China - Pension Reform Project

Report No. PID7397 Project Name China-Pension Reform Project Region East Asia and Pacific Sector Pensions Project ID CNPE58308 Borrower Peoples Republic of China Implementing Agency Ministry of Labor and Social Security (MOLSS) Date this PID Prepared March 4, 1999 Projected Appraisal date April 1, 1999 Projected Board date May 31, 1999 1. Country and Sector Background. The current formal pension system is a largely pay-as-you-go, defined benefit system that covers mainly the state sector in urban areas. The nonstate sector, which now accounts for more than half the employment in many localities, has only spotty coverage. Though localities are trying to bring the nonstate sector under the formal pension system, most nonstate firms are resisting because current contribution rates are so high and the benefits from the system so uncertain. Data available for a range of provinces and municipalities indicate that the simple average of contribution rates in 1994 was 23.59 to 25.99, which exceed international norms. For the 11 industrial sectors exempted from municipal pension pools, the average was just 15.9%. Noncompliance and exemptions account for much of the disparity between costs and the contribution rates theoretically needed to break even. Moreover, as contribution rates rise, compliance rates decline. 2. China has gradually enacted forms of pension reform dating back to more widespread economic policy changes in 1978. In 1986, pooling was established on a limited basis across state enterprises at the municipal level. Contributions began to be pooled but enterprises retained responsibility for distributing pensions. In the late 1980s, pooling was extended to workers in collectively owned enterprises in many cities. Since then, some joint ventures, joint stock companies and foreign enterprises have been brought into pension pools. In 1991, a State Council decision required individual contributions by all workers, in addition to enterprise contributions, and for experiments in individual accounts. The Decision also called for an expansion of pooling and the establishment of three tiers in the pension system: a basic benefit, a supplementary benefit provided by enterprises in sound financial condition, and a benefit based on individual savings. 3. The most recent framework for China's pension reform was established in an August 1997 State Council Decision adopting a unified, publicly managed system covering all urban workers. Unification is supposed to be in stages: pension contributions would be pooled initially at the provincial level and later at the national level, at which point occupational pension funds (funds organized along sectoral lines across the country) would also be included. Enterprises and workers now covered under separate plans or not at all would be brought into a single system, with multiple funding channels. Key elements of the Government's policy strategy are to: (i) establish a nationally unified pension system; (ii) establish a system of individual accounts; (iii) separate  a basic pension which aims to set a floor of benefits, from a supplementary pension which links to accumulated contributions; (iv) segregate pension administration from investment management; (v) gradually pool individual funds first at a municipal level and eventually at a provincial and national level; and (vi) establish transition mechanisms for funds in deficit to maintain sufficient benefit payments while achieving financial solvency. A key feature of the Government's institutional strategy is to establish and strengthen oversight institutions both at a provincial and national level. 4. Although considerable progress has been made in realizing these parameters, a number of important issues are not resolved. Contribution rates continue to vary both by province as well as by municipality within some provinces; individual pension accounts established in many communities remain largely notional because contributions are still largely used to fund current pensions; transition costs are not fully treated in the State Council Document; the non-state sector and some industrial sectors with relatively young work forces may resist participation/unification; and individual accounts yield neither a market nor a positive real return so that the accumulations in these accounts may or may not be sufficient to offer an effective means of income smoothing. 5. Project Objectives. The objective of the project is to identify policy reforms and administrative systems which can support a financial strategy for sustainable pooled provincial pension systems. To achieve these objectives, the project would: (i) develop an actuarial model, (ii) use the model to assess the financial viability of the Qingdao municipal pension system and the Heilongjiang provincial pension system according to existing parameters, (iii) assess pension reform options, (iv) review regulations and other issues connected with funded schemes in the two pilots; (v) review pension administrative procedures including funds transfers, data collection, processing and management in order to develop a procedural template; and (vi) provide inputs to national policymakers on key parameters of policy and implementation. 6. Project Description. Project components would likely include: (i) Formation of policies and planning; (ii) development of pilot information systems; and (iii) training in pensions oversight. The formation of policies component would likely support 70 year projections for the municipal (Qingdao) and provincial (Heilongjiang) levels of expected receipts from contributions and other accrued income as well as payouts for benefits. This would include projected cashflows for all four pension benefit systems - basic, transitional, mandatory individual accounts and voluntary supplementary accounts. Sensitivity analysis would test modifications to principal actuarial assumptions and policy parameters. The information systems component would support the development of revised administrative systems in Qingdao and Heilongjiang. From a thorough evaluation of the objectives of each of these pension systems, a procedures manual and administrative development plan would be developed. Once such a plan is established, the purchase of computer hardware, software and peripherals would be supported under the project. The training component would support select training in pension oversight for staff in the Qingdao Municipal Labour Bureau, Heilongjiang Provincial Labour Bureau and MOLSS. 7. Project Financing. The estimated project cost would be US$ 6.0 million equivalent, of which IDA would finance US$ 5.0 million equivalent. The - 2 -  Government has established on-lending mechanisms by which project funds must be repaid to the Ministry of Finance in order to set aside for funds for repayment to IDA. The project has been designed to complement other donor- assisted interventions, including those by the Asian Development Bank. Other donor cofinancing is being explored. 8. Project Implementation. Overall responsibility for the implementation and coordination of the Project would be entrusted to the Ministry of Labour and Social Security (MOLSS) who would be supported by administration and coordination staff. A project implementation unit (PIU) would be established to oversee the project would be responsible for ensuring policy consistency across Government agencies involved in the project, coordinating implementation and ensuring adequate financial management (procurement, disbursement, accounting and audit) and general administration (monitoring the implementation plan and reporting). The PIU would be responsible for the execution of project activities and timely delivery of outputs as defined and agreed under a Project Implementation Plan. Quarterly progress reports, prepared on the basis of the project implementation plan and the logical framework would be provided by each beneficiary agency to IDA under the guidance of the PIU. IDA would carry out regular supervision missions and a mid-term review at mutually agreed dates. Finally, Government will transmit a completion report to IDA within six months of the Project closing date. 9. Project Sustainability. The project seeks to assist in the development of strong, sustainable institutions as follows: (i) provincial and municipal pension pools that that sustain themselves in terms cash flow sufficiency and actuarial solvency, yet also do not render participating enterprises uncompetitive; (ii) provincial and municipal agencies that manage pension funds in an efficient and consistent manner; and (iii) national, provincial and municipal oversight institutions that are able to demonstrate sustainable institutional capacity and have the management systems to maintain that capacity. Recognizing that strong institutions require years to develop, the project aims to initiate a process that will maintain itself well beyond the period of the credit. Indicators of sustainability will be established under the Project Implementation Plan. 10. Lessons Learned from Previous Bank/IDA Involvement. The project would aim to draw on the results of pension reform technical assistance projects undertaken to date. This project aims to incorporate: (i) simplicity of design, based on well targeted objectives; well defined actions with timetables for implementation; and clear evaluation criteria with monitorable indicators; (ii) compatibility with the institutional absorptive capacity of Government agencies and project beneficiaries; and (iii) stakeholder involvement in the design and execution of the project. 11. Environmental Aspects. The project is not expected to present any environmental risks and thus an environmental rating of "c" is proposed. Neither an indigenous peoples plan nor resettlement plan will be developed. 12. Program Objective Categories. The project would primarily contribute to the, financial intermediation and institutional development categories. Contact Point: The InfoShop The World Bank 1818 H Street, N.W. - 3 -  Washington, D.C. 20433 Telephone No. (202)458 5454 Fax No. (202) 522 1500 Note: This is information on an evolving project. Certain activities and/or components may not be included in the final project. Processed by the InfoShop week ending March 5, 1999. - 4 -