As concerns mount over the potential insolvency of Korea’s National Pension Fund, a state-run research institute has issued a stark warning that adopting a defined contribution (DC) system as an alternative could prove to be a “poisoned chalice” — ill-suited to the nation’s socio-economic realities.(Image courtesy of Yonhap)
SEOUL, July 17 (Korea Bizwire) – A leading government-affiliated research institute has issued a stark warning against adopting a defined contribution (DC) pension model as an alternative to South Korea’s current national pension system, calling it a “poisoned chalice” ill-suited to the country’s demographic and economic realities.
The report, released Wednesday by the National Pension Research Institute under the National Pension Service, analyzed the feasibility of transitioning from the current defined benefit (DB) system—where the state guarantees future payouts—to a DC model, in which retirement income depends on individual contributions and investment performance.
While DC schemes are often touted for promoting personal control and potential returns, the report underscores that countries that embraced the model—such as Chile, Argentina, and Hungary—have since reversed course after facing widespread old-age poverty and ballooning fiscal burdens.
Foreign Failures Offer Cautionary Tale
The report found that the shift to DC in several countries led to enormous transition costs, as governments were forced to fund existing retirees while diverting contributions from new participants into private accounts. These costs exceeded 4% of GDP in many cases.
Additionally, high management fees from private financial firms eroded retirement savings. In Argentina, administrative costs reportedly consumed over 50% of total contributions.
The 2008 global financial crisis further exposed the vulnerabilities of the DC model, with market volatility devastating retirement accounts and pushing many would-be retirees toward poverty. This triggered a wave of pension “re-reforms,” as governments moved back toward publicly managed DB systems.
Sweden’s Hybrid Approach No Panacea
The report also examined Sweden’s notional defined contribution (NDC) system, a model often hailed as a balanced compromise between DB and DC structures. While it stabilizes public finances by automatically adjusting payouts based on life expectancy and macroeconomic conditions, it has led to declining income replacement rates—from 30.8% in 2022 to a projected 25.5% by 2070.
Sweden’s elderly poverty rate has surged in tandem, reaching 17.2% in 2022, with women disproportionately affected. To offset these shortcomings, the Swedish government was forced to introduce a separate minimum income support system funded by general taxation.
DC Transition Could Cost Korea Over ₩2,700 Trillion
In Korea’s context—characterized by the world’s lowest fertility rate and fastest aging population—the consequences of shifting to a DC model could be even more severe. The report estimates the transition cost at approximately ₩2,727 trillion (about $2 trillion).
The institute concluded that a DC overhaul would undermine the principles of social solidarity and shared risk, while failing to ensure financial stability or adequate retirement income. Instead, it urged policymakers to pursue a “parametric reform” within the current DB framework by adjusting contribution rates and income replacement ratios.
Rather than radical structural change, the report advocates for strengthening the existing system to ensure its sustainability amid Korea’s demographic headwinds.
M. H. Lee (mhlee@koreabizwire.com)
