Dr Bharat Jhunjhunwala
THE Government is planning to bring the new Pension Bill before the Parliament soon. Pension to government servants was paid from the current budget of the Government till 2003. A government servant who, for example, retired in 1990 would be paid pension from the current budgetary revenues of the government in 2012. The Government used the services of the servant in 1990 but passed on the pension liability of that usage to the future citizens of the country. Our taxes paid today are used to pay pensions to government servants who have provided services earlier. In other words the present generation is paying for the services utilized by earlier generations.
Finance Minister Yashwant Sinha had initiated a New Pension Scheme (NPS) in 2004 to limit this ever-increasing burden. All Union Government employees recruited after 2004 are to get pension under this scheme. They have to contribute 10 per cent of their salaries towards their pension fund with the Union Government providing a matching amount. The NPS makes a radical departure from the past practice. Previously the amount of pension was determined by the present salary structure as advised by the Pay Commission. The NPS does away with a determined amount of pension. The amount accumulated in the pension fund of the individual is used to provide pension to him. This varies with the amount accumulated.
There are some shortcomings in the NPS, however. First, that it covers only government servants. Ninety-five per cent of the citizens are outside its coverage. Second, the pension fund is wholly being invested in Government Bonds which provide a low rate of return. The cost of managing these funds is high while the return is low. The UPA Government has made a Bill to remove these shortcomings.
The Bill provides flexibility in investment of the fund. The beneficiary can choose a management agency from among many that may be registered for the purpose. Presently the entire corpus is managed by the State Bank of India. A beneficiary does not have the option of assigning management to another agency which may be able to garner better returns. Private- as well as foreign entities are allowed to register themselves as fund managers under the new Bill. That will provide greater choice to the beneficiary. Foreign investors want the Bill to be passed expeditiously because they want to enter this business of managing the pension funds.
The Bill enables the beneficiary to take a higher risk and earn higher amounts as well. Presently the entire amount is wholly invested in Government Securities. For certain category of beneficiaries 5 percent is allowed in equities and 10 percent in Mutual Funds. Eighty-five percent has to necessarily be invested in Government Securities. The Bill provides that a beneficiary can instruct his chosen management agency to invest higher amounts in share markets. Pension Funds are allowed to invest up to 60 per cent in equities in the UK. While providing this choice is welcome, a word of caution is required. Pensioners in the US have lost about one-third of their payouts to the global recession. That said this is not a shortcoming of the Bill because beneficiaries are allowed to opt for the safer option of investing wholly in Government Securities.
The Bill allows private citizens to invest in the NPS. However, they will not be entitled to a matching grant by the Government. There is provision for a small incentive to those investing less than Rs 12,000 per year. On the negative side the returns from the NPS are taxable. This makes NPS less attractive than the Public Provident Fund which is tax free.
The Bill is being opposed mainly on the grounds that it does not provide a guaranteed return on the investments. A Parliamentary Committee has recommended introduction of minimum guarantee. I do not think this is justified. Ultimately the ordinary people of this country will have to bear the cost of providing this minimum guarantee. If return from the investments is, say, 8 per cent; and the minimum guarantee is 10 per cent then two per cent will have to be paid from the general budget of the government.
A better alternative is to provide two options to the beneficiaries. They may opt for a minimum guarantee or for a flexible investment plan. The money parked in the minimum guarantee option may be invested in long term Government Bonds such that the future income covers the minimum guarantee. A minimum guarantee of eight percent may be given and money invested in Government Bonds that provide eight per cent return. This will provide minimum guarantee to the beneficiary without imposing any burden on the taxpayer.
Actually, government employees want to get double benefits. They want the option to invest in equities so that they get higher returns; but they also want the Government to ensure a minimum guarantee just in case they incur a loss. This means that the beneficiary keeps the profits; while the Government bears the losses. This is unfair. Two crore government servants who are already highly paid cannot be allowed to further bleed the aam aadmi for providing them with a guaranteed return.
Another argument against the Bill is that it does not provide adequate coverage for the unorganized sectors. This argument is correct. But the Government has limited resources and one should not expect all problems to be solved in one go.
Third objection to the Bill is that it allows the investment of sensitive pension fund in speculation in the share markets. Factually this is correct. But the Bill only provides an alternative for investing in the share markets. Such investment can be made only if the beneficiary gives appropriate directions. There is no compulsion for investing in equities. Further, it is incorrect to brand the share markets as purely speculative and unproductive. The share markets help channel small amounts of hidden wealth into productive works. They also provide signals to the bankers and other players about the health of a Company.
A limitation of the Bill should also be mentioned. Commentators have suggested that the Bill will help control the fiscal deficit of the Government. I do not think such will happen. The budget has already been firewalled from pension liability of new recruits to the government by the NPS. They are not to be paid pensions from the budget. Therefore, the Bill will have no impact on fiscal deficit. If at all, it may have a negative impact. The Bill will lead to diversion of part of the fund from Government Securities to equities. That will reduce the demand for Government Securities and the government may have to offer higher interest rates to meet its borrowing targets. That will worsen the fiscal deficit due to increasing interest burden. The Pension Bill should be welcomed. It provides options to the beneficiaries while providing security to those who want to play safe.