Congress, The Prodigal Son and politics of freebies

While the debate on how freebies are both economically and politically suicidal in the long run has many aspects to it, in this particular piece, the focus is specifically on how the Congress Party, purely with an eye on narrow electoral gains, has been arguing in favour of the old pension scheme (OPS).

The new pension scheme (NPS) was conceived during Atal Bihari Vajpayee’s government in 2003 and rolled out on 1 January, 2004, by the then BJP-led Vajpayee government. However, it was implemented thereafter by the Congress in several states after it came to power in 2004. Both Manmohan Singh and P Chidambaram, at that time, lauded the NPS, calling it a much-needed and necessary reform.Hence it is nothing but sheer hypocrisy that the Congress now, is trying to turn the clock back on pension reforms by wanting to replace NPS with OPS.

When the Narendra Modi-led government came to power in 2014, it offered tax benefits on the NPS scheme to make it even more effective and tax-friendly. Interestingly, the Congress party that won Himachal Pradesh Assembly elections recently on the basis of bringing back OPS, had made similar promises in Rajasthan and Chhattisgarh too but failed to implement them, realising fully well that OPS can be a huge drain on the state exchequer.

The Aam Aadmi Party ruled Punjab has also announced the dumping of the NPS and reinstating OPS, despite Punjab’s debt situation being precariously high. While a lot of noise around OPS may just be false bravado by the Opposition, it is disappointing that the Opposition is even thinking of replacing NPS with OPS. With its tax benefits, extremely low expense ratio and professional management, the NPS is a very good retirement product. With a solid track record of high returns, subscribers end up building a very healthy retirement corpus. With a cap of 50 per cent exposure to equity, the risks are mitigated through the equity exposure, accelerating the overall returns.

Under the OPS, “pay as you go" scheme, contributions from the current generation of workers were used to pay for pensions of current pensioners, making it an unfunded pension scheme because it represents a direct transfer of resources from the current generation of taxpayers to fund the pensions. OPS is therefore not only fiscally ruinous, but more importantly, it is grossly unfair as it transfers the financial burden of the older generation to the current and future generations. The younger generation has to subsidise the older generation under the OPS, by funding from their hard-earned salaries, and the pension liabilities of the older generation. OPS is unfair, making the intergenerational inequity even starker.

While it is fiscally a disaster, what makes the OPS politically attractive is that it offers an assured benefit to the retiree, fixed at 50 per cent of the last drawn basic pay. Also, like with salaries, pensions are also increased with hikes in dearness allowance, essentially to account for inflation, under OPS. According to research by the SBI, the compounded annual growth in pension liabilities for the 12-year-period ended 2021-22 was 34 per cent for all state governments.

As of 2020-21, for instance, the pension outgo as a percentage of revenue receipts stood at 13.2 per cent. The OPS was a key promise of the Congress party in the Himachal Pradesh election. The state has a large number of government employees as the public sector is the biggest source of employment in the state. How is the Congress planning to implement the OPS? Clearly, Rahul Gandhi’s party is not planning to do so.

Deep within, the Congress knows, if it does, it would push Himachal to the edge of bankruptcy. Just like in Rajasthan, the Congress will simply keep postponing its promise to implement OPS and buy time. It is a Catch-22 situation for the Congress, where implementing the scheme will ruin  Himachal’s finances and not implementing it, will ruin the Congress party’s image, or rather what is left of it. The “pay as you go” financing model of OPS also has a hidden long-run cost of promised pension obligations.This is known as “implicit public pension debt," as stated by Soumya Kanti Ghosh, in his brilliant report on this issue.

Data from National Pension Trust shows there are 5.54 million contributing state-level employees as of February 2022. As Ghosh says, assuming that all states migrate to the old scheme, with an entry-level age of 28 years and a 5 per cent annual inflation, the current present value of the implicit pension liabilities is around 13 per cent of gross domestic product (GDP). This is discounted by the current government securities yield on 40-year securities. If the entry-level is reduced from 28 years to say, 25 years, the pension liabilities of the State governments that implement OPS, would rise even more. The distribution of the state’s resources will also turn out to be unfair because a disproportionately large share of the state’s revenue will be allocated for the benefit of a miniscule number of government employees.

India’s retirees will live longer lives due to higher life expectancy, which means they will draw pensions longer than before. By 2050, India’s population will be 1.64 billion, of which 320 million will be of 60 years of age or older. Life expectancy which was barely 56 years in the 1990s is now almost 79 years.

A key metric, the old-age dependency ratio, defined as the number of persons 60 years and over per 100 persons of 15 to 59 years age, is expected to touch 23 per cent by 2036, compared to the current 16 per cent. To cut to the chase, given the higher dependency ratio going forward, thanks to higher life expectancy, a scheme like OPS will only add to the excruciating financial burden on state budgets, leaving less room for development-oriented expenditure. Is that fair? Certainly not!

To nurse states back to health, was precisely the key reason for bringing in the NPS in 2004, which was a “Defined Contribution” scheme, more in the nature of a pension cum investment scheme. Twenty-seven states joined the scheme between 2003 and 2005. According to the NPS, the government offers a 14 per cent matching contribution against the 10 per cent monthly contribution of employees.

NPS is a funded scheme, unlike the OPS which is unfunded. The expert committee set up to study pension liabilities had warned, in 2003, of the continued risk of the then-existing pension system. It pointed out that the pension payout of states had risen from 2.1 per cent of total revenue receipts in 1980-81 to 11 per cent by 2001-02 and 20 per cent by 2020-21.

This return to OPS will bring very limited financial gains in the short term to the state governments; they can skip the 14 per cent contribution towards employee pension funds, but at what cost? The states have demanded that the funds accumulated in the NPS be given to them, which is not legally tenable. As per the PFRDA, these funds belong to employees.

The primary reason for exiting the OPS 18 years back, was its unsustainability. So for Congress to bring it back now is bad economics and bad economics is rarely good politics in current times when state finances are stretched. It should be noted here that the Union Budget provides for pensions every year but that caters to the current year’s expenses only and future liability remains unfunded under OPS.

Also, that pension liability will only keep rising with rising longevity and better healthcare. NPS on the other hand, managed professionally by PFRDA, has contributions by both employees and the state and is a win-win for all. Also, NPS withdrawals are tax-free under sections 80CCE and 80CCD(1), over and above the tax deductions already available u/s 80C of the Income Tax Act, 1961.

The pension bill for Himachal Pradesh is more than 79.93 per cent of its own tax revenues, for Bihar, it is 58.9 per cent, Punjab 34.24 per cent, Rajasthan 30.38 per cent and Chhattisgarh 24.19 per cent. In 1990-91, the Centre’s pension bill was Rs 3,272 crore and for all states put together it was Rs 3,131 crore. By 2020-21, the Centre’s pension obligations had jumped 58 times to Rs 1.91 lakh crore; for states, it had jumped by 125 times to Rs 3.86 lakh crore.

If another committed expenditure including salaries and interest payouts is added to the pension liability, there will be little left for state governments from their own tax receipts. This will crowd out other important expenses such as that poverty alleviation, infrastructure, or healthcare. Clearly, states lack adequate finances to revert to OPS.

But the biggest argument against OPS, in say Himachal Pradesh, is that it is unethical as it seeks to create liabilities that will not apply to the present Congress government but will apply to a state government in the future, which may not necessarily be a Congress led one, but could be from any other political party. The earliest liability will be in 2034 for the current Congress government in Himachal. So basically, what the Congress is really doing is trying to shift the entire burden of the OPS to the government which will be in power in 2034 and whoever will follow after 2034, in Himachal Pradesh.

The OPS was based on the concept of “Defined Benefit”. Under it, the pension of government employees was fixed on the basis of the last drawn salary. However, funding this exorbitant entitlement over time would have been fiscally challenging; calculations of the implicit pension debt, based on the promises to government employees and others, painted a grim picture. Thus concerns over sustainability and scalability impelled the shift to the new pension scheme (NPS).

The new pension scheme was based on the concept of “Defined Contribution”, fixing the contribution of both the government and the employee. Since its launch, the NPS has built a robust subscriber base. At the end of October 2022, NPS had 23.3 lakh Central government subscribers and 58.9 lakh state government subscribers. Then there are others, including 15.92 lakh subscribers from the corporate sector, and 25.45 lakh from the unorganised sector.The total assets under NPS stood at Rs 7.95 lakh crore as on 31 October 2022.

The fiscal implications of OPS will be grave. According to the RBI, states had allocated Rs 3.86 lakh crore in 2020-21 towards pension. This works out to around 26 per cent of their own tax revenue. For states like Bihar, Himachal Pradesh and Odisha, the share in the government’s own tax revenues is even higher. Under the OPS, retired government employees received 50 per cent of their last drawn basic pay as a monthly pension.

NPS is a contributory pension scheme under which employees contribute 10 per cent of their salary (Basic + Dearness Allowance). The government contributes 14 per cent towards the employees’ NPS accounts. The attraction of OPS  lay in its promise of an assured or ‘defined’ benefit to the retiree. It was hence described as a ‘Defined Benefit" scheme.

For example, if a government employee’s basic monthly salary at the time of retirement was Rs 20,000, she would be assured of a pension of Rs 10,000. DA hikes are usually announced twice a year, generally in January and July. A 4 per cent DA hike would mean that a retiree with a pension of Rs 10,000 a month would see her monthly income rise to Rs 10,400 a month. As of date, the minimum pension paid by the government is Rs 9,000 a month and the maximum is Rs 62,500 (50 per cent of the highest pay in the Central government, which is Rs 1,25,000 a month).

NPS on the other hand is an easily accessible, low-cost, tax-efficient, flexible and portable retirement savings account. Under the NPS, the individual contributes to his retirement account and so does his employer (state + Central government).

NPS is designed on the basis of “Defined Contribution”. There is no defined benefit that would be available at the time of exit from the system and the accumulated wealth depends on the contributions made and the income generated from the investment of such wealth.

The greater the value of the contributions made, the greater the investments achieved, the longer the term over which the fund accumulates and the lower the charges deducted, the larger would be the eventual benefit of the accumulated pension wealth likely to be. Resident as well as non-resident Indians in the age group of 18-60 years (as of the date of submission of NPS application) can invest.NPS is regulated by Pension Fund Regulatory and Development Authority (PFRDA), to promote old age income security by establishing, regulating and developing pension funds to protect the interest of subscribers and for matters connected therewith.

There is also the larger issue of inter-generational equity. Today’s taxpayers paying for the ever-increasing pensions of retirees, with Pay Commission awards almost taking the pension of old retirees to current levels, means the pension of someone who retired in 1995 may well be the same as that for someone who retires in 2025. As it is, the current generation of taxpayers are not only footing the pension bill of those who joined government service before 2004, they are also contributing to the 10 per cent contribution the state governments have been making for those who joined from January 1, 2004. Hence OPS is both unfair and unethical.

Praveen Chakravarty, the head of the Congress’ data analytics department, raised questions on the financial viability of restoring the OPS, a poll promise of the Congress party in Gujarat. The fact that Congress received a drubbing in the Gujarat polls, is a different matter altogether.

Bringing back OPS is one of the biggest “revise”, said none other than Montek Singh Ahluwalia, former Planning Commission, deputy chairman, at an ICRIER event recently. Montek served under the Congress-led UPA for the longest time and his sharp criticism of OPS, therefore, is telling in more ways than one. But Rahul Gandhi and his jaded Congress Party have completely distanced themselves from this constructive criticism on their very own, purely driven by the greed of vote-bank politics.

In July, Prime Minister Narendra Modi spoke against political parties promoting a culture of freebies, calling them “revdi”, to win votes. His remarks triggered a public debate with parties of the Opposition, especially the AAP and DMK, accusing the prime minister of targeting welfare schemes and state subsidies promised by non-BJP parties. The Election Commission said political parties should lay out the cost of the freebies they promise and how they plan to finance them if voted to power. A petition was made in the Supreme Court, which proposed formation of a committee to suggest ways to deal with the issue.

The combined debt of state governments has risen from 26.3 per cent of GDP in 2019-20 to 31.2 per cent in 2021-22 (budget estimate). This will need to be brought down to manageable levels. States will also have to contend with the GST compensation cess ending in its current form in the coming year. Shifting back to OPS will only further increase the burden on the state exchequer.

As per RBI, the total pension expenditure of all states put together stood at a whopping Rs 3.86 lakh crore in 2020-21. Hence, political parties like Congress must desist from fiscally unwise moves like OPS and stick to fiscally sustainable NPS, which is what the Modi government has been implementing on a war footing in well over 20 states.

Suffice it to say here, no government can afford to be like the prodigal son. Running a fiscally prudent ship is what the government owes to its citizens. In the parable of “The Prodigal Son” the message is that it does not matter how far we stray, how recklessly we spend our money or how much we squander the gifts we have, we will always be forgiven by our near and dear ones. Unfortunately, with limited resources and accountability being the order of the day, it is neither desirable nor advisable for elected governments to be like the prodigal son, because in the long run honest taxpayers and the public at large, do not forgive fiscal profligacy of any kind.

The writer is an economist, national spokesperson of the BJP and the bestselling author of ‘The Modi Gambit’. Views expressed are personal.

Read all the Latest News , Trending News , Cricket News , Bollywood News , India News and Entertainment News here. Follow us on Facebook , Twitter and Instagram .