KDI suggests new national pension scheme amid aging society

KDI researchers Lee Kang-koo and Shin Seung-ryong. [Photo by Yonhap]

The Korea Development Institute (KDI), a leading think tank in South Korea, suggested Wednesday that the country should introduce a new national pension system where benefits align with investment returns.

In a report on the country’s national pension reform, KDI researchers Lee Kang-koo and Shin Seung-ryong proposed a new pension scheme that forms a fund with the principal and interest of collected insurance premiums to cover pension benefits.

If the current national pension system is left unchanged, the accumulated funds will be depleted by 2054, the researchers said.

They projected that the national pension reserve fund will grow to 1,972 trillion won ($1.48 trillion) in 2039 from 1,015 trillion won in 2023 before gradually shrinking in 2054, a year earlier than the recent projection of the Financial Calculation Committee, an advisory body under the National Pension Service.

The current pension system is designed to adjust premium rates to pay promised pensions to subscribers even after the fund is exhausted.

In order to pay pensions in this state, premium rates would need to rise sharply from the current 9 percent to more than 30 percent, potentially compromising intergenerational fairness, the researchers said.

“Forcing future generations to pay significantly higher premium rates after the preceding generations enjoy much lower rates and higher income replacement ratios can severely undermine intergenerational fairness,” Lee said.

They proposed a gradual increase in premium rates, considering the burden on pension subscribers. Their suggested plan includes raising the premium rate from 9 percent to 12 percent, then progressively to 15.5 percent.

Another option involves increasing the rate by 0.5 percentage point annually over 13 years.

A major problem with the current pension system is the high expected returns for the elderly. The total amount of benefits promised to subscribers is higher than the sum of the premiums paid by subscribers and the expected investment returns.

[Photo by MK DB]

The researchers called on the need for structural reform to enhance intergenerational fairness. One option is to separate the old and new pensions.

The old pension refers to the current national pension system for the older generation, while the new pension signifies a new system for future generations. The researchers suggested making the new pension system such that the premiums and expected investment returns align with the benefits received.

All premiums paid from the point of the pension reform forward would be accumulated in the fund for the new pension, which would then pay benefits equal to the expected return ratio of 1.

For the financial shortfall of the old pension, the researchers advocated coverage by injecting general funds.

According to the KDI, the pension fund shortfall is estimated to be 609 trillion won, equivalent to 26.9 percent of the gross domestic product (GDP) as of this year.