Is there a fiscally bearable solution to the armed forces pension problem? There might be, if the NPS can be part of the solution
17-Aug-2015 •Dhirendra Kumar
The military's One Rank One Pension (OROP) issue has festered for years now. The issue seems tailor-made for emotional appeals and political grandstanding, and those who talk about the financial load of an open-ended pension, do so in soft voices. Personally, I believe that OROP is entirely justified and politics on the issue is abhorrent.
And then there are the multitudes of other government employees who are waiting in the wings of this drama. One union of railway employees has already thrown its hat in the ring, stating that while the military's OROP demand takes priority, railway employees must be taken up immediately after that. It will be interesting to see how public opinion turns out when OROP demands move beyond the military. We'll probably get a good idea of how much sympathy civilian government employees, as a class, evoke in the general population.
The heart of the OROP problem is one of funding the future liability of pensions. From the numbers that are available, it's clear that while OROP could probably be funded for past employees without too large a fiscal disaster, the open-ended nature and the massive future escalation of the pension payouts will be unbearable. For civilian government employees, the future pension problem was solved in 2004, when employees hired since that date were switched to the contributory National Pension System. In the contributory system, the principle is the same as the private sector's EPFO. 10 per cent of the salary is deducted, matched by an equal contribution by the employer. The money is invested under the supervision of the Pension Authority. When the employee retires, he gets 60 per cent of the accumulation as a lump sum, and the rest is invested in an annuity, which pays out a pension. There is no liability of the employer, apart from making a matching contribution with every salary.
The NPS was never applied to the armed forces because about 80 per cent of the the military retires between the ages of 35 to 40. Another 18-19 per cent or so retires in their 50s and only 1 per cent retires at 60. If someone joins up at 18-20 and retires at 40, then the accumulation period of the NPS is just about 15-20 years, while that accumulated fund will have to pay for pension for another 35-50 years of retired life. The maths simply doesn't work. Compare this with civilian employees, where about 30 to 35 years of accumulation has to pay for 15-30 years of retired life, which works very nicely.
There's doesn't appear to be any way for the Armed Forces to be moved to a contributory system. Or is there? Actually, there's a simple solution that is possible by combining the current pension arrangement and the NPS. Here's what the government should do for those who join the military from here on: It should put them into NPS, investing deductions plus its own contributions as it does for civilian employees. Then, from retirement till the age of 60, it should pay the pension out of its own budget, but it should keep up with the NPS deductions and contributions out of this pension, just as if it were a salary. Since pension is so much lower than salary, perhaps the contribution can be enhanced. Then at the age of 60, pensions out of the budget should stop and NPS should
kick in, as it does at retirement for civilian employees.
This way, there is a limit the future liability to publicly fund pensions, and that limit is at a much lower and predictable point. The hard part of setting up the NPS and getting all civilian employees into it was done starting 2004. The NPS is a great relief for future taxpayers. In fact, a lot more people would think sensibly about these issues if instead of saying that government has to pay, we say clearly that it has to come out of future taxation, both direct and indirect. At first sight, none of this appears to have anything to do with solving the immediate OROP problem. In fact it does, simply because the real problem with OROP is the open-ended future liability.