The Greying of the Middle Kingdom: The Demographics and Economics of Retirement Policy in China

3. A Retirement System in Crisis

China is poorly prepared to care for a rapidly increasing elderly population, and the time to address the challenge is running dangerously short. The existing retirement system covers only a fraction of the population and, as the state-owned sector where coverage is concentrated downsizes, it is running into financial trouble. Tens of millions of Chinese reaching old age over the next half century will have no pension or health-care coverage at all. All that stands between them and a destitute old age is the family — and the family may no longer be up to fulfilling its traditional support role.
Pension coverage in China is largely limited to urban workers in the state-owned sector of the economy. In 2002, the ‘basic pension system’ covered 45% of the urban workforce, mainly employees at state- and collectively owned enterprises. Although the government has begun to extend pension coverage to the private sector, participation remains minimal. A separate and more generous pension system for civil servants covers another 10% of the urban workforce. Rural workers are excluded from the basic pension system, although 11% participate in a small and voluntary rural pension system. All told, just 25% of China’s total workforce, urban and rural, have any pension provision at all (see Fig. 7 and 8). By and large, government health insurance is limited to the same privileged groups, although overall coverage rates are somewhat higher than for pensions.

Figure 7: Even in the cities, China’s public pension system leaves nearly half of the workforce uncovered
Source: MOLSS (2003) and authors’ calculations.

Figure 8: Overall, three out of four Chinese workers have no pension
Source: MOLSS (2003) and authors’ calculations.

For urban workers lucky enough to receive a pension under the basic or civil service systems, benefits are generous. Replacement rates for current retirees average about 80% of wages for workers under the basic system and nearly 90% for civil servants. Official retirement ages are also early: 55 for women and 60 for men. In practice, most workers retire even earlier. Some enterprises now offer early retirement to women as young as age 40 and to men as young as age 50, a development known as the ‘40-50 phenomenon.’ At age 57, half of all male participants in the basic pension system are already retired. The corresponding age for women is just 505.
The downsizing of the state-owned sector is rendering China’s pension system unaffordable even before the age wave rolls in. The system support ratio of contributing workers to retired beneficiaries in the basic system dropped from 5.4 in 1989 to 3.0 in 2003, just half the current demographic support ratio of all working-age adults to elders (see Fig. 9). In some heavily industrialised provinces, the system support ratio has fallen even further. In Liaoning province in China’s rust belt, it stood at 2.4 to 1 in 2002. In Shanghai, it stood at 1.8 to 1, a level that China’s demographic support ratio won’t reach until 2050. Even these numbers may understate the deterioration, since they count millions of laid-off SOE workers as active contributors.

Figure 9: China’s pension system is ageing faster than the population as a whole
Source: UN (2003) and MOLSS (2003 and 2004).

The falling support ratio translates directly into a rising cost burden. Although contribution rates vary significantly from province to province, the rate for the basic pension system is typically 24% of payroll — twice the contribution rate for the U.S. Social Security system. Including mandatory payroll contributions for health insurance, unemployment insurance, and the housing provident fund, the total contribution rate for China’s social insurance system comes to nearly 50% of payroll, as high as that in Europe’s most generous welfare states6.
Because public retirement programs only cover a fraction of the workforce, the cost is still modest as a share of the economy. In 2002, China spent about 3.5% of GDP on public pensions, including the civil service and rural pension systems. It spent roughly another 0.5% of GDP on health-care benefits for retirees, bringing the total cost of public retirement benefits to 4.0% of GDP. Although retirement benefits consume a relatively small share of China’s economy, they are nonetheless a heavy burden on workers and employers. High contribution rates are leading to high rates of evasion in the basic pension system — and to widening deficits that the central government must cover.
Meanwhile in rural China, most workers continue to count on the extended family for support in old age. In the early 1990s, the government established a retirement savings system for rural workers. The system, however, is small, voluntary, and almost entirely beneficiary-financed. Coverage rates are low — just 11% of the rural workforce participated in 2002 — and contributions are tiny. The majority of participants contribute at the minimum rate of 2 yuan or 25 cents per month. Total contributions amount to a mere 1% of total contributions to the basic pension system for urban workers. Besides the pension program, there are rural relief programs for the indigent elderly, including one called the ‘Three No’s’ for elders who have no relatives, no money, and no physical ability to work. But these programs are also very small. Currently, less than 10% of poor rural elders receive any government assistance at all.
Although pensions have always been rare in rural China, until recently most people had basic health-care coverage. During the 1960s and 1970s, nine out of ten peasants enjoyed access to subsidised health care at rural clinics run by the famous ‘barefoot doctors’. The clinics, which were originally administered by China’s rural collectives, became an early casualty of economic reform. After the collectives were abolished in the 1980s, most clinics shut their doors. By 1998, the last year for which data are available, less than 10% of rural residents had access to government-paid health care.7
The erosion in coverage is not limited to the countryside. Although the share of the urban workforce with government health insurance is stable, the generosity of the coverage is not keeping up with rising health-care costs. In 1990, Chinese households overall paid for just 36% of health-care expenses out-of-pocket. By 2002, that share had risen to 58% — an ominous development for an ageing China.

5 Takayama, N. (2002): “Pension Reform in the PRC: Incentives, Governance, and Policy Options”, paper presented at the Asian Development Bank Institute’s 5th Anniversary Conference (Tokyo, December 5-6).
6 OECD (2002): China in the World Economy: The Domestic Policy Challenges; and (in Japanese) Masanobu Otsuka and Japan Center for Economic Research (2002): Impacts of China’s Social Security Reform.
7 Ministry of Health, PRC (1999): Research on National Health Services — An Analysis Report of the Second National Health Services Survey in 1998.

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