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China's Urban Pension System: Reforms and Problems
By Yaohui Zhao and Jianguo Xu
Introduction
Since the beginning of the Chinese economic reform in the early 1980s, China's urban pension system has undergone a series of reforms. The pre-reform system existed only in the state and urban collective sectors and was a pure PAYGO system within each enterprise. At the conclusion of the most recent round of pension reform since 1997, pension pools are expected to be elevated to provinces, all urban workers are expected to participate regardless of ownership, and individual accounts will be funded. We will show in this paper that the pension reform is largely motivated by the reform of stateowned enterprises (SOEs), but the pension reform is also limited to the demands of the SOE reform. As a result, the pension reform has failed to devise an incentive mechanism for participation and the pension system is plagued with widespread noncompliance and evasion, resulting in renewed financial crisis and high administrative costs.
This paper provides an overview of China's pension system reform and an analysis of the problems facing the current pension system. We begin by analyzing the interconnections between SOEs and pension reforms, and show that the pension system has been shaped by problems in SOEs, especially financial difficulties and the immobility of the labor force. Next, we discuss specifics of the current pension reform package initiated in recent years and show that while pension reforms so far have been successful in creating favorable conditions for the transfer of labor away from ailing SOEs, the system has failed to provide incentives for firms and workers to participate. We then present an alternative scenario for pension reform that provides individual workers and firms with incentives to participate. We show that with proper incentives, the required contribution rates will be much lower than the current rates of contribution.
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