The Unified Pension Scheme operational with effect from April 1, 2025 shall enable Central Government employees covered under NPS, eligible to submit their option for the same under NPS. This ensures assured pay out after their retirement. This is good news for the employees and it may also lead to changes in their consumption pattern. Let us theoretically analyse how this unfolds for the Indian economy.
The consumption function theories in economics evolve around lifetime decision making or how to maintain a stable pattern of standard of living over life time. Throughout life, changes in income affect lifestyles and consumption patterns and thus one aspires to have certain level of income to meet emergency or precautionary expenditure.
The life cycle hypothesis in economics views individuals planning their consumption and savings in such a way so as to allocate their consumption in the best way over the entire lifetime. This smoothens their consumption patterns.
An individual, during his/her initial years, avails of an educational loan, and they repay this loan after they start working and also simultaneously save.
These savings and investments are planned in such a way that they meet their old age requirements, concept of secured income requirements, their children’s education and marital requirements etc. The permanent income theory in economics also fall almost in line with this life cycle hypotheses concept.
How consumption pattern changes
As far as New Pension Scheme is concerned, government employees have concerns over how the return unfolds at the time of retirement, as this is directly related to market returns on pension funds. So many of them have resorted to other options such as fixed deposits or those savings/investments which ensures an assured return at the time of retirement.
During the Covid period, people set set aside a portion of their income to meet emergency health expenditure. This impacted the marginal propensity to consume or MPC (the proportion of increase in income that a consumer spends on good and services) during that period which was at a historical low.
The government also had to inject liquidity through fiscal and monetary tools during the pandemoic to boost consumption, to sustain incomes and growth.
The new pension scheme will increase disposable income of the salaried class which would have otherwise gone into saving/investment schemes.
It may be noted that Unified Pension Scheme is an assured pension leading to secure income after retirement.
Further, in case of death of the payout holder after superannuation, family payout at 60 per cent of the payout admissible to the payout holder immediately before his demise, shall be assured to the legally wedded spouse.
These additional benefits of this Scheme indeed get reflected in increased consumption during his job period or increase in MPC leading to greater demand for those products which ensures better comfort of living. The increased consumption could be in the form of durable goods or property.
Impact on the economy
The salaried employees for a major part of the middle-class section. More disposable income leads to greater consumption leading to a multiplier effect in the economy.
People also invest in their native villages/towns for their post-retired life, which generates jobs in the local economy.
Theorists as well as empirical data validate the fact that MPC for middle- and low-income households are the highest compared to the elite section of the society. So putting more money into the hands of the middle- and low-income segements will will increase overall consumption and stimulate the economy.
Thus, the higher the MPC as explained above, the greater the size of multiplier effects on income and investment and lower the amount of leakages out of the income stream, and vice versa.
Further, India has abundant production capacity and utilised natural resources. The Budget proposals is also expected to lead to additional investment in the economy.
Further, the recent reduction in the repo rate should lead to cheaper bank credit which is expected to spur investment.
Hence the Unified Pension Scheme is a consumption booster.
The writer is a Director at the Union Ministry of Finance. Views expressed are personal