China's Ever Grand Pension Problem?
Six days a week for 13 hours a day, 56-year-old Chen Qingling and her husband clean the corridors and bathrooms of an office building in Beijing to feed themselves and their son’s family.
While their wealthier peers spend retirement travelling, taking dance lessons and classes in Chinese tea culture and painting, Chen – who hails from the countryside in Henan province – does not have savings or a pension to live out her golden years in comfort.
“My son is still recovering from an injury and his wife stays at home to take care of their three young children,” Chen said. “If I don’t work, who will feed the five mouths? My father-in-law is 89 years old and visits the hospital a lot, which also costs a lot of money.
“There’s no spare money I can save up. It’s difficult, but I have to hang in there to keep living.”
China has been transformed from an agricultural backwater into the world’s No 2 economy over the past four decades, but as its population rapidly ages, the country has found itself unequipped with a comprehensive welfare system.
Some 264 million Chinese people were aged 60 and above in 2020, accounting for 18.7 per cent of the total population, according to the seventh national census released this year. Ten years ago, that figure was 178 million, or 13.3 per cent of the population.
With fewer workers contributing to the public pension system and a growing number of seniors to support, the state retirement fund is expected to face a shortfall within the next two decades as contributions from workers are outweighed by payouts to retirees.
The Chinese Academy of Sciences (CASS) in 2019 projected that China’s urban state pension fund would run out of money by 2035.
China’s mandatory retirement age is 60 for men and 55 for women – or 50 for blue-collar female workers.
The government has announced plans to delay the retirement age to help offset the demographic crisis, and is exploring ways for the elderly to continue taking part in the workforce.
But for many rural residents, including migrant workers in cities like Chen, retirement remains a fantasy, due to a lack of savings and limited pension coverage.
China’s ageing crisis is most severe in rural areas, where 23.81 per cent of the population are aged 60 and above, up 10.6 per cent from a year earlier.
In 2018, 19.5 per cent of the population aged above 60 still lived in poverty, according to data from the Survey and Research Centre for China Household Finance at Southwestern University of Finance and Economics.
Wealth and pension inequality, especially between urban and rural areas, has forced many approaching retirement age in China’s countryside to keep working to support themselves and their families.
“I gave my first son 400,000 yuan (US$62,700) when he got married in 2014, and that was seven years ago. It will only cost more when my second son gets married,” said 55-year-old Guo Youmi, from Datong in Shanxi province.
“I drove a taxi for 20, 30 years, and never planned for retirement,” said Guo, who moved to Beijing last month to work as a guard at a flat complex.
“I don’t think too far ahead, now I have to keep working so I can feed myself and save up for my son’s marriage.”
Many elderly people from rural areas lack education, but some companies prefer hiring them to save costs, said Yang Guofa, who runs a labour dispatching company and helps older and retired people find jobs.
“It’s cheaper for companies to hire these people, they don’t have to pay insurance, benefits or pension,” Yang said. “ These older people are mostly from rural areas and are often hired for low-skilled jobs such as gate guards, cleaners, shelf stockers etc.”
Unlike many developed countries, most Chinese rely on the public pension system.
Chen and Guo pay annually for the new Rural Social Endowment Insurance, a government social insurance scheme launched in 2009.
But they will receive less than 100 yuan (US$16) a month when they turn 60, which hardly covers three meals in Beijing, and is not nearly enough to cover monthly expenses.
“The government needs to increase the pension of Rural Social Endowment Insurance, to improve the living conditions of the elderly in rural areas,” said independent demographer He Yafu.
Excluding civil servants, who receive healthy pensions, and highly-skilled intellectuals still hired after retirement, not all urban retirees are out of the woods either – especially those with only one child to count on.
Under the urban pension plan, workers contribute up to eight per cent of their wage, while employers’ contributions vary in different regions, mostly falling between 14 and 20 per cent. An average urban retiree can receive between 2,500 to 4,900 yuan per month.
While some work after reaching retirement age to avoid boredom and to stay connected to society, most are still faced with lower monthly incomes and bigger financial burdens when their health deteriorates.
“Urban workers can retire and get pensions at a certain age, but whether the pension can afford a decent life in old age with dignity is a different question,” He said.
The average monthly pension in Beijing was 4,365 yuan in 2020, while a medium-priced nursing home in the capital could easily cost more than 5,000 yuan a month, excluding food and medical expenses. It could be much more if special care is needed.
Even in cities, a lot of retirees still want to work because they do not want to burden their children, said Zhang Jing, a silver industry expert and founder of “80 yanglao”, a platform that educates people about retirement and pensions.
“Housing, rising food prices, their second and third grandkids, what doesn’t cost money?” Zhang said. “Some retired parents are still financially supporting their adult children, or offering free childcare, which is also a way of creating value.”
According to a joint survey published by insurance company AIA Group and CASS in October, 64.5 per cent of urban middle class Chinese had no retirement plan or had not taken any concrete actions towards it. Only 28 per cent had taken steps towards retirement.
Some 30.8 per cent of respondents said they were counting on their children to look after them.
Inability to retire due financial pressure is not just China’s problem.
In South Korea, 34.1 per cent of people aged 65 and older are in the labour market, according to data published last month by the Organisation for Economic Co-operation and Development. Many of them work to survive, with 43.4 per cent living in poverty.
In Japan, more than one in four people aged 65 and above are still working.
“Without a quality pension support system, young people would be reluctant to get married and have children, middle-aged people are double burdened to care for the young and the elderly,” said Zhang Jingwei, a researcher at Chongyang Institute for Financial Studies at Renmin University.
“Only when the elderly can enjoy the fruits of the reforms and are guaranteed institutionally happy twilight years, anxiety at different age groups can be solved and all of society’s energy can be released.”
Today's topic will be China's pension system.
As you can read above, it's a big problem, especially in rural areas where pension poverty is rampant.
I've covered this topic before. In 2019, I discussed why China's pension system is on the brink.
But I wanted to revisit this topic because Clive Lipshitz sent me an email stating this:
Each of the past few years, I’ve mentored a group of students in NYU’s Master of Science in Risk Management degree (each year, there has been a group interested in pension risk). The group in last year’s cohort decided to study the China Pillar 1 pension system. They were able to access some of the critical underlying actuarial data (which is published only in Mandarin) and used an “expert elicitation” methodology to get a series of views on what might be done to stabilize the system. Their synopsis of the situation and proposed reforms are in the attached brief article.
The short article these three students prepared is on what China needs to reform its pension system:
Evergrande’s bankruptcy and China’s crackdown on real estate developers and tech giants have attracted widespread attention. But there’s a hidden and even greater risk brewing in the Chinese economy that could trigger a longer-term fiscal crisis with global spillovers. China’s Academy of Social Sciences has projected that the country’s basic (Pillar 1) pension system, which covers urban workers, will run dry by 2035. The Mercer CFA Institute Global Pension Index has ranked China’s pension system near the bottom internationally, reflecting a basic lack of sustainability.
The likelihood of a major pension pool running dry in the world’s second largest economy has global financial implications. Key changes are needed to mitigate this risk.
As in many countries, China has a three-pillar pension system. Pillar 1 is a pay-as-you-go scheme, with mandatory worker participation. It is funded by contributions from both employers and employees. Pillar 2 is voluntary at the enterprise level, with contributions from employers and employees as part of the employment contract. Pillar 3 comprises private retirement savings. Robust national pension systems draw from three pillars to provide adequate sustained post-retirement benefits for broad swaths of the population.
In the case of China today, Pillar 1 alone accounts for 78% of total retirement assets and provides basic pension needs for urban workers, who account for 60% of the working population. Problems with China’s Pillar 1 system can be traced to demographics, pension design and constraints in the way pension reserves are invested.
First, China’s demographic complexity is located at both ends of the life cycle – fertility and life expectancy. In 1965, the average Chinese woman gave birth to 6.5 children. Today – due largely to the One-Child Policy adopted in the 1980s – the fertility rate is at best 1.7. Despite recent liberalization, it is not expected to increase dramatically. An even greater stress on China’s pension system comes from the remarkable increase in life expectancy. In 1960, a Chinese person could expect to live to age 44. Today, life expectancy is 77. The math does not work when a pension system designed assuming lots of younger people, but few older ones, meets up with a reality of fewer younger people and lots more older ones.
Second, China's pension policy has not adapted to these changing demographics. The statutory retirement age has remained unchanged since the 1960s – at 60 for men, 55 for white-collar females and 50 for blue-collar females. China is ageing much faster than the rest of the world, yet its work force is retiring young. This dynamic is not sustainable.
Third, the investment policy governing China's pension reserves has been excessively strict. The government established the National Social Security Fund (NSSF) in the 1980s as a pension reserve fund. The NSSF has 90% of its assets invested in domestic markets, forgoing opportunity to obtain exposure to other markets and asset classes.
What to do?
The country needs to raise the retirement age gradually, to match the increase in life expectancy. This will doubtless be unpopular among many, including the young who will be crowded-out of the labor market by lingering seniors. It needs to increase pension contribution rates to ensure full funding of promised benefits over time – likewise unpopular because current contribution rates in China (16% for employers and 8% for employees) are already high by international standards. It may need to condition future benefits on solvency of the pension system. And it needs to liberalize the NSSF’s investment mandate. In particular, it should establish a group of highly professional public sector pension investment organizations across the country.
In combination with such reforms, China should rely less on its Pillar 1 pension scheme and promote the Pillar 2 and 3 systems.
Given the size of China's population and the magnitude of the impending pension funding deficit, getting these reforms right is of global significance. Failure will eventually create a meaningful liability relative to the country's economy and put at risk the secure retirement of hundreds of millions of people.
I thank Clive for sharing this article with me and also thank the three students (which will remain anonymous) for writing it up.
Obviously, I agree that China has a huge pension problem. It's not alone and we can even argue that the US isn't that much better as a big proportion of its population will succumb to pension poverty.
Even in the UK, millions of people on benefits are facing poverty as payments to rise by just half of inflation.
But in China, the problem is acute and already affecting millions of elderly workers who are literally scrambling to survive.
So what can China do to reform its pension system?
Well, as the students state in their article, there are reforms the country can undertake immediately:
- Raise the retirement age to reflect the fact people are living longer
- Increase the contribution rates to ensure the funded status of these pensions is solid
- Introduce risk sharing in the form of conditional inflation protection based on the funded status of these plans
- And most importantly, liberalize the NSSF's investment mandate and establish large, well governed defined-benefit pensions throughout China that are managed like Canada's large well-governed DB pensions.
That last recommendation is critical and admittedly, not straightforward in a country like China which is run by communists.
But the Communist Party of China isn't stupid and when it comes to collective policies like health, education and the retirement system, it will do what is in the best interests of the people.
In 2017, I discussed how Canada's largest pension fund, CPP Investments, was helping China fix its pension future.
I'm not sure what is gong on with this initiative but China is clearly at a crossroads when it comes to fixing its pension system.
Interestingly, one well-known Chinese economist thinks the country needs a $300 billion fertility fund:
China’s birth rate has been dropping steadily in recent years, creating a shrinking workforce and mounting burdens on the state pension system. There were only 8.5 births per 1,000 people in 2020, the lowest rate since the People’s Republic of China was established in 1949. But the government could spend its way out of this demographic collapse, according to a top Chinese economist.
Ren Zeping, the former chief economist for debt-laden property giant Evergrande, is known for his outspokenness. He proposed that the Chinese central bank should print an additional 2 trillion yuan ($314 billion) to set up a fertility fund. This could help the country to have 50 million more babies in 10 years’ time, according to a memo (link in Chinese) issued by Ren, now the chief economist at brokerage Soochow Securities, and his team on Jan. 10.
Well, fertility rates are dropping everywhere because life is getting prohibitively expensive everywhere, so maybe Zeping's idea isn't outlandish.
But all those Chinese babies are going to grow up and eventually retire and it's best to start fixing the retirement system to make sure they retire in dignity and security, not in poverty.
A few other thoughts on China.
In my Outlook 2022 which you all should have read by now since I published it last week, I stated China and Europe worry me.
In Part 1 of John Mauldin's outlook, A Path-Dependent Year—WWJD?, he ended by noting this on China:
China’s success is actually a problem now. Having seen only small outbreaks, the population has very little immunity except for vaccines. Studies indicate China’s vaccines offer precious little protection against Omicron (and even the original Covid variants), and the country is simply too big to import foreign vaccines in sufficient quantity (and might not do so anyway, since it would mean admitting their own vaccine’s inferiority—they have refused to license the mRNA vaccines).
That means China is wide open to Omicron which, because it is more transmissible, will require even faster and more rigorous suppression efforts. It’s already happening, too. Xian, a city of 13 million, has been in full lockdown for two weeks. The number of cases (at least what they admit) in Xian is trivial by our standards, only about 1,800 as of a few days ago, but obviously more than the regime will tolerate.
As big as China is, there is simply no way Omicron will stay confined to Xian. It’s going to pop up elsewhere. That means the country will see more such giant lockdowns as the virus rolls through the population. Xi has no better alternatives. John Browning, a commodity trader living in Shanghai, wrote last week he expects this to persist until at least the next Party Congress in October.
China’s COVID problem will have internal and external effects. Within China, it will further slow an economy that was already transitioning to a new “Common Prosperity” paradigm. Rolling, random, weeks-long production shutdowns won’t add to anyone’s prosperity. They will also further aggravate the global logistical snarls.
Now, maybe Xi will pull a rabbit from his hat. He rose to power because he gets hard things done. I am at a loss imagining what he could do, though, which probably means we will all feel an impact. Lost Chinese imports will further encourage US and European businesses to bring production home, even at higher cost. That will be inflationary in the short run. Companies will continue shifting from “just-in-time” to “just in case” inventory management, where necessary components are produced regionally or in places that are easily accessible.
If all goes well the Western powers may finally emerge from the COVID cloud while China stays in the middle of it. That kind of disparity isn’t conducive to cooperation, economic or otherwise. Next week I will write about China’s crackdown on various industries, which I think is going to have serious negative effects on their economy. Given China’s importance in the world, that is a problem for all of us.
All this to say, China has more pressing issues to deal with right now than fixing its antiquated pension system.
Still, as someone who writes passionately about the importance of solid retirement systems, I do hope China starts taking steps to reform its pension system in a meaningful way.
I have no doubt the Chinese can do this but the longer they wait, the worse the problem will become, so it's important to start reforms as soon as possible.
And the good thing about China is because it's a communist country, they can draw on the best ideas from all over the world and start implementing them right away.
Of course, they have to get the governance right on these pensions, and that means no political interference which isn't possible in a country like China.
Below, learn why China's elderly farmers can't afford to retire. It's heartbreaking but a sad reality in China and other parts of the world and the reason why I tell all Canadians they should be grateful we have a decent pension system and top pension plans managing assets so people can retire in dignity and security.