The debate over the old and new pension scheme has begun raging once again, with many parties contesting the State Assembly elections promising to revert to the old pension scheme (OPS) if voted to power. OPS is a good carrot to hold out during elections because it can provide better income certainty to employees. The burden on exchequer had made the Centre and many States move from OPS to NPS since 2004.
An analysis of the data on State pension put out by the RBI shows that States which reverted to the old pension scheme in 2022-23 have recorded lower growth in their pension expenses, compared to the previous year.
Rajasthan, which switched to OPS in April 2022, registered reduction of 4 per cent in its pension outgo. Similarly, Punjab, Jharkhand and Chattisgarh, which had also switched last year, recorded lower growth of 7 per cent, 8 per cent and 4 per cent, respectively. Himachal Pradesh, which switched in January 2023, however, registered a 20 per cent increase. This appears due to hike in old age pension announced by the State government last year.
Some States such as Tamil Nadu and Uttar Pradesh, which announced State specific hikes in pension or DA increases, have registered large jumps in pension expenses.
To understand how States reverting to OPS reduced pension outgo, we need to understand how NPS and OPS function. OPS is a defined benefit scheme giving State government employees a pension fixed at 50 per cent of the last drawn salary. The pension is also adjusted upward for inflation. The key is that there is no deduction from the salary of workers towards the OPS. The government, therefore, bears the entire pension expenses, met out of its current year revenue.
Under NPS, employees contribute 10 per cent of basic salary and dearness allowances, with a matching contribution from the government. This goes in to a fund, which is partially invested in equity and bonds. The final lumpsum payout is from the accumulated corpus, with no additional burden on the revenue.
States such as Rajasthan, Punjab and Jharkhand would have stopped contributing to the NPS corpus after the transition, helping bring down the pension expenditure for FY23. But given the increasing longevity and the higher number of government workers set to retire in the coming years, the burden on these States could increase.
This is pointed out by an RBI paper, authored by Rachit Solanki, Somnath Sharma, RK Sinha, Samir Ranjan Behera, and Atri Mukherjee. This paper looked at the fiscal impact under two scenarios — if the employees stay under NPS or if they transition to OPS from 2023.
The paper noted that if employees shift to OPS, “the State governments save upon the employer’s contribution they were earlier making towards these employees’ retirement corpus fund. Consequently, States’ immediate outgo towards these employees will drop to zero. However, as these employees gradually retire, the States’ outgo will begin to increase again as these employees will now draw pensions in line with the older OPS beneficiaries. By the mid-2030s the outgo would compare significantly to what it would have been under the NPS and eventually exceed it by 2040. Thereafter, the burden will increase rapidly, reaching around 0.9 per cent of GDP by the early 2060s. This additional burden will be on top of the pension burden of older OPS retirees (the first group mentioned earlier), who will also continue to receive pension until the 2060s”.