The Original Intention of Transitional Benefits and the Solution to the Difficult Problem of Basic Old-Age Insurance “Pillar I Dominance”

The Chinese government proposed improving the basic old-age insurance system and the mechanisms for setting and adjusting benefits to ensure the long-term balance of basic old-age insurance funds. The government also called for faster development of a multi-tiered, multi-pillar old-age insurance system. However, there is a significant gap between the actual situation and the strategic goals. The basic old-age insurance fund for enterprise employees has a large gap and heavily relies on fiscal subsidies. The development of the three pillars of old-age insurance is extremely unbalanced. Basic old-age insurance is “Pillar I Dominance”. The increasing gap in the basic old-age insurance fund for enterprise employees is closely related to the calculation method of pension benefits. The original intention of the transitional benefits in the basic old-age insurance for enterprise employees is to compensate for the lack of pension benefits corresponding to the deemed contribution years of “middle-participants”, ensuring a reasonable and smooth transition of pension benefits. The calculation of basic benefits includes both the actual contribution years and the deemed payment years of any participant. The calculation of individual account accumulated balance only includes the actual payment years and does not include the deemed payment years. In theory, the individual account benefits corresponding to the deemed payment years should be compensated. However, the current calculation method for the transitional benefits resembles that of the foundational benefits, and the current individual account benefits for “middle-participants” do not include the pension benefits corresponding to deemed contribution years. Based on the basic old-age insurance system for enterprise employees, we construct actuarial models for transitional benefits. We also develop an actuarial model for the individual account benefits corresponding to the deemed contribution years of “middle-participants”, and evaluate the payment gap and fiscal burden caused by the deviation of the current transitional benefits calculation method from its original intention. We calculate the expenditure of the transitional benefits and individual account benefits corresponding to the deemed contribution years of retired “middle-participants” from 2006 to 2024. Comparing the expenditure of the transitional benefits and that of the individual account benefit corresponding to the deemed contribution years gives the transitional benefit overpayment. We also compare the transitional benefit overpayment with the fiscal subsidies. Based on the calculation and comparison mentioned above, we find that from 2006 to 2024, the current transitional benefit expenditure was significantly larger than the individual account benefit expenditure corresponding to the deemed contribution years, with the former's annual growth rate of 16.78% far higher than the latter's 12.93%. This has led to an annual expansion of the transitional benefit overpayment. During this period, the average annual growth rate of the transitional benefit overpayment was 17.67%, and the corresponding average annual growth rate of fiscal subsidies was 12.93%. The transitional benefit overpayment is an important reason for increasing the fiscal burden. To avoid introducing significant model risks by reverse estimating historical missing data, we conduct robustness tests by setting traditional fixed values for the salary growth rate, compliance rate and seniority salary growth rate. Multi-scenario robustness tests consistently validate that the scale of current transitional benefit expenditure is still significantly higher than that of individual account benefit expenditure corresponding to the deemed contribution years under various economic assumptions. This means that the conclusions of this paper demonstrate strong robustness. If the transitional benefit overpayment was transferred to the second and third pillar old-age insurance, it can significantly increase their scale. This can make the three-pillar structure of old-age insurance more coordinated and reasonable. Sensitivity analyses reveal that the transitional benefit overpayment varies in the same direction as the benefit growth rate, compliance rate, seniority salary growth rate, contribution continuity rate, and transition coefficient, and in the opposite direction as the salary growth rate and bookkeeping interest rate. The factors, ranked by degree of influence from strong to weak are, in order, the contribution continuity rate, the seniority salary growth rate, the compliance rate, the benefit growth rate, the salary growth rate, the bookkeeping interest rate, and the transition coefficient. The current calculation method's deviating from the intention has widened the payment gap of the basic old-age insurance. To narrow the payment gap, alleviate the fiscal burden, solve the difficult problem of basic old-age insurance “Pillar I Dominance”, and strengthen the second and third pillars of old-age insurance, the Chinese government can take the following measures:Replacing the current transitional benefits with the individual account benefits corresponding to the deemed contribution years; transferring the overpayment of transitional benefits into the second and third pillars to develop the two pillars of the old-age insurance system; and raising the contribution continuity rate and compliance rate to strengthen the second and third pillars and improve the multi-pillar old-age insurance system. The innovation of this paper is primarily reflected in three aspects:Firstly, it reveals how the current transitional benefit calculation method deviates from its original design, leading to a deficit in the basic old-age insurance fund for enterprise employees and an increased fiscal burden. Secondly, it confirms the scientific and rational basis for using the individual account benefits corresponding to deemed contribution years as the transitional benefits. Finally, it integrates the study of the original intention of transitional benefits with solving the difficult problem of basic old-age insurance “Pillar I Dominance”.