Volume 19, Number 1 Article by Pushpa Bhatt March, 2007
An Approach to the Design of Funded Pension Products :
According to a World Bank estimate, the proportion of the world’s population over 60 years of age will almost double from the present 9% to 16% over the next 35 years. While populations are aging rapidly, traditional family systems are weakening under pressure of urbanisation, industrialisation and increased mobility. Systems providing financial security for the old are consequently under increasing strain. Developed and emerging economies the world over are carrying out pension reforms. The World Bank suggests a three pillar approach for averting old age crisis, the three pillars consisting of publicly funded tax financed pension for the poorest of the poor, privately managed mandatory savings accounts for those employed in the organised sector, and voluntary retirement savings accounts for the self employed. The trend has been to move away from defined benefit pension schemes to defined contribution pension schemes since it is difficult to keep the promise of defined benefit of indexing pensions. In India too the publicly managed pension scheme is moving into a fully funded defined contribution scheme. However a pension scheme that assures members a standard of living during retirement even when prices rise is definitely desirable.
Pushpa Bhatt proposes a model that addresses the design of second and third pillar pensions while attempting to retain the essence of indexing and linking the benefits to last pay in a funded pension which is essentially a defined contribution plan. Further a broad approach to pension products planning is suggested. Although the model has some limitations – it works with a constant discount rate, a constant rate of inflation and a static mortality table and does not take into account the costs of fund management – it will be useful for employers designing pension schemes for their employees and also for insurance companies for planning a variety of pension products.
Reprint No 07104
