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Pension system for social stability

The pension system, if developed on proper lines, can generate social stability by ensuring the independence of each generation from the succeeding ones.

THE ARTIFICIAL restrictions placed on the development of health insurance in the country were analysed on March 10 in these columns. This was in the context of the Budget speech of the Finance Minister. Other aspects touched upon by the Finance Minister were the development of an old age pension plan, in the context of falling interest rates, and the constitution of Pension Regulatory and Development Authority.

The FM stated that the LIC of India will be asked to launch a special pension policy, Varishta Bima Pension Yojana (VBPY), guaranteeing a return of 9 per cent and the maximum monthly pension that a person, aged not less than 55, can avail of under this scheme will be Rs.2000. This ceiling is likely to be raised. It was also stated that the benefits will be calculated at 9 per cent per annum. If a 9 per cent return is to be guaranteed, the rate of interest used in the calculation has to be about 10 per cent in order to provide for operational expenses. If the rate of interest used is 9 per cent, the return to the pensioner will be only about 8 per cent. A clearer picture may emerge in the coming months.

Scope for special bond under LIC plan

An important aspect of this scheme is that if the actual yield on investments of the funds of this scheme is lower than that assumed in the pension rate calculation, the shortfall will be reimbursed by the Government. A better way may be to float a special bond to which only a VBPY fund can subscribe, at an appropriate rate of interest. There are precedents to the issue of such special purpose bonds. More than three decades ago, when the rate of inflation in Israel touched three digits, it floated special index linked bonds for investment of the funds of life insurance companies. These bonds ensured that the real value of the premiums paid by the policyholders over a long period was always protected.

The condition that only the LIC will be permitted to market this pension plan may raise protests from other insurers. Instead, the monthly pension corresponding to a single premium of say, Rs. 1 lakh, may be fixed and all life insurance companies allowed to market this product on condition that the pension rates offered should not be lower than the rate fixed by the Government. It may happen that only LIC can afford to satisfy this condition. But then, there cannot be any protests from other insurers.

A policy statement, much more important than the opening of the insurance sector to competition, was also made in the budget speech. It was the proposal to set up the Pension Regulatory and Development Authority.

Old age pension?

A steep fall in mortality rates, with the rates at the beginning of the 21st century being less than 20 per cent of that at the beginning of the 20th century, and a gradually declining birth-rate, have together dramatically altered the ratio of the number of dependent old persons to active young persons. The consequent pressure on the younger generations has made the joint family system economically unviable. The best alternative to the joint family system is a social security system, the backbone of which is the old age pension. The pension system, if developed on proper lines, can generate social stability by ensuring the independence of each generation from the succeeding ones.

The individual pension plans marketed by life insurance companies can touch only the fringe of the problem of providing old age pension for all. Group pension schemes, involving employers, individual employees and employee unions have to be launched. In the case of the self-employed, associations of self-employed have to take the place of employers.

Introduction of occupational pension schemes will always entail additional financial burden for the employer and so will not be considered favourably unless the employer feels that he has something to gain in return. The problems involved in developing, spreading and controlling occupational pension schemes are therefore highly complex in nature and entirely different from those of managing individual pension schemes. A close coordination between the ministries of Finance and Labour is vital for its success. Giving shape to such coordination has to be one of the primary functions of the proposed Pension Development and Regulatory Authority.

It is relevant to mention here that the Dave Committee on Old Age Social and Income Security (OASIS) had recommended in January 2000 the formation of the PRDA. In fact, the budget proposals have drawn heavily from this report.

The Advisory Group on Insurance to the Standing Committee on International Financial Standards and Codes, set up by the Governor, Reserve Bank of India, had also recommended, in September 2000, the constitution of an Occupational Pension Board.

Once the concept of occupational pension scheme spreads, thousands of schemes are sure to be set up and the volume of funds under their control may match those of insurance companies. These funds, ideally suited for deployment in the infrastructure sector, will not only bring about social stability but also lift the general level of the national economy.

R. Ramakrishnan
(Actuary)

(Actuary)

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