February 13, 2014

Are Pensions Really to Blame?

Canada is often viewed as a model for a properly functioning modern society. For those of us familiar with many of our systems, in particular, the Canadian retirement income system, the problem is not pensions but rather the forces that really challenge conventional thinking about pension plans.

The ballooning pension liabilities at Canada Post and the rich pensions at Ontario Power Generation are examples regularly in the news. These two Crown corporations highlight a looming issue for Canadian politicians – the growing cost of public sector pensions. Pensions increasingly are portrayed in our society as a problem, but are they?

Increasing longevity combined with volatile global capital markets and the post-World War II baby boom are forces that greatly exceed most Canadians' ability to successfully manage financial risks on their own. Our parents and their parents recognized that pooling the underlying longevity, interest rate and investment risks is the most effective and efficient means of successfully weathering financial storms – hence, the pension plan.

If our forefathers were right, what then has gone wrong?

Simply, the pooling mechanism of a pension plan has become intertwined with the concept of “guarantee” at a time when guarantees are very costly. This is, in part, a result of the fall-out from the near global collapse of the financial system in 2008. If we were to separate the concept of “pooling” from “guarantees,” suddenly there really isn’t much of a pension problem.

In 2005, the Treasury Board of Canada produced Meeting the Expectations of Canadians – Review of the Governance Framework of Canada’s Crown Corporations.  The first of their six main findings was that “there is a need to  reassert the role of Crown corporations as instruments of public  policy.” Our Crown corporations could enhance Canada’s reputation for  properly functioning systems by not abandoning their pension plans, but rather adopting a “target benefit” rather than a “defined benefit” approach that retains the pooling of risk without the problematic  guarantees.

Leadership in this important area of public policy is crucial. Adopting a target benefit plan would model for the private sector how a public sector pension plan can operate successfully in today’s environment without jeopardizing an organization’s cost competitiveness. It is sobering to note that Statistics Canada recently reported that just under 20% of employees have an employer-sponsored retirement plan. Providing the employees of Crown corporations with a better, more effective and efficient means of pooling retirement risks would go a long way towards enhancing Canada’s reputation as a properly functioning modern society.

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