A Multi-State Actuarial Framework for Health-Contingent NDC Pensions

Introduction
In ageing populations, pension and long-term care are increasingly affected by the joint evolution of longevity, morbidity, and disability. Standard NDC pensions do not explicitly account for changing health conditions after retirement, even though health-related heterogeneity affects both life expectancies and economic needs.

Methods
We propose a health-coningent NDC framework in which benefits can vary with retirees’ current health and disability status. A continuous-time five-state Markov model is used to represent transitions among health, disability, and death. Transition intensities are estimated on U.S. Health and Retirement Study longitudinal data from 1998 to 2020, with states defined using multimorbidity and Activities of Daily Living limitations. Alternative pension designs are evaluated with respect to four evaluation criteria: financial sustainability, actuarial fairness, consistency with health-related economic needs, and homogeneity of benefits within current health states .

Results
The analysis shows that these four criteria cannot, in general, be simultaneously satisfied. A standard NDC design is financially sustainable but generates actuarial unfairness by redistributing pension wealth from shorter-lived, fragile retirees to healthier and longer-lived individuals. Conditioning benefits only on health at retirement restores actuarial fairness at retirement, but creates benefit inhomogeneity over time. Dynamic health-contingent schemes mitigate these shortcomings, but only through explicit trade-offs among redistribution, benefit uniformity, and needs-based protection.

Conclusions
The proposed framework provides a quantitative basis for assessing how NDC pensions can incorporate health- and disability-contingent protection during retirement. It shows that stronger protection for fragile retirees can be financed within the cohort without increasing aggregate expected pension expenditure. However, this implementation requires explicit choices over the trade-off between actuarial fairness, benefit homogeneity, and needs-based redistribution.