Mortality Heterogeneity and Actuarial Fairness in China's Notional Defined Contribution Pension System

TL;DR

This paper analyzes mortality heterogeneity in China's NDC pension system, revealing actuarial unfairness and proposing income-dependent rules to improve fairness.

Contribution

It develops a mortality-differentiated Lee-Carter model with group-specific schedules and evaluates new income-dependent annuitization rules.

Findings

Current age-only divisor causes reverse transfers from poor to rich.

Income-dependent rules significantly reduce unfair transfers.

Model captures cross-group mortality differences with limited data.

Abstract

We study actuarial fairness in China's notional defined contribution (NDC) pension system when mortality differs across income groups. Under current rules, individual account balances are converted into monthly benefits using an official annuity divisor that depends only on retirement age. We develop a mortality-differentiated Lee-Carter framework with group-specific baseline mortality schedules and a common period effect, estimated by combining national mortality data for 1994-2020 with CHARLS subgroup data for 2011-2020. To model cross-group mortality parsimoniously under limited data, we parameterize the baseline schedules using Hermite splines. Applying the model to China's NDC system, we find substantial actuarial unfairness in the current age-only divisor. The subsidy rises monotonically with income, implying both an aggregate actuarial shortfall and a reverse transfer from poorer to richer retirees. We then compare four implementable income-dependent annuitization rules, ranging from a simple bracket design to marginal-rule alternatives, and show that all substantially reduce the reverse transfer.