CPP expansion doesn’t solve the problem that we have today, and it may not solve a problem that we may not have in 40 years.
First, the problem. The middle class (argued by some to be those earning $30,000 to $100,000) has not been saving enough to afford the comfortable retirement they wish to have. I have witnessed first-hand this problem of undersaving by many workers in their 40s and 50s. While we could debate the income bracket for the middle class, I am willing to concede that there are a significant number of undersavers in the boomer generation and gen X.
How did we get here? In the 1980s, Ontario decided that too many workers were not realizing the benefits they were reasonably promised as pensions—vesting at age 45 with 10 years of service and fixed-dollar pensions were not doing a good enough job for the average private sector worker to retire comfortably. The solution was to strengthen the rules for vesting, interest on contributions, eligibility for early retirement, etc.
Arguably, these changes were good ideas. Ontario even legislated post-retirement indexing, but, thankfully, it was never implemented. Ontario pushed further and added rules for the Pension Benefits Guarantee Fund, solvency testing and “grow-in” benefits. Ontario also changed the sometimes-unwritten deal with employers about surplus ownership, starting with a fight with Conrad Black at Dominion Stores. The wisdom behind these latter changes is a little more suspect.
All of Ontario’s efforts have increased the retirement security for those workers who continue to enjoy participation in DB plans, many of whom are public service workers. Unfortunately, Ontario’s efforts—along with the uncoordinated efforts of the other provinces—have pushed the vast majority of private sector, non-union employers to get out of the DB plan business: a promise that was always voluntary, under legislation.
The response of private sector employers has been to provide DC plans. In the 1990s—a period of double-digit equity returns—workers were more than happy to say goodbye to a DB pension that they didn’t understand in exchange for “money in the bank” that would improve their retirement fortunes even if they earned only 8% per annum on their investments. Unfortunately, for the new legion of DC participants—as well as the many workers who never enjoyed a DB plan—the 1990s assumptions about investment returns and annuity prices at retirement have not, in almost all cases, been achievable in the most recent decade.
The pension consulting community has been warning the province about this problem for a quarter-century. But now, Ontario has suddenly decided that we need to take swift action and push for major and untested changes to solve the problem immediately. The difficulty with retirement savings is that you can’t solve the problem in a year, or even a decade—saving for retirement takes 30 or 40 or 50 years. And whether it is done on an individual basis or through a collective program, the timeline can only be shortened if we put in more money each year.
There are a number of different proposals to expand the CPP, all intended to address the problem of undersaving that will make it difficult for many hoping to retire in the next 10 to 20 years. However, if an individual earning $75,000 annually agrees to save an additional $750 each year and this amount is matched by the individual’s employer, then, after a decade, he or she will have an additional nest egg of $15,000 plus investment income. With a 4% return, the nest egg grows to $18,500; at 8%, it grows to $22,500.
You can expect this decade of increased contributions to provide a 65-year-old with an additional fully indexed income of between $75 and $125 each month, depending on the assumptions that an insurer or the CPP uses. But let’s not forget that the guarantee provided by the CPP is paid for by future contributors. I’m not convinced that we should ask the next generation of working Canadians to extend increasing guarantees to the boomers. At some point, the boomers need to be responsible for themselves.
So ramping up a tiny bit of forced savings will not, in the near term, solve anything. If all we are going to do is help a 55-year-old earning $75,000 per year save enough to receive an extra $100 per month in retirement, then telling him or her that we have “fixed CPP and everything will be fine” is worse than doing nothing at all.
Expanding the CPP is a 40-year project, so we first have to ask ourselves if we are sure that the most important thing we can do for those in their 20s is to help them save more for retirement. Frankly, I think the answer is no. What we need to do for twentysomethings is to help them find meaningful and reasonably paid work. If, in 40 years, 90% of Canadians are earning less than the current year’s maximum pensionable earnings (YMPE) (projected with inflation), then covering higher earnings isn’t going to help them at all. And, if the next few generations spend their working career earning less than the YMPE, reducing their disposable income to increase their comfort in retirement is unlikely to be optimal for their circumstances.
What is working and what is not working within the current DC marketplace is beyond the scope of this commentary. But before we run to make adequate retirement income a problem for the federal government to solve, we need to look at DC programs to leverage what is working and address what is not. At a minimum, if our governments are prepared to legislate an increase in mandatory retirement savings, they should do so in the current DC environment to find out just how much of the problem is solved with this one easy step.
Joe Nunes is president of Actuarial Solutions Inc.
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