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Accounting Matters – Old Age Security

Accounting Matters – Old Age Security

January 28, 2013. Category: Investing, Pension Plans, Retirement. No Comments on Accounting Matters – Old Age Security.
Written by Jeremy Bell.

When Old Age Security was changed in the Federal budget last year some people asked me whether the cuts were necessary.  That is a difficult question because almost all government spending decisions are choices rather than needs.

The change didn’t affect last year’s budget.  It actually won’t affect a budget until 2023.  In other words, the government was not compelled to make the change to OAS to balance the current budget.  They claim to have made the change to ensure its ongoing sustainability.

Did the Government Make OAS Sustainable?

No, the government didn’t take the required action to make OAS sustainable.

The same analysis will apply in the future: the government can correctly claim that the ratio of working age Canadians to retirees is decreasing.  The OAS valuation projects a decrease from over 4 working age Canadians per retiree to about 2 working age Canadians per retiree between 2010 and 2060.

They can apply the same political argument: cutting benefits to those far from collecting.  The result will be an erosion of the value of the benefit over time.  In addition, younger workers today will pay more and expect to get less through the program.

This seems a shame.  The demographics are clear.  We understand that the number of recipients will increase.  There is no excuse for not planning.

The current system for providing OAS is akin to someone promising you $5,000 in 5 years.  Over the next 5 years, he buys goods and services, including discretionary ones, as normal.  Then, when the payment comes due he claims to not be earning enough money to pay you.  It would be hard to be sympathetic to requests for leniency.  Can’t he plan?  Didn’t he know this was coming?

Of course, this happens in real life.  It is a peculiar method, though, for providing important benefits for retirees.

OAS Accounting – Greek-Lite

The Greek government made promises that were unsustainable.  They found that pensions are extremely difficult to cut: appreciable cuts can cause riots.  Pensioners expect the promise to be binding.

There is no absolute ceiling at which benefits become unsustainable.  If one properly accounts for the present value of the obligation, or funds the present value of the obligation, it will generally be sustainable.  Greece didn’t properly recognize the value of its obligations until they were too big to bear.

Under the current method of providing OAS – without planning – we will see increasing pressure on programs and tax rates in the future.

The only difference between OAS accounting and that used for Greek pensions is scale.  OAS accounting is unlikely to bring down our economy, but that is dim praise for a social program that could be effectively managed.

A Way Forward

The government should acknowledge that OAS is an important part of Canada’s social safety net, particularly for low and middle income Canadians.  Even though the current government didn’t achieve sustainability with the recent OAS changes, they did acknowledge the importance of OAS and a desire for its sustainability. This is a good start.

The government should begin to account for or fund not just the dollar amount paid for current recipients but also the growth in the promise (i.e. liability) for those not yet in receipt.  Until then, any claims of a balanced budget should be greeted with skepticism.

This change would be difficult politically, though a successful change to CPP funding in the 1990s is precedent for successful long-term planning of a like program, albeit with different funders.  Unfortunately, until such a change is made it would be difficult to consider any government to be capable financial managers: they continue to leave today’s costs for future generations.

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