BS Number Wise: Old scheme puts burden of employee pension on the states

Some governments are seeking short-term benefits to finance their bills, risking their financial security

The Robinson Crusoe economy is a good example to explain the concept of comparative advantage and inter-generational consumption. In a Crusoe economy, where the only occupation is fishing, the current generation controls consumption and conserves for the future. The system works until a generation starts apportioning a larger share of fish.

Some Indian states could be accused of such short-sightedness as they return to an old pension scheme for government employees. The old scheme puts the burden of employee pension on the state; the new system sets contributions from the employer and employee. Returns in the new system are market linked.

In its July bulletin, an article by Reserve Bank of India researchers warned against the rising bill for pensions. “… the adoption of the old pension scheme is likely to benefit the current generation at the expense of future generations,” said the article. Yet Punjab, where the Aam Aadmi Party is in power, recently announced that it is considering going back to the old pension scheme. Opposition-ruled Jharkhand notified it would return to the old scheme. Congress-ruled Rajasthan and Chhattisgarh did that before Jharkhand.
 

Punjab, Rajasthan and Jharkhand were among the ten states flagged in the article for being fiscally vulnerable and having unsustainable debt.

Punjab, Rajasthan, Jharkhand and Chhattisgarh, on an average, in 2020-21 spent 2.3 per cent of their state gross domestic product (GSDP) on pension. That was higher than the national average of 2.1 per cent, found a 'Business Standard' analysis.

The RBI has said that Punjab, Jharkhand and Rajasthan by 2029-30 would end up spending nearly 3 per cent of their GSDP on pensions. The old system shall lead to more government spending as employees under the new system begin to retire in 2034.

Bihar and Assam had the largest pension outgoes in 2020-21, but Punjab and Jharkhand spent over 40 per cent of their own tax revenues for pension payments. Rajasthan and Chhattisgarh spent nearly a third of their revenues, more than Maharashtra and Karnataka, which spend about 20 per cent of own tax revenues.
 

Punjab, Rajasthan, Jharkhand and Chhattisgarh could be heading for financial pain because their tax revenue growth is slower than revenue expenditure. As per their latest budget figures, the four states will in 2022-23 spend over a quarter of their funds to support pensions.

Spending on pensions, salaries, subsidies and interest payments means less money for development. Punjab, Rajasthan and Jharkhand, already spend over 80 per cent of their total expenditure on these revenue items.

It is not surprising then that states want the old pension scheme and are demanding that the Pension Fund Regulatory and Development Authority return their assets under management (AUM). Although PFRDA has rejected Chhattisgarh’s demand, returning the money would give the state some succor.
 

Rajasthan’s asset under management in PFRDA are worth Rs 39,402 crore or 65.4 per cent of its own tax revenues in 2020-21. For Punjab, the ratio is 57.7 per cent, Jharkhand is 64 per cent, and Chhattisgarh is 76 per cent. In contrast, the ratio for Maharashtra was 20.5 per cent and for Karnataka was 23.3 per cent.

At a time when states’ role in welfare is expected to rise, further populism will only hurt prospects.