India's Pension Pickle A Challenge To Fiscal Prudence

With Himachal Pradesh switching back to the fully government-funded old pension scheme, five states have now quit the National Pension System.

All five—Himachal Pradesh, Punjab, Chhattisgarh, Jharkhand, and Rajasthan—are currently not governed by the Bharatiya Janata Party. However, protests have also reached Uttar Pradesh, Karnataka, Telangana, Maharashtra, Andhra Pradesh, and Delhi.

With growing support in favour of the old pension scheme, officials have a fine balancing act ahead of them to manage fiscal prudence in the face of political will.

The debate around the fiscal prudence of the old pension scheme versus NPS stretches back to the mid-90s and early 2000s.

That the pension liability of states was only bound to increase with time and the increasing life expectancy of the population was brought to notice by the Old Age Social and Income Security Project—the OASIS Report—commissioned by the Ministry of Social Justice and Empowerment in 1998.

The report envisioned a new pension system with individual retirement accounts that involved a monthly contribution from the employee throughout the lifetime of service and involved pension fund managers to help manage the corpus.

In 2004, the new National Pension System, or NPS, was put in place. All states except West Bengal switched to the NPS.

Almost two decades on, the pension reform is facing pushback.

Manjeet Singh Patel, the national media secretary of the National Movement for Old Pension Scheme, or NMOPS, and a government employee at the Delhi Board of School Education, told BQ Prime that the movement now has chapters in almost every Indian state, barring Manipur, Mizoram, and Nagaland.

Patel says that of the 84 lakh NPS subscribers throughout the country, about 28 lakh employees are connected to the movement.

The NMOPS has one goal—to revert to the old pension scheme—and its targeting states that are going to polls later this year, like Meghalaya, Karnataka, and Madhya Pradesh.

The scheme, Patel said, is unfair as employees face the uncertainty of market-determined annuity returns. An employee hired on a contractual basis and made permanent after a specific period of service would miss out on pension benefits for those years.

In a research note released on Mar. 24, 2022, the State Bank of India's Economic Research division called the trend of reverting back to the OPS fiscal 'hara-kiri.' The report argued that the continuation of the OPS in the long term would not be viable with a growing implicit public pension debt and an ageing population.

A latest report by the Reserve Bank of India has also cautioned against reverting to the old pension scheme. It called the move "a major risk looming large on the subnational fiscal horizon."

The annual savings of reverting back are short-lived, which will come at the cost of accumulating unfunded pension liabilities in the coming years, it said.

The savings referred to here are the immediate gains that state governments that revert to OPS will realise. They now don't have to make monthly contributions to the pension corpus of each employee.

Mukesh Kumar Anand, an assistant professor at the National Institute of Public Finance and Policy, told BQ Prime that the NPS is currently an addition to the OPS. The old system continues for the defence forces and in civilian services, both for existing retirees and recruits prior to Jan. 1, 2004.

"The government contributions for the new civilian recruits only added to the continuing trend of expenditure on account of the OPS. The liability and expenditure under OPS have continued unaddressed—it could have only reached an inflection point (at the earliest) somewhere in the late 2030s," he said.

Anand suggests that the first step in bringing about sustainable pension reform would be to rationalise the existing benefits under OPS and not place the entire burden of adjustment on new civilian recruits.

He added that any reform must equally target all active recruits and even the old system must be checked for overreaching beyond the true objective of pensions.

In the event the OPS system must continue in its present form, Anand said, then it would compel the government to function with fewer people in service or with workers segmented in such a way that they are excluded from a formal system of old-age income support and security. The latter would stem the immediately growing burden but give rise to an unsettling social divide.

However, a trend of lower recruitment has already been noted in government jobs. The number of candidates recommended by recruiting agencies for appointment in different central government departments since 2014 has been declining on a year-over-year basis, according to Lok Sabha responses.

The Seventh Pay Commission, which periodically evaluates and recommends revisions of salaries and pensions for government employees, also said the central government's share in organised sector employment has gradually decreased over the past 15 years.

In 2012, when the commission last convened, the central government employed 8.5% of the organised workforce. This was a decline of about 4%, from 12.4% in 1994.

BQ Prime reached out to finance officials in the states that have reverted to the OPS to understand how they are balancing their fiscal priorities.

Officials from Himachal Pradesh, Punjab, and Rajasthan didn't respond to BQ Prime's queries immediately.

There is research that points to NPS beneficiaries getting similar, if not better, returns than OPS beneficiaries because the annuity is market-linked, but the unease has persisted, a senior official with the government of Jharkhand told BQ Prime on the condition of anonymity.

Since people look to government jobs for stability, it became more prudent for the state to revert, the official said.

Since April 1, 2022, the Jharkhand government has shifted to the OPS, saving Rs 1,000 crore in government contributions annually, which could either be invested further or find its way to the people through other schemes like direct benefit transfer or a universal pension increase.

The real challenge will begin when governments approach the point where NPS members also retire and add to the pension liability while few older subscribers leave the system. By that point, states must look to strengthen their capacity to raise revenue and fill the gap, the official said. Jharkhand estimates this point to be in the 2040s.

An official with the Chhattisgarh government, who also wished to remain anonymous, told BQ that the state is constituting a reserve fund to deal with this eventuality.

Chhattisgarh is among the states with the lowest pension liability, according to the recent RBI report findings. The state plans to invest its Rs 1,200 crore in annual savings accrued by converting from NPS to OPS.

The official said that the state’s share will not be used as a budgetary resource but will go into a 'pension reserve fund,' from which it will be invested in government securities. Additionally, the state also plans to contribute 4% of its annual pension expenditure to this fund as budgetary support.

This, they hope, will serve as a fallback mechanism if and when pension liabilities rise and state resources are stretched.