the Insurance Regulatory Development Authority, the
mutual fund pensions are regulated by the Securities and Exchange
Board of India and the New Pension Scheme is regulated by the
Pension Fund Regulatory Development Authority. Ideally the
regulatory framework should be under one umbrella if there has to
be efficient management and growth. The following factors could
12 Working Paper by Helene K. Poirson, International Monetary Fund - Financial Market Implications of India’s Pension Reform - 2007 13 Study reported by Associate Chamber of Commerce, Delhi
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be considered as catalysts for the growth of the Indian pension
market:
• Longer life expectancy of population
• Incremental healthcare expenses in old age
• Availability of better healthcare facilities
• Gradual diminishing of the joint family system
• Incremental aspirations for better lifestyles during the post-
retirement period
• Government reforms about pension
• Increasing awareness about pension
The Insurance Regulatory Development Authority estimated
that the Indian pension market would grow by leaps and bounds as
per the projections given in Table-2. In 2015 it has projected Rs.
2154 billion total contributions, which includes EPF, EPS, GPF,
PPF, Individual Pension and Group Pension, and in 2025 it would
grow about Rs. 4064 billion.
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Table 3: PROJECTED PENSION MARKET (in Rs. billion)
Contributions 2015 2020 2025
Funded schemes EPF EPS 696 1023 1498
- Voluntary 9.3% 10.1% 11.0%
- Contribution 64 103 164
GPF 201 295 431
PPF 127 186 272
Individual Pension 306 513 756
Group Pension 824 968 1108
Total Contribution 2154 2986 4064
Source: IRDA Report on Projected Reforms in the unorganized sector, Oct. 2001
1.1.7 PENSION SYSTEMS AROUND THE WORLD
In most of the countries, the idea of retirement is of recent
origin, being introduced during the late 19th and 20th century.
Germany was the first country to introduce retirement in the 1880s,
it being the country with one of the oldest populations.
The first formal pension system in the world was a Pay-As-
You-Go (PAYG) a Defined Benefit (DB) system which was
traditionally financed by mandatory payroll taxes. However, the
forces of globalization have caused a high flux of employees
amongst organizations and countries. This along with an increase in
life expectancy and decreasing rate of interest are leading to a
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difficulty for employer to build up a retirement corpus, thereby
making it almost impossible to run a DB system.
A growing number of old aged population have taken steps
to avoid such a crisis by reforming the traditional model and
allowing workers and employers to choose private alternatives to
their public retirement plans.
A Defined Benefit (DB) pension plan is a type of pension
plan in which an employer promises a specified monthly benefit on
retirement which is predetermined by a formula based on the
employee's earnings history, tenure of service and age, rather than
depending directly on individual investment returns.
A Defined Contribution (DC) plan is a type of pension plan in
which the amount of contribution is fixed, but the benefit is not.
As payment of defined benefits is proving to be prohibitively
costly, all over the world there has been a tendency to switchover
from DB to DC. The employers are thus finding an exit route from
pension liabilities.
Now-a-days most developed countries have an employer or
State sponsored pension system. In poorer countries most people are
still dependent on family as a traditional support for old age.
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1.2 NEED OF THE STUDY
This study is an in-depth comparison of pension and
retirement products provided by the Government of India as well as
life insurance companies. The motivation for this study was
provided by a general lack of awareness regarding pension products
in society. With the rate of growth in the ageing population
becoming faster than the young population, there is an urgent need
to rethink about the future of retirement planning.
Additional motivation for this study is the unique nature of
society and family. The joint family system has eroded due to an
increase in migration from native places, thus creating the nuclear
family system. In such a scenario, the aged community becomes
helpless to run the daily chores after retirement, without added
family support. Concurrently, increasing longevity is substantially
adding to the burden of expenditure on healthcare.
Therefore, the researcher made an attempt to create social
awareness with respect to retirement planning in advance and placed
a full platter of pension products, which would certainly help the
community to overcome the insecurity in life after retirement.
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1.3 SIGNIFICANCE OF THE STUDY
The results of this research can be of immense value to the
insurers for framing and designing suitable pension products,
addressing customer needs. Besides, the study can benefit the
PFRDA in evaluating the reform process and assessing its benefits.
The Government of India in conjunction with the Pension
Fund Regulatory & Development Authority (PFRDA) has recently
launched the New Pension Scheme (NPS). The study assembles a
group of experts in the field of pension to analyze this scheme.
Thus, PFRDA can also evaluate and if need be, modify the NPS as
per the suggestions of the experts. In the end, the customer would
benefit largely from this study, as pension products would be
designed to suit his / her requirements.
Therefore, it is the aim of this study to conduct original
empirical research on customer preferences in selection of pension
products. Even more heartening and motivating has been the
reaction by experts to the idea of conducting such study. This study
would not only fulfill the noble purpose of providing original ground
breaking research but also create a social awareness about healthy
retirement.
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1.4 REVIEW OF PENSION LITERATURE
For the purpose of this study, the researcher reviewed number
of journals, research papers, white papers and books.
(Bhattacharya)14 studied the existing pension scheme of the
State Governments and the trends in pension payments and their
fiscal implications and suggested to consider the feasibility of
introducing necessary modifications in the existing pension schemes.
It is recognized that the civil service pension schemes differ vastly
from the universal social security schemes in several respects. The
report concluded that while examining the social security scheme
across the world, despite some differences in the features, there are
many similarities that could be delineated.
(Justin Fox)15 the article discusses about the retirement risks
in European countries. The Dutch pension system, long praised as
the best in the world. Pension risk ultimately has to be borne by
pension recipients and risk should be shared across a lot of pension
recipients.
14 Report of the Group to Study the Pension Liabilities of the State Governments – Reserve Bank of India - By B. K. Bhattacharya(Chief Secretary – Retd), Govt. of Karnataka - October 2003 15 Article published in Harvard Business Review – Why Retirement Risks are best shared” – Justin Fox – August 2013
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(Nandita Markandan)16 A reform in the pension system
tackles the primary problem of the financial sector in a dual manner.
On the one hand introduction of private pension fund managers will
ensure the large-scale mobilization of savings. This would increase
the rate of savings, which would lead to a higher rate of capital
accumulation, crucial for a developing country like India. It has been
proved statistically that private managers are in a position to earn
greater returns from their sources. So in effect privatizing the
pension system would place a large pool of fund in the hands of
efficient managers, specializing in this form of activity
(Richard P. Hinz and G. V. Nageswara Rao)17 This paper
provides an overview of the existing pension systems in India, their
regulatory frameworks, an assessment of the efficacy of the system
and the potential future role for private pension funds. It provides a
discussion of the principles of supervision of private pension funds,
international best practices in the area and their possible application
to India, particularly in the context of the proposals for reform made
in the recent past.
16 A Consolidated Model of Pensions for India – Nandita Markandan 17 Chapter – IV of Book published by Invest India Economic Foundation - Approach to the Regulation of Private Pension Funds in India Application of International Best Practice Richard P. Hinz- World Bank - G. V. Nageswara Rao- IDBI Capital Markets
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(Central Statistics Office Ministry of Statistics & Programme
Implementation Government of India)18 The Government of India
prepared this report for planners and policy makers, as well as to the
research workers, which will help in enhancing their understanding
of the problems of the elderly in the country.
The elderly population (aged 60 years or above) account for
7.4% of total population in 2001. For males it was marginally lower
at 7.1%, while for females it was 7.8%. Among states the proportion
vary from around 4% in small states like Dadra & Nagar Haveli,
Nagaland Arunachal Pradesh, Meghalaya to more than 10.5% in
Kerala.
(Hélène K. Poirson)19 India’s planned pension reform will set
up a proper regulatory framework for the pension industry and open
up the sector to private fund managers. Drawing on international
experiences, the paper highlights pre-conditions for the reform to
kick-start financial development, including: (i) the buildup of critical
mass; (ii) sufficiently flexible investment guidelines and regulations,
including on investments abroad; and (iii) concurrent reforms in
capital markets. Given the limited scale of the planned reform, the
18 Report on “Situation Analysis of The Elderly in India” –Ministry of Statistics & Programme Implementation, Government of Indi, S.K. Das - Director General, Central Statistics Office- June 2011, 19 International Monetary Fund Working Paper- Financial Market Implications of India’s Pension Reform - Hélène K. Poirson - Authorized for distribution by Charles Kramer - April 2007
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key challenge for India is to achieve sufficient critical mass early on.
Options to address this challenge include granting permission for
existing workers to switch to the new system or outsourcing all or
part of the reserves of private sector provident funds to the new
pension fund managers.
(Prakash Bhattacharya)20 Population aging is a worldwide
phenomenon, and India is no exception to the rule. Census reports
indicate that the Indian population has approximately tripled during
the last 50 years, but the number of elderly Indians has increased
more than fourfold. When considering the continuation of the trend,
the United Nations predicts that the Indian population will again
grow by 50 percent in the next 50 years, whereas the elderly
population is expected to grow another fourfold.
This paper proposes to study the probable impact of the aging
population in India, the challenges to be met and the opportunities to
be exploited. Indian societies are rapidly changing due to the process
of urbanization, higher aspirations among the youth and the
increasing participation of women in the workforce. However, the
English speaking and skilled professionals from India may be
expected to emigrate to meet the manpower requirements of more 20 Implications of an Aging Population in India: Challenges and Opportunities -Prakash Bhattacharya Institute of Chartered Financial Analysts of India- Orlando, Fla.January 12–14, 2005
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developed regions. All these factors have led to the erosion of the
joint family system and the emergence of nuclear families. Hence,
the elderly people are gradually marginalized in their respective
families. Moreover, due to some habits and unhealthy lifestyles, the
elderly Indians are suffering from tuberculosis, asthma, cancer,
cardiovascular problems, etc., apart from the other gerontological
problems. But the healthcare facilities for the aged Indians are not at
all satisfactory.
(Meena Chaturvedi)21 Pension Policy in India has
traditionally been based on financing through employer and
employee participation. As a result the coverage has been restricted
to the organized sector workers and a vast majority of the workforce
in the unorganized sector has been denied access to formal channels
of old age financial support. Further, the existing mandatory and
voluntary private pension system is characterized by limitations like
fragmented regulatory framework, lack of individual choice and
portability, lack of uniform standards and non-compliance with
international best practices on regulations. The system also suffers
from very high incidence of administrative cost, low real rate of
21 Paper on - Pension Reform Initiative in India - by Meena Chaturvedi, ED, Pension Fund Regulatory Development Authority, Government of India
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returns, and has become unsustainable. The last six years, from
2000 to 2006, have seen a marked shift in pension policy in India
and introduction of a new pension system. This talk will elaborate
on the recent initiatives and reforms in the pension system in India,
including setting up of the Interim Pension Fund Regulatory and
Development Authority (October 2003), introduction of a New
Pension System (December 2003), and introduction of the PFRDA
Bill in Parliament (March 2005).
(K.Gayithri)22The report analyzed the expenditure presently
being incurred by Government; under the existing scheme of
retirement benefits available to Central government employees under
consideration, made projections thereon and suggested ways to meet
this liability. The report assessed the liability likely to arise towards
terminal benefits of employees who had joined before 1-1- 2004 in
the next three to four decades.
It suggested various options by which the liability on this
account can be contained in the future and devise suitable and self-
sustaining models for financing the pension of Central Government
employees with the final objectives that the funds so devised are able
to meet substantially the entire pension liability of the government. 22 A Study of Terminal Benefits of the Central Govt. Employees- Dr. K. Gayithri, Centre for Economic Studies & Policy, Institute for Social and Economic Change – November 2007
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The models developed may present alternate scenarios including
those where no change in the existing scheme of terminal benefit is
envisaged and those where options for changes in the scheme, such
as one time lump sum payment, early exit, VRS among others are
considered. It assessed the financial liability that will need to be
initially incurred by the government for implementation of such self-
sustaining models.
(EPFO Handbook)23 The handbook depicts the basic
information about Provident Fund, advances, contribution,
withdrawal, statutory provisions for a common man.
(Ranadev Goswami)24 This paper reviews the current state of
the Indian pension system. The Indian experience could potentially
influence policy decisions in other developing countries, especially
those with similar reliance on the national provident fund system.
Institutional features of various retirement benefit schemes are
highlighted and their deficiencies are discussed. It is argued that low
coverage level, underperformance of provident fund schemes due to
investment restrictions, and financial difficulties in administering
unfunded public pension programs have rendered the current system
23 EPFO Handbook prepared by Employee Provident Fund Organization - 2011 24 Paper on Indian Pension System: Problems And Prognosis- Ranadev Goswami –,Indian Institute of Management - Bangalore - June 2001
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ineffective and unsustainable. The failed experiments with ad-hoc
reform initiatives in recent past further emphasize the need for a
structural and lasting change. The paper concludes with some policy
directions for reforming the Indian pension system.
(Ministry of Finance)25 The report estimated likely
expenditure on the disbursement of pensionary benefits of
government servants in the short/medium term; and recommended
appropriate formats/information system to facilitate accurate
assessment of the pensionary liability in future.
Since a system analogous to Pay-As-You-Go (PAYG) is
presently used for making budget estimation of the pension
payments, prediction of future payments becomes critical for
facilitating fiscal planning, especially in the short and medium term.
This study determines the total outstanding (stock) liability (funded
and unfunded) of the government arising from pensionary liability in
respect of retirees.
(Vaidyanathan)26 discusses issues and challenges facing the
pension business in India as of September 2004. Discussion on the
25 Working Group - An Assessment Of Government Of India’s Pensionary Liability - Ministry Of Finance, Government Of India- - Shri A.M. Sehgal, Controller General of Accounts - June, 2001 26 Article on “Pension Business in India- R Vaidyanathan, Professor, Indian Institute of Management Bangalore
30
existing pension systems in India, particularly the government
pensions and the mandated pensions for the organised sector of the
Employees Provident Fund; Information on the Three Pillar system
advocated by the World Bank; Issues pertaining to the coverage of
population and the ability of the state to sustain its current schemes
for government employees.
(Randev Goswami)27 Superior equity return and the
associated excess volatility pose a policy dilemma of whether
retirement savings should be invested into equity stocks. Using a
simulation based approach, this paper investigates the suitability of
equity exposure for provident and pension funds in India. A
hypothetical real bond portfolio is considered as the benchmark case
to measure the attractiveness of pure equity and balanced portfolio
investment strategies for pension funds. While excess return over the
terminal accumulation value of the real bond portfolio is considered
as benefit, the shortfall probability vis-à-vis the benchmark is taken
as the risk measure. Our results indicate that an all-equity portfolio
strategy, in spite of its much superior mean terminal accumulation
value, may entail substantial risk taking. Balanced portfolios, on the
other hand, perform much better in terms of shortfall risk but fair
27 National Stock Exchange Research Initiative Paper No. 6 – Randev Goswami- on “An Analysis of Risk-Return Tradeoff and Asset Allocation Decisions”
31
poorly in low inflation regime. Also, our calculations show that if
annuities are actuarially fair, the shortfall risk is marginal for
balanced portfolios and declines further with rise in real interest rate.
Our results, thus, show that equity exposure could help pension
funds to provide better returns to the retirees.
(SIGMA)28 This journal discusses the need for private
retirement financing solutions. As social and economic trends have
increased the need for retirement savings, to meet there challenges,
life insurers must offer innovative solutions. Life annuities
particularly variable annuities popular in US and Japan market are
being introduced in other markets also. Long term care insurance
and reverse mortgages are promising retirement solutions.
Developing a liquid longevity risk market would help insurers to
create innovative market.
(SIGMA)29 The journal deals with the issue of longevity risk
defined as the widening financing gap that may arise as a result of
unprovided – for extended longevity of individuals and of
populations as a whole. The report focuses on the solutions
currently offered by the insurance sector primarily in the form of
28 Swiss Re publication Sigma – No 4 - Innovative ways of Financing Retirement - 2008 29 Swiss Re publication Sigma No3 - Annuities : A private solution to Longevity Risk - 2007
32
annuity products to help individuals provides for their financial
needs in old age. A life annuity provides the policyholders with a
series of payouts upto his death, hence offering effective protection
against longevity risk.
(Surabhi Sinha)30This paper focuses on the various group
superannuation schemes in India. Basically it depicts the
constitution of superannuation schemes in company by appointing a
Trustee to administer the scheme, draft the trust deed and pass it to
establish an irrevocable trust. The group superannuation schemes
can also be purchased from life insurance companies. The various
benefits such as benefits after retirement, tax benefits to employer
and employees, other benefits and investment pattern of
superannuation funds are discussed in detail. The superannuation
schemes can play an important role in providing better lives to
people after retirement provided the schemes are administered
prudently.
(Brian Arrighi)31 The purpose of this paper was to offer a
personal opinion on the approach taken in the United Kingdom and
the lessons to be learned from the experiences of that regime. The 30 Group superannuation schemes in India - Surabhi Sinha, - India Pension Research Foundation - Working paper series, No: 10/04- September 16, 2004 31 Consultation Paper on “Issues in rethinking Income Security in Old Age in India”- Brian Arrighi, Prudential Plc., U.K.
33
paper begins with a brief review of the model adopted by the UK for
comparison with the Indian context. It then looks at each of the key
questions raised by the Committee.
As ever, there should be no question of an overseas
contributor suggesting that they have particular insight for
application in an Indian context. It is essential that Government and
the regulator(s) should be prepared to act as soon as any problems
are identified.
(Mukul G. Asher & Amarendu Nandy)32 The paper discusses
the objectives of social security system and outlines a possible
framework for social security reforms, particularly relevant for
countries in Southeast Asia. This paper takes a narrower view of
social security which includes only the retirement financing.
It also discusses wide divergences in the philosophy of social
security systems in Southeast Asia, and the extent to which the core
functions of the relevant organizations are being performed
satisfactorily. It outlines the main challenges facing the
policymakers in reforming the social security systems in an era of
globalization and competition involving complex trade-offs. In 32 Paper on “Social Security Policy in an Era of Globalization and Competition: Challenges for Southeast Asia” - Mukul G. Asher, Professor, LKY School of Public Policy, National University of Singapore – January 2006
34
particular, coverage, adequacy, administrative efficiency and
transparency, and governance and regulatory issues of provident and
pension funds in selected Southeast Asian countries are briefly
discussed.
(S.P. Subhedar, A.N. Thanawala, Renuka Sane)33 This paper
focuses on mandatory occupational schemes. The administration of
the scheme, investment policy, taxation policy and accounting policy
of EPF, EPS, EDLI, mandatory gratuity scheme, superannuation
scheme is discussed in-depth. While doing so, problems with
current regulations pertaining to trust laws in India, funding and
solvency, investment management and protection of assets, taxation
addressed in detail. Regulatory framework for occupation pensions
in India with regard to pension, minimum funding requirement,
pension fund trustees, early leavers and transfers is stated to enhance
clarity. Appropriate road map is also suggested.
(Robert Gillingham and Daniel Kanda)34 This paper reviews
the current state of the pension system in India, as well as plans to
reform it. Problems with the current system are identified, and,
within this context, the appropriate role of the government in
33 Working paper on “Regulation and supervision of occupational pension funds and gratuity funds”- S. P. Subhedar A. N. Thanawala, Renuka Sane - IPRF working paper seriesNo: 03/04 – July 2004 34 Pension Reform in India - Robert Gillingham and Daniel Kanda- IMF Working Paper WP/01/125 2001
35
retirement saving is discussed. Finally the OASIS reform proposal
is evaluated and additional reform options are presented.
(Manish Sabharwal, Madhu D and Amit Gopal)35 The
current pension reform agenda tends to focus narrowly on the
government and individual segments, and occupational plans like
superannuation, gratuity and provident fund are dangerously
neglected.
The reform program needs to make the leap that science made
from classical physics (discrete systems) to quantum physics
(everything is interdependent) and flip around the current over-
regulation and under-supervision. Most importantly, it is time to
tackle the difficult and politically sensitive issue of reforming
Provident Fund.
The dual and conflicting role of the Provident Fund
commissioner as regulator and administrator needs urgent splitting.
Employers currently pay 4.4% of contributions as administration
fees and the current structure does not subject their fees or services
to any competition. The issue is not public versus private but
competition versus monopoly. Other issues like lifting the ban on
35 Paper on “Employer Pensions in India;Status and Reform Agenda”- Manish Sabharwal, Madhu D and Amit Gopal - India Life Hewitt - IIEF
36
exemptions, scrapping EPS and linking investment returns to market
will be inevitable concomitants of a role separation.
(Robert Palacios, S.A. Dave, Gautam Bharadwaj)36 Despite
the inherently long time horizon of pension systems, changes to
these important programs are observed to be quite frequent over the
course of the last century. In some sense, this should be expected
given the difficulties of predicting what the world will look like
when a young worker today joins the ranks of the elderly tomorrow.
Changing demographic structures, income levels, technology and
even cultural changes can and have forced policymakers throughout
the world to reconsider the intergenerational equation.
(Basudeb Sen)37 The objective of this paper was to identify
and apply principles/criteria for evaluating the existing pension
system in India and for outlining a pension system for the next
century. The paper evaluated the existing system in terms of the
principles and criteria set out and discussed possible reforms for the
future.
36 Book published by IIEF – Chapter 1 Rethinking Pension Provision for India - S.A.Dave Robert Palacios& Gautam Bhardwaj 37 Published by Invest India Economic Foundation (IIEF)- India’s Pension System: A Critique and an Agenda for Reforms” - Basudeb Sen, Executive Director, UTI
37
(RBI)38A group was constituted by the RBI to study the
pension liabilities of the State Government and make suitable
recommendations. This report has fundamentally presented the
pension liabilities by defining theoretical issues and alternative
approaches to pension schemes. It also discusses in detail the
evolution of the social security system in the globe, in India and also
the evolution of Civil Service Pension System in India. This
discusses the issues in pension reform of State Government
employees and specifies the recommendations pertaining to
proposed structural changes, proposed parametric changes.
(Alok Pande)39This paper carries out a review of the available
literature in Pensions which deals with the behavioral dimension of
the participants of the 401(k) pension plans in USA, in exercising
choice and find out the implications for the New Pension System
(NPS) in India. The NPS would cover all Central Government
employees who have joined after 1st January 2004 as well as
employees of 16 State governments. The importance of
understanding the behavioral choices in the Indian context is
manifold – on one hand it will benefit policy makers and regulators
38 Report of the Group to Study the Pension Liabilities of the State Governments – RBI October 2003 39 Article on “Lessons from the behavioral dimension for the design of New Pension system in India” Alok Pande, IIM Bangalore – published in Hindu Business Line 2006
38
in being aware of the behavioral dimension while designing policies,
on the other hand, it will be a useful tool for the pension plan
providers to design pension plans keeping these behaviors of the
investors in mind. It will also be useful to investors themselves while
making decisions about retirement planning.
(CRO Forum)40 This paper focuses on longevity trends and
challenges. Global longevity risk exposure is very substantial. As
population age and awareness of the financial risk increases, there
will be a growing demand for longevity risk mitigation solutions.
Life insurers have an important role to play in providing indemnity
solutions for longevity risk. However, their current capacity to take
longevity risk onto balance sheet may be inadequate. Developing
solutions to transfer longevity risk to the capital markets can help.
1.5 ORGANIZATION OF THE STUDY
The study is structured into seven chapters. Table-4 below
displays the organization of the study.
40 Paper on “Longevity – Emerging Risk Initiative” – Position Paper – CRO Forum 2010
39
Table 4: ORGANIZATION OF THE STUDY
Chapter 1 Introduction of the Research Topic
Chapter 2 Research Methodology
Chapter 3 Pension Provisions for Employees of Central / State
Government and Public Sector
Chapter 4 Pension Provisions for Employees of Private Sector
and Voluntary Pension Plans for Organized and
Unorganized Sector
Chapter 5 New Pension Scheme (NPS) – PFRDA’s Reform
Initiative
Chapter 6 Data Analysis and Interpretation
Chapter 7 Conclusions and Recommendations
The literature review consists of the review of the existing
pension provisions of Central and State Government from its early
beginnings down to current times to include the unique nature of the
Government pension system in India. Pension system of public
sector, Central / State Government schemes are elaborated to show
the Government efforts to create a good mechanism of social
security.
40
Chapter One is an introduction to the thesis. It specifies
objectives, hypothesis, scope, coverage, data sources, significance
and chapterization of the study. It introduces the study and sets the
focus and direction to be taken to for an empirical study exploring
nominally researched or un-researched areas of pension. The
chapter focuses upon giving the reader an overview of the study’s
development.
Chapter Two presents in detail a discussion and explanation
of the research methodology. It begins with a discussion of the
research sample, formulation of questionnaires for collecting data,
data collection process and limitations faced by researcher.
Chapter Three focuses on the existing pension provisions for
the employees of Central / State Government and Public Sector. It
emphasizes the pension scheme coverage of the Government and its
benefits.
Chapter Four is a thorough review of voluntary pension plans
of selected insurance companies available in the market. The
chapter begins by discussing, defining and measuring different types
of pension products available in the market under traditional and
41
ULIP segment. This chapter demonstrates the comparison of
pension products of selected insurance companies.
In the Fifth chapter, inputs on the PFRDA’s reform initiative
- New Pension System (NPS) have been given. This chapter focuses
in detail, on the characteristic features of NPS beginning with
foundation upto the annuitization. It examines the role of
Government in producing a low-cost product which can be useful to
the masses and will provide a great help to the nation in reducing old
age problems.
The Sixth chapter delves into the research findings of the
study. It discusses analysis of primary data collected from
policyholders, prospective buyers and experts in the field of pension.
The desirability of the transition from Defined Benefit to Defined
Contribution from the customer’s viewpoint is also studied.
Whether the PFRDA’s reforms are in tune with the customer
preferences or not was also examined through Experts’ views
collected during focused interviews.
Chapter Seven presents the conclusions of the study in order
to provide the best suitable product as per customer’s choice. It also
tells us that the pension products available in the market are as per
42
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the customers’ preference. Finally, the chapter presents the
limitations of the study and suggests the possibility for further
research.
