## **Implicit Pension Debt, Transition Cost, Options and Impact of China's Pension Reform**

# _-A_ **_Computable General Equilibrium_** _Analysis_

China's population has been aging rapidly, and the burdens of supporting the elderly are distributed unevenly across regions and sectors. A serious obstacle to China's economic reform is the lack of an effective and sustainable national pension system. The World Bank's 1997 report _Old Age Security: Pension Reform in China_ pointed to the two major problems with China's current pension system: the short-run problem of the pension burden of state-owned enterprises (SOEs), and the longer-term problem arising from the rapid aging of the population. Today these problems have become more severe than four years ago: for various reasons including slowing economic growth, many state enterprises have not been able to afford to pay payroll taxes and thus, pension funds in many municipalities are in deficit, which could threaten the fiscal stability of the central government as well as the local governments. ' Reforming the current pension system is now a matter of urgency.

Building on previous studies, this paper addresses the most urgent issue in China's pension reform, namely, how to finance the unfunded pension liabilities, put another way, this study investigates ways to recapitalize the pension system, which is financially nonviable. Previous studies have analyzed the problems of China's urban- and enterprise-based pay-as-you-go system and recommended a multipillar system combining social pooling and funded individual accounts, and voluntary savings.<sup>2</sup> Some analyses including World Bank 1997 have used actuarial models to simulate the impacts of various pension reform options, is a partial equilibrium framework, however, and has some disadvantages as compared with a general equilibrium model.

Using a newly designed Computable General Equilibrium (CGE) model that differentiates three types of enterprise ownership and 22 labor force groups, this study estimates the effects of China's pension reform and compares various options for financing the implicit pension debt and transition cost. This study examines the impacts various reform design options would have on the sustainability of the system, on overall economic growth, and on income distribution.

Issues addressed by this paper have significant implications for China's fiscal stabilization and public sector reform and management, and for the alleviation of poverty and inequality. First, the unfunded pension liabilities represent a significant part of the direct and implicit (partly current and partly future) liabilities of the local and central governments.<sup>3</sup> The deficit in social pooling funds in

> 1. Statistics from the Ministry of Labor and Social Security show that Chinese enterprises owed the government as much as RMB 38 billion (US$4.6 billion) in overdue pension contribution. Separately, it was reported that in 1999, the central governmen **t** ransferred more than RMB 17 billion to 25 provinces for pension payments (People's Daily 1999).

> 2. On China's pension reform, see, for example, Ahmad and Hussain 1991; James 1997, and 1999; Hussain 1993; China RGSSS 1995; Zhou 1994; Friedman, James, Kane, and Queisser 1996;Wang 1997; World Bank 1997, and recently Fox 2000, and Dorfman and Sin 2000.

> 3. Government liabilities can be classified into four categories: explicit and direct (such as formal debt, budgeted expenditure), explicit and contingent (e.g., government guarantees and deposit insurance schemes), implicit and current (e.g., social insurance expenditure), and implicit and contingent (e.g., default of SOEs, banks, and social insurance funds). See Brixi 1998.

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