Imagine it was possible to travel back in time, and tell the policy makers of the past everything that we now know about pay as you go pension (PAYG) plans. Life expectancies will increase, birth rates will fall, and the contributions required to sustain the schemes will grow. PAYG pensions will be blamed for discouraging savings, and dampening economic growth.
Imagine it was possible to go back to 1951, when Canada's Old Age Security programme was introduced. Could Louis St Laurent be persuaded to introduce a fully funded pension plan instead?
I doubt it. In 1951 Canada had a serious problem: elderly folks without the wherewithal to live a decent life. Introducing a fully funded pension plan might make a difference some time in the future, but would have no immediate impact on the hardship people were facing right then and there.
O.k., suppose it was possible to go back to 1941? War time. 1931? Great depression. 1921? Would that work?
An 80-year old widow in 1951 would have been 50 in 1921. Imagine that with our policy tardis we could go back to 1921 and persuade the Canadian government to set up a fully funded pension plan, along the lines of the Canada/Quebec Pension Plan. Employees and employers would jointly contribute 10 percent of the employee's earnings to the plan. The contributions would be placed in a government-administered fund, and invested in Canadian and international stock markets, government bonds, and real estate. The plan would pay benefits equal to 1 percent of inflation-adjusted pre-retirement earnings for each year of contributions. So, for example, a person who contributed for 20 years would enjoy a pension of 20 percent of pre-retirement earnings.
Would such a plan have been financially viable? It would have taken a huge hit in the 1929 stock market crash, and would have seen poor returns throughout the 1930s, but perhaps it might have worked - it would be helped by the fact that not many people would live long enough to collect benefits.
Would it have been enough to allow our hypothetical widow to escape poverty?
In 1919, Statistics Canada estimated that the weekly cost of a family budget of staple food, fuel, lighting and rent was $23. Over half of the wage earning population was, at that time, earning under $20 per week - and not everyone earned a wage, 38 percent of the Canadian male labour force was employed in agriculture. Would four 1921 dollars a week - that's 20 percent of a somewhat above average wage - be enough to live on in 1951? Perhaps - but there would still be people who survived poverty and unemployment to live to a grand old age.
To relieve poverty among the elderly, any pension plan, even a fully funded one, must have a redistributive component. Nick Rowe argued in a recent post that the best way to design a pension plan is on a cohort by cohort basis. Each generation has its own, fully funded plan, one that guarantees an adequate standard of living in retirement for everyone, redistributing from the rich to the poor in each generation.
Imagine that Nick Rowe was the policy doctor, travelling back in time to persuade the politicians of 1921 to set up a fully funded, redistributive pension plan, one that would solve the problems of elderly poverty in the future. Heck, we could send him back to 1901 or 1881. Whatever it takes. He could give Arthur Meighen or Mackenzie King the ECON 1000 treatment, and convince them that a fully funded pension plan was the only way to go.
But would the general public ever have voted for such a plan? Would it ever have been politically viable? Not before 1918, as women didn't have the right to vote, and women would benefit disproportionately from a redistributive pension plan.
In 1921? I find it hard to imagine that such a plan would pass. The contributions required would be unacceptable to many. Remember that an average wage was less than $20 per week, and a family's living costs were $23 per week. (Then, as now, a typical family needed more than one wage earner to have a decent standard of living.) Contributing 5 or 10 percent of earnings to a pension plan could cause some people real hardship.
The redistributive component would also be unacceptable because of the identifiable victim phenomenon. Here's an old quote from Schelling:
“There is a distinction between an individual life and a statistical life. Let a 6-year-old girl with brown hair need thousands of dollars for an operation that will prolong her life until Christmas, and the post office will be swamped with nickels and dimes to save her. But let it be reported that without a sales tax the hospital facilities of Massachusetts will deteriorate and cause a barely perceptible increase in preventable deaths—not many will drop a tear or reach for their checkbooks.”
People are willing to relieve the actual poverty of friends and neighbours. But I doubt they would be willing to up their pension plan contributions in anticipation of the suffering of some unknown person decades from now.
I suspect our ancestors would also perceive and decry the moral hazard and incentives for dependence created by a redistributive fully funded pension plan.
If a fully funded plan wasn't acceptable to voters then, what grounds is there to believe that a fully funded plan would be acceptable to voters now? And if it isn't, why do we keep on going on about it?