In China, adults who are 60 and over form 11% of the population. By 2040, this will rise to 28%, 397 million people. Per capita income is one-fifth of S. Korea and one-ninth the US. China is trying to raise living standards while its population is young and growing as in the long term, it has to care for a larger number of dependent elderly people. The solution may be to combine a pay-as-you-go floor of protection with mandatory funded personal retirement accounts. The existing system covers only a fraction of the population and the State-owned sector is running into financial trouble. Millions of Chinese reaching old age over the next half century will have no pension or health care coverage. Pension coverage is largely limited to urban workers in the State-owned sector. In 2002, the basic pension covered mainly employees at State owned enterprises. The government has begun to extend pension coverage to the private sector but participation is minimal. A system for civil servants covers 10% of the urban workforce. Rural workers are excluded although 11% participate in a voluntary pension system. Only 25% of China’s workforce have any pension provision. Government health insurance is limited to the same groups, although coverage rates are higher than for pensions. The cost is a modest share of the economy, about 3.5% on public pensions, and 0.5% on health care benefits for retirees. Although retirement benefits consume a small share of China’s economy, they are a burden on workers and employers. High contribution rates are leading to evasion in the pension system and deficits that the government must cover. In rural China, workers count on the extended family for support in old age. For Chinese without public retirement benefits, the alternative is limited. As China modernizes, its old-age support is coming under stress. The exodus of young adults from the countryside is separating elderly people in rural areas from their children. In the cities, urban elderly are being stripped of their traditional role. China is beginning to confront its ageing challenge and the need to build a more inclusive and affordable retirement system. Starting in the 1990s, it began to expand the basic pension system to include the urban private sector. At the same time, it is implementing a plan to shift from a pay-as-you-go system, in which current workers are taxed to pay for current retirees, to a two-tiered system of scaled-back pay-as-you-go benefits and personal retirement accounts. Private enterprises have little incentive to join the new system, whose contributions go to pay off the unfunded liabilities of the old system. As of 2002, more than 90% of private sector workers had no pension coverage. The personal accounts, administered by municipal and provincial social security bureaus, are not being saved and invested. Worker contributions are treated as tax revenue and used to cover the deficit in the system’s pay-as-you-go. To ensure that coverage under the new system is affordable, the government must assume the old system’s liabilities. To ensure that personal accounts are funded, it will need to transfer management from the social security bureaus to independent managers. It will have to build an old age safety net in the countryside. To win participants’ trust, the government must ensure the security and transparency of the personal accounts. Despite their growth, China’s stock markets remain small and illiquid. The lack of liquidity breeds a speculative investment culture. Chinese firms have little experience in managing pension assets. The participation of foreign financial services will be crucial. Without an effective retirement policy, it is hard to envision a prosperous and peaceful future for China. China needs to raise capital from the savings of working families who today often invest in unproductive housing or deposit it in banks. If China’s current personal accounts system were extended to the entire urban workforce, total contributions this year would come to about 250 billion yuan (US $ 30.2 billion). Even a small fraction of this would constitute a substantial inflow of capital. Personal accounts will educate workers about financial markets. If China is successful, not only will elderly people retire in greater comfort and families live with fewer worries, it will also be a future in which capital formation is stronger, living standards are higher, and public trust in government is even firmer.