Improving Pensions

Source– The post is based on the article “Improving Pensions” published in the “Business Standard” on 11th July 2023.

Syllabus: GS3-Economy

Relevance: Issues related to financial system

News-. The article explains the issues related to pension funds in India.

What are the issues related to pension funds in India?

Return on investment– The majority of the funds are composed of investment returns. But, long-term real returns on debt instruments are relatively low.

There are two primary reasons for this. Firstly, banks in India are required to maintain a statutory liquidity ratio. As a result, the demand for these bonds is high. It drives up their prices and consequently lowering yields.

Secondly, in order to stimulate economic growth, the Reserve Bank of India (RBI) maintains a low real repo rate. This has an impact on overall returns on investment.

Risk on investment– Investment returns also come with certain risks. Inflation risk is the first one. It can diminish the real value of the corpus held by pension funds. The second risk is interest rate risk. It can cause significant fluctuations in bond and equity prices, affecting pension funds.

Another risk is the potential change in market sentiment. Both equity and bond prices can fluctuate for prolonged periods. This poses risks to pension funds.

Dependence on authorities– The risks associated with investments depend on the actions of public authorities. Asset markets do not operate independently.

They function within a macroeconomic policy and regulatory framework. If these policies and regulations are not appropriate, investment risks can be very high.

Suitable changes in policy and regulations can help mitigate risks and improve the gains for pension funds.

Furthermore, the repo rate is a key policy tool used by the RBI to maintain macroeconomic stability. This rate undergoes significant changes over an economic cycle.

It affects interest rates in the broader economy. However, there is often an overreaction in asset markets, posing risks to pension funds.

Regulatory framework– There are also concerns related to the regulatory framework governing investments. One key issue is the absence of regulations addressing the pervasive role of market sentiment.