Is the Old Pension System for state government employees a feasible idea?

A promise by Delhi chief minister Arvind Kejriwal to restore the old pension system (OPS) for its employees reminds one of the vociferous defence of the erstwhile pension system by then West Bengal finance minister Asim Dasgupta at a meeting of the states called by the union finance ministry way back in 2007 to sell the National Pension System (NPS).

Under the old pension system, a retired employee is given assured pension which keeps on rising depending on the inflation rate. However, under NPS, there is no assured pension, but defined contribution by both the employee and employers. 

At the end of the above cited meeting, then union finance minister P Chidambaram had briefed journalists on the virtues of NPS, immediately followed by Dasgupta who expressed fears about pitfall of the pension system that was being advocated.

At that time, the union finance ministry had made an estimate of the rise in pension expenditure and increase in the ratio of pension expenditure to tax revenue taking the entire period 1993-94 to 2004-05 as a whole, and indicated a compound growth rate of pension expenditure of around 21 per cent for the central government and 27 per cent for the states. It also estimated an increase in the ratio of pension expenditure to tax revenue from 9.7 per cent to 12.6 per cent for the central government and from 5.4 per cent to more than 10 per cent for the states from 1993-94 to 2004-05. On the basis of trend rate of pension expenditure and tax revenue over this period (1993-94 to 2004-05) as a whole, the projection has been made by the ministry for financial unsustainability in terms of rise in pension-tax revenue ratio. 

Dasgupta, on the other hand, had rubbished the claim saying that the union finance ministry did not take the relevant period. If it takes the period after value added tax (VAT) was implemented in states, the figures would present a different picture. VAT was implemented in a majority of states from April 1, 2005. According to Dasgupta, the growth rate of tax revenue of the states had increased significantly post-VAT–– from a historic rate of growth of 12 per cent of sales tax revenue a year to more than 20 per cent growth rate of VAT revenue a year. He also said that rate of growth of pension has also started falling in recent years. For West Bengal, for instance, during the last three financial years (2004-05, 2005-06 and 2006-07), growth in pension expenditure has been generally below 10 per cent, he had said.

Arguments given by Dasgupta did not find many takers and after much delay Pension Fund Regulatory and Development Authority (PFRDA) Bill was passed in 2013 by the UPA government, though NPS was made mandatory for central government employees from January one, 2004 with a few exceptions. However, West Bengal has its own apprehension of the scheme despite change in the ruling party. Today, every state has NPS, except West Bengal. 

How unfeasible were Dasgupta's ideas could be gauged from the Reserve Bank of India's report on state finances in 2016. It had cautioned West Bengal that its interest expenses and rising expenses on salary and pension are going to be major stress points. 

According to its latest report, states altogether (despite most of them switching over to NPS) have budgeted to spend Rs 3,104 billion on pensions in 2018-19 which constitutes 11 per cent of their projected revenue expenditure at Rs 27,837.8 billion. 

West Bengal had its fiscal deficit in the range of 2.3-2.4 per cent of gross state domestic product (GSDP) in the last three financial years. But it has projected it to decline to 1.7 per cent in the current financial year. 

Delhi, however, could be in a better position to implement OPS, despite that pension system having all its flaws. The state had a fiscal deficit at just 0.3 per cent of GSDP in 2016-17 and 0.3 per cent in FY'18 (RE). It had a fiscal surplus at 0.2 per cent in FY'16. For 2018-19, the state has projected its fiscal deficit to be 0.4 per cent of its GSDP. 

Kejriwal also said that he will talk to chief ministers of Kerala, Andhra Pradesh and Karnataka for restoring OPS. 

Among these states, Kerala and Andhra Pradesh had a fiscal deficit at more than the mandatory 3 per cent of GSDP in the last three financial years. Kerala has projected fiscal deficit at 3.2 per cent in the current financial year, but it is likely to widen following expenditure on relief and rehabilitation in the aftermath of floods there. Andhra Pradesh has projected the deficit to fall to 2.6 per cent in FY'19 from 3.4 per cent in FY'18 (RE). However, it is yet to be seen whether the state will be able to meet the target or not following expenditure on the new capital of Amravati, a point over which it shunned the partnership with the ruling National Democratic Alliance. 

Sumit Shukla, CEO of HDFC Pension Management Company Limited, said it is an impossible idea to revive old pension system. 

"This is so because liability is going to be huge for the exchequer as the life expectancy is now longer. People are living much longer and the amount of pension liability would be much more than what was it earlier. The governments cannot take this liability in their books," he said. 

According to latest sample registration system report, life expectancy at birth in India has gone up to 68.7 years during 2012-2016 from 49.7 in 1973.

Shukla said all the advanced economies in the world -- be it US, UK or Canada – have the NPS kind of model. "No one gives old pension system kind of benefits anywhere in the world," he said. Probably Nordic countries have some kind of defined pension or social security system. 

However, much of the case for not reversing NPS has been given from the point of view of the exchequer. What about employees? Do they complain that they are worse off under NPS than OPS?

When asked this question, Shukla said, "We don't hear any dissatisfaction of this kind."

He said everybody has to be responsible for his retirement. "NPS creates responsibility among employees towards their retirement money."

If one looks at the returns, all three pension fund managers -- LIC, SBI and UTI-- are giving over 9 per cent returns for five years or since inception. 

But, is it sufficient?

Here the issue of choice of pension fund managers and allocation of funds to the equity comes into question. 

The government does not allow private fund managers for handling government employees’ pensions funds. 

If one looks at NPS returns for private sector employees, where up to 75 per cent of funds could be invested in equity, those are in double digits for a five-year period as on October 31, 2012 by all the fund managers. Also, only a few of the funds give less than double digit returns since inception. 

Up to 50 per cent funds of the government employees could be parked in equities, while it is 75 per cent for private sector employees. As such, even the public sector fund managers -- LIC, SBI and UTI-- are giving more returns to the employees under this scheme. All three of them give double digit returns for a five-year period. And it was only SBI that gives a bit less 9.3 per cent since inception. 

So far as private sector fund managers are concerned, HDFC gives as high as 12.20 per cent returns for a five-year period as on October 31, 2018 and 14.08 per cent since inception. 

As such, Shukla said government employees may be dissatisfied because the government does not allow to park over 50 per cent of their NPS funds in equity. "Also, only public sector financial companies such as SBI, UTI and LIC are allowed to handle their funds. The government should reform this and allow greater allocation to equity, besides permitting private funds to manage NPS of government employees as well," he said.