Current Economic Statistics and Review For the Week Ended September 15

o Cashew exports during the first quarter of 2004-05 increased to 8,858 tonne (valued at Rs. 542.33 crore) due to an increase in prices across world markets and also because of a rise in demand from foreign markets. According to the latest estimate of Cashew Export Promotion Council of India (CEPCI), during the same period, 31,927 tonne of cashew kernels (valued at Rs. 715 crore) were exported. The commendable performance was mainly due to an increase in demand for Indian Cashew kernel in foreign markets and better unit value realisation. In tune with increase in exports, import of raw cashew nuts has also increased in the first quarter to 155,640 tonne valued at Rs 608.20 crore. During April-June 2004, total import was 1,22,498 tonne valued at Rs. 379.19 crore.

o Talks on liberalising farm trade came to a halt without agreement at the World Trade Organisation on July 27, slashing the already slim chances of a big breakthrough in the Doha round of global trade negotiations. The latest round on cutting agricultural tariffs and reforming farm subsidies, which have been continuing for several days, was broken up with countries still far apart. Ministers had wanted the meeting to produce a broad outline of a deal on farm and industrial goods trade, but it did not materialise. The participants, who were expecting some concrete positive move from USA, were disappointed and opined that the US continued to resist making concessions on domestic farm subsidies. The EU and Cairns Group of agriculture exporting countries are pushing the US to restrict payments that compensate farmers for low prices.

o To provide an impetus to the domestic tea industry, the government has recently sanctioned two schemes i.e. subsidy for the production of orthodox teas and assistance to the two tea Research and Development Institutions from special fund created with collections of additional excise duty on tea. A Special Tea Term Loan (STTL) for the tea sector was announced which envisages restructuring/ rephrasing of irregular portion of outstanding term/working capital loans in the tea sector with repayment over 5 to 7 years and a moratorium of 1 year to small tea growers and bought leaf factories, which is extended on a case to case basis for large tea growers. The STTL also provides for working capital upto Rs 2 lakhs at a rate not exceeding 9 per cent to small growers. The other measures taken to help the tea industry include the implementation of a price sharing formula between small tea growers and manufacturers of tea with effect from 1.4.2004, implementation of a price subsidy scheme for small tea growers for a four month period from February to May 2004, reduction in the import duty on items of machinery used to improve productivity and quality of tea, including value addition to an inclusive rate of 5 per cent etc.

o Reliance Industries Limited has reached an agreement with public sector oil marketing companies on supply of petroleum products. Reliance has also agreed to supply 1.13 million tones of kerosene and 26 million tones of liquefied natural gas to oil marketing companies.

o Bharat Heavy Electricals Limited has got a contract for setting up a 120-mega watt eco-friendly co-generation power plant in Indonesia.

o Engineering and construction major Larsen & Toubro has decided to exit the tractor business by divesting its 50 per cent stake in joint venture, L&T John Deere to its foreign partner.

o The government’s reluctance to raise the retail price of petroleum products in line with international crude oil prices has resulted in a quarterly loss for the country’s two largest oil companies, Indian Oil Corporation and Bharat Petroleum Corporation Limited. For the first time in its history Indian Oil has reported a loss of Rs 54 crore and Bharat Petroleum suffered a loss of Rs 431.3 crore during the first quarter.

o Maruti Udyog Limited has reported a net profit of Rs 226.46 crore for the first quarter of this financial year, a growth of 32.5 per cent over the same period last year. The company’s net profit resulted in a 34 per cent fall in depreciation to Rs 78.29 crore from Rs 119.31 crore for the same period last year.

o Anil Ambani group’s Reliance Capital has reported a 40 per cent jump in net profit to Rs 29.62 crore in quarter ended June 2005 from Rs 21.05 crore during the same period previous year.

o Reliance Industries announced a 60.7 per cent rise in its net profit at Rs 2,310 crore for the first quarter 2005, up from Rs 1,437 crore in the first quarter of the last year. The country’s largest private sector company has posted a 19 per cent growth in operating profit.

o Siemens Limited posted a net profit of Rs 39.5 crore for the quarter ended June 2005, an 11 per cent growth over Rs 35.6 crore in the corresponding period previous year.

o Tata Tea has posted a 91 per cent increase in its net profit at Rs 42.81 crore for the quarter ended June 2005 compared with Rs 22.45 crore during the corresponding quarter in the last year. The company has attributed the positive results in this quarter to a 16 per cent annual growth in the branded tea volumes compared to the last year.

o Cipla Limited reported a net profit of Rs 111.4 crore during quarter ended June 2005, a growth of 40.55 per cent compared to Rs 79.26 crore in the comparable period the previous fiscal year. The board has recommended a dividend of Rs 3.50 per equity share of face value Rs 2 for the financial year 2004-05.

o Grasim Industries Limited, the flagship company of the Aditya Birla Group, has posted a 14.6 per cent rise in its net profit which stood at Rs 250.95 crore in the first quarter ended June 2005, compared with Rs 219.17 crore recorded for the corresponding period previous year.

o Aditya Birla group company, Indian Rayon has reported a 47.34 per cent increase in net profit to Rs 30.75 crore for the first quarter 2005 compared to Rs 20.87 crore for the first quarter last year. The turnover grew by 16.57 per cent from the last year.

o Larsen & Toubro has registered a 31 per cent increase in its profit after tax for the quarter ended June 2005, compared with Rs 80.13 crore during the corresponding quarter in the previous year. Net sales went up by 18 per cent. During this quarter, L&T transferred its dairy milk and processing equipment business to L&T Niro and in turn has made a profit of Rs 38.18 crore.

o Tata Motors Limited has registered a 22.1 per cent growth in its net profit for the first quarter at Rs 272.67 crore, up from Rs 223.36 crore reported in the previous financial year.

o Mahindra & Mahindra has posted a 40 per cent increase in its net profit at Rs 145.26 crore for the first quarter of 2005 compared with Rs 103.90 crore in the same quarter during the previous year. The company has announced a 100 per cent dividend and a special dividend of 30 per cent.

o The net profit of the Jindal Steel and Power limited went up by 24 per cent for the quarter ended June to Rs 150.21 crore, compared with Rs 121.50 crore in the same period last year. The net sales in the same period increased by 14 per cent.

o Tata Steel reported a net profit of Rs 924 crore during first quarter ended June 2005, a 24 per cent growth over Rs 745.5 crore during the same period previous year. The company’s net sales recorded a growth of 9.51 per cent. The company’s top line growth was below expectations of the leading steel analysts.

o The Ahmedabad-based Torrent Pharma has registered profit after tax of Rs 33 crore in the first quarter of the current fiscal, a growth of 44 per cent as compared with the previous fiscal. The domestic formulations business recorded a jump of 33 per cent in sales to Rs 132 crore. Operating profit grew by 40 per cent to Rs 47 crore.

o India’s largest drug maker Ranbaxy Laboratories announced a 48 per cent decline in profits after tax for the quarter ended June 2005, to Rs 101.3 crore from Rs 195.8 crore during the same period previous year. The Ahmedabad based Torrent Pharma has registered profit after tax of Rs. 33 crore in the first quarter of the current fiscal year, a growth of 44 per cent as compared with the previous fiscal. The domestic formulations business recorded a jump of 33 per cent in sales to Rs 132 crore. Operating profit grew by 40 per cent to Rs 47 crore.

• First Quarter Review of Annual Monetary Policy for the Year 2005-06
o The Reserve Bank of India (RBI) has kept its monetary policy stance for 2005-06 unchanged to maintain growth momentum of the economy. The central bank in its first quarterly review of the annual policy has said that the current assessment of the macroeconomic outlook and the overall stance remains broadly unchanged from the annual statement made in April 2005, but the RBI would respond promptly and effectively to the evolving situation, depending on the unfolding of the risks.

• Banking
o Punjab National Bank’s (PNB) net profit grew by 11 per cent to Rs.358.16 crore during April-June 2005 as against Rs.322.67 crore in the corresponding period last year.

o State Bank of India (SBI) has recorded an increase of 15.54 per cent in net profit at Rs.1,222.83 crore for the first quarter ended June 30, 2005 as against Rs.1,058.40 crore in the same period last year. During the first quarter, total outstanding housing advances stood at Rs.26,849 crore. Retail advances accounted for 25 per cent of bank’s gross advances and housing loans constitute 54.55 per cent of the total retail advances.

o Indian BPO industry is all set to witness an increase in merger and acquisition (M&A) activities. About 80 to 100 small units will face acquisition in the next four years. Around 5 to 10 large captive deals amounting to $1 to 1.5 billion are expected by 2010. Six to seven large BPO companies may use the IPO route generating about $2.5 billion. According to a survey by Evaluserve, there will be a significant reduction in the number of BPO vendors and captives by 2010.

o Moser Baer has reported a loss of Rs.13.87 crore during the first quarter of 2005-06, as against a net profit of Rs.48.08 crore in the corresponding period last year.

o Videsh Sanchar Nigam Ltd. (VSNL) has signed an agreement to acquire Bermuda-registered Teleglobe International Holdings Ltd. for $239 million. This is VSNL’s second acquisition, after the Tyco Global Network (TGN) takeover in November last year for $130 million. The acquisition would make VSNL a leading player in wholesale voice, bandwidth and enterprise data market. Teleglobe, a Nasdaq-listed entity, is a leading provider of wholesale voice, data and internet protocol (IP) and mobile signaling services. The acquisition will give VSNL access to an extensive global network of Teleglobe that touches over 240 countries and territories with advanced voice, data and signaling capabilities. The telecom major will also have access to over 200 direct and bilateral agreements with leading voice carriers and incumbent carriers in many countries.

o VSNL is considering foraying into grid computing on its recent acquisitions of Teleglobe International Holding Ltd and Tyco Global Network (TGN). The internet and telephony major would also rope in Tata Consultancy Services (TCS) for its expertise in software and services sector. The takeover of US-based TGN had given VSNL access to the submarine cable network spanning over 60,000 km and with points of presence (PoPs) in North America, Europe and Asia. The company will also make use of its recently launched Tata Indicom Chennai-Singapore Cable network, spanning around 3,100 km, for grid computing purposes.

• Capital Markets
 Primary Market
o Piramyd Retail, the retail division of the Piramal group, will tap the market with its IPO slated for September 2005. The IPO would be to raise Rs 150 to Rs 200 crore.

 Secondary Market
o A combination of factors propelled the stock indices to scale newer peaks such as huge FII inflows, RBI’s decision to retain the interest rate structure and short covering in the derivatives segment. The markets, however, remained impervious of the heavy rains affecting the City adversely. The BSE sensex recorded a gain of 2.86 per cent or 212.17 points over the week and closed at 7635.42 on Friday, July 29. The index breached psychologically important mark of 7,700 during the intra-day trading on Friday. The NSE nifty registered a rise of 3.67 per cent or 81.80 points to close at 2312.30.

o Among the sectoral indices of BSE, three indices: BSE Metals, consumer durables, and health care registered losses, while all others have recorded gains. The highest gain has been registered by BSE Bankex (10.41 per cent) due to the stable interest rate policy announced in the first quarterly review by the RBI. While the BSE sensex surged over the week, both BSE mid-cap and small cap indices registered losses.

o In view of the sharp rise in stock indices, the finance minister advised the market participants against showing undue exuberance. Further he said that the market is a place where there is bound to be speculative activity and every class of player has to take a measured view of the rise and fall in the market. Subsequently, the Sebi chairman dismissed the notion that the equity markets were over-heated and said that as long as the stock markets did not outpace the economy, there was no cause for concern.

o Despite euphoric rise of the BSE sensex, the Indian index of Morgan Stanley Composite Index (MSCI) has underperformed its Asian peers with returns of just 2.94 per cent in dollar terms as against the emerging market Asia Index’s returns of 5.11 per cent in June.

o For the whole month of July, the net FIIs investment in equities has been Rs 7934.10 crore with purchases worth Rs 25,531.50 crore and sales for Rs 17,597.30 crore. Also, for the calendar year till July 2005, the net investment of FIIs has been US $ 6365.80 million as compared to US $ 3631.60 million in the corresponding period last year.

o The mutual funds over the month of July have been net buyers of equities to the extent of Rs 504.86 crore as compared to net sales of Rs 1816.79 crore in June.

o The RBI has increased the risk weights for credit risks on capital market exposure from 100 per cent to 125 per cent.

• Derivatives
o The daily turnover on the F&O segment of NSE during the week ranged between Rs 16900 crore and Rs 25,422 crore as compared to a range of Rs 11,537 crore to Rs 15,539 crore in the previous week. The highest ever trading has been witnessed on Friday, July 29, of Rs 25,422 crore mainly due to close-out trades in July contracts and fresh positions in August expiry contracts.

o The institutional investors, foreign funds as well as mutual funds remained net buyers of derivatives during the week.

• Government Securities Market
 Primary Market
o Due to the heavy rains disrupting the life in Mumbai, the RBI cancelled 91-day and 182-day treasury bills auctions scheduled on July 27.

 Secondary Market
o The call money rates remained comfortable during the week on account of ample liqudity prevailing in the system.

o The yields on the government securities softened following the RBI maintaining a neutral stance in its first quarterly review. The weighted YTM of 8.07 per cent 2017from 7.15 per cent on July 22 to 7 per cent on July 30.

o RBI has announced the of the electronic order matching trading module for governemnt securities on its Negotiated Dealing System (NDS) from August 1.

• Bond Market
o The issuers appear to have deferred their borrowings from market due to the impending quarterly review of monetary policy.

• Foreign Exchange Market
o The rupee-dollar exchange rate has depreciated from Rs 43.39 on July 22 to Rs 43.52 on July 26. Due the heavy rains, the market was closed for two days. Therefore, there was bunching of demand for dollars due to the holidays combined with month-end demand for dollars, the rate appreciated to Rs 43.49 on July 29 due to the huge inflow of foreign currency assets.

o The six-month forward premia increased from 0.89 per cent on July 22 to 1.09 per cent on July 29.

• Commodities Futures derivatives
o The agricultural commodities index of NCDEX has shown a fall from 1254.39 on July 22 to 1245.16 on July 30.

o The cumulative total turnover has increased from Rs 62, 210 crore in the second half of June to Rs 68,502 crore in the first half of July.

o Europe has emerged as a promising destination for Indian software exports, with almost all top tier companies announcing good growth from this region during the quarter ended June 2005. Traditionally, the European region has been the largest market for software exports after North America. And, while its status as the second largest market is unlikely to change, business from Europe has increased both in terms of actual revenue and in terms of its percentage contribution to the overall revenues.

o Consumer durable exporters in India find it more lucrative to export to Middle East, SAARC countries and CIS nations.

o The opening up of Wagah border for trade has meant little for the Indian sugar industry. This is because of ban by Pakistan on sugar imports from India. As the demand for sugar in Pakistan rises ahead of the holy month of Ramadan, the country has allowed its private sector to import without any limit, except for India and Israel.

o The import of silk fabric and yarn into India has increased by 32.5 per cent to Rs 1336 crore in 2004-05 over the previous year, even as exports declined by 6.7 per cent.

o China has opened its market for import of Indian mangoes including the ‘alphanso’ variety.

o The government is set to permit 100 per cent FDI in mining of diamonds and precious stones. At present the cap is at 74 per cent. The move is expected to facilitate induction of modern mining technologies and reduce the dependency of the gems and jewellery industry on raw diamonds imported from Australia and South Africa.

o The government is likely to open the retail sector for foreign direct investment in phases extending from three to five years. Each phase will have a definite time line and FDI caps will be relaxed further in each phase. The FDI limit would be set at 49 per cent.

o According to Commerce and Industry minister, the foreign direct inflows into India would surpass $8 billion mark in 2005-06 as against $3.75 in 2004-05. This is a growth of more than 100 per cent.

o Crisil has assigned P1+ rating to Redington India Ltd.’s (RIL) Rs. 1750 million (enhanced from the earlier Rs. 1200 million) short-term debt programme. The rating reflects RIL’s market strength in the distribution of information technology products derived from a diversified vendor base, large product range and efficient operations.

o In another exercise, the agency has also reaffirmed the existing AAA/ Stable ratings on Cyrus Investments Ltd.’s (CIL) Rs. 500 million non-convertible debentures programme. The reaffirmation takes into account CIL’s healthy capital adequacy levels as well as its strong investment profile. At the same time, the agency also reaffirmed the existing AAA (SO) ratings on Sterlite Opportunities and Ventures Ltd.’s Rs 90 million non-convertible debentures programme. The rating is based on the unconditional and irrevocable corporate guarantee provided by ICICI Bank.

One of the most potent and coveted instruments of social security is pension on retirement. Two other crucial forms of social security are provident fund (contributory or otherwise) and gratuity, which are facilities available only for the organised sector employees. Even assets built under these are generally inadequate for generating reasonable amounts of income at an old age. Amongst the organised sector employees, the central and state government employees hitherto enjoyed a pension system – pay-as-you-go (PAYG), or what has come to be known as defined benefit scheme – which is found to be beyond the capability of the state to finance in future and hence unsustainable.

There has thus been some urgency for reforming the pension system for central and state government employees. But, the urgency for the pension sector reform has emanated from another source, namely, the pressing needs of growing and large number of employed persons in the informal sector.

Broad structure of working population

Tables 1 and 2 present data on the broad composition of the labour force (or work force) in India. About 74 per cent of the labour force are in rural areas, a majority of whom do not enjoy the benefits of any pension system.

Table 1: Composition of Labour Force

(In Million)

NSSO-55^th Round

(1999-2000)

Census 2001

CDS Basis

UPSS Basis

All-India

Population

Labour Force

Work Force

1004

363

337

1004.10

406.05

397.0

1025.3

402

(main : 312.7, marginal: 89.2)

Rural

Population

Labour Force

Work Force

728

270

251

Urban

Population

Labour Force

Work Force

276

Note: The data is based on CDS (Current Daily Status) and UPSS = Usual

Principal and Subsidiary Status

Source: Economic Survey, 2004-05 and NSSO, 1999-2000

Secondly, of the estimated total labour force now in 2003-04 of 424 million, only 27 million (6.4 per cent) belong to the organised sector. It is the absence of any pension scheme for the vast – as many as 397 million – labour force in the unorganised sector that calls for the institution of a workable and realistic pensionary benefit system. If this is not done, it can become a potentially explosive issue socially.

Demographic pressures

There are also other strong demographic reasons pressing for introducing a comprehensive pension system. India has a relatively high size of the young population,

but with the growth of the economy and better expectation of life, the size of the aged population would expand rather rapidly. The population census data show that life expectancy at birth has increased from 57.7 years in 1991 to 62.3 years in 2001 for male members and from 58.7 years to 65.3 years for female members. The expectation of life at 60 has gone up much faster, from 14.5 years in 1991 to 17 years in 2001. It is found that there are about 70 million people over 60 years of age in India but only 10 per cent of them have their own income; the other 90 per cent, not having built assets for earning income after 60, have to depend on transfers from their children or other sources (Subhedar 2004).

Looking at it differently, as per the study on World Population Ageing 1950-2050, published by United Nations (2002), the total dependency ratio in the case of India is expected to fall dramatically over the next 20 years (2005 to 2025) and thereafter increase in the next two decades. This fall, however, is mainly due to the demographic transition of the country in terms of lower birth rate and the faster rate of children entering into the earning-group category of the age 15 to 64 years. On the other hand, the proportion of old-age dependence ratio would continuously rise but rather sharply after 2025 (Table 3).

The reform of pension sector requires choices across several dimensions. First, a component of multi-tier system which can either be mandatory or voluntary. Second, it can be either a defined contribution system or a defined benefit system. Third, it can be either funded or pay-as-you-go. The government has obviously to opt carefully for any one or a combination of these systems.

Pay-as-you-go (PAYG) system implies that the current benefits of retirees are financed from out of current revenue receipts. Under such a system, benefits are defined and committed. Thus, taxes paid by the present generation of workers are used to pay pensions of the previous generation. Until now, in the countries with the pension system, state pensions funded on PAYG basis out of current taxation have been a main source of retirement earnings. India essentially represents the system of PAYG for her government employees. This is an unfunded arrangement. All countries have found this system to be an unsustainable one.

Unlike PAYG system, in a funded system, the contributions of each employee are invested to ultimately support the benefits that the employee will receive, i.e. each employee finances for his own benefits in the future. A funded system is being strongly advocated in India on the grounds of excessive pressure on government finances and vulnerability of pension system to adverse demographic trends and political pressures. It is also said that funding provides an opportunity to benefit from investment in financial markets, where the rate of return is likely to be higher than the implicit rate of returns to contributions that can be sustained in a PAYG pension system.

Defined benefit (DB) system vs. defined contribution (DC) system

Defined benefit system assures the pensioner of his retirement benefits without he/she having to contribute. On the other hand, in a defined contribution system, the pensioner contributes a part of his income to finance his own future old age income. Another significant point of difference is that the concept of redistribution doesn’t come into picture in case of a defined contribution plan since the benefit out of the fund is only as much as what the pensioner’s contributions have accumulated and earned. Thus, the concept of defined contribution is one which lays emphasis on savings and it is generally justified.

DC-DB Combination

Both the above-mentioned systems have their own advantages and limitations. Whether a pension system should be fully funded or it should be financed out of government debt is a debatable issue. An alternative option is a partial funding system. A DC-DB combined scheme is a contributory scheme with guarantee of an appropriate level of pension fixed by the government. A shift to partial funding system, or a mixed defined benefit/defined contribution system, has particular relevance for the workforce in the informal sector which cannot fully fund their own pension that can be of a reasonable amount.

Overall, the funding system becomes a major source of domestic saving; it has the potential to provide additional capital to spur economic growth and contribute to the deepening of capital markets. Such a combination of publicly managed system providing survival benefits and funded private pensions may be more equitable in enhancing growth. Although such a system also gives rise to uncertainties of the benefits, given the volatile nature of stock markets, it tries to reap the benefits of both, the partially funded system as well as possible higher returns in the capital market.

As mentioned earlier, pensions in India have remained confined to salaried sections of the population. Till about 1987-88, there was hardly any personal pension business in India. In 1987-88, LIC took the initiative by introducing two personal pension plans, a deferred pension plan christened ‘Jeevan Dhara’ and an immediate pension plan called ‘Jeevan Akshay’ with return of one per cent per month (Subhedar 2004). The government allowed premium on both the plans up to Rs 40,000 to be paid from pre-tax income. Further, in 1996, LIC introduced a deferred pension plan called ‘Jeevan Suraksha’. All these plans were said to be in great demand due to tax incentives provided by the government. Yet, as on March 31, 2003, LIC’s portfolio of these policies in-force was just about 1.3 million.

Second, in the late 1980s, the public sector bank and insurance employee unions demanded for the third retirement benefits at par with government employees enjoying three benefits: (i) non-contributory index-linked final salary pension, (ii) gratuity, and (iii) provident fund to which only employees contribute. The government subsequently conceded their demand in the mid-1990s and introduced the final salary index-linked pension financed by employers’ contribution to provident fund for public sector banks and insurance company employees

Third, the Employees’ Provident Funds & Miscellaneous Provisions Act, 1952 (EPF & MP Act) was applied to specific scheduled factories and establishments employing 20 or more employees and ensured terminal benefits of provident fund, superannuation pension, and family pension in case of death during service. Separate laws exist for similar benefits for the workers in coal mines and tea plantations. Currently, the EPF covers only 29.3 million people or about 9 per cent of the workforce.

Fourth, the government also allowed final salary index-linked pension to the subscribers of Employees’ Provident Fund (EPF) wherein 8.33 per cent of the employers’ contribution was diverted from provident fund to new pension fund called ‘Employee Pension Scheme’. Thus, the Employees’ Pension Scheme (EPS) 1995 was established as a replacement for ‘Family Pension Scheme’. It is a defined benefit, publicly managed plan that pays workers a monthly pension after retirement. It is currently funded by the employer and the government contributions of 8.33 per cent and 1.16 per cent, respectively, of basic and DA. This pension system currently covers 26.4 million employees.

Finally, as referred to earlier, insofar as the government employees are concerned, there is the PAYG which has, however, been terminated for the new recruits with effect from January 1, 2004. The new recruits will be covered under the newly proposed New Pension Scheme (NPS). The New Pension Scheme, as it has been applied to the new central government entrants, was announced in the Budget for 2003-04 and approved in August 2003; it has introduced a new defined contribution pension system. The NPS has proposed that the pension burden be shared equally between the Central government and its employees, except to armed forces. It has also proposed that the existing scheme of pension, GPF and gratuity would cease for new entrants to the central civil services. The NPS will be portable, allowing transfer of the benefits in case of change of employment, and will go into ‘individual pension accounts’ with pension funds. As explained below, the NPS, when it is finalised, will be open, on a voluntary basis, to all employers for their employees as well as to the self-employed.

The various schemes presently available are represented with their respective coverage are presented in Table 4 below:

Table 4: Present Pension Coverage
Schemes	Coverage (in million)
1. Mandatory	42.4
Government Employees Pension	11.1
Employees Provident Fund	29.3
PF for coal mines, Assam Tea plantations, Seamen and J & K	2.0
2. Voluntary	7.1
Public Provident Fund	2.8
Occupational pensions	2.0
Personal pensions including Varishtha Pension Yojana	2.3
Total Coverage (1+2)	49.5
Source: Subhedar (2004)

It is evident that the total coverage under these schemes for building up old-age income is very low which accounts for only about 50 million or 12 per cent of the total workforce. About 375 million or 88 per cent out of a total of about 424 million are not covered at all. Some of the other inherent limitations of the present pension system that are recognized in recent times are:

1. limited coverage only for organised sector workers and thereby leaving the vast poor working population without any old-age income security;
2. increasing fiscal burden on government finances in terms of pension payouts, making the existing pension system unsustainable; and
3. the funding gap in the Employee Pension Scheme 1995 has been estimated at Rs 19,291 crore based on a 2002-03 evaluation report.

While on the subject of coverage, it is necessary to take note of a special responsibility that the government has undertaken. The unorganised sector is characterised by the absence of labour law coverage, seasonal and temporary nature of occupations, high labour mobility, lack of organisational support and low bargaining power, which make it vulnerable to socio-economic hardships. The workers covered under unorganised sector have no provisions of social security against old age uncertainties.

In this respect, one major step towards the provision of pension to the poor is the National Policy on Aging 1999 (NOAP) initiated by the Central Government. The policy document on NOAP states that the coverage under this scheme for poor persons (placed at 2.76 million as on January 1, 1997) significantly expanded with the ultimate objective of covering all older persons below the poverty line. NOAP scheme provides for a pension of Rs.75 per month to the old people living in the conditions of destitution. The budgetary allocation for NOAP scheme, which was Rs.450 crore in 1999, has been increased to Rs.465 crore in 2002. The NOAP scheme is in operation all over India and the reports indicate that the most vulnerable sections of Indian society like, women, and lower caste individuals have benefited from this scheme.

The centre’s pension liabilities have shot up from Rs 5,206 crore or 9.7 per cent of tax revenue in 1993-94 to Rs 27,320 crore or 12 per cent of tax revenue in 2004-05. A working group on assessment of pension liability of the government in 2001 estimated that the central pension would rise to Rs 29,891 crore in 2009-10. The government have now estimated it to be at Rs 35,020 crore (Table 5).

With the introduction of Fifth Pay Commission recommendations, the pay and pension revisions were extended not only to the employees of the government administration but also to those of aided institutions and local bodies; and for certain categories of employees in some states, the pay scales were higher than those of the central government employees. In addition, the revised salaries of the state government employees were implemented with a lag of 28 months. The states, incidentally, had no option but to borrow heavily, which resulted in galloping interest payments.

The expenditure of the state governments on pension payouts as a percentage of both the non-developmental as well as revenue expenditure was recorded much higher than that of the central government. It is also evident that the proportion of pension liabilities of the state governments to their respective total revenue expenditures has risen continuously with the exception of the year 1995-96. Despite such a spurt in liabilities, only a few state governments have initiated measures towards introduction of a contributory pension scheme. The ‘Group to study the Pension Liabilities of the State Governments’ submitted its report in February 2003 by recommending a mandatory contributory pension system for all new employees of the state governments to replace existing defined benefit scheme.

State-wise current scenario on pension liabilities for last three years reveals that the states like Bihar, Tamil Nadu and Kerala had to bear the highest pension liabilities as proportion of their respective total revenue expenditures (Appendices A and B). Other high spending-states on pension are Tripura, Jharkhand and especially Orissa. Interestingly, even among the low pension spending states, the states like Mizoram and Sikkim have shown almost a double and quadruple the expenditure on pension, respectively, as a percentage of total revenue expenditure during the same period of just a year. The states like Manipur, Assam and UP have been successful in reducing their expenditure on pension during the years 2002-03 and 2003-04. The expenditure on pension by all states taken together has hovered around as high as 20 per cent and 9 per cent of the non-developmental expenditure and total revenue expenditure, respectively, for the last three years. As shown in Table 5, pension burden of states would jump from Rs. 38,370 crore in 2004-05 to Rs 65,081 crore in 2009-10.

Recognising the limitations of the current pension system in terms of vast uncovered working population, increasing fiscal burden on the government and structural rigidities in the system, several studies have been undertaken to examine its present position and to evolve a new system.

Following are some of the most significant studies commissioned by the government in this regard:

1. The Old Age Social and Income Security Committee (OASIS) Report in 1999
2. Insurance Regulatory Development Authority's (IRDA) Report on "Pension Reforms in the Unorganised Sector" in 2001; and
3. The Bhattacharya Committee Report on the new pension system in 2002

The OASIS Committee report was a product of the initiative by the Ministry of Social Justice and Empowerment in 1998, to examine the current sources of retirement savings and to make recommendations to reform the existing pension system in terms of achieving broader coverage and greater flexibility. The OASIS report made the following recommendations:

(a) The employees’ provident fund (EPF) should be restructured in line with the IRA (Individual Retirement Accounts), where IRA would not be linked to employers, but rather to workers and each worker would be given a unique account number that would not change with employment. Similarly, EPF should be streamlined by curtailing premature withdrawals and providing switching options to workers through the IRA plan.
(b) Government contributions to the employees’ pension scheme (EPS) should be discontinued and the EPS should implement (i) a uniform 10 per cent contribution from the employer, (ii) adopt IRA investment guidelines and (iii) move away from lump-sum distributions towards annuities.
(c) Make the pension system self-financing and contributory in nature instead of ‘pay-as-you-go’ system.
(d) PPF should phase out it’s current system and channel all new contributions into a new fund (PPF –2), which does not rely on small saving instruments.
(e) Set up a New Pension System and a pension regulatory authority with the introduction of a defined contribution, fully funded, individual retirement pension account with the fund managed by private fund managers.
(f) The report outlines a pension scheme that offers portability of pension accounts for employees and competition among fund managers, minimum transaction costs, prudential regulation and extension of these benefits to the vast masses of unorganised sector workers. The report recommends extensive deployment of information technology to lower the transaction costs.

In the wake of opening of the insurance sector to private and foreign players, IRDA in October 2001, came out with the report titled ‘Pension Sector Reforms for Unorganised Sector’. It suggested a separate regulator for pensions in the informal sector comprising of self-employed and the unorganised workers. As per the scheme suggested, workers in the informal sector will contribute a minimum of Rs 100 per month, which will provide a pension after 20-30 years. There will be tax exemptions for the contributions so made. The scheme suggests a range of risk-return profiles for the investor and a flexible retirement age option, and also for a change between the types of schemes. While premature withdrawal is to be discouraged, a partial withdrawal after a certain period of time will be allowed. This report described proposals for a new pension fund regime accompanied by a self-serving recommendation to nominate the IRDA as pension regulator.

It is important to note that both the above reports emphasised the need for a pension regulator and preferred a ‘voluntary’ tier comprising individual retirement accounts. In the meantime, the erstwhile government had decided to discontinue the ‘defined benefit’ (DB) pension scheme applicable to the government employees. It constituted a High Level Group in February 2002 on New Pensions System (headed by B.K.Bhattacharya) to recommend a new ‘defined contribution’ (DC) pension scheme. The report of this group recommended a new pension scheme with contributions from the employees and the government for the new recruits in government service. As referred to earlier, the government then introduced this new scheme effective from January 1, 2004, together with the setting up of an Interim Pension Fund Authority. It is to be noted that unlike the new pension scheme proposed by OASIS, the Bhattacharya Committee did not recommend merely a ‘defined contribution’ (DC) scheme; instead it suggested a mixed defined benefit/defined contribution (DB-DC) scheme; The report further recommended that:

(i) A mandatory first tier with contributions from the employees and matching contribution from the government together at 10 per cent of pay and dearness allowance.
(ii) It also prescribed a voluntary second tier with a minimum contribution of 2 per cent but without any upper limit. Here again, the government was required to match the contribution by the individual employee up to a 5 per cent limit.
(iii) The report also states: “The first tier pension will be a defined benefit at 50 per cent of the average emoluments over the last 36 months of the working career of the employee. The minimum number of years of qualifying service for eligibility to pension would be 20 years and pension will be paid on superannuation at the age of 60 years. Full pension shall be payable for a qualifying service of 33 years for a person superannuating at the age of 60 years”.

The NPS is a major initiative taken by the government, which will initially cater to newly recruited central government employees and to those employed in the unorganised sector. The unique features of the NPS are:

1. The NPS would be based on defined contributions, which will use the existing all-India network of bank branches and post offices etc. as ‘points of presence’ (PoP) to collect contributions and interact with participants allowing transfer of the benefits in case of change of employment and offer a basket of pension choices. The system is mandatory for new recruits to the central government service except the armed forces (Joined since January 1, 2004).
2. The monthly contribution will be 10 per cent of the basic salary and dearness allowance (DA) to be paid by the employee. The government would make a matching contribution of 10 per cent of the individual’s salary, which makes a total of 20 per cent of an employee’s salary. However, the provision for contribution of the government excludes all non-government employees. The contributions and investment returns would be deposited in a non-withdrawable pension tier-I account. The existing provisions of defined benefit pension would not be available to new recruits in the Central government service.
3. The funds are then transferred to a Central Record-keeping and Accounting (CRA) Agency and then invested in government securities, or a mix of securities, equities and other funds. The regulator appointed by the government would monitor and supervise the operations of the fund managers. The contributor could switch his investment between portfolios annually. Portability is assured by allowing shifting of accounts from one place to another.
4. In addition to the above pension account, each individual may also have a voluntary tier-II withdrawable account at his discretion, which will allow him to withdraw all or a part of the ‘second tier’ of his money any time. However, there would not be any contribution by the Central government to this account. This withdrawable account does not constitute pension investment, and therefore, would not attract any special tax treatment.
5. Individuals can normally exit at or after the age of 60 years for tier –I of the pension system. At exit the individual would be compulsorily required to invest 40 per cent of pension wealth to purchase an annuity (from an IRDA-regulated life insurance company). In case of government employees, the annuity should provide for pension for the lifetime of the employee and his dependent parents and his spouse at the time of retirement. The individual would receive a lump-sum of the remaining pension wealth, which he would be free to utilise in any manner. Individuals would have the flexibility to leave the pension system prior to age 60. However, in this case, the mandatory annuitisation would be 80 per cent of the pension wealth.
6. A Central Record-keeping and Accounting (CRA) Agency and several pension fund managers would offer three categories of schemes viz. Options A, B and C. Scheme A could be a fixed-income scheme that invests only in government securities. Scheme B could be predominantly fixed with some equity element. Scheme C could be of more equity. The participating entities (fund managers and CRA) would provide simple guidelines on investment, so that the individual would able to make informed choices about which scheme to choose. The interim Pension Fund Regulatory and Development Authority (PFRDA) has suggested that the subscribers to the NPS be given an option of the safest scheme where 100 per cent of the corpus would be invested in government securities.

The Government of India set up an interim Pension Fund Regulatory and Development Authority (PFRDA) in October 2003 by an executive order. Subsequently, an Ordinance was promulgated on December 29, 2005 to set up this Authority. To formalise this appointment, a PFRDA Bill has been introduced in Parliament. The purpose of the Bill is to set up a statutory regulator to promote old-age income security by establishing, developing and regulating pension funds and to sustain member confidence. It will appoint the CRA and the pension fund managers, define their functions and then supervise and monitor their activities. The regulatory authority is also expected to undertake range of activities like spreading awareness and undertaking measures to attract unorganised sector workers to a new pension system. For this, the PFRDA Bill has to be passed in the parliament to authorize PFRDA to carry out it’s expected role. The same has already been referred to a parliamentary Standing Committee. The move towards the setting up of PFRDA has implications for three main thrust areas:

(i) Switching over to the ‘defined contribution’ from the ‘defined benefits’.
(ii) Shifting to social and personal insurance schemes from social assistance scheme; and
(iii) Diverting social security funds from the debt market to equity markets, even it partially.

The New Pension Scheme (NPS) has been advocated on the ground of the following advantages accruing from it:

(i) It would reduce the financial burden on the government and replace unsustainable defined benefit pension liability with funded pension provisions.
(ii) It would help provide universal access to people who do not have access to any vehicle to build up assets for old-age income, especially in small firms, in professions, in the services sector, and in the knowledge sector, where these alternatives are urgently needed.
(iii) It is claimed that NPS would minimise administrative costs through competition among fund managers. There will be a mechanism to get fund managers to bid for the transaction costs and that of the lowest will win. The Fund managers provide transparency and safety (both through the public sector fund manager and through investment in government securities), as well as flexibility of movement between options. This is an improvement over the EPF as it is locked into government securities, both in terms of possible returns and flexibility.
(iv) Fund managers will not need large amounts of funds as the pension funds managed by them will only be held in trust on behalf of pensioners/PFRDP/CRA and will not appear as their liabilities (or assets).
(v) Finally, if an individual contributes 10 per cent of his salary and the employer equally matches this for 35 years, one gets enough to get half the last salary as a life-long pension. In the case of informal sector employees or the self-employed, the contribution will have to be sufficiently sizeable so as to earn a decent pension.

The New Pension Scheme as applied to the central government employees has already acquired 1,00,000 people as members. Apart from the Central government, nine states have notified the scheme and six others have decided to opt for it. The nine states are: Himachal Pradesh, Tamil Nadu, Rajasthan, Andhra Pradesh, Chhattisgarh, Jharkhad, Manipur, Gujarat, Madhya Pradesh. However, the pension reforms announced for the central government employees will yield positive returns only in the long run. During the transitional period, the fiscal burden on government finances will, in fact, increase as the government will have to contribute to the pension fund as also meet the pension liabilities of the existing employees and pensioners. This calls for some funding arrangement for existing employees as well.

The government employees’ contribution and government’s own matching contribution are being kept temporarily in the Public Account and earning an interest of 8 per cent in the interim. As soon as the statutory scheme comes into being, the entire accumulations along with the interest thereon will be transferred to the chosen fund manger to be invested in the preferred investment option. The interim PFRDA expects, based on its own survey, that 20 million people will join the NPS immediately, after the Bill is passed and the number would double over the next few years.

Social insurance schemes represent a move towards social contributions by the protected persons in order to secure entitlement to benefits in future. However, a move wherein a private sector seeks to participate in social security for only to strive for huge private pension funds that can be generated and diverted into the equity market, has impending dangers. This would additionally imply a change in the tax treatment for contributions to the pension scheme shifting to the Exempt Exempt Tax (EET) formula from the EEE. The EEE formula incorporates exempt from taxation at all three stages of contribution, accrual and withdrawals of terminal benefits. However, the universally accepted EET formula excludes contributions and accruals from the income for the tax purposes and only the terminal benefits are taxed at the applicable rates of the year of receipt. However, the most serious concern regarding the proposed EET is the unfair taxation in case of poor in the unorganised sector unless some exemption limit is applied to the pension earnings, as in the case of income tax provisions.

Another issue that may receive critical comments concerns the government’s decision to permit foreign direct investment (FDI) in fund managing institutions. Though these would technically be Indian companies, the government has proposed that an FDI of 26 per cent be permitted in this as in the case of the insurance sector. However, there is already a proposal to raise the FDI in the insurance sector to 49 per cent.

The critics have also opposed the NPS ever since the same was introduced in the Budget 2003-04 by the earlier government. They have been against shifting to a defined contribution (DC) scheme, which does not offer guaranteed returns where the pension funds would be invested in equity market. According to them, the dependence on the capital market for old-age income, which itself is so much so volatile in nature, would destroy the very purpose of any old-age security system. They also strongly oppose the NPS on the grounds that the central pension outgo is not as severe as the government is portraying it to be. The centre spent as less as 0.56 per cent of the GDP on pension payouts in the year 2003-04, which is quite affordable to the government. The present pension scheme costs less than 1 per cent of GDP, which cannot be referred as unsustainable. Moreover, the NPS is based on Chilean model wherein pension fund managers in Chile are finding it difficult to pay the employees. In addition to this, they also demand for scrapping the PFRDA Bill on the basis of market driven conditions for the retiral benefits and extra-ordinary powers of PFRDA as mentioned above. In a way, the arguments put forth by them are certainly debatable. These arguments are necessarily based on the principle that it is the government’s moral duty to take care of the old people of the country and it should not diverge from its responsibility by imposing the burden on it’s citizens.

Pension scheme of unorganised sector

In parenthesis, it may be mentioned that the present UPA government has made yet another proposal for a pension scheme meant exclusively for the unorganised sector, which is truly revolutionary in character. In this, the government is planning to contribute 2.5 per cent of the monthly wages of these workers to their pension fund. As per the Ministry of Finance, there are about 350 million odd workers in the unorganised sector with their average annual income at around Rs. 40,000. This means that the government will have to shell out Rs. 35,000 crore per year on the scheme. The scheme is certainly ambitious. Besides, the administration cost involved in it is expected to be considerably high due to non-identification of the mass of poor workers and non-availability of data on individual wages.

The move to introduce NPS in order to restructure the existing pension system is long overdue and should be welcomed. It would certainly assist the government to reduce the fiscal burden by imposing self-financing pension provisions. The scheme not only covers the government employees, but also tries to incorporate vast unorganised sector workers who do not have any assets built to earn an old age income.

However, certain vital issues need to be addressed. First, the entry of private players into the pension system and the subsequent exposure of pension funds to the stock market should be carefully thought out. Second, the new system as it stands lacks any provision of family benefit/pension. If a member dies young without having accumulated decent amount in his retirement account, his family remains exposed to the risk of old age. Third, for low-income people, non-withdrawal of accumulations (as per first tier) would act as a serious disincentive for joining the new system. Further, the fees for joining the system and professional management of funds may prove unaffordable to the poor.
In the mainstream literature, reforms have meant wholesale privatisation. Experience has shown that in this respect, certain critical parts of the financial sector deserve to be treated as service industries for which significant checks and balances have to be introduced to protect the interest of savers. And amongst the hierarchy of institutions, managers of insurance funds and pension funds hold a very sensitive position. Between them, the pension fund managers are all the more sensitive. Therefore, the reform measures proposed now – such as the exposure to the capital market, institution of private fund managers, and allowing of FDI – may be considered afresh.

Subscribers to pension funds are not overtly worried about attractive returns as much as they are worried about the safety of their funds. We, therefore, need to think of more innovative ideas in this respect. One possible way out would be to create, as in the case of National Small Savings Fund (NSSF), a separate corpus within the Public Account, to account for the accumulations and withdrawals and generally to manage the corpus. The corpus could be divided for investment purposes as between the central and state government securities. To the extent these pension fund accumulations take place, the central and state governments may reduce their borrowings from the market so that the financial markets get the funds to play with to the extent they normally get. Except for this, the proposed PFDRA may continue to exhibit its crusading zeal for popularising the New Pension Scheme (NPS), particularly amongst the informal sector employers and employees and for generally ensuring the management of the pension system in an efficient and transparent manner.

Reference:

Chidambaram, P (2005): A Presentation to the National Development Council (51st Meeting), June 28, by the Minister of Finance, Government of India.

Subhedar, S P (2004): “Past to Future: A Look at Pensions in India”, Insurance Regulatory and Development Authority (IRDA) Journal, July

*These statistics and the accompanying review are a product arising from the work undertaken under the joint ICICI research centre.org-EPWRF Data Base Project.