Commentary / Japan

No excuse for inaction on pension reforms

by Haruaki Deguchi

In Japan, which faces an accelerated aging of the population with ever fewer births, a vague sense of anxiety over the public pension system is spreading. Generally speaking, future pension finance greatly fluctuates depending on demographic composition and changes in socio-economic conditions. Accordingly, the government examines the health of pension finance every five years to assess its condition.

The result of the latest checkup, disclosed at the end of August, shows that the level of pension benefits about 20 years from now will be enough to keep the income substitution rate at 50 percent. This rate is significant because of a related law that requires the government to carry out a structural review of the pension system if the rate is forecast to fall below 50 percent. The outcome of the latest checkup means that there will be no need to change the basic framework of the current public pension system, or that there is no need to worry so much about its future.

Still, it is obvious that any estimate for the future will result in a rosy forecast if it is based on optimistic premises. In the latest assessment, pension finance estimates were made on the basis of six scenarios of economic conditions. The biggest factor is future GDP growth rates. The six different rates used in the estimates — 0.9 percent, 0.6 percent, 0.4 percent, 0.2 percent, zero percent and minus 0.5 percent — seem fairly conservative when checked against common sense.

The current income substitution rate is 61.7 percent — which is derived by dividing the monthly pension benefit of ¥220,000 for a model household by the average monthly income of ¥357,000 for the current working population. A fall in the substitution rate to 50 percent will mean that the monthly pension benefit will come down to ¥178,500 if the average monthly income of current workers is used as a base.

Some may think that such cuts will cause serious problems for pensioners. But the latest check hints at solutions to the problem through optional calculations.

One solution is to expand the scope of workers to be covered by employee pensions. Japan’s public pension system is composed of two components — kokumin nenkin (national pension) for self-employed people and kosei nenkin (employee pension) for company employees. At present, most employed workers deemed to be in socially weak positions, such as part-timers, are steered to the national pension for self-employed people.

Expanding coverage, in this case, would be to include all employed workers under the employee pension, following the basic principle of the pension policy.

One optional calculation confirms that adding all employed workers who earn at least ¥58,000 a month — numbering 10.5 million — under the coverage of employee pension will raise the income substitution rate by 4 percentage points or more.

Calculations also show that if employees continue to pay pension premiums through the age of 65, instead of 60 as currently required — meaning extending the pension premium payment period from the current 40 years to 45 years — the substitution rate will improve by at least 6 percentage points. If these two options are combined, the rate will go up by 10 percentage points or more, meaning that the present rate of roughly 60 percent will be maintained, instead of going down to 50 percent.

The question is why these simple and obvious reforms have not yet been carried out.

One answer is the strong opposition by associations of small and medium-sized firms to the idea of expanding the coverage of the employee pension. The reason for their opposition is that since employers are legally required to shoulder part of the workers’ premium payments, such a step would eat into their profits and lead many of them to go bankrupt.

The reason may sound plausible. However, we need to go back to the principle of social insurance like the public pension. It is a safety net to enable the subsistence of people who have become unable to work due to illness or old age. To employ a person means to bear minimum responsibility for that person’s life. If so, a business that cannot pay the required portion of its workers’ pension premiums is not qualified to employ the workers.

If expansion of the employee pension coverage is pursued, “zombie” companies with low profitability will be driven out of the market. The number of bankruptcies may rise temporarily. But from a long-term viewpoint, getting rid of zombie companies will make Japanese industries more robust and help restore some vitality to society.

Expanding employee pension coverage will improve not only pension finances but Japan’s economic structure as well. This would certainly kill two birds with one stone. A political decision to expand coverage would be welcome.

It is legally required that tax money be used to pay half the premiums for the basic common portion of both national pension for self-employed people and employee pensions. Extending the premium payment period is opposed on the grounds that it would increase the burden on national finance accordingly and that the government has no financial leeway to meet such a burden due to its tight finances.

But this argument is reversing the logical order of things. The logical order should be first rebuilding state finance and restoring the primary budget balance and then making necessary investments. However, restoring the primary balance should not be used as an excuse to avoid enacting pension system reform.

Haruaki Deguchi is the president of Ritsumeikan Asia Pacific University in Beppu, Oita Prefecture. A popular lecturer and author of more than 40 books, he founded Lifenet Insurance in 2008 after a career spanning nearly 35 years at Nippon Life Insurance Co.