China is in a race against time to build a sustainable pension system, believes the head of the country's national pension fund.

It is a challenge arguably made all the harder by the restrictions placed on pension investments and the pressure in some quarters for lower mandatory contributions.  

Lou Jiwei

China’s pension insurance system is “highly fragmented” and “unsustainable” and the already huge fiscal expense required to plug the funding shortfall will get even larger if the problem is not fixed, Lou Jiwei, who chairs the National Council for Social Security Fund (NCSSF), warned this month.

Financial subsidies used to support insurance pension funds for the urban employed, rural populations and to provide basic medical cover amounted to Rmb495.51 billion, Rmb231.92 and Rmb491.87 billion, respectively, as of end 2017, the Ministry of Finance said on October 31.

“If the problem is not resolved [that total] Rmb1.2 trillion subsidy will grow even faster,” Lou said at the Caixin Summit held in Beijing on November 18.

In September, Liang Hong, chief economist at China International Capital Corporation, reportedly estimated the present value of the accumulated funding gap between 2018 and 2050 at Rmb56.6 trillion -- 68.4% of Chinese GDP in 2017.

By comparison, the National Social Security Fund (NSSF), which the NCSSF manages along with provincial Public Pension Fund (PPF) mandates, had total assets of Rmb2.22 trillion ($319.6 billion) as of the end of last year. 

Responsibility for the first pillar of China's pension system -- a government-run social security network supported by mandatory contributions from employers and employees -- is shared by 32 different administrative units.

To bring more order and consistency to the system, the State Council in July created a new centralised adjustment fund, which takes more funds from provinces with contribution surpluses and gives them to those with more retirees.

But the degree of fragmentation runs deep, with different pension systems in different provinces and different levels of pension protection for different people -- for example, employees in private corporations versus civil servants, Lu Quan, secretary general of China Association of Social Security (CASS), told AsianInvestor.

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There are also differences in the way assets are accumulated, although that's set to change in 2019 when pension contributions will be collected solely by the tax authorities, rather by both them and the social security administrators.

That could eke out some efficiencies and make contributions less “arbitrary” since some employer pension contributions are not commensurate with the actual wages of employees. So it could yet help to enhance the real contribution rate, NCSSF's Lou said, although Lu has his doubts. 

Once that is done, Lou added, it may then be possible to lower the nominal contribution rate, which has long been criticised for being too high and dragging on economic performance.

Under current rules, employers and employees have to contribute 20% and 8% of employee wages, respectively, to the country's first-pillar pension pot. As a result, social security contributions in China account for 49% of corporate profits, Bai Chong-en, dean of the School of Economics and Management of Tsinghua University, said at a forum this month.

That's higher than the 35% seen in Sweden, where social benefits are especially good, he said. 

Chinese citizens are not only making contributions to cover their own pension requirements, Xu Shanda, former deputy director of the State Administration of Taxation said at the Chinese Listed Companies Summit, also this month. "They also have to contribute for those who did not contribute in the past but are enjoying social security now. The contribution rate is too high,” Yu said.

*This story is updated to reflect the present value of the accumulated funding gap.