Alberta Doesn't Need Another CPP Ponzi?

Franco Terrazzano, Alberta director for the Canadian Taxpayers Federation, recently wrote an op-ed comment for the National Post arguing that Alberta doesn’t need another pension Ponzi scheme:
The last thing Alberta taxpayers need is another pension Ponzi scheme, but that’s exactly what taxpayers can expect if the provincial government recreates the Canada Pension Plan in Alberta without fundamentally over-hauling it.

The government is currently considering whether the province should withdraw from the CPP and create its own plan. As Premier Jason Kenney has acknowledged, “a compelling case can be made for such a shift (away from the CPP).”

That’s because Alberta taxpayers have contributed more than their fair share to the CPP. Between 2008 and 2017 they paid about $28 billion more into the CPP than they received back in benefits, according to a 2019 Fraser Institute report.

An internal analysis from crown corporation AIMCo, the Alberta Investment Management Corporation, concluded that Albertans could see a 27 per cent tax savings from a provincial plan while still receiving the same benefits as from the CPP. As economist Jack Mintz explained in these pages last November: “The reduction in the payroll tax would encourage employers to hire more workers and provide some tax relief for workers, especially those with lower incomes.”

Although withdrawing from the CPP has some economic merit, Kenney shouldn’t merely recreate the CPP. He should reform and improve it. That’s because the current CPP better resembles a Ponzi scheme more than it does your typical investment fund.

According to Charles Lammam and Hugh MacIntyre of the Fraser Institute, “There’s an assumption that the money (people pay) into the CPP is going to fund their own personal retirement, as is the case with private pension plans. But this is largely not the case because … most of the contributions you make today fund someone else’s retirement.”

Today’s Mr. and Mrs. Taxpayer largely fund today’s retirees while relying on younger generations, the good faith of future politicians and the health of government finances decades from now to fund their pensions. But there is no legal requirement for a future government to provide pension benefits. That will always be the risk when taxpayers are forced to rely on politicians for their retirement benefits instead of their own savings.

The CPP comes with big debt problems. Its unfunded liability as of the end of 2015 was $884 billion. That means it will need to take in hundreds of billions of dollars from new taxpayers to pay the benefits promised to its current members. But isn’t that exactly how a Ponzi scheme operates? New recruits finance existing members? Do Albertans really want to replicate this model?

Albertans — and all Canadians — should be able to pull out of mandatory government pension plans and invest their money how they see fit, instead of handing it over to the taxman. Taxpayers are much better positioned to manage their own money than politicians in Ottawa or Edmonton who couldn’t balance a lemonade stand’s budget.

But if Premier Kenney is dead set on forcing Albertans to fork over their paycheques to a government pension plan, he should take a page from our cousins from down under and implement individual retirement savings accounts.

In Australia, workers must contribute a portion of their salaries to their own retirement savings account, rather than a collective pension plan. This allows workers to: choose an investment strategy that best suits their preferences and circumstances, leave their money to loved ones upon death, and withdraw investment income for health and financial emergencies without being penalized. Under this approach, workers truly own and benefit from their savings.

In Alberta, any government-mandated system should follow what is already established with voluntary RRSPs, TFSAs and other investments. The government can pre-approve investment providers, if it wants to, and set the amount that must be saved, but the bulk of decisions should be made, not by bureaucrats and politicians, but by the workers who are saving for their retirements.

Alberta’s — and all of Canada’s — taxpayers should be afforded the dignity of managing their own money in the way they see fit. But if governments instead insist on mandating pension plans, then workers shouldn’t be forced to save for other people’s golden years. Alberta can do better than recreate another pension Ponzi scheme.
I read this article a couple of weeks ago and it really irritated me. Every time I read articles referencing the Fraser Institute, I cringe and tell myself "here we go again, another sloppy hack job by a right-wing, clueless zealot".

This article is a perfect example. There are smart right-wing Conservatives like me who are more centered and careful in their positions and then there are hacks like this which I would completely disregard but they have the uncanny ability to continuously peddle nonsense to a wider audience.

I was also quite disappointed to read some of the comments. Even well written ones like this one got it all wrong, especially the conclusion:

Let me be blunt: Alberta will not be better off going the route Quebec years ago with QPP and adopting an Alberta Pension Plan (APP). To understand why, see my previous comment on making Alberta's pensions great again.

Thankfully, there were some decent comments like these ones from an informed reader:

I too wonder how this comment got past the editorial board of the Financial Post but then again, when you have brain-dead people reading comments and just looking to sell a right-wing angle, even if it's total rubbish, this is what happens.

Anyway, I sent this article to Bernard Dussault, Canada's former Chief Actuary (actually, former, former one as Jean-Claude Ménard also retired) and here is what he kindly shared with me:
A Ponzi scheme is a fraudulent investing scam promising high rates of return with little risk to investors. A Ponzi scheme generates returns for early investors by acquiring new investors.

The following aims at demonstrating that the CPP is not whatsoever a Ponzi scheme.

The CPP is a federal-provincial legislated pension plan that prescribes a constant partially funded contribution rate of 9.9% of covered employment earnings, which is actuarially projected over at least the next 75 years to provide in a timely manner all pension benefits defined in the CPP Act.

The resulting CPP contributions made by workers and employers are projected to provide an average long term real (i.e. net of inflation/indexation) investment rate of return of 2.06%, as shown in section IV of table 106 in the 30th CPP statutory actuarial report ( ). As the assumed long term inflation/indexation rate is 2%, as shown in table 55 of that report, the average long term nominal (i.e. real plus inflation/indexation) rate of return amount to about 4.06%, that is no current or future generation of CPP contributors is expected to obtain an average lifetime rate of return under 4.06%.

If the CPP were fully funded, its long term average contribution rate would amount to about 6%. This means that the CPP steady state contribution rate of 9.9% includes a constant 3.9% margin that offsets the cost of the portion of not fully funded benefits that were granted to some initial (1966) cohorts of contributors. This measure was originally approved by the federal and provincial finance ministers not to attribute to the CPP any kind of Ponzi scheme nature but rather to at least address as quickly as possible the then Canadian seniors’ poverty levels. The percentage of seniors in receipt of the Guaranteed Income Supplement (GIS) benefit thereby dropped from 56% to 35% gradually from 1973 to 2010, and would essentially stabilize at this level, but will resume decreasing gradually to between 25% and 30% pursuant to the fully funded CPP expansion (i.e. pension benefit rate increased from 25% to 33.33%) that became effective in 2019.

By virtue of the CPP Act, all CPP current and future benefits described therein shall be paid, unless the CPP Act would eventually be adversely amended, which would require the approval of at least 7 provinces covering at least 2/3 of the Canadian population. Until this most improbable eventually occurs, no government is in a position to alter the payment of the legally promised CPP benefits.

In light of the above, because the CPP is a public as opposed to private plan, its large CPP unfunded liability (about 15% to 20% of its total liabilities) is an issue only to the extent that the 9.9% contribution rate includes a margin that well addresses a critical national poverty issue. Nevertheless, all CPP contributors are since 1998, when the contribution rate was increased over 6%, socially assisting those pre-1998 contributors who are now less dependent upon GIS benefits, which benefits all current and future CPP contributors.
I thank Bernard for his very informed and enlightened views (which you will never read at the Fraser Institute or National Post, a national rag newspaper which rehashes the Fraser Institute's flimsy findings).

I also asked CPPIB's Senior Managing Director, Global Head of Public Affairs & Communications, Michel Leduc, for his comments and here is what he shared with me:
Leo, I agree with you and Bernard.

There is, of course, merit in having access to individual accounts – like we do today as one of multiple pillars of Canada’s overall retirement framework. For the vast majority of Canadians, achieving lifetime financial security is arguably the single biggest financial challenge that they face. Individual (or personal/household) long term savings is a critical solution for sure, yet most of those accounts (putting aside annuity contracts), do not solve for the complexity of market risk and longevity risk. For the majority of us, the CPP (only one of the multiple pillars) is the only aspect of the complete picture that helps you solve market risk and longevity risk. We are not all investment experts and no one can predict how long they will live. So, perhaps it is not betting on one pillar over the other – we need them all (the various complementary features they all bring as pieces of the puzzle) to face this big retirement challenge. I find it is more constructive to look at ways to ensure all pillars are performing as they should rather than breaking down any of them.

No Ponzi scheme can be sustained. A pay-go public pension plan is sustainable, albeit at a higher contribution rate than a fully-funded plan, and is therefore not a Ponzi scheme.

The CPP is a contributory social insurance program that pools many types of risk – demographic risks across regions, investment return risks (with the help of CPPIB) across time and longevity risks across individuals.

That’s why the CPP completes other savings programs – and does not seek to replace them.
Exactly, Michel nails it, CPP contributions managed by CPPIB is about the only thing most Canadians can count on when they retire because no matter how long they live or how lousy markets get, their CPP benefits will be there till the day they die.

Moreover, CPP wasn't meant to replace RRSPs or TFSAs, only to complete them (more like the other way around). And if you ask my honest opinion, I think most Canadians would prefer investing more in CPP than contributing to RRSPs or TFSAs if it means a better retirement with higher monthly benefits down the road. These are forced savings with outcomes they can count on.

What else? Today I read an article, Retired and in debt: When the gold standard of pension plans isn’t enough.Let me cut to the gist of it:
The head of the financial empowerment program at the non-profit Family Services of Greater Vancouver says retirees or near retirees are increasingly facing debt challenges due to the high cost of living, housing chief among them.

“Certainly a lot of people have leveraged themselves quite heavily, counting on a continuation of low interest rates,” says Murray Baker, who runs the free-of-charge financial literacy program.

“The problem is some studies show if rates rise slightly, there are a lot of people leveraged so much” they may be unable to make their mortgage payments.

He further notes a defined benefit plan is often helpful to avoid financial problems in retirement.

Research does show these plans are helpful to save for retirement. One recent study by the Healthcare of Ontario Pension Plan shows each earned dollar contributed to a plan, for example, is worth more than $5 in retirement compared with individual savings translating into $1.70 of retirement income. The research, however, shows only 25 per cent of employees have a defined benefit pension plan, down from 43 per cent in the mid-70s.

Yet although a good pension plan is a leg up, it can also lead to complacency, Baker cautions.

“We do see people who have defined benefit pensions who assume they don’t need to save a lot of money into an RRSP or TFSA.”

That can leave little wiggle room for extra expenses once retired, which can lead to indebtedness. Others carry debt into retirement, and find they have much less income from their pension and other sources to pay debt and other expenses than did while working.

Baker notes others also may look to their homes as savings plans, which also poses potential problems.

“With a decline in prices, those people could see their retirement funds—in the form of their house—decline too.”
Debt is a four-letter word. It's very easy to rack it up, much harder paying it off, especially later on in life when your income drops and you still have big expenses.

My advice for everyone is to try as much as possible to live within your means, preferably debt-free, save us much as possible and invest in a 60/40 balanced fund. My preference is 60% in the S&P 500 ETF (SPY) and 40% in the US long bond ETF (TLT) and rebalance every year or even after a major move at quarter-end (like Q4 2018).

I like this approach because you pay negligible fees (on ETFs) and over the long run, I'm long US stocks and bonds and long US dollars.

If you prefer having your money managed professionally, go with a global balanced fund with low fees and forget about it. For example, one blog reader of mine really likes the Mawer Global Balanced Fund, it has a great long-term performance, 9.7% since inception, and a management expense ratio of 1.1%, which is very low and very reasonable given this long-term performance.

On that note, for more than 60 years, Canadians have used RRSPs to save for retirement. Other savings vehicles, such as the tax-free savings account, leave much of the strategizing up to the individual. To discuss retirement options, The Agenda welcomes Alex Mazer, founding partner at Common Wealth; Jackie Porter of Carte Wealth Management; financial planner Caroline Cakebread; Hugh O'Reilly, from the Global Risk Institute; and Michael Nicin, co-author of the forthcoming report, "Improving Canada's Retirement Income System."

Great discussion, take the time to watch it and stop reading CPP Ponzi nonsense in the Financial Post.