China faces “100 year” pension challenge

It could take China a century to establish a properly functioning retirement benefits system, according to one of Asia's most experienced pension consultants.  

Stuart Leckie, an independent specialist based in Hong Kong, said the mainland authorities face various obstacles in this regard, including demographics, tax and residential status, not to mention increasing pressure from the financial services sector.  

“It might take up to 100 years to sort out this challenge,“ Leckie told AsianInvestor. What's more, the rate of progress on pension reform has slowed in recent years, and he put this down to a sea change in China’s approach. 

Western thinking discredited?

When Beijing was first looking at developing the country's retirement system 20 years ago, it studied research by the World Bank, Asian Development Bank and other international bodies with a view to using this to guide its own thinking.

“Now I think things have very much changed,” said Leckie. “In some ways the West has been discredited, especially after the GFC [the global financial crisis in 2008] and the unbelievable trauma this caused to western banks.”

Leckie has been advising China on its state pension system and the development of employer-sponsored defined-contribution (DC) schemes since 1997. He is now stepping back from some of this work as he nears retirement.

He said conversations he has had with people still closely involved with the process suggest the Chinese now believe they can resolve their own pensions issues. “They no longer think they need to emulate what western developed nations have done.”

"Dangerous" advice

At the same time, domestic financial services firms are pushing an agenda that Leckie believes will create further problems.

“You’ve got a lot of insurance companies and fund managers saying China should have individual pension accounts," he noted. "The commercial [asset] managers from the private sector are basically encouraging the Chinese to abandon the state benefits sector, saying pillar 1b [the DC part] will never work and we have to do something else. 

“I just think that’s so dangerous," said Leckie. "You can’t have state benefits and undermine them just to make the private sector rich. People are now talking about individual pensions where you get tax relief. That will only be OK if they actually come up with something that is built on top of the state benefits."

The issue of tax relief on individual DC contributions is also fraught with problems, because of the country's approach to income tax and the vagaries of the hukou residential status system, which categorises people and their benefits as rural or urban.

Abuse of the tax system

It is relatively easy for individuals to abuse the system, noted Leckie. For instance, the lack of links and coordination between Chinese tax districts creates a "huge loophole", he said. This means people can register with different tax authorities and get "massive amounts" of tax relief, without the authorities being any the wiser.

Another issue that Beijing does not appear to have thought through is dealing with the public's reaction to their retirement savings being hit by falling markets. Enterprise annuities and some state individual accounts can now invest up to 30% in equities, he noted, but Chinese people are not prepared to see their pension accounts go into the red.

"If you had a unitised system [such as Hong Kong's Mandatory Provident Fund], people would get the message about the inevitability of negative returns in some years," said Leckie. "But China is decades away from a proper unitised system."

Increasing mobility of labour also creates problems. There’s a huge issue looming regarding transferability of pension benefits from one part of the country to another, he noted, since benefits are still managed according to hukou status.

"The government has talked about abolishing the distinction between urban and rural citizens, but with over 600 million people with a rural hukou, you can’t suddenly give them all the same benefits that the urbanites are entitled to."

Pension reform seems nowhere near the top of the reform agenda at this point, added Leckie. China has regulators for banking, securities and insurance, but no unified pensions regulator.

"The Ministry of Human Resources and Social Security is just one of many different ministries with an interest in pensions," he said. "It would take the intervention of [President] Xi Jinping to get all these bodies integrated and with enough power to push through all the necessary reforms."

Beijing is in the early stages of its Public Pension Fund reform, whereby Chinese provinces are handing pension investment portfolios to the National Council for Social Security Fund to manage on their behalf.