When the coronavirus began taking its toll on China’s economy earlier this year, one of Beijing’s key policies to reduce the impact was to exempt firms from contributing to the national social security fund for a few months. But this policy decision has increased the financial burden on already cash-strapped local governments, which have been subsidising the fund for years. Without these local government subsidies, China’s national social security fund would have been operating at a deficit every year since 2013. And that shortfall would have likely surged to nearly 1.2 trillion yuan (US$174 billion) last year, based solely on the contributions from companies and employees, as well as the small investment return that the fund generates, according to an analysis of public records by the South China Morning Post . But instead, the fund’s balance was around 9.6 trillion yuan (US$1.39 trillion) at the end of 2019. And support provided by the fund, which covers pensions, medical insurance, unemployment insurance, work injuries and maternity insurance, became crucial during the pandemic as the economy slowed and unemployment rose. According to the Ministry of Finance, in the first half of 2020, the fund’s revenue fell by 15 per cent from a year earlier, to 3.5 trillion yuan, mainly because of the pandemic and the exemptions or delays in social security contributions, while expenditures rose by 6.5 per cent to 3.6 trillion yuan. That left a gap of 120 billion yuan to be filled. Now questions are emerging as to whether local governments can still afford to pay such large subsidies when their fiscal revenues have taken such a big hit in the broad economic slowdown. The share of government subsidies in China’s social security system doubled over the past decade. Last year, subsidies accounted for about 23 per cent of the fund’s total revenue of 8.3 trillion yuan, with most of the money going toward pensions and medical insurance, where spending has soared. The responsibility for providing this sizeable subsidy still falls mostly on the shoulders of local governments under the current system. Of the 1.9 trillion yuan in subsidies injected into the fund in 2019, more than 98 per cent came from the coffers of local governments, representing around 18 per cent of their total revenues, according to official data. But local governments’ revenue intake is shrinking. In the first seven months of this year, total local government revenues declined 6.2 per cent from a year earlier, while expenditures fell 3.2 per cent. Earlier this year, in an effort to help businesses survive pandemic-induced lockdowns, Beijing allowed small and medium-sized enterprises to stop paying the employers’ portion of contributions to the pension, unemployment and work-injury funds for up to five months – February to June. The central government also halved the contribution rate for larger firms to these three funds for up to three months. Xiao Yanhua, a social security researcher at the Shanghai Academy of Social Sciences, estimated last month that these cuts in social security contributions would create a revenue loss of between 58 billion yuan and 80 billion yuan for the basic pension scheme just in Shanghai, one of the country’s most populous cities. This has put further stress on the city’s fiscal revenues, which fell 12.2 per cent in the first half of the year – a larger decline than the national average of 10.8 per cent. This will put tremendous pressure on the payouts from [Shanghai’s] basic pension scheme and its sustainable development Xiao Yanhua The need to fill a hole in social security funding during times of economic turmoil is a familiar story for Shanghai officials. Back in 2008, the city government transferred 18 per cent of its revenue – close to 18 billion yuan – into social security funds to make up for a huge gap between revenues and expenditures that year. Xiao also noted the correlation between Shanghai’s rapidly ageing population and the pressure this puts on the pension system. “For 40 years, the speed of the ageing of Shanghai's population has led the country,” Xiao said. “It will accelerate in the future. This will put tremendous pressure on the payouts from the city’s basic pension scheme and its sustainable development.” Reforming the country’s social security system is a complicated undertaking that requires long-term planning, which Beijing has said it intends to tackle. But the increasing pressure on local governments’ balance sheets from social security subsidies, on top of their other fiscal problems, has made pension reform “more urgent”, according to Dong Dengxin, director of the Financial Securities Institute at the Wuhan University of Science and Technology. The key to solving the problem is getting the central government to manage social security contributions and the payouts from the pension fund so local governments no longer need to provide subsidies, Dong said. As part of pension reform, Dong also suggested that the government extend the minimum period for contributions to the pension fund from 15 years to 20 years, while also unifying the retirement age at 60 for both men and women. At the moment, blue-collar female workers can claim pension benefits at age 50, 10 years earlier than men. Female civil servants can claim benefits at age 55. So far, Beijing has employed only temporary fixes to address the increasing payout pressure from the pension fund. In 2018, the central government asked local governments to turn over a portion of their pension revenue to be redistributed to less-developed areas that had more trouble paying retirees. Developed places such as Shanghai turned over more than they received from Beijing. Last year, 21 provinces received more than they turned over to the central government. Among them, the largest beneficiaries included three northeastern rust-belt areas of Heilongjiang, Jilin and Liaoning, as well as Hubei province in central China. Liaoning province, which is suffering from its heritage of heavy industries while experiencing a population outflow, received 74.5 billion yuan (US$10.8 billion) from Beijing, close to four times more than they turned over, according to data from the Ministry of Finance. By comparison, Guangdong province, the economic powerhouse in southern China, turned over 108 billion yuan and received only 43 billion yuan from the central government. Beijing also required civil servants and other government employees, who previously did not have to contribute to the national pension funds, to start making contributions to the pool. But these contributions have also been heavily subsidised. Without subsidies, the pension fund for government employees would have been short more than 337 billion yuan (US$49 billion) and 452 billion yuan in 2018 and 2019, respectively, based on official data. With tight revenues limiting their ability to subsidise social security funds, local governments have had to find ways to limit payouts. For instance, medical insurance covers only treatments and medicine on preapproved lists. People who need imported medicine or more advanced surgeries have to pay extra for private insurance. China had a US$726 billion pension fund surplus in first half of 2019 Without subsidies, the medical insurance fund would have run a deficit of 240 billion yuan (US$34.7 billion) last year. Maternity insurance has been merged into medical insurance in the final account published by the Ministry of Finance annually. Even more alarming, the unemployment and work-injury insurance funds, which used to have more contributions than expenditures, partly due to complicated payout processes, also fell into deficit. Even with subsidies, the unemployment fund still had a 4.9 billion yuan shortfall last year, for the first in decades. For this first six months of this year, the unemployment insurance fund ran a deficit of 61 billion yuan, partly because of increasing payouts due to rising employment pressure, particularly among low-income groups, according to the Ministry of Human Resources and Social Security. The unemployment fund’s balance stood at 462 billion yuan at the end of 2019. Earlier this month, in a budget progress report, Finance Minister Liu Kun said the government would extend the period for older unemployed people to receive unemployment benefits, while further subsidising those who still cannot find jobs after receiving benefits for two years – the current cap for receiving unemployment benefits – and those who are insured but not eligible to claim the benefits.