"Big CPP" Dragged Into Canadian Politics?

Another federal election campaign in Canada (sigh!) and this time pension politics are front and center. Les Whittington of the Toronto Star reports, Liberals propose supplementary public pension plan:

A Liberal government would earmark an extra $700 million a year for low-income seniors and create a supplementary public pension plan to help Canadians save for retirement, Liberal Leader Michael Ignatieff says.

The party's proposed expansion of the Guaranteed Income Supplement would provide the poorest of seniors with an extra $650 a year, Liberal officials said.

If elected, the Liberals would also quickly open discussions with the provinces to gradually increase premiums and benefits of the Canada Pension Plan, the party announced.

“Canadians who work their whole lives to provide for their families deserve a secure retirement,” Ignatieff commented during a campaign stop in Vancouver.

He said the situation is urgent because 75 per cent of Canadians working in the private sector do not have a registered pension plan.

Strengthening the CPP can only be done in concert with the provinces, Ignatieff noted. “This is a case where the federal government of Canada has to step up and provide leadership on pensions. We've had no leadership from Mr. Harper on pensions in five years.

“So what we want to do is sit down with the provinces . . . and work out with them how we get there. And it's going to require something that Mr. Harper doesn't seem to know how to do, which is sit down with the premiers and say, ‘We've got a common Canadian challenge, which is how to provide retirement security for all Canadians.' ”

The main innovation promised by the Liberals is a Secure Retirement Option, or SRO, which would allow employees to top up their retirement savings through a supplementary plan administered by the CPP board.

It would allow employees and employers to voluntarily contribute to a tax-deductible retirement fund. An individual's annual contribution ceiling would be determined by his or her RRSP contribution limit. Contributions to an RRSP and the SRO could not, when combined, exceed the individual's annual RRSP contribution ceiling.

The Liberals said the plan would offer a low-cost, secure savings option. Ignatieff also proposed a Stranded Pension Agency to help manage the private pensions of employees left stranded when a company goes bankrupt.

In government, the Conservatives expressed interest last year in gradually strengthening the CPP but instead opted to begin work on a Pooled Registered Pension Plan, which would be administered by banks and insurance companies.

The Conservatives said they were offering this plan because negotiations with the provinces over enhancing the CPP were dragging on without agreement. Opposition parties and union leaders said the new private plan proposed by the Conservatives would do little to address the problem of low retirement savings for average Canadians.

In the recent federal budget, the Conservatives proposed an increase in the Guaranteed Income Supplement of $300 million annually to provide more assistance to low-income seniors. The NDP, which had asked for a $700-million increase, said the Conservatives' measure was inadequate, citing it as one of the reasons the NDP would not support the Tory budget.

Jonathan Chevreau of the National Post attacked the Liberals' proposal stating, Liberals push Big CPP as retirement saviour over Tories' Pooled RPPs:

Four months after the Conservatives opted instead to beef up employer pensions, Liberal Leader Michael Ignatieff has revived the idea of an expanded “Big CPP.”

He also promises to match the NDP's pet project of giving the country's poorest seniors top-ups to the Guaranteed Income Supplement, a measure that was also in last week's short lived federal budget.

As announced Wednesday in Vancouver, Ignatieff also promised a new Secure Retirement Option (SRO), billed as a voluntary and portable tax-deductible savings option backed by the publicly-run Canada Pension Plan.

Secure Retirement Option has same contribution limits as RRSPs

The so-called SRO would let workers save an extra 5 to 10% of pay, using the same contribution limits as RRSPs. And in an odd shot at higher-income earners, the Liberal press release says this will “prevent upper income earners from accessing an unfair amount of tax sheltering.”

That's curious, given that the total amount of tax-sheltered retirement savings, whether through RRSPs or employer pensions, has long been about half of what it is in the U.S. or the U.K. Also, according to Towers Watson actuary Ian Markham, those voluntary contributions will erode individuals' RRSP contribution room, which may mean no new net savings from the program.

The pension industry debated reform throughout 2010, with a gradually expanded Big CPP favoured by labour leaders. The CPP entails a form of payroll tax, with contributions split between employers and employees, so an expanded CPP would require higher premiums from both.

Tories, financial industry favor PRPPs

However, in December, Finance Minister Jim Flaherty instead unveiled proposals for Pooled Registered Pension Plans or PRPPs, aimed at letting small and medium size businesses share resources and cut costs through traditional employer pensions. The goal is to help out the estimated 3.5 million middle-income private sector workers who have no employer pension.

The PRPP has already had initial negotiations with the provinces, so is already moving down that path, Markham says. “The Feds did agree the provinces are free to force employers to offer a PRPP. I wonder if the Liberals would go down that path as well?”

Ignatieff acknowledges three quarters of private-sector workers are not in employer pensions (RPPs) but dismisses PRPPs as being fraught with “risk, complexity and hidden management fees.” They offer “little more than RRSPs already offer” but naturally appeal to the banks and insurance companies that will manage them, he said.

But the Liberal analysis is off base when it declares many RRSPs have annual charges of 2% or more. That may be true for those who hold mutual funds in their RRSPs, but it's patently untrue for self-directed RRSPs holding individual stocks or exchange-traded funds.

Ignatieff also accuses Stephen Harper of “abandoning” the CPP and delivering no serious pension reform the last five years, conveniently forgetting 2009's revolutionary Tax Free Savings Accounts, pension splitting and now the PRPPs.

Labour likes Big CPP, especially in addition to their lush pensions

One reason Labour likes an expanded CPP is it promises a guaranteed or “defined” benefit that will be there regardless how financial markets behave. Ignatieff reminded voters that (under Lester Pearson), the Liberals created the CPP in 1965. A backgrounder says any such expansion requires approval of two thirds of the provinces but most support a gradual expansion of the plan.

Quebec may be a problem since it runs its own QPP separate from the CPP. Ian Markham says in its recent budget, Quebec said contributions would have to be hiked just to maintain existing benefits. In addition, just two weeks ago, Quebec proposed its own version of a PRPP.

Gradual CPP expansion OK only if done right

A gradual expansion of the CPP is a good idea but only if it is done right, says Fred Vettese, chief actuary with Toronto-based Morneau Shepell. “That means responsible employers who already provide pension coverage should be able to pare back that coverage dollar for dollar to reflect the increase in CPP.”

But that's not what labour groups have in mind, Vettese says. “They want to see a bigger CPP pension cheque in addition to the employer pension they already get, and in some cases the resulting pension will be excessive.”

Consultant Greg Hurst, of Vancouver-based Greg Hurst & Associates Ltd., agrees: “Higher CPP benefits would unnecessarily benefit those who already have good pensions. It will also cost taxpayers more money to support higher CPP contributions of public sector employers, that already offer very generous pension plans.”

Secure Retirement Option a voluntary DC pension

The Secure Retirement Option (SRO) resembles the voluntary savings plan proposed by pension consultant Keith Ambachtsheer and others, Vettese says:

This would be a pure defined contribution arrangement with one pool of assets and would be run by the Canada Pension Plan Investment Board. This isn't a bad idea in most respects, and in fact it may be more workable than Pooled Registered Pension Plans (PRPPs), which the various provincial governments are currently struggling to define.

The one problem with SRO is that it concentrates even more of the nation's retirement savings in government hands rather spreading risk by involving other sources, including the private sector. As the recent pension problems in the U.S., France or Spain (or even the Caisse de Depot) suggest, a government-led pension solution works well until it doesn't.

Of the SRO, Hurst says the financial industry already delivers pension programs for employees of medium and larger enterprises at costs lower than current administration and investment costs of the CPP. He favours the Tories' PRPP:

PRPPs have the prospect of making such lower cost options also available to employees of smaller businesses and the self-employed. For my money, the PRPP concepts of making it mandatory for employers to offer a pension plan or PRPP access, with automatic enrollment of employees with an opt-out option are likely to be far more effective in providing pensions to those Canadians that do not currently have them. Abandoning the progress made with the provinces on the PRPP Framework will only serve to further delay meaningful pension reforms.

Both are possible but three-way balance needed

Actuary Malcolm Hamilton, worldwide partner with Mercer's, has said he favours a “modest” expansion of CPP but that the gradual nature of it will be of little use to those already near retirement. There's room for both an expanded CPP and PRPPs, he told me in December.

Most financial planners believe retirement should be like a three-wheeled tricycle, with income coming from a government wheel, employers and private savings. Government already provides Old Age Security, GIS and the CPP (albeit with premiums from employers and workers), while individuals have RRSPs, TFSAs and taxable investments.

It's the employer wheel that seems wobbly and it seems to me that by focusing on employers, the Conservatives' PRPPs provides more balance than a Big CPP. But it's no surprise proponents of Big Government also want a Big CPP.

Mr. Chevreau makes some good points on the success of TFSAs, introduced by the Conservatives, but his defense of PRPPs and his attack of supplementary CPP is way off base. It shows that he has no clue whatsoever about the benefits that come from having retirement money managed by the Canada Pension Plan Investment Board (CPPIB) or other large Canadian defined-benefit plans. Let me go over Mr. Chevreau's main points and highlight my concerns.

First, any article that cites actuaries and investment experts from private firms like Towers Watson, Morneau Shepell, Greg Hurst & Associates Ltd and Mercer is hardly objective. Mr. Chevreau should disclose what percentage of their business comes from private Canadian businesses as opposed to the large Canadian defined-benefit (DB) plans? I hazard to guess that almost all their business comes from the private sector as opposed to the large public DB plans which is why they're not going to publicly endorse an expanded CPP proposal full force. It's too bad the Office of the Chief Actuary of Canada can't comment on what these actuaries are stating about a supplementary CPP proposal.

Second, while it's true that an expanded CPP would require higher premiums from both employees and employers, Canadians want expanded CPP. It's not just public and private labour unions who are backing this proposal, most Canadians are worried about their retirement and rightfully so. Unlike public sector workers and politicians who enjoy the security and peace of mind that comes from their defined-benefit pension plans (which they contribute to), many Canadians in the private sector have little or no savings in the form of RRSPs.

Third, Mr. Chevreau states that the Liberal analysis is "off base when it declares many RRSPs have annual charges of 2% or more" adding "that may be true for those who hold mutual funds in their RRSPs, but it's patently untrue for self-directed RRSPs holding individual stocks or exchange-traded funds (ETFs)." Mr. Chevreau doesn't bother researching what percentage of RRSPs are self-directed. Everyone in the financial industry knows that mutual funds are the most common investments in RRSPs, and as I stated many times before, Canadians who are able to save in their RRSPs are getting raped on fees in their mutual fund investments.

Moreover, only a tiny minority of investors with a self-directed RRSPs investing individual stocks or ETFs are outperforming any of the large Canadian defined-benefit plans over the last 10 or 15 years. And as I've stated many times before, defined-contribution plans or PRPPs can't compete with the large Canadian defined-benefit plans. Why? Because the latter are able to pool billions in assets, negotiate lower fees, manage a substantial portion of assets internally (thus lowering costs) and invest and co-invest with the best public and private fund managers across the world. For example, most Canadians are clueless about CPPIB's investment partners, but I assure you that no DC plan I know of can invest in Brevan Howard, Bridgewater, Apax, Lone Star, Texas Pacific Group or any of the other top public and private funds listed on their site. This is an important source of alpha, on top of the internally generated alpha, adding basis points on their beta (benchmark) portfolio. Over the long-term, all that alpha adds up, which is why CPPIB pays these managers big fees but they're delivering meaningful alpha.

Fifth, I take issue with Mr. Vettese's following statement:

The one problem with SRO is that it concentrates even more of the nation's retirement savings in government hands rather spreading risk by involving other sources, including the private sector. As the recent pension problems in the U.S., France or Spain (or even the Caisse de Depot) suggest, a government-led pension solution works well until it doesn't.

Spreading risk across the private sector? Who are we kidding here? Yes, most of the large Canadian public DB plans got clobbered in 2008, but many have bounced back nicely and have implemented serious risk management policies to manage their liquidity risk and protect their downside. When private companies with DB plans go belly-up, their pension obligations don't magically disappear. The government and taxpayers are on the hook for a portion of their pension obligations. Just look at the Nortel debacle.

That brings me to my final point. Diane Urquhart sent me the video below and an article stating that the federal government of Canada has been stonewalling Nortel's disabled by killing Bill S-216 and Bill C-624. We have serious problems in Canada which I've already alluded to in my comments on the Canada bubble and Canada's mortgage monster, but one thing we can all agree on (I hope) is that we have to defend the rights of society's most vulnerable. It's morally wrong to stonewall the demands of Nortel's disabled because the creditors don't want to be placed behind pensioners and the disabled. Pensions and the rights of the disabled must transcend politics. Let's do the right thing and give these people what they rightly deserve and introduce essential changes to the Bankruptcy and Insolvency Act to make sure this injustice never happens again. Don't worry, Big Business and Big Banks will survive.