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.

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

Note: This article was prepared to respond to an Indonesian media company that interviewed me recently. In recent days, there has been news that the number of middle-class residents has decreased by more than 8.5 million people since 2018. The LPEM UI study stated that the class considered economically stable comprises 52 million people, but on the other hand, the number of people in economic classes below it, the prospective middle class and vulnerable, has actually increased. What are the implications of a situation like that for social security participation in employment, including BPJS employment programs? Are there any strategic efforts that the government and BPJS Employment must make to increase the number of BPJS users with the potential for a decline in the middle class? The decline in Indonesia’s middle class is particularly concerning given the government’s long-term development plans, which focus on expanding this demographic to achieve sustainable and inclusive growth. The middle class is central to the government’s strategy.

I am not surprised if a study shows the middle class struggling. Many factors are involved in generating such a trend, but I would like to focus on tax and social protection here.

Increasing value-added tax (VAT) (to 11% in 2022 and 12% in 2025) will theoretically impact middle-class and low-income earners by potentially decreasing their disposable income. The Government must think about how to redistribute collected tax through social protection instruments. Currently, the collected tax is primarily used for narrowly, vaguely, and often inaccurately targeted programs for the poor through PKH, PBI-JKN and other social assistance programmes. The middle class pays more costs now than in the past, but they are not benefitted from such programmes.

A more effective approach to promote and sustain the middle class through social protection would be to achieve pension coverage for all residents. Ageing and illness are experienced by most people throughout life. While JKN has almost achieved universal coverage, pension is the most pressing agenda in Indonesia.

Increasing VAT can be an opportunity for building a more effective redistribution mechanism for the middle class. A Japan’s experience may be relevant for Indonesia. Japan’s National Pension is half-subsidized (taxes cover half the expenditure, while contributions from residents cover the other half), and it is mandatory for all residents to pay a flat contribution. The government acts as a de facto employer of citizens to ease their costs. When the subsidy became a permanent arrangement, the government increased the VAT from 5% to 8% and earmarked it for the National Pension subsidy (and other social security programs). In this way, Japan linked a universal pension system with a universal ‘collection’ method.

We proposed a similar model to the Government of Indonesia last year. According to APINDO, an employers’ organization (as reported by TEMPO News), the 2025 VAT increase will boost state revenue by at least Rp. 80 trillion. According to our estimates in the ILO proposal, this amount would be sufficient to start paying at least Rp. 500,000 monthly (equivalent to the poverty line value) to all individuals above age 75 in Indonesia.

Implementing such a system is technically feasible. The key factor now is political will to shift from narrowly targeted programmes to a more universal approach that supports the government’s goal of expanding the middle class. This strategy could address both the immediate challenges of declining middle-class numbers and contribute to long-term, inclusive economic growth.

In recent years, Indonesia has made significant strides in reforming its social security system, with a focus on enhancing protection for workers and their families. The Government of Indonesia (GoI) has introduced a series of policy measures aimed at addressing key challenges in the areas of unemployment protection, old-age income security, and maternity benefits. Read more