Existing pension schemes in India focus on the organised sector. There is a pension scheme for civil servants, currently being overhauled into a modern scheme with smooth IT systems, competing fund managers, and a brand new regulator. While there is a small scheme run by the EPFO for unorganised workers, its coverage is limited. Effectively, 93% of the workforce which is employed in the organised sector does not have access to a pension scheme.
How can India offer old-age security to poor unorganised workers across the country? One way would be to expand the EPFO’s unorganised sector pension scheme. However, given the innate difficulties of a defined benefit system, the scheme is already hobbled with the problems which plague the EPFO. The right strategy is to close down this scheme, before it gives the exchequer more trouble.
At present, 50-odd insurance companies and mutual funds offer over 700 financial products. They periodically lobby against work on pension reform. But their products have been accepted by less than 1% of the population. This is due both to the high cost of the schemes and to their complexity. A worker who can put in Rs 10 per day finds no place for herself in the scheme. It is hence unlikely that the present insurance and MF industries will be able to reach beyond the creamy layer of the country.
It should also be clear that the government does not, and will not, have the fiscal capacity to fund a population-wide defined benefit scheme paid out of taxpayer money. A defined contribution scheme must be designed, which is suitable for workers with little education, near zero financial knowledge, and geographical mobility. One way to achieve this is to expand the new civil servants pension scheme to the unorganised sector. This has a nice kind of incentive compatibility: If civil servants build a scheme for themselves, they have an incentive to make it work, and then the unorganised sector will reap the benefits of their special care and attention.
While broadening the new civil servants scheme to cover the unorganised sector is feasible, it is important that system should be designed right at the outset so that it is cheap and easily accessible to all. Right upfront, it should be clear that the scheme is not being designed for only civil servants but for the masses. This places an additional onus upon the early implementation of the scheme, to look beyond the immediate needs of government employees, to the needs of the larger population.
Education on planning for old age security should be offered to the population. To prevent workers from getting duped by slick marketing agents, the government should offer her an integrated front end for her pension account. All pension records must be centralised so that a worker can move from one job to another, one pension fund to another, from one city to another, with minimum friction and cost.
Post offices all over the country should provide access to a central data base of pension accounts of all members. The worker should not have to deal with the fund managers directly and should need to give instruction only to the post office to move money in her pension account from one fund to the other. The Central Record Keeping Agency, chosen by the pensions regulator, should implement this for her.
The new system should respect individual choice. It should offer a set of simple options for workers to invest in different combinations of risk and return depending on individual choice. There should be a few standardised schemes available to the investor with, say, debt at 80%, 60% and 40%. There should be competition among a few fund managers in a well-regulated system. The worker should have the option of choosing a combination of fund management vehicles for the desired returns.
While it is important to have competition in the market, the complexity and financial sophistication of schemes makes it very difficult for comparisons to be made. A straight-forward, standardised set of options should be available.
Today, if someone has an EPF account, an LIC policy and an ICICI Prudential Policy, and if she is unsatisfied with the returns or service offered by one or the other, it is extremely cumbersome for her to shift service providers. Thanks to paperwork, hassle, and financial loss involved, she is practically locked into the schemes for life. In some cases, the penalty involved in moving money from one insurance company to another is up to 50% of the charges in the first three years. An unorganised sector pension system must focus on frictionless and convenient switching from one fund manager to another.
The new pensions regulator, PFRDA, must ensure that the new civil servants pensions scheme is fully accessible and friendly to the poorest of the poor in the country.