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The Growing Pension Divide?

Submitted by Leo Kolivakis on 04/16/2010 22:12 -0400

Kevin
Gaudet, federal director of the Canadian Taxpayers Federation, writes on
the growing pension divide - public workers, and the rest of us:

There
is a growing pension divide in Canada. On one side of the divide are
those who enjoy generous pensions. On the other side are those who pay
for them. Closing this gap is an important project that government
needs to undertake.

A recent Canadian
Federation of Independent Business compensation survey found
public-sector employees at the federal level receive 42 per cent more
than their private-sector equivalents, 25 per cent more at the
provincial level, and 36 per cent in municipalities. Lavish
public-sector employee pension and benefits programs drive this giant
discrepancy.

James Pierlot wrote in an article for the C.D. Howe
Institute that the median retirement age for a public-sector work is
58, while it is 62 for a private-sector worker. The annual retirement
pension income for the same public-sector worker will be five to seven
times larger than that for the private-sector worker.

It is no surprise, therefore, that there is a
growing frustration felt by private-sector workers who must work
longer and pay high taxes longer to provide for public- sector workers
who work shorter careers and receive significantly better benefits in
retirement.

In 2008, the Expert Commission on Pensions in Ontario
stated that the ultimate safeguard for public-sector retirees is the
virtual certainty that taxpayers will stand behind their pension plan.
Could the Expert Commission be more wrong?

There is a total
Canadian unfunded public-sector pension liability of more than $200
billion. Bill Robson of the C.D. Howe Institute estimates the federal
liability would add another $58 billion if federal public-sector
pensions were costed properly.

Two thirds of Canadians (67 per
cent) don't have any pension plan at all, except for whatever they have
stashed in the bank or under their mattresses. Twenty-two per cent
have defined-contribution plans. Six per cent of Canadians enjoy a
defined- benefit pension plan in the private sector. This leaves five
per cent of working Canadians enjoying the lucrative benefits of a
defined-benefit taxpayer-funded pension plan as public-sector
employees.

Defined-contribution plans have employees and
employers each contributing to an employee's fund that grows over time
and is drawn on in retirement. This type of plan does not create a
liability for either the employee or employer since it is limited to
what each fund earns over time.

A defined-benefit plan, on the
other hand, guarantees annual payments in retirement upward of 60 to 70
per cent of previous salary, paid for life, and indexed to inflation.
It's easy to see how shortfalls are created in this situation: The
company or government is responsible for the difference between the
income generated by pension contributions and the required payments, .

Recently, taxpayers also have had to pick
up the tab for unfunded liabilities of private-sector plans as well.
Billions of dollars have gone to GM and Nortel pensions.

Finance
ministers, led by Finance Minister Flaherty, are now undertaking a
national consultation with the aim of reforming Canada's retirement
system. Reforms should include ending the gold-plated MP pension plan,
replacing it with a defined-contribution plan like those in place for
politicians in Alberta and Ontario.

While they are at it, the
committee should end Old Age Security and Guaranteed Income Supplement
benefits for incarcerated prisoners like Clifford Olson. But the heavy
lifting though will come through reducing the size and cost of
retirement benefits for public-sector employees.

Government must
wean the public sector off of guaranteed pensions and move toward
defined-contribution plans. Contribution rates will have to climb,
retirement entitlements will have to fall. Some changes will have to be
grandfathered. The longer they wait the more expensive it will get.

I
have written on pensions
apartheid before, and I agree with Mr. Gaudet that you can't have
safe, defined-benefit (DB) plans for the public sector while private sector
employees work more years and struggle
to save up enough to have a half decent retirement. This will
inevitably lead to a backlash when taxpayers realize they're subsidizing
underfunded public plans.

Nevertheless, I disagree with Mr.
Gaudet's solution to the retirement problem. Citing fishy figures from
the C.D. Howe Institute - a well known conservative think tank in Canada
- he claims that the only solution is to force MPs and public sector
workers over to defined-contribution (DC) plans. This is the "private
sector" solution, which is no solution at all.

I bet Mr. Gaudet
that if the Canadian Taxpayers Federation and the Canadian Federation of
Independent Business surveyed self-employed workers and small and
medium sized businesses on whether they prefer to be part of a
defined-benefit plan over a defined-contribution plan, the overwhelming
majority would opt for the safety and security of a DB plan.

But
how can we afford DB plans now that we are entering an era of fiscal
constraints? There are plenty of answers to this question, but we all
need to sit down like adults and discuss all the options on the table.
Everyone has to concede something to make this work - unions, workers,
the government, taxpayers, insurance companies, pension consultants, and
public pension funds.

There are no guarantees that DB plans -
even with world leading governance standards - will never be
underfunded. But if I had a choice, and if I was designing a system that
will address the the long-term health of our pension system, I know
where I would be focusing my attention.

I agree with John
Crocker, HOOPP's President & CEO, who recently
called on all governments to take action to get the rules right,
and to take leadership in forming new sectoral plans. Without corrective
action now, he warns, the risk of elder poverty will grow as the baby
boomers retire.

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Sat, 04/17/2010 - 17:11 | 305968 holdinmyown

Leo you still don't get it. It is a certainty that ALL DB plans will eventually be massively underfunded. Also, the only way that a pension plan can work (DB or DC ) is to set up a separate endowment fund that is unavailable to gerneral public revenues and managed by an independent third party who answers only to contributors and not the government. However the temptation for fraud would be overwhelming for any manager with this kind of power. In addition he/she would ultimately decide all major investments in the economy instead of the decisions of millions of independent actors in a truly capitalist society.

I don't want a pension czar controlling my future thank you very much. Let the market set the proper level of interest rates instead of the wizards at the BofC. I am sure that if interest rates were allowed to drift higher then people would save for their own retirement. Of course our GDP would fall but the current levels are simply an illusion anyway. Banks should be encouraged to lend primarily for productive purposes and most consumer lending should be discouraged. What we need is a sustainable monetery system not DB's for all citizens and guaranteed cradle to grave false security.

Sat, 04/17/2010 - 14:38 | 305858 hooligan2009

anyway..point remains that pensions are around 35% lower than they should be with the profit going to the annuity provider and it is increasing our tax bill and reducing our pensions because of this legislated monopoly in the annuity business.

Sat, 04/17/2010 - 14:23 | 305847 hooligan2009

ugh...cant paste an excel table...bleh

Sat, 04/17/2010 - 14:20 | 305842 hooligan2009

As far as I know, it is the law to set aside annual provisions for the payment of private Defined Benefit (DB) pensions and we have paid federal and municipal government employees a lower salary in exchange for inflation proofed pensions.

You cannot spit at people in the street who enjoy tax payer funded inflation proofed pensions because they took lower salaries and the Governments failed to fund them over the decades.

I find it disturbing that Federal employees enjoy pensions that are 5-7 times those of the private sector. This has to be a gross misrepresentation. The Defined Contribution (DC) private sector may have underfunded itself to this degree with underfunding being defined as the gap between the private sector DB salary cuts (say 10,000 a year) not being matched by private sector DC contributions (say 5,000 a year) which will result in DB paying twice DC in pensions. (Note that geriatric health care is a separate issue)

For me the bigger scandal resides in the monopoly of the annuity providers for both private sector DB and DC schemes. If people live for twenty years in retirement (that is die at 85 and retire at 65) the minimum annuity rate should be 100% of starting capital divided by 20 years or 5%.

Check out this table to get some idea of how the current pensions scandal is probably bigger than the mortgage scandal we have just witnessed.

Rate of Return 5% Pension OpenCapital RevisedCapital 0 Start 100.0 100.0 Return 1 5 95.0 100.0 5.0 2 5 90.0 100.0 5.0 3 5 85.0 100.0 5.0 4 5 80.0 100.0 5.0 5 5 75.0 100.0 5.0 6 5 70.0 100.0 5.0 7 5 65.0 100.0 5.0 8 5 60.0 100.0 5.0 9 5 55.0 100.0 5.0 10 5 50.0 100.0 5.0 11 5 45.0 100.0 5.0 12 5 40.0 100.0 5.0 13 5 35.0 100.0 5.0 14 5 30.0 100.0 5.0 15 5 25.0 100.0 5.0 16 5 20.0 100.0 5.0 17 5 15.0 100.0 5.0 18 5 10.0 100.0 5.0 19 5 5.0 100.0 5.0

The Open Capital column is the pension people get and the Revised Capital column is the unused capital people do not get the use of assuming a 5% return on investments.

So what should the annuity rate be if all capital is used up? Remember this is the increase in DC pensions paid to people when they retire:

Rate of Return 5% Pension OpenCapital RevisedCapital 0 Start 100.0 100.0 Return 1 8.27 91.7 96.7 5.0 2 8.27 83.5 93.3 4.8 3 8.27 75.2 89.7 4.7 4 8.27 66.9 85.9 4.5 5 8.27 58.6 81.9 4.3 6 8.27 50.4 77.7 4.1 7 8.27 42.1 73.3 3.9 8 8.27 33.8 68.7 3.7 9 8.27 25.5 63.9 3.4 10 8.27 17.3 58.8 3.2 11 8.27 9.0 53.5 2.9 12 8.27 0.7 47.9 2.7 13 8.27 -7.6 42.0 2.4 14 8.27 -15.8 35.8 2.1 15 8.27 -24.1 29.3 1.8 16 8.27 -32.4 22.5 1.5 17 8.27 -40.7 15.4 1.1 18 8.27 -48.9 7.9 0.8 19 8.27 -57.2 0.0 0.4

From the table a pension (assuming a 5% investment return and 20 year annuity) annuity rate should be aorun 8.25%. You can view the 57 bucks as profit to the annuity provided. Now to me this is a bigger scandal than the mortgage scandal since it affects everyone in DB and DC space, public and private and is being knowingly perpetrated by everyone in the annuity provision sector. People hiding behind actuaries. You can adjust your own pensions for inflation proofed DB schemes by inputting real returns or taking 2-3% off the anuity rate of 8.27% for inflation proofed pensions.

Right now, a non inflation proofed pension annuity rate of 5% means that you need to save 10,000 bucks for every ten bucks a week of pension, so to get 250 bucks a week you need to have saved 250,000. Let;s look at the crap investment returns that go along with the accumulation of capital another time.

Sat, 04/17/2010 - 13:55 | 305810 masterinchancery

The "safety" of defined benefit plans is totally illusory when they are funded on a pay as you go basis. Furthermore, as we have seen in the US and Argentina, when the govt needs that money for some other purpose, bye bye. When your demographics are as bad as Canada's, these pension calculations become preposterous.

Sat, 04/17/2010 - 13:02 | 305748 BS Inc.

Everyone has to concede something to make this work - unions, workers, the government, taxpayers, insurance companies, pension consultants, and public pension funds.

You've already correctly stated that taxpayers are on the hook for more than they bargained for, so why should we make any additional sacrifices?

100% of the sacrifice on this issue MUST come from those with overly-generous pension plans.

Screw them ALL. I say that life should be made a living hell for all those who get overly generous pensions now. See them on the street? Spit in their general direction. They want to buy something in your store? Tell them their business isn't wanted. Giving them a haircut? Whoops, the scissors slipped, guess you're gonna have to wear a hat for a while. Etc. These parasites should be treated as the equivalent of racists.

Sat, 04/17/2010 - 13:44 | 305798 Leo Kolivakis

BS inc.,

WTF are you shouting about? Spit on teachers, firemen, policemen and civil servants making modest salaries while we bail out fat cat bankers on Wall Street making millions? Let's have a serious discussion and leave stupidities of "us against them" out of here. Thanks.

Sat, 04/17/2010 - 12:06 | 305693 wpw

I love it when the idealogues at the Taxpayers Federation pretend the way to deal with a multi-billion dollar issue is by changing MP's pensions. It shows the amount of serious thought they put into these issues.

What troubles me is the expectation, from the Gandolf survey, that it is the government's role to ensure we don't have millions of seniors living in poverty. I fear this means people expect the government to pay for it. And just where will the government get that money?

You may say this is a "golden opportunity" for pension reform, but the public still has a long way to go.

Sat, 04/17/2010 - 12:56 | 305741 Leo Kolivakis

This is why I said we need an adult discussion on pensions and everyone has to concede something, including unions representing public sector workers. When it comes to pensions, there is no free lunch. We need to increase the retirement age, set realistic investment assumptions and match the benefits and contribution rates to those assumptions, not the other way around. For me, pensions are a public good, much like healthcare, but you need to design a system that is realistic or else it will always be chronically underfunded. If you provided DB plans for everyone, based on realistic assumptions, then everyone can win, including businesses that don't have to worry about pensions. The long-term health of your economy also improves, but you have to do it right or don"t bother doing it at all.

The Growing Pension Divide?

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