A Tale of Two Regions in China - Impact of Demography on Social Security

A Tale of Two Regions in China - Impact of Demography on Social Security

A speech at Conference on Chinese Healthy Aging and Socioeconomics: International

Perspectives, August 20 – 21

by Michael Sze, PhD, FSA, CFA

Agenda• Worldwide perspective• Fundamental theory of social security• Pension reforms in various countries

– Some older economies– Some younger economies– Some Asian economies

• Situation in Hong Kong– Mandatory Provident Fund– Ultimate solution for Hong Kong

• Situation in Xinjiang– Aging demography – Income disparity– Possible solutions?

Basic Demographic EffectPension Cost as % of GDP

1984 2000 2020 2040

Germany 13.7 16.4 21.6 31.1

Japan 6.0 9.4 14.0 15.7

Netherlands 12.1 13.4 19.6 28.5

United Kingdom 7.7 7.5 8.6 11.2

United States 8.1 8.2 11.3 14.6

Source: OECD Aging Populations: The Social Policy Implications. Paris, 1988.

Relationship Between Percentage of the Population over 60 Years Old and Public Pension Spending

5 10 15 200

4

8

12

16

Pension spending as percentage of GDP

Jamaica

Israel AustraliaJapan

AustriaItaly

Sweden

U.K.

France

Luxembourg Greece

China

Uruguay

Panama

Costa Rica

U.S.

Percentage of population over 60 years old

Poland

Source: Estelle James: The European Pension Crisis

Public Health and Pension Spending versus Population Aging

Spending as a percentage of GDP

Percentage of population over 60 years old

0 5 10 15 20 250

5

10

15

20

Spending on health and pension

Spending on health

U.K.

Poland

Sweden

Austria

Czechoslovakia

Iceland

Australia

Cyprus

Switzerland

Japan

Brazil Trinidad & Tobago

ChinaJamaica

IndonesiaS. Korea

SwazilandZambia

Canada

New Zealand


Percentage of GDP

0 50 100 150 200 250 300

France

Germany

Italy

Canada

United States

Japan

Explicit debtImplicit public pension debt

Implicit Public Pension Debt, 1990


Source: Chris Daykin – Speech at IAA meeting

Source: Chris Daykin – Speech at IAA meeting

Fundamentals of Social Security

• Let B be average pension benefit per retiree R be number of retirees• Total pension payment = R x B• Total output = W x P, where W is number of

workers, and P is productivity• Output not consumed by workers is used to pay

retiree pensions: W P (S + T), where– S is saving rate, and T is tax rate

R B = W P (S + T)

Social Security Formula

R B = W P (S + T)R / W = P (S + T) / B

Ln R – Ln W = Ln P + Ln (S + T) – Ln BTaking partial derivative with respect to time

r’ – w’ = p’ + (s + t)’ – b’

where each term denotes % rate of increase of the term

Comments on Social Security Formula

• Left side is completely dependent on demographic changes– To keep the equation in balance, we must

narrow down the gap between retiree increase and worker increase

– Most effective way is to increase retirement age according to life expectancy increase

Comments on Social Security Formula (Continued)

• Right side depends on economic increase vs. benefit increase

• There is no solution to social security problems without economic expansion

• Social security is part of the economy• A healthy national economy is essential

Implication on Pension Reforms• Technical formula is independent of

– DB or DC method– Full funding or PAYGO

• Some fallacies in reform policy– Moving from PAYGO to full funding will not save

social security– Moving from public to private funded pensions cannot

avoid tax increase• Difference between DB and DC plans: easier

detection of trouble in DB plans

Some Social Security Reforms• US not been able to agree on any reform• Canada’s tax increase and benefit cut in 1999 found

inadequate in subsequent years• Italy’s proposal in 2002 to increase RA to 65 by 2008

failed after general strike by 25% of workers• France’s proposal to increasing RA gradually from 60

to 65 resulted in strike by over 2 million workers in April, 2003

• Germany’s encouragement to workers to take out private pensions or company options found not adequate (2001)

• UK: Modest minimum benefit funded by public PAYGO plan, plus private savings found to provide inadequate pensions, leading to wide spread protests

Other Social Security Reforms• Japan DB reform: increasing RA gradually from

60 to 65• Singapore Central Provident Fund contribution

– 20% from employee, 16% from employer– Combined contribution rate recently decreased to 33%– Used for housing, education, medical care, retirement

• Malaysia Employee Provident Fund contribution– 9% from employee, 12% from employer

• Hong Kong implemented Mandatory Provident Fund in 2000– 5% mandatory employee contribution, with equal match

from employer (to be discussed in following slides)

Hong Kong Population - 2002

-400 -300 -200 -100 0 100 200 300 400 500

0-4

10-14

20-24

30-34

40-44

50-54

60-64

70-74

80-84

Population ('000)

Male Female

Hong Kong Population 2011

-400 -300 -200 -100 0 100 200 300 400 500

0-4

10-14

20-24

30-34

40-44

50-54

50-56

50-58

50-60

Population ('000)

Male Female


-400 -300 -200 -100 0 100 200 300 400 500

0-4

10-14

20-24

30-34

40-44

50-54

60-64

70-74

80-84

Population ('000)

Male Female


-400 -300 -200 -100 0 100 200 300 400

0-4

10-14

20-24

30-34

40-44

50-54

60-64

70-74

80-84

Population ('000)

Male Female

Source: Census and Statistics Department of Hong Kong

Hong Kong Population

Hong Kong Male Mortality Rates

0.01

0.10

1.00

10.00

100.00

1000.00

5 10 15 20 25 30 35 40 45 50 55 60 65 70 75 80 85 90 95 100

Age

Dea

th R

ate

per T

hous

and

2001 2011 2021 2031


Mortality Improvement

0.00%

10.00%

20.00%

30.00%

40.00%

50.00%

60.00%

5 10 15 20 25 30 35 40 45 50 55 60 65 70 75 80 85 90 95 100

Age

% D

ecre

ase

in M

orta

lity

Rat

es

2001-2011 2001-2021 2001-2031


Dependency Ratios

Population(in ’000’s) 2002 2011 2021 2031

Age 15-59 1,016 1,334 2,054 2,714

Age 60+ 4,686 5,187 5,138 4,990Dependency

Ratio 22% 26% 40% 54%

Annual Rates of Increase

2002 to 2011

2011 to 2021

2021 to 2031

% Increase in Retirees r’ 3.07% 4.91% 3.14%% Increase in Workers w’ 1.14% - 0.10% -0.32%

Differencer’ – w’ 1.93% 5.02% 3.47%

Implications of Demographic Changes for Hong Kong

• Continual decline in mortality rates – Life expectancy from birth: 78.2 for males and 84.1 for female

in 2001; 82.3/87.8 in 2031– Dependency ratio increases from 22% in 2002 to 54% in 2031– Two workers must carry one retiree

• % rate of retiree increase exceeds that of worker by 4-5%. Possible remedy includes – Productivity increase: not easy– Benefit decline: not desirable– Savings and tax rate increases: only choice

Brief Description of Mandatory Provident Fund of Hong Kong

• Implemented in 2000 to cover workers aged between 18 and 65

• High compliance rate, as of 12/31/2003– 95.4% of employers– 96.3% of relevant employees– 81.5% of self employed

• Contribution Rate– 5% pay from employer and employee each– Employees with monthly pay < HK$5,000 may opt-out

Description of MPF (Continued)

• Tax deductible contributions– Employee: 5% pay, up to $1,000/month– Employer: 5% pay

• Investment options: flexible for employee• Investment income: not taxable• Retirement age: flexible• Retirement benefit: lump sum of individual

accumulated fund, with no tax

Test Effectiveness of MPF

• Stochastic simulation program constructed to test the effectiveness of MPF

• Analysis of impact on retirement income as % of pay due to various strategies on– Contribution rate– Retirement age– Entry age– Investment

• Retirement income % is called Pay Replacement Ratio (PRR)

Projection Parameters for Base Case Study

Item ParameterEntry Age 30Retirement Age 60Initial Wealth 0Contribution Rate Employer 5% Employee 5%Excess Pay Increase 0%Investment Strategy Ages 30 - 40 Aggressive Ages 40 - 50 Moderate Ages 50 - 65 Conservative

Investment Strategies

Aggressive Moderate Conservative

Long Bonds 30% 50% 50%

Domestic Stocks

40% 20% 20%

Foreign Stocks 30% 30% 10%

3-month Fixed Deposit

20%

Assumptions Data SourceConsumer Price Index Census and Statistics Dept. of HK3-Month Fixed Deposit Census and Statistics Dept. of HKLong Bond Yield US Long Government Bond YieldExecutive Wage Increase Census and Statistics Dept. of HKDomestic Stock Return Hang Sang Index Total ReturnForeign Stock Return Standard & Poor 500 Total ReturnAnnuity Assumptions Mortality 1983 Group Annuity Mortality Interest Rate 6% per annum

Data Source

Simulation ProgramParameters

Retirement Initial Employer EmployeeEntry Age Age Monthly Pay Excess Pay IncrWealth ContributionContribution Sex

50 65 30,000 -2% 500,000 10% 5% MInvestment Strategy Portfolio Distribution

Start Age End Age Long Bonds 3-Months FixedDomestic StocksForeign Stocks30 39 30% 0% 40% 30%40 49 55% 25% 20% 0%50 65 55% 25% 20% 0%

Retirement Analysis for Male Age 50 - Initial Wealth = 8 Times Annual Pay

0%

20%

40%

60%

80%

100%

120%

140%

160%

180%

200%

5 10 15 20 25 30 35 40 45 50 55 60 65 70 75 80 85 90

Percentile

Pay

Rep

lace

men

t Rat

io

RA 60/5% Er/5% Ee Cont. RA 60/ 15%Er/15% Ee Cont. RA 65/ 10% Er/5% Ee Cont.

Source: Results of author’s stochastic simulation

Simulation ProgramParameters

Retirement Monthly Excess Initial Employer EmployeeEntry Age Age Pay Pay Increase Wealth Contribution.Contribution Sex

30 55 25,000 2% 50,000 15% 10% MInvestment Strategy Portfolio Distribution Start Age End Age Long Bonds3-Months FixedDomestic StocksForeign Stocks

30 34 30% 0% 40% 30%35 49 50% 0% 20% 30%50 65 50% 20% 20% 10%

Retirement Analysis for Male Age 30 - No Initial Wealth

0%

20%

40%

60%

80%

100%

120%

140%

160%

180%

200%

5 10 15 20 25 30 35 40 45 50 55 60 65 70 75 80 85 90

Percentile

Pay

Rep

lace

men

t Rat

io

RA 60/ 5% Er/ 5% Ee Cont RA 60/ 15% Er/5% Ee Cont. RA 55/ 15%Er/10% Ee Cont.

Source: Results of author’s stochastic simulation

Concluding Remarks on Hong Kong

• Need for assurance varies with individuals– The higher the assurance, the higher the

contribution rate• For older employees without sizeable savings,

retirement income is grossly inadequate– For these employees, a contribution rate of over

30% is required to produce decent retirement income at age 60

– Better if they retire at 65• Severe transition issue must be addressed

Concluding Remarks for Hong Kong (continued)

For young employees: • 10% contribution is inadequate• It takes over 15% contribution to produce reasonable

retirement income• For early retirement, say at 55, more than 25%

contribution may be needed• Starting at 45 instead of 30, 5% more contribution is

bu 5% less• Current investment strategy is quite optimal

2000 Population of China (in millions)

15 10 5 0 5 10 150

6

12

18

24

30

36

42

48

54

60

66

72

78

84

90

96

Age

Male Female

Source: 2000 Population Census of People’s Republic of China

About Chinese Demography

• Mid segment of population is broad• Current working population is sizeable

– When this segment retires, there will be much pressure on country’s finance

• Population at lower ages is smaller– May cause increasing dependency ratio problem

• We should consider different dichotomy of the population

2000 Chinese Population2000 Rural Population (in Millions)

10 8 6 4 2 0 2 4 6 8 100

7

14

21

28

35

42

49

56

63

70

77

84

91

98

Age

Rural-M Rural-F

2000 Han Population (in Millions)

15 10 5 0 5 10 1507

1421

28

3542

4956

6370

7784

91

98

Age

Han-Male Han-Female

2000 Minority Population (in Million)

1.5 1.0 0.5 0.0 0.5 1.0 1.5

0

7

14

21

28

35

42

49

56

63

70

77

84

91

98

Age

Minor-M Minor-F

2000 Urban Population (in Millions)

6 4 2 0 2 4 60

6

12

18

24

30

36

42

48

54

60

66

72

78

84

90

96

Age

Urban M Urban F

Source: 2000 Population Census of People’s Republic of China

Dichotomy of Chinese Population

• Consider percentage of population at younger ages– Percentage for Urban population much smaller

than that for rural population– Old age crisis more imminent in cities

• Fewer young people among Han population than in minorities– Old age crisis more imminent among Han

population

Social Security for China

• Wide differences among provinces– Geographical– Economical

• Many differences between cities and rural areas

• Xinjiang is an example• Begin with study of economic factors

Basic Statistics of Xinjiang 2003Xinjiang China

Area 16,650,000 sq km 96,000,000 sq kmPopulation 19.3 million 1,292.3 millionProductivity Increase

2001 8.1% 7.5% 2002 8.1% 8.0% 2003 10.8% 9.1%Income (Yuan) Urban Rural Urban Rural 2001 6,590 1,710 6,860 2,366 2002 6,940 1,863 7,703 2,476

2003 7,221 2,106 8,472 2,622

Xinjiang Population Trend

0

2

4

6

8

10

12

14

16

18

20

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Calendar Year

Popu

latio

n in

Mill

ions

Population Urban Rural

Source: Xinjiang Lingdao Ganbu Shouce 2004

Average Annual Income In Xinjiang

0

1,000

2,000

3,000

4,000

5,000

6,000

7,000

8,000

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Calendar Year

Annu

al In

com

e

Urban Rural


Engle Quotients for Xinjiang

30

35

40

45

50

55

60

65

70

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Calendar Year

Quo

tient

%

Urban Rural


Birth Rate Vs Death Rate in Xinjiang

2

4

6

8

10

12

14

16

18

1978 1980 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002

Calendar Year

Birt

h/D

eath

Rat

e %

Birth Rate (‰) Death Rate (‰)

Souce: Xinjiang Statistical Yearbook 2003

Death Rates for Xinjiang Population

0

50

100

150

200

250

300

0 1-4 5-9 10-14 15-19 20-24 25-29 30-34 35-39 40-44 45-49 50-54 55-59 60-64 65-69 70-74 75-79 80-84 85-89 90-94 95-99 100+

Age Ranges

Dea

th R

ates

per

100

0

Urban M Urban F Village M Village F

Source: Xinjiang Statistical Yearbook 2003

Urban Population of Xinjiang

2000 Urban Population of Xinjiang

500,000 400,000 300,000 200,000 100,000 0 100,000 200,000 300,000 400,000 500,000

0

5-9

15-19

25-29

35-39

45-49

55-59

65-69

75-79

85-89

95-99

Age

Urban M Urban F


500,000 400,000 300,000 200,000 100,000 0 100,000 200,000 300,000 400,000 500,000

0

5-9

15-19

25-29

35-39

45-49

55-59

65-69

75-79

85-89

95-99

Age

Urban M Urban F

2020 Urban Population of Xinjinag

500,000 400,000 300,000 200,000 100,000 0 100,000 200,000 300,000 400,000 500,000

0

5-9

15-19

25-29

35-39

45-49

55-59

65-69

75-79

85-89

95-99

Age

Urban M Urban F


600,000 500,000 400,000 300,000 200,000 100,000 0 100,000 200,000 300,000 400,000 500,000 600,000

0

5-9

15-19

25-29

35-39

45-49

55-59

65-69

75-79

85-89

95-99

Age

Urban M Urban F

Source: Results of author’s population modeling

Rural Population of Xinjiang2000 Rural Population of Xinjiang

800,000 600,000 400,000 200,000 0 200,000 400,000 600,000 800,000

0

5-9

15-19

25-29

35-39

45-49

55-59

65-69

75-79

85-89

95-99

Age

Village M Village F

2010 Rural Population of Xinjiang

800,000 600,000 400,000 200,000 0 200,000 400,000 600,000 800,000

0

5-9

15-19

25-29

35-39

45-49

55-59

65-69

75-79

85-89

95-99

Age

Rural M Rural F


800,000 600,000 400,000 200,000 0 200,000 400,000 600,000 800,000

0

5-9

15-19

25-29

35-39

45-49

55-59

65-69

75-79

85-89

95-99

Age

Rural M Rural F


600,000 400,000 200,000 0 200,000 400,000 600,000

0

5-9

15-19

25-29

35-39

45-49

55-59

65-69

75-79

85-89

95-99

Age

Rural M Rural F


Demographic Trend in Xinjiang

Urban• Lower fertility• Decreasing mortality• Rapidly aging

population• Dependency ratio

increases to 38.5% by 2030

Rural area• Higher fertility• Decreasing mortality• Migration to Urban

increases aging• Dependency ratio

increases at slower rate to 32.7% by 2030

Dependency Ratio for Xinjiang

0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

2000 2005 2010 2015 2020 2025 2030

Calendar Year

Dep

ende

ncy

Rat

ios

Urban Rural


Additional Problems for Xinjiang• Water scarcity

– Limited amount of surface water,• Only 60% available for cultivation

– Only 8% of underground water has been developed• Expanding desert:

– Covering 42.4% of province– Scarcity of forest, further depleted by

• Unplanned expansion of cultivated land, • Over grazing

– 20% of good farm land destroyed since 1980

Additional Problems (continued)

• Mountainous areas– Many rural areas not easily accessible

• Low education level, especially in rural areas– Over 25% have not finished primary education

• Over 11% have not been to primary school– Migrants from Rural areas to cities are

unskilled, uneducated, and poorly employed

Possible Solutions?Four necessary improvements1. Improved education level, especially in rural

areas• Better job opportunities for migrants to cities• Better agricultural techniques for farmers

2. Improved utilization of water sources• More water means more arid farm lands

3. Better farming techniques• More productivity and better conservation of land

4. Better roads• Easier communication and migration into cities

Impact of Improvements

• More farm lands• Better farming technology

– In industrial countries: 5% population are farmers– In Xinjiang: 2/3 of population are farmers– With better technology, fewer farmers can produce

more– Higher productivity in Rural areas

• More migration to cities– Migration helps dependency ratio in cities

Impact of More Migration

0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

2000 2005 2010 2015 2020 2025 2030

Calendar Year

Dep

ende

ncy

Rat

io

Current Migration More Migration


Comments - Impact of Migration

• Migration can provide temporary relief on dependency ratio

• Long-term solution for Urban must come from two sources:– Increase in productivity of Urban population– Increase in retirement age of Urban population

Concluding Remarks

• Aging is a worldwide phenomenon– Need to adjust retirement age continually in proportion

to increasing life span• Increase in dependency ratio must be matched

with increase in productivity• To produce reasonably retirement income using

defined contribution plan: – Combined employer-employee contribution rate of

over 15% is required

Documents

A Tale of Two Regions in China - Impact of Demography on Social Security