Former Governor of Bank of Canada and Special Advisor for Osler, Hoskin & Harcourt, Stephen Poloz, explores one of the biggest risks employers will face in the coming years and how defined benefit (DB) pensions can help manage it.
Russell Evans: Why are defined benefit (DB) pensions such an efficient and effective way to save for retirement?
Stephen Poloz: There are massive gains in scale. First of all, the most important thing that happens is your longevity risk, the risk that you're going to live long. Sounds like a good risk, but if you're going to live long, longer than your financial situation allows, then you're in a pickle. You have no idea how long you'll live. So, you over save for that, and so, you underspend your whole life. The efficiencies of a pool of pension money, both across longevity risk and then, across market risk and the ability to compensate people in retirement because there's overlapping generations. That's a really important key, when there's no overlapping generation to take care of downside risk. All those things kind of melt away when you create a pension pool. Of course, if you run it by professionals, state of the art, then you're guarding against the typical risks and you're minimizing the costs around it.
Russell Evans: The shift away from defined benefit pension plans was not a good move for workers. And as Stephen says, the power dynamic at that point was still very much on the employer side.
Stephen Poloz: I think what happened is that the market power in that space between employers and employees shifted towards employers. So, what we have then is a whole generation like our baby boomers that are retiring. We have a gigantic retirement wave here in Canada. 15,000 people are retiring every month, all that human capital heading for the door. So, what happens is over the next 10 years, we're going to have more fallout and we're shifting to a relative shortage of workers. I'm talking much more profound than the shortage we experienced in the wake of the pandemic. I think what's going to happen then is the power is shifting back from the employer to the employee. And we're seeing early signs of companies being on the leading edge of that, for example, Walmart or Amazon.
Russell Evans: Why do you think employers should consider DB pension plans?
Stephen Poloz: I think the biggest and most practical risk that companies will face will be they won't be able to get the workers they need in order to complete their business plan. But I think for the next four or five years, it's become much more apparent as the retirement wave follows through. And in that situation, then firms are going to say, how do I manage that risk, will I pay a higher salary, or do I have a games room to attract people to the office and they can spend an hour of their day? Everybody's got their own ideas around this, but I think one of the most powerful ones will be to put more of the pie into the retirement window. People will find that that's a great place to work, because I know I can spend my whole paycheck if I want, because I know that 25 years from now or 35 years from now, when I'm done, I I've got it covered. I'll still be able to live a good lifestyle. I think this is going to be the most powerful weapon of all.
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Stephen’s transcript has been slightly altered in this Q&A for clarity and brevity.