Defined Benefit and Defined Contribution: More Voices

How coincidental that the current number of the Canadian Investment Review arrived in my in-box today, just hours after CAW members at Air Canada hit the bricks to reject the company’s demand to abolish the defined benefit pension plan for new hires (and impose major cuts in pensions for the existing workforce).  The demand to eliminate DB plans is a common feature in almost all the major industrial conflicts currently taking place in Canada, including U.S. Steel in Hamilton, Canada Post, and the very long recent stoppages at Vale in both Ontario and Labrador.

Headlining the CIR number is an interesting article titled “DC Model a Short-Term Fix.”  The article reported the views of several experts who spoke recently at the annual Canada Cup of Investment Management (a financial conference).  Their views on the value of DB plans made for an interesting — and timely — read.  The speakers included Jim Keohane, senior vice-president of investment management at HOOPP (the multi-employer Ontario health care DB plan).  DC plans are “a short-term fix to the underfunding issue,” he said. “I think it makes it worse because it just masks the problem.”

High administrative costs, difficulty in measuring and meeting target replacement ratios, and lack of information on the part of plan members all reduce the probability that DC plans will provide an adequate retirement.

“The issue with DC plans is that you’ve moved away from this benchmarked environment into a non-benchmarked environment. Nobody’s saying whether it’s underfunded or fully funded.”  That’s a polite way of saying that virtually no workers have any idea of whether their DC will provide them with adequate pension coverage or not.  (In most cases, of course, they will not.)

Lawrence Swartz, a principal at Morneco Shepell, chimed in: “When you have a long-term employee, DB works really well because the young employees end up putting in more in the early days and less in the late days and also benefit from professional management.”

Swartz concluded, “I believe that for most people, a DB plan, particularly for a long-term employee, will provide a better result.”

These pension professionals echo the views of a roster of other experts, some of them not the usual suspects, who have also recently reemphasized the value of the DB model.  The renewed lustre of the DB system comes in light of recent financial instability, and the glaring failure of Canada’s RRSP system to provide adequate income replacement, especially for retiring middle-class Canadians.

These DB advocates include famously David Doge, former Governor of the Bank of Canada. “Defined-contribution plans can mitigate a number of risks to individuals, businesses, and society as a whole,” he told the Conference Board of Canada in 2007. “However, appropriately structured defined-benefit plans can do better.”  He highlighted the effectiveness of the DB model in pooling risk across pension plan members, and as a tool for employers in recruiting and retaining talented workers.  He proposed regulatory changes to make it easier for companies to fund DB plans.

 Even Jack Mintz has provided backhand compliments to the DB system, as in this National Post commentary: “Fully funded defined-benefit pensions paid to employees generally do not depend on the investment experience of the fund.  Instead, employers, who are in a better position, absorb investment risks inherent with pension funding.”

 
Mintz continued:  “In the past decade or so, businesses have shifted from providing defined benefit pensions to other forms of retirement savings such as defined contribution pension plans and RRSPs held by workers.  In both cases, the pension received by workers is based on the risky investment performance of the plan.  Unless the assets are held in relatively safe bonds — thereby making them more expensive to fund retirement income — employees face significant risk depending on investment performance. Unfortunately, new retirees are discovering how important risk is with current market conditions.  It is not fun to find accumulated wealth being hammered by today’s stock and bond markets.”

Mintz wants to make DB plans easier for companies to afford by reducing the level of benefits, which is where he and I would part ways.  But at least he recognizes that making one’s pension contingent on the fleeting moods of the asset markets is an awfully risky venture for any individual retiree.  In a recent speech to the Toronto Association of Business and Economics, he also spoke of his experience as a director with Imperial Oil, where the company made a deliberate decision to use its DB plan as a staff recruitment tool.

It seems to me that there has been a growing view — by no means unanimous, but striking nonetheless — among the pension industry that the DC/RRSP model has failed Canadians as a reliable, cost-effective vehicle of retirement planning.  Sadly, growing awareness of that failure has not changed the Harper government’s bull-headedness in charging ahead with still more RRSP-style pension solutions (like their new proposal for PRPPs).  And sadly it has not slowed down increasingly aggressive corporate executives, no matter how much profit their firm may be making (and regardless of how generous their own executive DB plans may be!), from trying to break the pension promise to their workers.

6 comments

  • Literally minutes after posting this commentary, I have learned that the Harper government is planning to legislate the Air Canada workers back to work, a stunning indication of how this majority government will respect labour rights. That announcement, of course, raises a whole host of other issues.

  • The problem with DB plans has been not the plan per se, but the optimistic assumption with respect to real returns. If DB plans were designed based on a realistic long-term real return assumption (say 3.5%) then they would be fine.

  • yes a head shaker for sure, there will not be a fight for middle class jobs- Harper will just legislate and impose the reductions. I hate the fact that my Collective Agreement is at the fed level. Wow the right wing democracy model sure does not include any notion of progress. Of course you know what this means- labour war. It has to- how else can we stand at the thousand of shopfloors across the land and bear witness to this ratcheting down. I am sure Harper will say it is democracy as he was elected, however, no where in his economic plan did it mention that the collective bargaining process would be torched. Wow. Hopefully he is just saber rattling, with the CAW, but my feeling is he will legislate- too early in his mandate to actually care about mud sticking especially since he is the ultimate creature from the mud lagoon.

  • Defined Pension Plans: currently 25% of Canada’s workforce has a defined pension of which 70% or 3.5 million government employes are on the plan. This debate is really about Government and the cost of not only funding these plans but as a current taxpayer(my kids) and future generations responsible of the unfunded liability. We can see some of those unfunded liabilities; for example AIR CANADA (13 BILLION), ONTARIO TEACHERS (17 BILLION), FEDERAL MP (58 billion plus) and the list goes on and on. All of a sudden the taxpayer has a tab for 200 billion plus.

    How did this happen? Let us look at some obvious issues.
    1) Formula: age + years of service = retirement.
    The average age of retirement for teachers is
    55yrs and 58yrs for government employees.
    2) This GROUP is retired longer than they work and
    this cost is passed on to the taxpayers.
    3) Many in this group (teachers) can return to
    supply teach without making further contributions
    to the cost of pensions or cost of
    benifits. TAXPAYERS PICKUP THE BILL
    4) Years of pension service are in some cases
    doubled. One year of employment equals 2 years
    of pension.
    5) All government pensions are indexed to
    inflation. No down-side risk.
    6) Retirement rate is based on the last few years of
    service and in some cases the last 18
    months.This has nothing to do with the
    contribution rate.
    7) No penatly for early retirement.
    8) No restrictions on re-entering the the same
    institution for employement. Hence the double dip.

    I have listed some of the issues regarding these government defined pension plans. However, what really upsets me is that most of the information and recommendations are written by so called experts who themselves are on the PLAN. This is what I consider a conflict of interest. I recall listing to a debated concerning the pension crisis in Canada for the general puplic. The solution suggested by professor (such and such from the University of Calgary) “maybe those people” (general public not on the plan) that they might have to sell some of their assets for their retirement income. P.S WHATS GOOD FOR THE GOOSE…

    A friend of mine a forensic accountant said when they where investegating a account. The first test was the smell factor. If there was odour then there was something wrong. P.S this government definded pension stinks. The cost burden is being passed on to the taxpayer and our children.

  • Yes excellent points Richard! This issue of Defined Government Pension Plans must be addressed.

  • TORONTO STAR THURSDAY SEPT. 22, 20011

    ARBITRATOR KEVIN BURKETT CAME UP WITH A HYBRID PENSION PLAN – WHERE HALF OF THE PENSION WOULD GO INTO THE DEFINED BENEFIT PLAN AND THE OTHER HALF WOULD GO INTO THE DEFINED CONTRIBUTION PLAN.
    THE SAME DOLLAR AMOUNT – MUST GO INTO BOTH PLANS BECAUSE – THE DEFINED CONTRIBUTION PLAN IS BASED ON RATE OF RETURN IN ORDER TO MAXIMIZE THAT RATE YOU MUST HAVE 60-70% INTO EQUITIES FOR 20-25 YEARS HIGH RISK .
    THEN THE LAST 5-10 YEARS SWITCH TO LOW RISK FUNDS WHICH DECREASES YOUR TOTAL RATE OF RETURN – WHICH DECREASES YOUR TOTAL PENSION.
    ON TOP OF THAT IMF FEES ARE FROM 1.5% TO 2.5% OF TOTAL FUND – WHICH YOU DO NOT HAVE WITH THE DEFINED BENEFIT PLAN.
    THE TOTAL AMOUNT IN THE DEFINED CONTRIBUTION PLAN IS UNKNOWN UNTIL THE DAY YOU BUY THE LIFE ANNUITY FUND WHICH EQUALS $6,000 PER YEAR FOR EVER $100,000 YOU PURCHASED.
    THIS MAY BE THE BEST WAY TO STOP A COMPLETE SWITCH TO THE WORST PENSION PLAN EVER DREAMED UP BY ??? CORP GREED.

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