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Canada: Policy options for the pension crisis

By Neville Nankivell, Financial Post

May 27, 2003

Canada - As recent articles in this newspaper have detailed, the crisis in pensions isn't just on the horizon of an ageing world anymore. It has arrived and its scope is global. Both state run and private retirement plans are increasingly at risk. Some governments have started to tackle the issue seriously. Our government must make this a more urgent priority.

Prime Minister Jean Chrétien claims changes made a few years ago to the Canada Pension Plan will leave it financially sound for the rest of this century. But the Liberals have only been tinkering with pension system reforms. More radical changes are needed to restore sinking public confidence in the future of retirement plans. This includes rethinking retirement age norms themselves.

Meanwhile, weak stock market returns have left the pension plans of more and more companies around the world financially challenged. This will dint corporate earnings because of legal requirements to contribute to plans that are excessively underfunded. At the same time, governments are raising the premiums they impose on employers and employees to finance pay-as-you-go state-run pension schemes. This includes the CPP. Some are also cutting back benefits. In France, more than one million workers went on strike recently to protest proposals to trim generous pension payouts and raise the eligible age for maximum benefits.

The latest Canadian shiver is a warning by Nick Le Pan, federal superintendent of financial institutions, that 75 Canadian corporate pension plans are now on his agency's watch list. This is up from 50 six months ago and includes some of Canada's largest companies. Many more plans are likely in trouble because this list covers only federally regulated companies. Most plans are provincially regulated. A study done for the Association of Pension Management estimates underfunding of Canadian corporate pension now totals $225-billion, or 20% of GDP.

Federal and provincial supervisors will have to keep very close scrutiny on plans that are in deficit and those taking so-called "holidays" from making employer contributions. More frequent reviews may be necessary to ensure proper compliance with funding regulations.

The Ontario government has just followed some other provinces in proposing to end the practice of a mandatory retirement age. Other Canadian jurisdictions should also eliminate this form of "institutionalized ageism." This is mostly the case now in the United States.

People should be allowed to work longer if they are capable. Public policy shouldn't encourage early retirement. This puts stress on pension systems by raising dependency ratios -- the number of retirees receiving benefits in relation to active workers paying into plans.

In the last federal budget, there were improvements in tax incentives to encourage retirement savings. But these fell disappointingly short of what many groups had proposed, including parliamentary committees. Canada will still lag behind many other major economies in terms of the percentage of final employment income replaced by the present combination of public and private pensions.

Finance Minster John Manley increased the annual maximum contribution to a registered retirement savings plan and money-purchase pension plan to $18,000 from $13,500 by 2006. The annual limit for a defined-benefit registered pension plan will go to $2,000 from $1,722 by 2005. After that, indexing for average wage increases will go into effect. Nonetheless, it's disgraceful that planned increases in the limits, first proposed in the 1980s, were delayed for so long. Adjusted for inflation, last year's RRSP and RPP contribution limits were actually below their equivalent levels of two decades ago.

When he was finance minister, Paul Martin chopped back retirement and pension plan contribution limits as part of his deficit reduction program. He also reduced to 69 from 71 the age limit at which individuals must stop contributing to these plans. It would have been better to come down harder on the colossal waste that is still so prevalent in government spending rather than make saving for retirement more difficult.

What should be considered is the option of giving individuals the alternative of staying in the CPP or redirecting their mandatory payroll-tax deductions to individual retirement accounts. This would give them more personal responsibility over their retirement funds. It's the direction some countries are going in. The government should also move quickly on its promise to study the concept of tax pre-paid savings plans, an approach now being used in the United States and Britain.

It's also time to completely eliminate restrictions on the foreign security component of RRSPs and pension plan investments. This would allow them to diversify portfolios more widely and generate better returns. Investment decisions for private and public pension plans should be made solely in the long-term interests of their members, not for any other reason. Private pension plan members should also be told a lot more about how their funds are being managed and how they're performing.

Most importantly, our federal and provincial governments must keep reducing Canadian personal income tax rates. They are still too steep compared with many other major economies. Getting tax rates down must be a higher policy priority than it was in most budgets this year.

Leaving Canadians with more of the money they earn would greatly boost their prospects of building adequate assets for secure retirement.