If the more favorable old pension scheme is to be financially sound, the focus should be on increasing revenue to fund it
If the more favorable old pension scheme is to be financially sound, the focus should be on increasing revenue to fund it
After Rajasthan and Chhattisgarh, Punjab is the latest state to announce its plan old pension scheme (OPS). Many have argued that this is a financially irresponsible move. We argue why and how we should go back to Ops.
As long as you (and your spouse) are not alive, OPS is an assured inflation-indexed monthly family pension. The OPS level is linked to the last salary you received. NPS is a fund from which you can get pension after retirement. Its value is determined by the market prices in which the corpus is invested.
There are many problems regarding NPS. As one chart 1 As shows, the amount of monthly pension (for equal contribution during service) is quite low for NPS with three notional market rates of return.
Hover over the chart to find the exact figures
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Second, it depends on the uncertainty of the market prices of the equities/bonds in which the corpus is invested. To be sure, markets don’t often crash and in the long run they tend to go up rather than down. But it is still a lottery. If an accident occurs, retirees have to absorb the downside. According to a 2008 OECD study, the global financial crisis wiped out a total of $5 trillion from the value of private pension funds in wealthy countries compared to the start of the year. It’s true that this is the asset’s value on paper, but such a drop could prompt withdrawals among panic-stricken retirees who didn’t age in the long game of speculation.
Third, OPS is a fixed government spending, regardless of an economic downturn or a downturn in the stock market, which makes it a good counter-cyclical policy measure during a crisis. In fact, the Sixth Pay Commission in India did exactly that during the Great Recession of 2008.
It has been argued that OPS is a huge hole in the pocket of the exchequer (25% of the state budget). This number is misleading because three other parts of the revenue receipts of the states – taxes collected by the Center on behalf of the states (SGST, a part of direct taxes, etc.); non-tax revenue that states collect; and non-tax grants that the Center shares with the states – have not been taken into account. chart 2a Shows that the OPS outlay, when calculated correctly, is less than half of 25%. Additionally, as chart 2b Shows, when revenue (as a share of state GDP) rises, the share of pensions falls. So, shouldn’t the focus be on raising revenue rather than cutting spending? but how?
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chart 3 Plots the tax-GDP ratio (state plus center taxes) for 18 of the G20 countries. India is the fifth country from the bottom and performs poorly among the BRICS countries. Even within that, two out of three rupees come from indirect taxes, for which the poor have to pay the same amount as the rich for a commodity. Therefore, by increasing direct taxes – in particular corporate taxes – enough space can be created to ensure good pensions for all.
Not only is there enough room in corporate taxes, if India targets wealth and property taxes, which are almost nil, much more can be mobilized ( chart 4a Not surprisingly, India ranks at the bottom of 18 of the G20 countries. At one point, India had some property tax, though insignificant, that increased between 2005 and 2012, but has fallen sharply since then ( chart 4b ,
Perhaps there is a need to rationalize the level of pension under OPS to make room for temporary workers. But abolishing the old pension completely is like throwing the child with the bath water.
Rohit Azad and Indranil Choudhary teach economics at JNU and PGDAV College, University of Delhi respectively.
rohit.jnu@gmail.com and chowdhury.indranil@gmail.com
Source: Reserve Bank of India, IMF’s World Revenue Longitudinal Data Set (WORLD)