Which is better: DB, DC or a third way?

Which type of pension plan is better: defined benefit or defined contribution?

While the answer may seem obvious to some, the question was the subject of a debate at the recent Canadian Pension and Benefits Institute’s annual forum in Ottawa in May. Arguing in favour of defined benefit pension plans was Diane Oakley, executive director of the National Institute for Retirement Security in Washington. On the defined contribution side was Tom Reid, senior vice-president for group retirement services at Sun Life Financial.

Oakley’s essential argument was that people in defined contribution plans have to save more in order to account for factors such as longevity risk, lower rates of return due to behavioural drag and the “built-in economic efficiencies” of defined benefit pensions. Leaving aside the question of who pays and who bears the risk, she and fellow speaker Robert Brown suggested defined contribution plans typically cost more for the same level of benefits.

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“It turns out the DB model, in terms of delivering benefits, is very, very effective,” said Brown, a former research chair for the Ontario expert commission on pensions in 2007-08 and a professor emeritus at the University of Waterloo.

Reid had another take, suggesting the criticisms of defined contribution plans were out of date as the industry has evolved over time to improve the investment options and address the behavioural issues. Further, he emphasized that the real question is how much goes into an account.

“Money in equals money out,” he said, suggesting the need to increase contribution rates. In addition, he touted the low fees and the fact that many plan members tend to leave their money in their plans and continue to invest even when the market is down.

“DC has come of age,” Reid told an audience at the forum on May 18. Leaving aside the question of whether reviving defined benefit plans is realistic, both sides had compelling points. But as Brown pointed out, the choice doesn’t have to be so stark. There are other approaches, such as target-benefit plans. Canada has seen some moves to consider such alternatives. New Brunswick has its shared-risk plans, while both Alberta and British Columbia have moved on target-benefit pensions. The federal government and many other provinces, however, have been slow to offer alternatives.

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The alternatives aren’t a panacea. New Brunswick’s shared-risk plans have run into legal difficulties, while there are lingering concerns about target-benefit plans for certain types of employers. But it appears politicians, seeing little upside to reform, will allow the issue to languish as the concerns about retirement security mount. There does have to be a better, if imperfect, way.

For Brown, the situation calls for a proactive move by those involved in the issue to push for pension innovation. He’s right. After years of dithering, it’s clear it will take a sustained push to get governments to act. Let the debate begin soon

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