The plunge in interest rates to new lows in recent years has made DB plan sponsors rethink whether their pension plans continue to be sustainable. Private sector employers for the most part didn’t really have to think about it as they have already abandoned their DB plans in droves. Recent statistics suggest that roughly 60% of DB pension plans in the private sector have closed their doors forever to new hires.
The reasons for this exodus are worth revisiting. It’s not just about low interest rates pushing up pension costs, though that is certainly a factor. And we’d be wrong to think that employers have been forced to settle for seemingly inferior DC plans for purely financial reasons. Finally, we might even believe that the inherent flaws of DC plans will eventually become self-evident.
Read: The future of employer-sponsored pension plans
Before we succumb to these views, it’s useful to remember why DC made sense in the first place. Yes, DC was always going to produce more stable and predictable costs for employers than DB but there was also a very significant employee-centric reason in favour of DC that we’ve forgotten. What happened in Saskatchewan nearly 40 years ago can serve as a reminder.
In 1977, the Saskatchewan government decided to switch to DC for a large number of its public sector employees. The reasons the government of the day gave for the switch can be found in the May 3, 1977, edition of Hansard where the minister of health, the honourable W.A. Robbins is recorded as saying:
“There are 15,853 public and private pension plans operating in Canada and they cover some 3,425,000 people. If we look at those plans we realize that they have accumulated very large assets. The private plans across Canada had…$22 billion in assets. The Canada Pension Plan had…$12 billion. Other public employers had an additional $10 billion in assets.…But the amazing fact is that 80% of the people involved in those pension plans will end up with very nominal pensions or no pensions at all. I think people are beginning to realize that pension plans based on a formula calculation operate on a principle similar to those of lotteries. Few winners and many losers.”
Read: Are occupational pensions too high?
This view was based on the fact that DB plans may be wonderful arrangements—but only for career employees, a description that Robbins estimated applies to only 20% of workers. We were well aware of this shortcoming of DB plans at one time, but we seem to have forgotten it in recent years.
Recent statistics show that Robbins was basically right, though the 80% estimate of “losers” was perhaps a bit of an exaggeration. In October 2013, Statistics Canada published a paper entitled an “Overview of the Working Lives of Older Baby Boomers” (by A. Bonikowska and G. Schellenberg). That paper traced more than a million boomers, male and female, from 1983, when they were ages 33 to 38 up until 2011. It found that the average number of employers during the period was six for men (5.5 for women) and the median number was four. And this covers only the 28-year period starting in a person’s mid-30s! Measured from ages 25 until 65, the number of employers would be significantly higher. The paper also found that for 61% of the men and 68% of the women, the longest period with one employer was 18 years or less (often much less). DC is the better solution for this large group of men and women—even in the face of high interest rates and fund return volatility.
Read: New role for public sector pension plans
So we can bemoan the fact that DB pensions have become so expensive in recent years, but we shouldn’t delude ourselves into thinking that DB is the ideal plan for all, or even most, employees.
While we’re at it, how is the Saskatchewan DC experiment going? After 37 years, the DC arrangements are still much appreciated by the participants and there is little, if any, musing going on about the long-term sustainability of the plans. I’m sure a lot of DB plan sponsors wish they could say the same.