Indonesia’s Pension Reform: A Comprehensive Analysis of Challenges and Proposed Solutions

Introduction

As the Social Protection Program Manager at the International Labour Organization's Country Office for Indonesia and Timor-Leste, I recently presented an analysis of the pressing need for pension reform in Indonesia. The country faces rapid demographic changes and inadequate pension coverage, and our analysis aims to provide crucial insights into the challenges ahead and potential solutions.

Indonesia's Demographic Challenge

Indonesia is facing a rapidly aging population, a trend that will significantly impact its pension system and overall economy. I presented stark demographic projections, showing that in 2020, there were 6.4 working-age individuals (15-59 years) for every older person (60+ years). By 2050, this ratio is expected to plummet to just 2.8 working-age individuals per older person. The number of older persons (60+) is projected to surge from 27 million in 2020 to a staggering 69 million by 2050. This demographic shift underscores the urgency of pension reform. The traditional notion that children will care for their aging parents is becoming increasingly untenable as family sizes shrink and the proportion of older citizens grows.

Current Pension Coverage in Indonesia

I highlighted the alarmingly low pension coverage in Indonesia compared to other Southeast Asian countries. Only 14.9% of Indonesians above the statutory retirement age receive an old-age pension. This figure pales in comparison to countries with universal or pension-tested systems like Brunei (100%), Thailand (88.3%), and Vietnam (40.9%). The current pension landscape in Indonesia is fragmented and leaves many workers uncovered. Out of 119 million economically active individuals aged 20-59, only 21 million actively participate in old-age benefit schemes. This leaves a significant portion of the workforce, particularly non-wage workers and employees in the informal economy, without pension coverage.

Existing Pension System Structure

Indonesia's current pension system consists of two main components. The first is Jaminan Pensiun (JP), a defined benefit scheme providing 30% of previous earnings after 30 years of contributions. It's mandatory only for wage workers in medium and large enterprises, with a contribution rate of 3% of wage (2% employer, 1% employee). The second is Jaminan Hari Tua (JHT), a defined contribution scheme, mandatory for wage workers in small to large enterprises and voluntary for micro-enterprise and non-wage workers. The contribution rate is 5.7% of income (3.7% employer, 2% employee). This structure leaves significant gaps in coverage and may not provide adequate benefits for many workers.

Contribution Rates: A Regional Comparison

I emphasized that Indonesia's current social security contribution rates are significantly lower than its regional peers. While Indonesia's total contribution rate is 8.7% (3% for DB and 5.7% for DC), other countries in the region have much higher rates. Singapore, for instance, has a 37% contribution rate for its defined contribution scheme. Malaysia's total rate is 25%, combining 1% for DB and 24% for DC. Vietnam has a 22% rate for its defined benefit scheme, while Japan's rate is 18.3% for DB plus an additional flat-rate contribution. This comparison suggests there is substantial room for Indonesia to increase contribution rates to fund a more comprehensive pension system.

Proposed Reform Options

To address these challenges, I presented three main reform options. The first is a Pension-tested Scheme within Jaminan Pensiun (PBI-JP or a benefit subsidy within social insurance scheme). This option proposes expanding JP to all wage and non-wage workers, increasing the defined benefit to 40% after 30 years of contribution. It includes a gradual increase in contribution rates from 3% to 15% by 2054. A pension-tested scheme would provide a flat benefit of IDR 500,000 for those with short service or low earnings. JHT would become voluntary for all residents. The financial impact would be significant, with initial coverage of 20 million people (65+) requiring a state budget of IDR 118 trillion.

The second option is Pensiun Sosial (PS, or Social Pension). This option introduces a universal flat benefit of IDR 500,000 for all residents above a certain age, funded by the state. It maintains JP for wage workers with increased benefits (40% after 30 years) and the same gradual increase in contribution rates as Option 1. JHT remains voluntary for all residents. The financial impact varies based on the implementation age. Starting at age 75+ would initially cover 6 million people, requiring IDR 36 trillion. Full implementation at age 65+ would cover 20 million people, requiring IDR 118 trillion.

The third option is Jaminan Pensiun Nasional (JPN, or National Pension). This option introduces a new mandatory scheme for all residents of working age, providing a flat benefit of IDR 1 million after 30 years of contributions. It requires a fixed contribution of IDR 300,000 per month from participants, with the state providing benefit subsidies (50% of pension expenditure). It maintains JP for wage workers (30% after 30 years) with a gradual increase in contribution rates from 3% to 8% by 2038. JHT remains voluntary for all residents. The initial coverage and state budget requirement are similar to Option 2 if the JPN provides a transitional measure for the current working age populations.

Conclusion

Indonesia stands at a critical juncture in its social security development. The rapidly aging population and current low pension coverage necessitate comprehensive reforms to ensure the well-being of future generations of older citizens. The options I have presented offer different approaches to achieving universal coverage and improved pension adequacy, each with its own set of trade-offs. As Indonesia moves forward with pension reform, it will be crucial to consider the long-term sustainability of the chosen system while ensuring adequate protection for current and future generations of older persons. The implementation of these reforms will require careful planning, gradual increases in contribution rates or tax funding, and extensive public education to gain acceptance and participation from all stakeholders. The choice of reform will ultimately depend on Indonesia's fiscal capacity, political will, and societal preferences regarding redistribution and individual versus collective responsibility for old-age income security. Whatever path is chosen, it is clear that significant action is needed to address the looming demographic challenges and secure the financial future of Indonesia's aging population.

Reference

Brimblecombe, S.; Plamondon, P.; Phan, D. T.; Tsuruga, I. 2023. Republic of Indonesia: Report to the Government – Financial assessment of the social security pension schemes administered by BPJS Ketenagakerjaan as of 31 December 2020 and costing of sickness and maternity benefits.

Note: This article was generated using artificial intelligence technology with human assistance, based on a transcript of my original presentation, and initially posted on The Povertist.