Endorsements throughout the campaign swayed between the major parties; the Ottawa Citizen presented a reasoned case for endorsing the PCs, and Torontoist gave an articulate (reluctant) defence of the Ontario Liberals. But every endorsement botched its argument for or against reform in key campaign issue: public pensions. The Citizen presented the proposal for the Ontario Retirement Pension Plan (ORPP) as a “con” in that it added to business costs, while Torontoist said that it “addresses senior poverty in this province in a dramatic way.”
Both of these statements are misleading. If editorial writers who have been paying close attention to the campaign can’t understand a provincial public pension plan, what hope does the public have?
What’s the problem the Ontario Liberals are trying to address in their pension proposal?
More and more Ontarians are at risk of running out of savings and facing a huge decline in their standard of living in retirement. Fewer Ontarians have a workplace pension than before—34 percent of workers in 2012 compared to 42 percent in the early 1990s. For those that do have a workplace pension, that pension is less likely to be defined benefits, and more likely to be a defined-contribution pension.
The Canada Pension Plan (CPP) is defined-benefit and guarantees Canadians a level of payout based on their contributions. But this payout is relatively small: the CPP is designed to replace the first 25% of around the first $50,000 of income. The maximum payout is only about $12,500, and you get that only if you earn at least $50,000 for almost every year of your working life. Most people do not earn $50,000 or more in every year of their working lives, which means that the average yearly payout for Ontarian retirees is substantially lower than the maximum—about $6800.
Canada does have otherprograms that prevent seniors from falling below a poverty-level income of about $16,000, and these programs have worked very well: it has one of the lowest senior poverty rates in the world. But for someone used to earning $70,000 per year, a drop to the guaranteed minimum income of $16,000 a year is still enormous, and almost certainly means a serious decline in well-being. For those that do havea workplace pension, that pensions is less likely to be defined-benefit, and more likely to be defined-contribution.
What’s the solution Kathleen Wynne has proposed?
In the budget tabled on May 1, 2014, the Ontario Liberal Party put forward what they called the Ontario Retirement Pension Plan (ORPP). This plan, like the CPP, would be a defined-benefit public pension plan with mandatory contributions. Contributions would be a total of 3.8% of yearly earnings between some exempted lower threshold and a maximum threshold of $90,000, and the plan would aim to replace 15% of employees’ earnings.
The ORPP targets workers without workplace pensions who have incomes above the $50,000 cutoff of the CPP. It would boost income replacement for a worker with an income of $90,000 from about 14%, assuming the maximum annual CPP payout ($12,500), to about 30% with CPP and ORPP combined (about $25,000).
The effect of the ORPP depends on where the lower threshold for pensionable earnings is set. If the threshold is just a few thousand dollars of income, the proposed plan could hurt the poor. If the threshold is set at, say, the current maximum threshold for the CPP, then it will target middle- and upper-income workers whose income replacement levels are most inadequate without harming lower-income earners.
I don’t understand why a mandatory plan is necessary. Why not just try to encourage private savings?
There are two reasons to be skeptical about the effectiveness of incentives for private saving. First, a lot has already been done to encourage private saving, and none of it has been enough to boost savings enough to provide a comfortable level of income replacement. The problem may be one rooted in human nature: as a mountain of evidence from psychology has shown, people suffer from systematic cognitive biases that may be responsible for their under-saving. We think of our future selves practically as strangers and do too little to provide for our future selves’ well-being.
Compulsory pension programs like the CPP and ORPP are more than a nudge, though: workers have to contribute to them. What justifies making these plans compulsory is that it is impossible to design a defined-benefit pension any other way while keeping it sustainable and making sure it accomplishes its goals.
The second reason savings aren’t “enough” is that defined-benefit pensions don’t do the same thing as savings. As other observers have pointed out, defined-benefit pensions are an insurance product: they’re insurance against outliving your savings. Even someone who has saved quite a bit doesn’t know how long they’re going to live, and so can’t enjoy the same assurance that they’ll have at least some income for the rest of their lives.
Who benefits most from the Liberals’ pension plan?
Because the new pension benefits would come from new contributions, and because people who are young or have yet to start their careers today would make the most new contributions under the new pension plan, the ORPP will not transfer wealth from the young to the old and will provide virtually no extra income to people at the end of their working lives. This plan does the most for young people and for future generations.
Because low-income seniors are already guaranteed a minimum income by federal government programs, the ORPP will not benefit the poor. In fact, if the lower income threshold is set too low, it will force the poor to pay more into the pension plan during their working lives, and will therefore make them worse off. The ORPP will mostly benefit workers making upwards of $50,000 annually.
Some Ontarians are likely to live longer than others. Women on average live longer than men, and the highly educated, who tend to be fairly wealthy, live longer than the less well educated, who tend to be less wealthy. There’s reason to be concerned that, if everyone is paying the same premiums for their pensions, the ORPP would effectively transfer wealth from men to women and from poor to rich. No one has proposed charging higher rates to women and more highly educated Canadians in order to account for this, presumably because the idea would be politically toxic.
Should I be worried that the Liberals’ pension plan will kill jobs?
According to one of the foremost experts on pension reform in Canada, no. Because the ORPP would be phased in gradually, workers would receive lower pay raises than otherwise, because employers would have to pay them in extra pension contributions what they would have otherwise paid in cash. But that’s not a big concern, because the whole point of the pension reform is that, since employee pensions have been hollowed out, too great a proportion of Ontarians’ pay has been in cash, and too little in pensions.
So should I support the Liberals’ pension reform or should I oppose it?
That depends on what you think about the role of government. If you think that government programs should focus only on the poorest, or if you think that retirement savings adequacy is a matter for which individuals should be held responsible, then you probably won’t like the plan. But if you think this is a serious problem and that there is a case for government intervention to help people overcome their cognitive biases, then you have good reason to support the ORPP.
The Liberals’ proposal can be found here.
Alessandro Sisti studied at the University of Toronto in the Department of Classics and the School of Public Policy and Governance. He is currently preparing for the preliminary exams administered by the Society of Actuaries.