Mr. Daniel Béland (Canada Research Chair in Public Policy, Johnson-Shoyama Graduate School of Public Policy, University of Saskatchewan, As an Individual):
Good afternoon, and thank you for your invitation.
In Canada as in other countries, retirement pensions involve long-term commitments on the part of employers and governments. Canada's pension system has a number of outstanding qualities like the capacity to fight poverty effectively, at least compared to the systems in effect in other countries. However, many Canadians are concerned about the future of retirement security in our country. Considering trends like demographic aging, the 2008 financial crisis, and the decline in defined-benefit pensions, these concerns are legitimate. Pension reform is a difficult business because it involves complex rules and policy trade-offs and, in the case of the Canada Pension Plan, discussions between Ottawa and the provinces.
The role of the provinces in retirement security is only one of the several outstanding features of Canada's pension system. For instance, our pension system is based on the interaction between multiple layers of public and private schemes.
As far as public pensions are concerned, Canada has a modest flat pension, OAS, that works in tandem with CPP and QPP, and GIS in the case of low-income people. Regarding these public pension programs, from a comparative perspective it is clear that the Canadian system offers relatively modest replacement rates. The replacement rate for CPP is only 25% of covered earnings. Such modest replacement rates are related to our reliance on private pensions and personal savings, which are seen as complementary sources of retirement security for workers. This choice to rely extensively on private pensions and personal savings for retirement security was made in the mid-1960s when CPP and QPP were adopted. Interestingly, however, CPP and QPP were created precisely because experts and policy makers came to the realization that on their own, OAS and private pensions could not grant true economic security to the vast majority of Canadian retirees. From this standpoint, CPP and QPP were designed largely to offset the shortcomings of private pensions and private savings.
As for GIS, it was created in 1967 as a temporary measure that was later made permanent in order to provide durable support for low-income elderly Canadians. There is strong evidence that the GIS, combined with the other elements of our public pension system, is an effective program in the fight against elderly poverty, an area where Canada has done well compared to many other countries. In fact, concerning elderly poverty, Canada performs as well as social democratic Sweden, and much better than countries like the United Kingdom and the United States. For instance, using a standard definition of poverty, two American scholars recently showed that the rate of elderly poverty is much lower in Canada than in the United States. We can attribute part of this success to the GIS. However, despite the dramatic improvement compared to the situation prevailing 40 years ago--according to the Luxembourg income study, the elderly poverty rate dropped from 36.9% in 1971 to 6.3% in 2004--elderly poverty in Canada increased between the mid-1990s and the middle of the current decade. Raising GIS benefits could help further reduce elderly poverty in Canada.
Although fighting poverty is important, modern retirement systems do more than that, as one of their primary goals is to replace income. This is true because, when workers retire, they typically want more than simply to avoid poverty; they seek to maintain the living standard they have achieved during their active life. That's an important point.
In Canada, the CPP and QPP, that is the Canada Pension Plan and the Quebec Pension Plan, are especially crucial components of the public pension system. Considering the decline of defined-benefit pensions and the slow erosion of private pension coverage in general—work force participation declined from 46% to 38% between 1977 and 2008—CPP and QPP are more essential than ever. This is partly why many experts and policy makers are promoting the idea of improving the economic protections provided by these earnings-related schemes, CPP and QPP.
Yet, any attempt to improve the protection they offer should take into account fiscal, demographic and economic challenges, particularly, the necessity to maintain the long-term fiscal soundness of both CPP and QPP.
Since the beginning of this presentation I have mentioned CPP and QPP together, almost as if they formed one single program. Obviously this is not the case, as QPP is a provincial program under the control of the Quebec government. Nevertheless, although distinct from one another, CPP and QPP are highly similar by design. It was intended from the start that these programs would be highly similar or even identical.
The Quebec government enacted its own plan to feed the Caisse de dépôt et placement and invest some of the pension money in the economy of the province. It was not to have different benefits in Quebec or a different contribution rate. It was for macro-economic reasons, not for social policy objectives in the strict sense of the term. So what's important to understand here is that from the beginning, QPP and CPP were intended to be basically the same programs, as far as social policy benefits were concerned.
Right now, as far as retirement benefits are concerned, the two programs have the same contribution and replacement rates. In fact, as suggested by Edward Tamagno and others, maintaining the parallelism between CPP and QPP has been a major objective since the creation of the two programs in the 1960s. Partly because of this, it is important to keep in mind that major CPP reform is impossible, unlikely, or problematic without the involvement of Quebec, so the high level of policy coordination between CPP and QPP is maintained.
Furthermore, on CPP reform, all the provinces have a direct role to play, as any change to CPP must be approved by at least two-thirds of the provinces representing at least two-thirds of the Canadian population. Therefore, CPP reform is a complicated process, not only because of the tricky nature of the policy issues and trade-offs at stake, but because of the federal-provincial consultations necessary to achieve reform.
As evidenced by the 1997 CPP reform, which was followed by a similar reform enacted in Quebec, important changes to CPP and QPP involving potentially controversial issues like contribution increases are possible when federal and provincial policy-makers agree that reform is necessary.
Recently, there has been quite a bit of talk about CPP and QPP, so it is important to discuss the principles that could guide any future reform.
First, considering the problems facing private pensions and the legitimate economic anxieties of Canadians, putting increased retirement security to the forefront of the CPP reform agenda is essential. CPP and QPP are major tools to improve the economic security of retirees, and higher benefits would go a long way in improving the situation, especially when we deal with income maintenance, which, like poverty reduction, is an important objective.
Second, it is important to keep in mind the long-term fiscal sustainability of both CPP and QPP. While CPP is fiscally sound for the predictable future, this is not the case of QPP, which should face real fiscal challenges starting in the 2040s, and perhaps even earlier.
In Quebec, the discussion about the future of the QPP has been taking place for several years now, and it is essential to take this discussion into account as we think about CPP reform for the reasons stated above. It is important to maintain coordination, to take into consideration the issues of labour mobility and economic integration, in particular. From the outset, we could have considered establishing coordinated programs. Now we must make an effort to maintain the degree of coordination between the two programs.
In order to improve the economic security of retirees, a rise in the CPP/QPP combined contribution rate should be considered, as this would help increase the program's replacement rate. That's an important issue. There are many proposals on the table, so we should examine proposals like the one by the Canadian Labour Congress that pushes for a bold increase in the replacement rate.
We could examine more modest proposals that could be considered. Because a QPP contribution increase is already being discussed in Quebec, it might be possible to agree on a new higher rate for both CPP and QPP. That will lead to higher pension benefits for all Canadians, while providing a solution to the long-term fiscal issues facing QPP.
I think it's important to think in terms that there are two issues here. There is a debate in Quebec about the long-term sustainability of QPP from a fiscal standpoint, and there is a debate across the country about increasing benefits.
Another issue we could contemplate is increasing the yearly maximum pensionable earnings, which is now the average wage, of about $47,000. That is quite low by international standards. Other countries have much higher yearly maximum pensionable earnings. In the United States, it's way above $100,000.
It's important to understand that if we increase the YMPE, we can increase the maximum pension available under CPP, and perhaps QPP, if the same reform will be enacted in Quebec. That will help the middle-class people who don't save enough for retirement, and there is evidence that a significant portion of even higher income earners don't save enough for retirement. So an increase in the YMPE should also be considered.
Thank you very much for your attention.
Dr. Keith Ambachtsheer:
Thank you for inviting me.
It appears that Canada has approximately a 15-year pension reform cycle. We created the Canada and Quebec Pension Plans in 1965. Fifteen years later, we looked at the supplementary pension arrangements, employment-based pension plans, and RRSPs, and created the legislative environment for these plans to operate. Adding another 15 years takes us to 1995, when we reformed the CPP and QPP arrangements so that they became sustainable. If you add another 15 years to 1995, that gets us to today.
Now, quite correctly, the attention today in terms of pension reform focuses not so much on the public side of the system, which actually was created and made more sustainable 15 years ago, but on the supplementary elements to those public pensions, namely employment-based pension plans and the private pension arrangements generally called RRSPs.
We've been doing research on these questions for the last five years. A lot of good research has been done. We know a lot more about what the issues are than we did five years ago. You could make a long list, but my list only has two items: first, we have uncovered a coverage and cost issue; second, we have uncovered a defined benefit plan sustainability issue.
To give you some context of where those two issues fit into the general broad scheme of things, think of this: Canada has a labour force of roughly 18 million people; 8 million of those 18 million are, for a variety of reasons, in the low-income category of $30,000 or less, partially because they may be part-time workers. They may have genuinely low-paying jobs. As the previous speaker pointed out, our public pension arrangements provide high rates of income replacement for low-income workers. I think the reform now has focused quite appropriately on the middle- to higher-income workers in Canada and on having a serious look at how well they're faring today with the current arrangements. We're talking about roughly 10 million workers.
Interestingly, when you look at that particular segment of the workforce, you find that about half of them are members of employment-based pension plans and half are not. You have five million workers with supplementary pension plans and five million workers without.
Obviously the two issues around defined benefit plan sustainability relate to the segment of the workforce that has a pension plan. For the other half, the issue is not so much sustainability as the question of whether these workers should have coverage and a pension arrangement of some kind. The other related question is this: if we ask them to save on their own through RRSPs, how cost-effective are these arrangements in helping them facilitate the creation of pensions that will be adequate for maintaining a standard of living after they stop working?
Let me give you a very brief insight into what we have learned about both of those issues. With respect to the defined benefit plan sustainability question, the history there is that originally these workplace pensions were gratuities. Over the course of evolving decades, they've looked increasingly like financial contracts. As these arrangements became financial contracts, we have not kept up with how we cost those contracts and how we provide for the capital requirements to ensure that those contracts can in fact be paid when they fall due.
That is essentially the issue with defined benefit plans. I believe the direction of the answer lies in what the world leaders in pensions, the Dutch, did almost 10 years ago. They started treating defined benefit pension liabilities the same way as they treat liabilities for insurance companies and banks. It's the general idea that if you make a financial promise, you have to keep it.
Regulation ensures that financial promises made are financial promises kept by creating capital requirement rules that ensure there will be sufficient capital to back up those promises. That's what the Dutch did almost 10 years ago, and it has hugely increased the sustainability of defined benefit plans by effectively making them more sustainable, more flexible, and more adaptable to changing conditions over time.
We have been stuck with DB arrangements that have not been flexible enough to deal with changing environments, and we need to change our regulatory environment so they become more flexible and hence more sustainable. I'm happy to discuss that issue further if you want to pursue it.
Let me go on to the other issue, which is the coverage and cost question for the five million workers who are not members of employment-based pension plans. Effectively, what we're saying to these five million workers is, figure it out yourself. Yes, we have provided the tax deferral rules that currently are in place, so there is an incentive to defer paying taxes on a part of your earnings if you put them in a registered pension plan, and you will pay those taxes later on when you withdraw the money as a pension.
So we have provided some provision in that sense, but we have provided very little from a public policy point of view into how much these people should save, what kinds of investment programs they should engage in, and what the costs might be that are incurred as they set up their own retirement savings programs.
What we have learned is that it is a very difficult thing for the average Canadian without a pension plan to figure out how much they should save to have a reasonable post-work standard of living that sits on top of what they get from the public pension. So the savings rate question is very difficult for them. The investment question is very difficult for them in the sense that the average person is not well schooled in investment theory, and then related to that question is the fact that if, for example, this money goes through retail mutual funds--and a good part of these retirement savings do go through that channel--then I think members of the committee generally are aware that the fees that are paid for being in those vehicles can be 2% or easily exceed 2% per annum. It doesn't take a lot to figure out if you pay 2% per annum in fees in a world where gross returns are perhaps 4%, 5%, 6%, it's very difficult to reach a reasonable income replacement rate, with a reasonable savings rate, over a 30- to 40-year period.
So these are the problems these people face. The question is, is that okay, or is this enough of a public policy issue where we should think about how to assist these people so they end up with reasonable income replacement when they retire, at a reasonable cost?
Two kinds of solutions have been proposed to deal with this challenge.
One, as was mentioned earlier, is just to expand the Canada Pension Plan so that it covers a higher level of earnings, for example, and that the benefit rate potentially could be increased. That approach has merit. It also has some demerits: does one size fit all? Do we really want to expand the notion of mandatory retirement savings without the flexibility of having people having some options? So those are the pros and cons of the “expand the CPP/QPP” approach.
The other approach that's been put forward is to facilitate the creation of personal pension accounts, but to do it in a way that gets more systematic savings owing, that regularizes the approach to savings, that helps people develop an investment policy, without their having to become investment experts, and also to help them, once they do retire, with how to de-accumulate their accumulated retirement savings in a way that they last the rest of their lives.
Should we help through creating some structures for these people, which could be a combination of private sector provision of the services together with some new regulation as to what these plans need to look like, especially with respect to cost? Those are the questions before us, those are the questions that have been debated, and those are the questions we now need to move to a resolution on.
As you well know, the next finance ministers' meeting on pension reform is in P.E.I. in the middle of July, and I think the time has now come to move from discussion and debate of these options to actually engaging in how to make some choices and move forward.
Thank you very much.
Mr. Edward Whitehouse (Head of Pension Policy Analysis, Social Policy Division, Organisation for Economic Co-Operation and Development, As an Individual):
Thank you very much.
I was asked by Mr. Ted Menzies, the parliamentary secretary to the treasury, to look at the Canadian pension system. It was a pleasure to come across a pension system that I would describe as high performing. There were a lot of very good things to say about the Canadian pension system. Normally when I work on a country in detail for the first time I find there are a lot of bad things that happen.
I will start by going through three things where the Canadian pension system works very well, some of which have been alluded to by other speakers.
I think the first area is that of adequacy. In an international comparison against the OECD 30 countries, Canada has the fourth lowest poverty rate among older people, with around a 4% poverty rate according to our standard definition of poverty, compared with an average of more than 13% in the 30 OECD countries.
We also see, if we look at old age incomes of all pensioners, that the average incomes of older people in Canada are high relative to the population as a whole. Their incomes are about 91% of the average, once we adjust for differences in household size. This compares very favourably with the OECD average of 82%.
Looking forward, as other speakers have mentioned, the basic pension, the old age security, and the means tested scheme, the guaranteed income supplement, look like they will provide a very effective safety net in the future.
I think one thing that hasn't been mentioned is that the drop-out provisions of the CPP/QPP also provide a very effective safety net for people with less than full careers.
So Canada's pension system is looking good on the measures of adequacy. It is also looking good on measures of financial sustainability. Current pension spending in Canada is about 4.5% of GDP. That compares to something like 8% on average in OECD countries and about 9% in the European Union.
If we look forward—and I have spent a lot of time with the Office of the Chief Actuary in Canada looking at the projections—Canada's pension spending is of course going to increase as the population ages, from around 4.5% of GDP now to 6.2% by 2060. But the increases in other countries are much more rapid. The EU will go from around 9% up to 13% of GDP. So Canada does not face the same financial sustainability problems as many other OECD member countries do, particularly in Europe and among the east Asian countries, Japan and Korea, whose populations are aging most rapidly.
I think the final positive point about the Canadian pension system is the concept of a diversified pension system. All kinds of pension schemes are subject to different kinds of risk and uncertainties. Individuals face different risks and uncertainties in their lives: losing their jobs, being persistently low paid, and divorced, and so on. The balance in the Canadian pension system, with its diversification between public and private provision of pensions, between the funded provision, putting money aside now to pay a pension for later, and the pay as you go provision, paying benefits after current contributions, we believe is the best way to protect against the different kinds of risks and uncertainties.
The foregoing is really a review of what we think are the positive points of the Canadian system.
I will move on to the diagnosis part now. I have three points to make about the challenges the system faces.
One question that has been asked is about the coverage of the pension system. As I mentioned, the public pension system, both through old age security and GIS, plus through the drop-out provisions of the CPP/QPP, has very good comprehensive coverage.
The private pension side is where there is the greatest problem. But Canada is not alone in having this problem. If we compare the coverage of private pensions by age, for example, the pattern in Canada, the U.K., Ireland, and the U.S. looks very similar, in that there is much lower coverage for younger workers and older workers, and, similarly, by earnings, there is much smaller coverage of low earners than high earners.
Now, in Canada and other countries with very redistributed pension systems, we can rely on the public scheme to pick up the retirement income requirements of the lowest of earners. But there is a problem with the low- to middle-earner groups, where coverage of private pensions is small, but they are not really being picked up effectively by the public scheme.
We have looked at the question that Keith Ambachtsheer was raising about how much do you need to contribute to get a pension. We took a target retirement income of just the average for the OECD countries. Actually, the numbers turned out to be fairly low. It's something like, if you contribute every year from age 20 to 65, you only need to contribute about 4% or 5% of your income into a private pension in Canada to reach the OECD average. The problem is that most people have missing years. Often at the beginning of their career they delay joining a private pension while they have other expenses, and often at the end of their career they want to retire early, and of course with those missing years the contribution rate increased very rapidly to something more in the range of about 8% or 9%.
The evidence suggests that many contributors, particularly those to RRSPs, have contributions at a relatively low level.
The second diagnosis issue is the labour market. The labour market exit age for Canada--I was quite surprised by these figures--is a little bit below the OECD average. Men are leaving the labour market on average around 63 and women around 62. That's about the same as in the U.K., but it's less than in Australia, Ireland, the U.S., Japan, Sweden, among the example countries that were studied in detail.
I would also echo the point he mentioned earlier on the average of charges. There is a concern these are rather high in Canada. If you crunch through, a 1% annual charge on the assets means that something like more than 20% of your contributions are going to charges. If it's 2%, this means that something like nearly 40% of your contributions are being paid in charges on the pension.
When we look at international comparisons, we find, for example, the industry funds in Australia, their management charge is somewhere between 0.5% and 1% of assets, although the retail funds in Australia are similar to Canada's. In the United Kingdom, again, when there were personal pensions in the U.K., charges of 2% were pretty common, but the U.K. government has moved, first, to establishing stakeholder pensions, to put a ceiling of 1% on charges, and then with the new scheme, the National Employment Savings Trust, or NEST, they're aiming for charges of 0.3% to 0.5% of earnings.
What are the ways forward as we see them? Different options are being mentioned by different speakers so far. One would be something like a CPP/QPP plus a proportionate increase in the contribution rate and the benefit of the CPP/QPP plan.
A second route would be to make some form of private pension compulsory, be it an RRSP or perhaps some new kind of defined contribution provider, as has been established in the U.K., to try to ensure that charges are rather lower than the existing RRSP system.
One alternative route would be to leave private pension coverage voluntary but adjust the incentive, perhaps by moving towards matching contributions rather than tax deductibility to make these schemes more attractive to lower-income workers who face lower marginal tax rates.
Finally, I would like to mention what one could call the third way, which is the route being adopted by New Zealand and the United Kingdom, which is the system of automatic enrollment whereby workers are automatically enrolled into a private pension. They have to opt out of the scheme if they do not want to be covered.
With those ways forward, I'll draw my opening statement to a close and look forward to your questions.
Ms. Arlene Borenstein (Representative, Rights For Nortel Disabled Employees):
Good afternoon, honourable members of the committee. My name is Arlene Borenstein, and I'm a Nortel employee on long-term disability. Thank you for giving me this opportunity to appear before the committee members today. I'm here to speak to you on behalf of all my fellow Nortel colleagues who are on LTD, with whom I'm certain you've become familiar by now. We're a very small and very vulnerable group of men and women, some single, some with large families. We were all struck down by illness in the prime of our lives and have not been able to earn an income for, on average, the last ten years. Nortel's bankruptcy has placed our small group of 400, of which very few are able to participate in the advocacy we try to do on our own behalf, within a much larger group of over 20,000 ex-Nortel employees.
My presentation to you today will focus on two areas: working income and its protection as it relates to the retirement income security of Canadians, and the reasons for the federal government's responsibility for protecting workers' disability income benefits.
The retirement income system in Canada is often referred to as having three pillars. The first two, which are designed to provide Canadians with a minimum income at retirement, are provided by our federal government. They are the OAS with the GIS and the Canada or Quebec Pension Plans, both of which recognize the necessity of including a disability benefit for those under the age of 65. The third pillar is the responsibility placed on the individual to use their own discretion in determining the extent to which they'll take advantage of registered savings plans, tax-free savings accounts, or registered pension plans. While these three pillars are a convenient way of presenting Canada's retirement income system, there will be no retirement unless one has the ability to earn a living. So without the protection of a worker's income, one may not have a retirement.
Yesterday we had a press conference at which I asked members of Parliament and all other Canadians to think of their most valuable asset in life. It's their ability to earn an income. All your planning for yourself, your children, your future, and your retirement are based on the assumption that you'll continue to earn that income. Most people realize the importance of protecting that asset by purchasing life insurance, but they don't realize that their chances of losing the ability to earn an income due to illness are much greater than are their chances of dying prematurely.
One worker in seven can expect to be disabled for five or more years before retirement. I can speak for all of us when I tell you that when you're that one worker in seven, all your planning for your family and your retirement are put on the back burner if you have something called a health and welfare trust or an employee life and health trust, a bankrupt employer, self-insured long-term disability, and contributions that are unaccounted for. We buy protection for our income that the Supreme Court of Canada refers to as a “peace of mind” contract, but I can assure you, we have none.
The cost of losing disability income would be equal to never having had it in the first place. For a disability that lasts to age 65, the financial cost can be many multiples of the household's annual pre-disability income earned. The costs are also quite significant for short-term disabilities that last one or two years, as they often involve incurring debt, which is difficult to recover from. The financial impact is not just the loss of income but also the additional expenses incurred by the disabled individual for health care and other items related to the disability. It would obviously be impossible for any of us to save for our retirement with an average disability benefit from Canada Pension of $800 per month or more than $8,700 below the poverty level for a single person.
The federal government would be responsible for protecting workers' disability income benefits for the following reasons.
Because it provides for a CPP disability benefit, the federal government already recognizes that it has this responsibility, and I'll assume that it has protection for that. In addition, it regulates the insurance companies to ensure their reserves are sufficient. In the case of a bankrupt insurance company, Canadians have assurers to fall back on if they have either a private or a group disability policy.
The federal government has the only legislation that deals with self-insured benefits. The rules for Nortel's long-term disability plan can be found in two government agencies, the Canada Revenue Agency and the Canada Pension Plan.
Currently under CRA it's an administrative practice with respect to health and welfare trusts. Now we learn that there is Income Tax Act legislation pending to create an employee life and health trust. So while we have all been trying to get your attention to tell you about the problems with these vehicles, plans and negotiations were going on to not just continue these types of trusts but to make them even less secure for employees.
Since the Canada Pension Plan disability program allows companies such as Nortel, which self-insure their plans, to be a second payer, they owe a duty of care to Canadian taxpayers to ensure that these plans are properly funded, regulated, and legislated so that beneficiaries do not needlessly and unfairly become applicants for other social government services.
By protecting the disability income of all other Canadians who receive these under a traditional insurance contract, and not those in a self-insured plan, the government's lack of action would be contrary to our Charter of Rights and Freedoms, contrary to every provincial human rights code, and, most glaringly of all, contrary to the rest of the states of the United Nations, since Canada's recent ratification of the UN Convention on the Rights of Persons with Disabilities was signed just months ago.
What are we saying as a society if an amendment to the bankruptcy act is not forthcoming? We promise you this. Not one Canadian will answer ”yes” when asked the following question: should 400 Nortel employees who have MS, Parkinson's disease, schizophrenia, depression, Crohn's disease, HIV, cancer, or strokes--employees who paid for their disability insurance coverage--be pushed into poverty so that junk bond owners, Bay Street lawyers, Toronto insolvency professionals, or big investment banks will be able to get a share of the disableds' missing $100 million or so? Are we really that country?
Employers use these self-insured schemes for one reason and one reason only: to save money and keep more of their profits. They're saving in the range of 10% to 20% on the cost of traditional group disability insurance, or, in real-life terms, $64 to $130 per employee, on average, per year. I am confident in saying to all of you here today, without even asking them, that each and every one of Nortel's employees on disability would have gladly opened their wallets, but we didn't know we were self-insured, or even what that meant.
As a society, Canadian taxpayers would not see the wisdom in more of their hard-earned money being used for more consultation, when the answer is very obvious and the funds are available in the hands of those who are financially and legally liable.
For Canada, the impact doesn't register on the radar, but for us 400 Nortel employees it's absolutely everything.
Mrs. Kelly Block (Saskatoon—Rosetown—Biggar, CPC):
Thank you very much, Mr. Chair.
Welcome here. It has been a very good discussion so far, and I just want to turn the discussion a little bit to something that was referenced to us as a finance committee earlier in our study. One of the themes that we as a committee have heard is the idea of calling for publicly funded insurance or backstops of pension plans. Insurance in general is something we can all agree is good for people to have. In fact, we Canadians gain comfort from having our homes and our cars insured, and we all, to varying degrees, make use of health insurance.
But I have a few observations concerning the development of plans, the goal of which is to insure pensions. From what I have been reading and have been able to learn about this idea of a pension guarantee fund, I would say that the development of this type of a plan brings with it a very unique set of circumstances and challenges. For example, a guarantee fund could provide a disincentive for employers in financial difficulty to properly manage their pension plans to control risks if their pension liabilities would be covered, an example of moral hazard. A plan sponsor could engage, in fact, in riskier investment practices without bearing downside risk, which would increase its incentives to take on such risk while potentially increasing the cost to guarantee the fund.
We've also heard the concern expressed that the creation of such a fund would lead to the inappropriate subsidization of weak sponsors at the expense of strong ones. A risk-based premium would be perceived to penalize most of the plans that are vulnerable and for which the protection scheme would be sought. Ultimately it could contribute to a plan wind-up or exacerbate the challenges of the sponsor in financial difficulty as it would impose additional costs.
Finally, it is also my understanding that the experience with these types of plans has been problematic. In fact, existing guarantee funds in the U.S., the U.K., and Ontario all have significant deficiencies and could require taxpayer funds in order to meet their obligations.
So having said all of that, I'd like to ask Dr. Whitehouse a couple of questions. Are there any jurisdictions that have managed to address the issues of moral hazard with respect to a pension guarantee fund, and if so, what are the characteristics of the country's pension and retirement income system that led it to be able to do so?
Mr. Wayne Marston (Hamilton East—Stoney Creek, NDP):
Thank you, Mr. Chair.
I'm at one of those stages where I have way too many notes from these presentations.
I want to thank the folks for the information being provided today.
Ms. Borenstein, I was the one who put the motion about LTD to the House. I've offered our party's support for Mr. Eggleton's bill on it. We'll be moving forward on that as best we can.
Mr. Béland, you were talking about the Canada Pension Plan. The one thing that's happening to some degree today is that we're moving to the point where we're looking at the private side as opposed to the public side. From my perspective, the public side has to become the foundation, and it has to sustain as the bare minimum for people.
My understanding on living in poverty...we heard the figure of 4% a few minutes ago. From Statistics Canada, the figure is 266,000. It is growing, the last I heard, so we had proposed an immediate increase to GIS.
But in talking about the CPP plan, you're probably aware that some of the provinces and the Liberal Party have suggested a supplemental plan to the CPP. We're concerned about that because of administration costs. We've proposed that you take the core assets of CPP and increase those.
The other difference I'm seeing is that the Liberal Party has spoken about it being voluntary. I don't think that will work. We understand that 63% of Canadians have neither a pension nor savings, and there's evidence built into that number that I believe makes it important that whatever we do we build a foundation that is mandatory.
I'd like your response on comparing the two, if you would.
Mr. Wayne Marston:
Dr. Ambachtsheer, in your opening statement and at several other times I heard you talk about the role of government regulation within the defined benefit pension plan.
We've had instances in Canada of corporations apparently using the CCAA to get out from under these obligations. At the start of your presentation--at least, I believe it was yours--you mentioned how it began as a gratuity and became a contract, and workers today very much see the private pension plans with their employers as contracts.
We had the situation of Hollinger, which sold off some newspapers but kept the pension liability, and now people are receiving notifications that they're going to wind it up. In my home community of Hamilton, when Canwest was selling off CH TV to, I believe, VisionTV, they had a pension plan that was $5 million short. They wound up that pension plan for the employees, but they put $41 million in for the executive side just before they wound it up.
Those kinds of abuses, to me, scream for some sort of government intervention, and I would like your comments on that. Also, there's a bill in the House that just went to committee. It's called Bill C-501, and it talks about giving preferred status to pensions within CCAA and within the BIA. I'd like to hear your comments on that, please.
Dr. Keith Ambachtsheer:
In the short term, that might help some workers some of the time, but it doesn't fundamentally deal with the question that defined benefit arrangements, especially in the private sector, are incomplete contracts even today. So you always have this property rights problem.
The only way to deal with the property rights problem--and this may not totally suit you--is to have individual pension accounts that are owned by workers themselves. At least then you would have clear property rights. That's why I believe that in the private sector the move is inevitably toward individual pension accounts.
I do agree that increasing the Canada Pension Plan and the Quebec Pension Plan is a reasonable and attractive alternative in a number of ways. But I read somewhere that politics is the art of the possible, and the reality is that there is a very significant constituency in Canada of small employers who would be forced to increase their labour costs, and you just cannot ignore that issue. So when you advocate a mandatory increase, you can't just talk about the workers; you have to talk about the total system, and the reality is that you're going to have considerable resistance to that approach.
I've been scratching my head and thinking about what an alternative might be that would get greater buy-in, that would still meet some of the needs of coverage and property rights but also get larger buy-in from a larger group of people.
There is now a new branch of economics called behavioural economics. It has taught us that even though economic theory assumes people are rational and do rational things all the time, the reality is they don't. So how do we design retirement income systems that take that reality into account?
You mentioned earlier the notion of voluntary. I agree you could create the best voluntary system in the world and you would get relatively low take-up. But we've learned that the notion of automatic enrollment in a well-designed system... But let's say every non-covered worker in Canada who doesn't have a pension plan gets a letter on January 1 of some future year. It says, “Congratulations, as of January 1 you are now a member of...” In my C.D. Howe paper, I call it the Canada supplementary pension plan. “You don't have to make a lot of choices. This will be your contribution rate. This is the target pension it should produce under reasonable assumptions. This is what your investment program will look like as you age over time, unless you intervene.”
That kind of design is tremendously attractive, in the sense that if people trust the system, a lot of them will go along and say thank you very much that you did this for me.
Mr. Edward Whitehouse:
Thank you very much. It is indeed 11 p.m., but I'm a night owl anyway, so I'm quite happy to stay up and talk to you.
I think in terms of cost, many countries have been trying for a long time to bear down on the cost of offering private pensions. If you have mandatory private pensions, which is the model followed in Chile and elsewhere in Latin America, and it's also very common in central and eastern Europe, in those cases where you have a limited number, a small number, of competing private sector providers--somewhere between 10 and 25 is the norm--there the lowest you can get the cost down to is something like about 0.7% of assets per year.
I mentioned briefly that in Australia and the U.K., which, very much like Canada, had a system of voluntary personal pensions, voluntary individual accounts, the costs were typically around 2%. Australia has moved toward multi-employer schemes, toward industry funds, and they're a much lower cost; they're of the order of 0.5% to 1%. The U.K. has moved, first by regulation, by simply capping their charges at 1% and is now moving to having a much more centralized structure.
Many of the options you offered at the beginning...I think there is a difference between a voluntary contribution to CPP in addition to a compulsory contribution. You're buying a defined benefit rather than having a defined contribution plan, so the CPP is in essence bearing the investment risk for you.
This is something of a distinction there, but I think in terms of getting the charges down, to get to low charges, and I'm talking here of 0.3% to 0.5%, you need a much more centralized system and a centralized clearing house for collecting contributions and some centralized contracting out of asset management.
There are two examples I would suggest you look at there. The clearing house model is the example of Sweden where a cost contribution for the compulsory private pensions are low, they're only 2.5% of earnings. They've got to be very careful to keep costs low. The other example is the Thrift Savings Plan in the U.S., which is a defined contribution scheme for federal employees in the U.S., where the costs are absolutely tying them down at 0.1% to 0.2% of assets.
Dr. Keith Ambachtsheer:
That was a very different situation, because basically they said we're going to take your money unless you stop us. Here, with auto-enrolment, we're saying we're going to allow you to put your own money into a pension account that you still own if you allow us to do it. I think that's a different context. So that would be my number one point.
By the way, in the U.S., where this auto-enrolment has been used in 401K plans for years, it's shown to be tremendously effective. It's shown that the retention rate of employees is 95% with automatic enrolment, whereas if you go the voluntary route, it's much lower than that. That's point number one.
On the question of the wholesale-retail, it isn't as simple as public versus private. For example, in our database, if you look at very large 401K plans in the U.S., they also run at one-third of 1% per year. So it's not public versus private; the big driver is scale. In other words, scale creates economies of scale, which leads to low unit cost.
The other driver is, in whose interest are the decision-makers acting? The problem with commercial vendors is they have a conflict of interest. They have their own bottom line they're trying to maximize and they're trying to do the best for the employee. I'm not saying that they totally go one way or the other, but they have this conflict.
If you create a situation where the conflict doesn't exist, in other words, where by definition and by design all decisions are made for the interest of the beneficiaries, the combination of scale and that element will drive your cost up.