Looming pension crisis cries out for corrective measures

Pension reform is again a hot topic, but this time, bureaucrats will make it appear as if it is intended to benefit top officials. The reforms go beyond just raising the retirement age or taxing pensions. Instead, a series of actions, similar to those that were done in Khyber Pakhtunkhwa (KP), should be seriously considered to reduce the cost of pensions to the government exchequer.

The national pension cost will reach nearly Rs2 trillion in FY24, and it is predicted to rise to Rs10tr in the next decade if no reforms are implemented. In 2002-03, the pension cost stood at Rs25 billion, but in a span of just 20 years, it skyrocketed to over Rs1.5tr. Pension reforms have previously been tested in KP and generated the expected cost-saving results. It is high time to rationalise the existing pension programme and transition to more modern schemes available in developing and developed countries.

Last week, Finance Minister Muhammad Aurangzeb proposed to raise the retirement age from 60 to 65 years. It has sparked controversy over whether the government intends to benefit only a select few individuals. This decision has both advantages and disadvantages. In KP, the age restriction was raised to 63 years in 2019 with a projected annual savings of Rs20bn. However, the decision was reversed due to strong protest from bureaucrats, and the court also overturned the decision. However, KP’s other pension reforms remained in effect.

KP Advisor on Finance Muzzammil Aslam has a different take on raising the age restriction than his predecessor, who implemented a series of reforms. Mr Aslam believes that the lump sum payment of pension payments will be delayed for the next five years, providing some breathing room for the time being. This will allow the government to show a lower budget deficit. The net impact will increase when the five-year allowances are added to the basic salary, which will be used to pay the pension. The age extension will postpone payments, but total payouts to employees will climb over the following five years. While these efforts provide some relief in the short term, crucial steps must be implemented to address the increasing pension liabilities.

The government’s liabilities have jumped from Rs25bn in FY03 to Rs2tr in FY24

There is another idea to tax pensions. It may also face political challenges. However, the KP government has imposed a 5pc pension tax on grades 17 and above on their executive allowance. It is estimated that this measure alone will generate Rs150bn in contributions to a pay-as-you-go pension system. This was not an easy decision, but it was made in KP to obtain some contribution from existing employees. The federal government can look into this step in response to opposition to taxing pensions.

KP reforms

In 2004, based on recommendations from a World Bank project, the India implemented a national pension scheme wherein employee contributions are matched by the government. Pakistan did not choose to adopt it since it was not anticipated that the cost would rise so dramatically over the next 20 years. Taimur Khan Jhagra, former finance minister of KP, took the lead in implementing a series of pension reforms, including the introduction of a contributory pension scheme for new employees beginning July 1, 2022.

Few substantial changes were made to the existing pension programme. A well-known 13-tier pension system was in place, covering the pensioner’s widow, children, parents, siblings, sisters, and grandchildren. KP confined it to direct dependents. The federal government did the same last year, but other provinces have not followed suit. The previous PTI government raised KP and Punjab’s minimum retirement age to 55 from 45, reducing KP’s pension bill by Rs20bn alone.

KP consolidated various pensions into a single one. Previously, individuals could receive two pensions simultaneously, with an active employee receiving both a salary and a pension.

The major reform is the implementation of a contributing pension scheme for new employees. Under this programme, the KP government contributes 12pc and employees contribute 10pc. So far, 40,000 staff have been hired under this system starting July 1, 2022.

There are additional critical reforms that the KP and federal governments should implement, such as revisiting the single Universal Pay Scale between Grades 1 and 22. Pay in provinces is decoupled from the Centre and between departments, allowing each department to develop a pay scale appropriate for their budget and the market value of their professions.

Pension reforms are greatly needed. The question is whether the state will be able to sustain pension payments for the next 10 to 15 years.

Published in Dawn, May 12th, 2024