Pension expert fuels misunderstanding about benefits of CPP expansion
The “agreement in principle” to expand the Canada Pension Plan (CPP) represents a major change to one of the key pillars of our country’s retirement income system. While we encourage an informed debate about the costs and benefits of the changes to such an important program, it’s disappointing that a respected pension expert such as Keith Ambachtsheer has decided to fuel further misunderstanding over the benefits of expanding the CPP.
In a memo published by his consulting firm, Ambachtsheer levelled a criticism that he bases on a newspaper article we wrote clarifying common myths surrounding the arguments for CPP expansion. Unfortunately, Ambachtsheer neglects to mention neither the report that the column summarized nor the numerous detailed studies that formed the backbone of the evidence we presented. Like the myths we dispel in our report, Ambachtsheer puts forth arguments that rely on incomplete analyses or flat out incorrect assumptions.
Canadians are preparing well for retirement
For starters, the best available evidence shows most Canadians are well-prepared for retirement. While Ambachtsheer agrees this is true for current day retirees, he claims that future retirees will suffer a different fate, though he provides no evidence to support his assertion. He simply asserts (again, with no evidence referenced) that university graduates are entering the workforce with more student debt and a lower likelihood of a workplace pension.
Putting aside the fact that evidence shows workplace pension coverage among younger workers actually increased in the public and private sectors during the 2000s, Ambachtsheer’s “solution” is a head-scratcher: he wants to increase young people’s tax burden today (through higher payroll taxes), which will reduce their disposable income and ability to pay off debt.
Presumably Ambachtsheer bases his assertion about the inadequacy of future retirement income on model projections. However, many of these projections suffer from several important problems.
For one thing, they tend to consider only savings accumulated in the formal pension system such as the Canada and Quebec Pension Plans, Registered Retirement Savings Plans (RRSPs) and Registered Pension Plans (RPPs). This narrow focus on pension assets overlooks the substantial non-pension assets that Canadians accumulate in stocks, bonds, real estate and other investments. In 2014, savings in non-pension assets totalled $9.5 trillion, dwarfing the $3.3 trillion assets in the formal pension system.
There are other problems with the claim that future retirees are not adequately saving for retirement. Ambachtsheer mentions a lack of workplace pension—but this alone does not doom someone to a financially insecure retirement. Canadians without workplace pensions can and do adapt and take advantage of alternative saving vehicles such as RRSPs. Research from Statistics Canada shows that, relative to their pre-retirement income, retirees without a workplace pension have a higher average retirement income than those with a workplace pension (although the median is slightly lower).
Projections of the future adequacy of retirement incomes also fail to account for the critically important fact that consumption needs tend to decline as a retiree ages and adequacy really depends on individual circumstances and preferences.
Not only are projections of future retirement security often incomplete, there’s a major problem with the way analysts have traditionally measured the rate of savings. As leading pension expert Malcolm Hamilton has shown, when the savings rate is properly measured, private pension contributions to RRSPs and RPPs have actually increased as a percentage of employment income, nearly doubling from 7.7 per cent in 1990 to 14.1 per cent in 2012.
Higher CPP contributions won’t increase overall savings
A point that Ambachtsheer does concede is that higher mandatory CPP contributions will be offset by lower private savings. Why? Canadians choose how much they save and spend based on income and preferred lifestyle. If their income and preferences do not change, and the government mandates higher contributions to the CPP, Canadians will simply reduce private savings. In the end, overall savings won’t change but there will be a reshuffling, with more money going to the CPP and less to private savings such as RRSPs, TFSAs and other investments. This is exactly what happened the last time mandatory CPP contributions increased in the 1990s and 2000s.
Ambachtsheer calls this a “plausible outcome” but then goes on to dismiss it and assert that the CPP offers a higher “quality” of savings than other forms of retirement savings.
To be clear: Ambachtsheer seemingly accepts our analysis that the CPP changes will not lead to more overall savings—which incidentally is the stated goal of many advocates for CPP expansion—but suggests the debate should focus on which mode provides higher quality savings. All Ambachtsheer does is raise a separate question. He doesn’t in any way refute or even question the accuracy of our work.
While the CPP does provide a defined benefit in retirement, lower private savings mean Canadians will lose out on the choice and flexibility in such modes of savings. For example, all the money Canadians save privately can be transferred to a beneficiary in the event of death. In the case of RRSP savings, Canadians can pull a portion of their funds out for a down payment on a home, to upgrade their education, or in case of financial emergency. These benefits are not available through the CPP.
The CPP provides a meagre rate of return for individual Canadians
Ambachtsheer’s assertion that the CPP is a superior investment vehicle hinges on the rate of return earned by the CPP Investment Board (CPPIB), which manages CPP assets. But here Ambachtsheer makes the fundamental mistake of conflating the returns earned by the CPPIB and the returns individual Canadians receive in CPP retirement benefits. While it’s understandable for someone less knowledgeable to make this mistake, it’s simply unacceptable for someone of Ambachtsheer’s stature and expertise. Ambachtsheer subtly suggests that future retirees will benefit from the strong performance of the CPPIB. This simply isn’t true in the way it is for private pensions or individual RRSPs.
There is no direct link between the investment performance of the CPPIB and the retirement benefits received by eligible Canadians. In fact, the rate of return under the current system for Canadians born after 1956 is a meagre three per cent or less—and the rate of return declines to 2.1 per cent for those born after 1971.
Notably, the CPPIB itself must generate a 4.0 per cent return (after inflation) simply to keep the program actuarially sound. In other words, Canadian workers born after 1971 are required to contribute to a fund that must generate a 4.0 per cent return but only provides a 2.1 per cent return to individual plan contributors.
Ambachtsheer speculates that the proposed CPP expansion will generate a long-term return that will “exceed the two per cent embedded in the ‘old’ CPP.” Again, for someone so highly regarded as Ambachtsheer, that’s not good enough or a reasonable criticism of our work. Rather than speculate, we actually re-calculated the new rate of return based on the limited details available on the proposed CPP expansion. The results point to a slightly higher comparable long-term rate of return (2.5 per cent). This rate is still well below three per cent and is hardly the great investment deal Ambachtsheer suggests.
The CPP is not low cost
Finally, Ambachtsheer takes issue with the reality that once the total investment and administration cost of running the CPP is accounted for, the argument that the CPP is low-cost falls apart. What’s bizarre is that Ambachtsheer himself acknowledges that the CPP is not low cost and instead describes the CPPIB as an “average cost” investment manager. He claims that the investment costs should be viewed in the context of Canadians receiving great value-for-money from the CPP but this again is predicated on the mistaken assertion that the rate of return for the CPPIB directly impacts the retirement benefit that individual Canadians receive.
The CPP is no doubt an important part of Canada’s retirement income system so changes to the program should be vigorously debated. Yet such a debate needs to be clear about the realities of the CPP, the state of Canada’s retirement income system, and the benefits and costs of expanding the program. It’s unfortunate that an expert of Ambachtsheer’s stature has fuelled misunderstanding over the benefits of CPP expansion.
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