The Sustainability of Chinese Pay-As-You-Go Pension System in Urban Areas

Abstract

A pay-as-you-go (PAYG) pension system requires a balance between the benefits paid to pensioners and the contributions made by active workers. The decline in fertility rates and the increase in longevity in China will lead to a substantial increase in the old-age dependency ratio, raising serious concerns about the long-term sustainability of the Chinese pension system. This thesis provides the first estimate of the sustainability of the Chinese PAYG pension system in urban areas and is based on two actuarial balance methodologies. The first is the Swedish solvency ratio, which is based on verifiable facts. The second is the United States’ actuarial balance indicator, which takes into account projected demographic and economic structures. Both methodologies show that the Chinese pension system, in its current form, is unsustainable. Two factors, namely the one-child policy and the urbanization process, that affect the sustainability of the Chinese pension system are analysed. Population projections under different demographic structures are provided using the cohort component method, and an automatic balancing mechanism is designed in order to restore the sustainability of this pension system. The main finding is that the one-child policy is harmful to the system’s sustainability. Furthermore, all scenarios studied show there is an urgent need to introduce mechanisms that will guarantee long-term sustainability of the system. The analysis of the urbanization process shows that demographic changes due to rural-urban migration will have an enormous impact on the Chinese PAYG pension system. Contrary to the current public hypothesis that a huge inflow of a working-age population will restore the demographic balance between contributors and pensioners, the rapid urbanization process will result in a higher old-age dependency ratio after 2050. Overall, urbanization worsens the long-term sustainability of the Chinese pension system.