A new report came out this week that reiterates what we've heard from other sources a few times now: Canadians aren't saving nearly enough for retirement. The Deputy Chief Economist of the CIBC warns that without pension reform now, younger workers today will see a steep decline in living standards as they retire.
The Conservative government has recently announced it would like to have a dialogue with Canadians about a potential expansion of the Canada Pension Plan (CPP). While this, in itself, is a purely political action -- since it commits the government to nothing -- it is worth looking at what the possible outcomes might be.
We know that 66 per cent of workers in the private sector have no pension plan at all. They are left totally to their own initiative. They are not trained in this "retirement-income-security" science. They can get retirement savings products but have to pay extremely high fees (e.g., 250 to 300 basis points or a full 2.5 to 3 per cent of their cash flow) for this expert management. And sometimes, their agent does not even work on their behalf, but rather acts to maximize the income of the agent.
Might it thus be wise to finally consider an expansion of the CPP at a time when both the CPP and its investment arm (the Canada Pension Plan Investment Board--CPPIB) are riding high in the polls?
The answer is not obvious. Far from it.
Amendments made to the CPP in 1996 state that any new benefits must be fully-funded. That means you only get back what you have paid for in full. Under current rules, it takes 39 years at a minimum to earn a full benefit. So if you make a contribution today (2015) you would only have earned 1/39th of a full benefit. Full benefits would not be available until 2054.
So if we think we have a problem in terms of people who plan to retire in 2054 not saving enough today, then we must amend the CPP now.
The CPP is currently organized and administered like a Defined Benefit plan. Moving to Voluntary Contributions, as the Conservatives wish, would force it to be administered much more like a Defined Contribution plan.
Why does this matter?
If workers can move their money in and out of the CPP fund freely, this will create the potential for anti-selection on the part of the participants (move in when the times are good and out when bad), resulting in the need for the CPPIB to move toward much more liquid shorter-term assets with lower rates of return. It would also mean much higher administrative costs for the CPP (especially the investment arm, the CPPIB, as they would have to track the cash flows of individual accounts).
This would be on top of the high expense ratio for the CPPIB -- estimated in the range of 90 to 100 basis points (i.e., 0.90 to 1.00 percent) which is multiples of what other very large plans cost (e.g., HOOPPs, BC Public Service and even some private sector plans like Bombardier) which run with expense ratios closer to 25 basis points.
It would also make all Canadian workers much more dependent on the investment capabilities of the CPPIB and the decisions they make versus the myriad of private managers now being used. So, the word "voluntary" cannot be taken lightly.
Further, the CPPIB is having problems keeping all of its $265B invested in safe, but high yield investments today. What will it do with another tier of contributions?
Finally, one can certainly expect a vehement push-back from the private sector that caters to retirement savings today at a nice profit margin.
So, what if the contributions are mandatory? That will result in serious problems for very poor workers (and their employers).
Consider forcing low-income workers (and their employers) to contribute to a new tier of the CPP. Not only do they not receive full benefits for another 39 years, but when they do get their extra CPP benefits, they will lose the impact of these extra payments as they see their Old Age Security (OAS) and Guaranteed Income Supplement (GIS) benefits clawed back.
Since GIS payments are often matched by provincial schemes (e.g., GAINS in Ontario), many poor workers will lose $1 of OAS/GIS and provincial supplements for every new dollar of CPP benefits. So, they, and their employers, contribute out of money they need for higher order needs now (like food and rent) and they get no new net benefits at all. That is regressive. And we know that employers, such as those represented by the Canadian Federation of Independent Business (CFIB) will aggressively oppose any such mandatory imposition.
In summary, we are faced with a myriad of questions and not only do we not have any good answers, we have no answers at all. It's time our governments started looking at the complexity of the issue with some serious attention.
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