Why is Ontario's Government Being So Mean to Its Teachers?

Being in Toronto for the Rimini Conference in Economics and Finance 2012 and standing in the shadow of Queen’s Park has led me to contemplate why the Ontario government  is suddenly being so mean to its teachers.  After years of Dalton McGuinty as the education premier with an expansion of education funding and programs, the government does seem to have become rather uncharacteristically harsh-imposing new contracts to prevent wages increases.

Over the years, class sizes have been reduced and all-day Kindergarten introduced along with funds to ensure labour peace and stability.  As the Drummond Report documents:

 

Provincial spending on elementary and secondary education has grown significantly over the past decade despite declining student enrolment. Since 2002–03, student enrolment has declined from 1,997,000 to 1,877,000, a decrease of 6.0 per cent, or 0.7 per cent per year on average. Despite this decline of 120,000 students, there are about 24,000 more teachers and non-teaching staff in Ontario’s publicly funded schools. If teaching and non-teaching staff had declined since 2002–03 proportionally to the decline in enrolment, there would have been 35,000 fewer teaching and non-teaching staff in Ontario’s schools in 2010–11. The combination of increased funding and declining enrolment has led to a 56 per cent increase in per-pupil funding from $7,201 in 2002–03 to $11,207 in 2011–12. (Drummond, Commission on the Reform of Ontario’s Public Services, p. 204).

 

So, why the uncharacteristic shift after years of increase?  Well, two possible reasons come to mind.  It could be that the Ontario government has finally had a fiscal epiphany and realized that provincial spending was indeed unsustainable in the wake of the revenue slowdown brought about by the recession and a 15 billion dollar deficit.  The Ontario provincial government is now atoning for its previous fiscal sins. The pursuit of the recommended expenditure growth targets of the Drummond Report in the areas of health and education in particular are certainly evidence of this.  On the other hand, spending still seems to be somewhat erratic when one considers the recent situation at the province’s air ambulance service – ORNGE – as well as the recent news that 98 percent of provincial civil service managers got their bonuses this year or the ongoing saga of the cancelled power plants and the spending that entailed.  Given the story about bonuses, it does seem odd that the provincial government has yet to fully rein in the civil service envelope while opening up fronts with the teachers and the doctors.

The other reason driving the government’s behavior is likely to be political theater.  After all, it does seem that in the world that we live in, politics trumps economics and Ontario has a minority government.   Ontario is having two provincial by-elections to be decided on September 6th  - one in Vaughn (Toronto area) and the other in Kitchener-Waterloo.  If both ridings go Liberal, then the McGuinty government will have its coveted majority. 

The Vaughn riding was held by liberal stalwart Greg Sorbara and is very likely to go Liberal again.  The Kitchener-Waterloo riding was Conservative and held by Elizabeth Witmer, who resigned when she accepted a provincial government appointment to the Ontario Workplace Safety and Insurance Board.    There may indeed be a calculated strategy underway here. To win Kitchener-Waterloo, the Ontario Liberals are wooing the Conservative vote in Kitchener-Waterloo with a demonstration that they are indeed fiscally prudent and responsible.  What they may be saying is as follows: Vote Conservative or NDP and the minority government will continue with all the fiscal uncertainty that it entails.  Vote Liberal and give us a majority and we will indeed be fiscally responsible, as we have been showing you with our hard line with the teachers.  We can be trusted to discipline the teachers.  Look, we are going to legislate them back to work just like a Conservative government would do!

In many respects, this is really a mini-provincial election on the future direction of Ontario’s fiscal strategy and one can expect all three parties to make a major effort.  What happens once September 6^th arrives?   If the Ontario Liberal government gets its majority, the teachers will be back at work and despite the bad feeling, there will be three years in which the government will eventually be able to kiss and make up.  In the interim, the provincial finances will hopefully have improved enough to patch things up in a financially meaningful way.  If the government does not get its majority, then there will likely be a continuation of the hard line not only with teachers but across the broader public service in order for the government to stake out its position as a prudent fiscal manager in time for an election likely by the spring.  In politics as in financial crises, there is never really an end, only a regrouping towards the next election (or financial crisis).

Comments

[Bob Smith]

I'm not sure I'd chalk it up to a calculated strategy relating to the by-election - if that were the game they'd either try to keep the teachers negotiating until AFTER the by-elections, or else they would have called the Kitchener-Waterloo by-election this summer, rather than wait until after school starts in September (the Sorbara resignation was only announced recently, but I have a hard time believing that McGuinty didn't know it was coming and couldn't have sped it up if he'd wanted to hold that by-election this summer too). The last thing you want is to be heading into a couple of by-elections which the combined resources of the various teacher's union's being dumped on you (and some of their ads are quite entertaining - the Tories must be glad not to be the target for a change).

I think the real reason for the change in tone is that the Liberals are seriously pissed at the teachers. McGuinty and crew genuinely believed that the teachers were their "partners in education" (and I note Laurel Broten is still using that language) and that their "partners" would accede to the Liberal's (quite reasonable, under the circumstances, maybe even too reasonable) proposals in light of the money that the Liberals had thrown at them over the last 9 years. Instead, the teacher's took one look at what was on offer and told McGuinty and crew that they were having none of it and stormed out of the negotiations. The Liberals thought that they had bought goodwill, but all they got was "what have you done for us lately". That they believed that is a fascinating comment on their surprising unfamiliary with the histories of governments counting on the goodwill of their union allies (see Rae, Bob).

As for why they're going after teachers (and doctors), well, why did Willie Sutton rob banks? Because that's where the money is. Bonuses in the civil service/ORange/cancelled power plans/ehealth/etc are politically sensitive, but they don't amount to a hill of beans when you're looking at a $15 billion deficit. But teachers salaries (and health and education spending generally), that's a different story. Even nibbling on the edges there translates into some serious money PDQ. Plus teachers tend to have a fair bit of leverage over the government (namely because teacher's can hold their student's school year hostage). If there's a union you want to break "pour encourager les autres" it's the teachers. If the "education premier" is willing to impose a contract on his "partners in education" that's going to send a powerful message to OPSEU, nurses, or university professors heading into the next round of contract negotiations.

PLus, judging by the massive glut of would-be teachers looking to work in Ontario, it may be that we're paying our teachers too much anyhow.

[Livio Di Matteo]

Those are very good points Bob. If the actions are strongly motivated by "being pissed" at the teachers that is quite unfortunate as once personalities and emotions get into policy and decision making it tends to further complicate things. I suppose hell hath no fury like an education premier scorned by partners in education.

[whitfit]

Bob Smith says:

"PLus, judging by the massive glut of would-be teachers looking to work in Ontario, it may be that we're paying our teachers too much anyhow."

I think this is an important point. Why is the focus of the conversation about the politics, rather than the economics. Ok, I know it is because it is the politics that matters to most people, but this is part of the reason that the government doesn't work as well as it could. The real issues should be what quality we want at what price? Not the fairness, political debts from an interest group to the government etc...

From the perspective of what we should be paying teachers and other public servants, at least from a supply side, there are several factors here. One is the pay required to induce people to work in an industry. I do think that pay will affect quality of the pool (you may always have enough applicants, but how good are they?).

Another factor is effort - does the pay induce extra effort? This is especially important for the manager bonus pay being discussed recently.

A third issue is alternative private sector employment. Teachers have few options, and so do a lot of people who are highly trained to deliver public services. These people might have few options no matter what the pay is (to a point where it makes sense for them to go retool), but others, such as commercial lawyers working for the government, might have other options. This also goes back to quality - in short run the good people won't leave, but the pool of new entrants might be of lower quality.

I don't know what the market for teachers is like except to observe that there are more job seekers than jobs, so there Bob Smith's observation about a glut may be correct. However, in other government sectors I have had some experience, and I do think that there is something that gets missed in all of the discussions. That is low skilled government employees are better compensated than their private sector counterparts, while high skilled government workers are usually underpaid. The public sector seems to compress the wage range, which might be a good thing from a social perspective, but compared to private sector counterparts might be frustrating to high skilled workers who are then accused by the pubic of being "fat cats". If those workers (including some of the managers who are being targeted for their pay for performance) are cut back, it seems to me that effort and quality could decrease. Whether that makes sense goes back to the question of quality of services vs. cost, which I think is the appropriate political question, not how to design individual pay packages.

[Determinant]

Ontario's teacher bargaining system is dysfunctional. Student funding is set at the provincial level now. I can't see why we maintain the facade of school boards when they have no real bargaining power.

Much as I think unions are important, nothing can continue forever and OSSTF (the public high school teacher's union) is particularly militant. Sorry people, we don't have that much money.

Second, a strong divide has emerged in Canada where public employees generally have pensions (80%) and 80% of those pensions are defined benefit. Only 20% of workers in the private sector have DB pensions. The private sector finds it difficult to value a benefit it generally doesn't have. Calls of "fat cat" generally stem from fears of retirement insecurity.

[whitfit]

"Much as I think unions are important, nothing can continue forever and OSSTF (the public high school teacher's union) is particularly militant. Sorry people, we don't have that much money.

Second, a strong divide has emerged in Canada where public employees generally have pensions (80%) and 80% of those pensions are defined benefit. Only 20% of workers in the private sector have DB pensions. The private sector finds it difficult to value a benefit it generally doesn't have. Calls of "fat cat" generally stem from fears of retirement insecurity."

I think this still touches primarily on the politics of the implementation and not the economics of the implementation, instead of the politics of the larger choices. "We don't have that much money" - but, in my sector and amongst my private sector peers they seem to have that much money. So, from a political perspective, it seems the public doesn't want to pay for as much in terms of services, preferring lower taxes and more private consumption (or just higher house prices) vs. high quality public services. That will mean lower levels of services. That might be through fewer employees, or lower wages leading to lower employee quality. There isn't a free lunch here (speaking specifically of wages, as compared to ORNGE or E-Health or power plants), especially in the long run.

On pensions, I figure the employee portion of the pension plan that I am a member of is worth about 10% of salary a year, based on the performance of the plan and the expected payout. My salary is about 30% less than what it was in the private sector. So, for the 20% difference, I find that the other benefits (more predictable schedule, doing interesting work, security of pension) is worth that difference. If the pension was done away with and I got paid about 10% more, plus maybe a 2% risk premium, I would be indifferent. However, it seems to me that an organization like the Ontario gov't might be happy to pay a little less for taking on some more risk, as it is large and has a longer time horizon. I agree that the resentment stems from fears of retirement insecurity, but the voters who take that position are also not paying attention to the cost of taking that away, either in salary increases or quality decreases.

I do not like the phrase "nothing can continue forever". Lots of things do. The question really should be whether a particular position makes sense in its context.

[Bob Smith]

"That will mean lower levels of services. That might be through fewer employees, or lower wages leading to lower employee quality."

That's an assumption. It may even be a reasonable assumption in many cases, but I don't think we should take it as given in every case, especially not in the public sector where "quality" is often opaque, and wages are often not linked to quality.

Let's use teachers, do we know that teacher quality will fall if teacher compensation drops? Maybe the people who are good teachers are the ones who enjoy teaching, they're likely to be the ones who are least responsive to changes in wages (which explains why US charter or parochial schools can often attract greater teachers while paying lower wages - although that's also due to greater institutional flexibility that allows those great teachers to do their own thing), while the guys who are just doing it for the money would be the first to go? Maybe Ontario pays well above the outside option in the job market for teachers (seeing as how local governments in the US are slashing budgets). Maybe the optimal wage rate last year, isn't the optimal wage rate this year.

How well does compensation relate to quality of work? As you noted in your last post, governments generally pay their people at the bottom of the pay scale more relative to the private sector and they pay the people at the top of the pay scale less relative to the private sector (and, given my experiences with people at the top of the pay scale in Ottawa, I have no trouble believing that). Is this because, say, secretaries in the public service are better than their counterparts in the private sectors (my friend at the Department of Justice who has worked in both would have a good laugh at that suggestion, since he's forever lamenting the uselessness of his secretarial assistance). Or is it because we're just overpaying without regard to quality? If we paid secretaries less (but still more than the private sector), would everyone jump ship? Hard to believe.

And of course, we have to be careful of distinguishing between quality of inputs (teacher quality) and quality of outputs (children's learning). I think we really care about the latter. I've always been mystified by the practice in many school boards of paying a premium for teacher's who have a Master's degree. Sure, that's a better "quality" teacher, in one sense, but how well does that "quality" correlate with the quality that you and I actually care about, i.e. classroom teaching? (I've previously ranted about the overcredentialism of the modern teaching profession, which I think drives up costs with no obvious increase in quality). Or what if we paid teachers less, but used the savings to hired more teachers? We might get lower quality teachers on average (but would it be a material difference?), but that might be offset by the benefits of smaller class sizes. Heck, if there's a glut of would-be teachers, such a strategy might increase teacher quality (since you could use your savings to cherry pick the good young teachers in the job market, increasing the average quality of your teachers).

I'm not saying you're wrong, you might generally be right, but I think we have to question the assumption that lower pubic sector wages will lead to lower quality public services, because it's unlikely to be universally true.

[Patrick]

IIRC, the last time the AB Gov't ran into trouble with teachers, the teachers out-flanked them by taking wages off the table and stuck to things like class size. Didn't leave much for the Gov't to play hardball with. But my memory for this sort of thing is not good so don't quote me on that.

[whitfit]

Bob Smith says: "How well does compensation relate to quality of work? As you noted in your last post, governments generally pay their people at the bottom of the pay scale more relative to the private sector and they pay the people at the top of the pay scale less relative to the private sector (and, given my experiences with people at the top of the pay scale in Ottawa, I have no trouble believing that)... ...Or is it because we're just overpaying without regard to quality? If we paid secretaries less (but still more than the private sector), would everyone jump ship? Hard to believe."

and: "I'm not saying you're wrong, you might generally be right, but I think we have to question the assumption that lower pubic sector wages will lead to lower quality public services, because it's unlikely to be universally true."

I agree with all of this. The problem is that the approaches that are discussed by politicians and news media don't consider any of the complexity in all of this. The answer is that public sector wages should be frozen/cut without reference to where doing so can be done without a loss in quality. The Drummond report was pretty good on this stuff - it suggested evaluating the various sectors and making reforms based on evidence, not across the board cuts or hiring freezes.

[Bob Smith]

"The answer is that public sector wages should be frozen/cut without reference to where doing so can be done without a loss in quality."

In fairness, that partly reflects the political reality of austerity. The optics of, say, paying a bonus to management (which may well be well merited) while freezing salaries of secretaries is a problem. More so if the wage freeze has to be negotiated with the union (who will point to the bonus paid to management and say "you've got money for them, why not us").

Also, we should make a distinction between temporary wage freezes/cuts and long-term freezes/cuts. Saying "we're going to freeze your salaries for the next two years" is likely to have a very different long-term impact than saying we're making a permanent cut in salaries/employment (I suspect Drummond had in mind the latter). This is particularly true where in the context of a generalized downturn (say, in 2009 or 2010, when everyone - except Ontario's public servants - was getting their wages frozen, if they were lucky), where the outside options are limited.

[Determinant]

whitfit:

Your pension example is flawed. The actual compensation you received is the total defined benefit, which includes the employer contribution (50% of total contribution, 15% of salary, AIUI) and most importantly the guarantee against default that an Ontario public sector pension has.

The problem is that the private sector cannot or refuses to match that default protection. It can be done, in a way, if a private sector pension is underwritten by a group annuity from a life insurer, but pensions managers think this is an expensive choice.

[Shangwen]

Despite this decline of 120,000 students, there are about 24,000 more teachers and non-teaching staff in Ontario’s publicly funded schools. [This] has led to a 56 per cent increase in per-pupil funding.

Riffing off Bob, was there a 56% increase in grades? knowledge? test scores? insight? This is not just cost disease. Even health care cannot match this kind of bloat. I sympathize with whitfit's argument that outcomes should be better evaluated (not that the ed biz has a great record on complying with that), but a turf war is not a good time to implement that kind of system.

[Determinant]

Class sizes, dear Shangwen. The Liberals capped elementary school class sizes and had to hire extra teachers for schools over the cap.

[Bob Smith]

Right, but that's a measure of inputs, i.e. Student/teacher ratio, not quality per se.

Even if we accept that smaller classes may result in better outcomes (and while i don't know, i suspect there is competing research), in some cases, Shangwen's right to ask if that increase in quality (if quality did in fact increase) is worth the vast increase in spending required to achieve it or whether it could have been achieved through cheaper means.

[Determinant]

It was a political promise driven by a candidate trying to get elected, not the teaching profession per se. Whether it's worth it or not is anyone's guess. It made many parents feel good, though.

[whitfit]

The question I have is why we are discussing how to make these decisions (class sizes, compensation schemes) at the level of electoral politics. These should be decisions made by experts who have the freedom to experiment and measure outcomes and move towards better and more efficient delivery mechanisms. I will vote for the politician that tells me they don't know how to do everything, but that they will hire people that are good at program delivery and pay them based on results! Though judging from the recent outcry over bonuses to gov't managers that won't be popular either.

Determinant: I think that for the pension plan that people in my job (though not me personally) would join is a DB plan with about 7.5% of salary contributed, and a 50-50 employee-employer contribution, so AIUI it is 15% total, meaning that the employer only pays 7.5% directly (but isn't it better to think of remuneration as a package? It seems to me that from an economic perspective the amount that is attributed to the employer and the amount attributed to the employee is a fiction - it is all part of a compensation package). That means that the employer is paying 7.5% on top of the headline salary for the pension plan. They also take on some risk, but that should be quantifiable. For the plan I mention, it doesn't seem to be in distress right now, and we are coming off a bad market cycle, so the risk seems at least manageable. Like I said, I think a fair salary compensation to compensate for removing that plan is about 12% more in salary (or at least where I would be indifferent), and if the government wanted to move that way, I think on average it would be more expensive for the government, but it would remove the jealousy that people have about others having a DB plan. Of course, for the people who work in public sector jobs in which they get paid more than their private sector counterparts AND get a DB plan, some of that jealousy may be warranted.

[Bob Smith]

"The question I have is why we are discussing how to make these decisions (class sizes, compensation schemes) at the level of electoral politics."

Welcome to democracy! At the end of the day, the debate really isn't about class size or compensation schemes (I suspect the average voter neither knows, nor cares, how much teachers make). Those are just proxies (allegedly) for quality and cost. So long as education is provided by the government, those are political issues. (We could, of course, consider moving to a voucher system, where delivery mechanisms would be determined by educators, and parents could pick and choose amongst themselves - at least in theory, I'm not under any illusion that the devil is in the details.)

"I will vote for the politician that tells me they don't know how to do everything, but that they will hire people that are good at program delivery and pay them based on results!"

Well, have you ever heard a politician tell you he's hiring people who are bad at program delivery? (If so, I hope you voted for him, at least he was telling the truth.) Moreover, part of the problem with government is that "results" are often somewhat difficult to measure (and liable to be gamed by the people who know more about the education, health care, what have you, then the politicians). Plus, some of the players aren't keen on results-based compensation (try talking merit pay with the teacher's union) probably for reasons that are both good (they don't want to take on compensation risk, say, or "results" are opaque or poorly corelated with effort) and bad (genuine incompetence and sloth).

[Determinant]

What Bob said.

whitfit on DB pensions:

"They also take on some risk, but that should be quantifiable".

That is the biggest problem statement in the pensions industry of the last generation. In so many cases it is not true. First, it is very hard to get extra money for DB guarantees from a stressed or insolvent company. Second, DB guarantees are unsecured debt and don't fare well in bankruptcy.

In a DB plan, the sponsor makes continuing payments and takes on the obligation to make extra payments if the pension is in deficit. That is what frightens management off DB plans in the private sector.

[whitfit]

Determinant: I agree that it is one of the biggest problems in the pensions industry - the fact is that many plans have been underfunded, and they also have no protection against shortfalls, either through some kind of financial instrument or ability to self insure. I was thinking, in the context of this discussion, about the public sector. For the public sector, at least for an entity the size of Ontario, it should at least be conceivable that they can self insure. The cost of doing so should be quantifiable, at least on an actuarial basis, by looking at the price of financial instruments that would provide the relevant protections. Now whether this is what is done in practice is a completely different question. I also recognize that ex-post the cost of self insuring may be much greater than the ex-ante cost based on an insurance model. But that is a financial risk the Province has the capacity to take on, if it wants.

As an aside, on the topic of pensions in bankruptcy see the outcome in the Indalex decision at the Ontario Court of Appeal. The SCC is considering it, so there will be more to the story.

[Determinant]

"Self Insurance" in the meaning of a DB pension plan is an oxymoron. A DB pension is a life annuity and is itself insurance. "Underfunding" cannot be extricated from the related problem of lack of returns on pension plans. Everyone is guilty of too-high expectations. The pension fund itself is supposed to guarantee payment, that's why it exists.

Indalex is interesting, but it only applies to the Companies Creditor's Arrangement Act, i.e. a restructuring. The Bankruptcy and Insolvency Act overrides provincial legislation, AIUI and it's a different Act.

The only "insurance" available for DB pensions are group life annuities. In fact the smaller you are as a company the easier it is to purchase these policies. It is a capacity-limited market. But the pensions industry sees the extra premiums for group life annuities as an expensive choice over traditional DB provision. My position is that the group life annuity premium reflects the greater security provided with the product and the lower costs of single-company pensions reflect the greater risk of default. Call me a heretic, but single-company DB pensions should not be allowed to exist without being underwritten by life insurance companies through a group annuity contract.

In the end, the public wants public servants and the private sector to have relatively equal employment terms and pensions are a point of differentiation seen by many to be a bit too much.

[Bob Smith]

Indalex is interesting, although as Determinant points out it really only deals with CCAA proceedings If the company is forced into bankruptcy, the pensioners still stand behind the secured creditors. If it is uphelp, that would be quite unfortunate, as the CCAA is a much more flexible regime for dealing with insolvent companies, but creditors might abandon it in favour of bankruptcy proceedings. I expect it'll be overturned (but what do I know, I'm not a bankruptcy lawyer).

From a policy perspective, the OCA's decision should be repealed (though, understandably, pensioners don't see it that way). The unions who negotiated the pension plans, didn't negotiate pension plans that secure from bankruptcy or CCAA proceedings against the company.

They could have. They could have insisted, as Determinant points out, that the company buy a group annuity contract. Mind you, that would have been a lot more expensive than a company backed plan, which cost would have been reflected in either lower benefits under the pension plan, or lower compensation and other benefits. They could have insisted on a covenant that the company not enter into loan agreements taking priority over their claims. But, again, that would be expensive to the company (if not unworkable) which would be reflected in wages and other benefits.

Simply put, pensioners didn't pay for priority in bankruptcy/CCAA proceedings, secured creditors did (though lower interest rates).

As to Determinant's last point, part of the difficulty in assessing public sector compensation is the price/value of risk. A public DB pension plan is more valuable than an otherwise identical private DB pension because of the smaller (though not zero - see Greece) risk of default.

[Rick B]

The private sector DB pension plan is riskier, and thus more rare, most recently because it was hunted down and killed by private sector lobby groups.

In the 80's the government allowed companies to use favorable valuations to count actuarial surpluses in the pension account as assets and take contribution holidays. These companies then used the extra profits to pay dividends to shareholders, increase share prices and take bonuses, or frequently as leverage to secure loans. Recessions hit. Recession era valuations turned actuarial surpluses into deficits, but nobody asked the shareholders or managers for the money back to make the pensions whole, the financial services lobby instead successfully pressured the legal system to count pensioners as unsecured creditors (when clearly they should fall under deferred wages and take priority). Now the banks official line is that they won't even issue DIP loans to under water companies if they have DB pension plans on the books, just in case the court system starts to function properly someday, and they have gotten that message out in force to corporations.

The public sector is not a business, it doesn't (and shouldn't) sell products or pay dividends to shareholders. The problem is conservative minded people think that it should. Tax cuts are being treated as dividend payments. The private sector is failing to produce the implicitly guaranteed high returns on investment enjoyed during the bubble years, and rather than make investments that carry some risk they are trying to extract whatever they can from the public sector. The same tactics are being employed; breaching implicit contracts and distribute windfalls to capital holders (public pensions are an attractive target).

The Ontario Public service compensation package isn't perfect, but the problem isn't simply bloated salaries and benefits. There hasn't been enough education out there (in that sense teachers are partly to blame) on why there has grown this stark contrast in private and public sector benefit plans. We need a return to the way things used to be, not where they are going in the future.

I hate arriving to posts late though :(

[Bob Smith]

"the financial services lobby instead successfully pressured the legal system to count pensioners as unsecured creditors (when clearly they should fall under deferred wages and take priority)"

Rick, employees are unsecured creditors. Always have been, so spare us the "financial services lobby" nonsense. The only reason employees are given SOME (very limited) superpriority interests for wages earned in the 6 months prior to bankruptcy (but only the 6 months prior to bankruptcy), but that is a result of explicit legislation overriding the interests of secured creditors.

"Now the banks official line is that they won't even issue DIP loans to under water companies if they have DB pension plans on the books, just in case the court system starts to function properly someday, and they have gotten that message out in force to corporations."

If the Indalex decision is upheld, why would the banks provide DIP loans to under-water companies. Would you lend money to someone knowing there's a good change you won't get it back? Pre-Indalex, DIP funding was only available at a reasonable cost to the borrower precisely becaust the banks know they'll get their money back even if things don't work out. Give pensioners a superpriority interest and that certainty disappears, becuase if things go sour, the bank's money may end up in the pension plan. Banks aren't in the business of giving money to insolvent pension plans (and no reasonable person expects them to be).

The Indalex decision is great for the Indalex pensioners (who get to keep the lenders money) it's terrible for employees and pensioners at other insolvent companies as it makes it very difficult (if not impossible) for those companies to get funding to turn themselves around. I believe that's an example of unintended consequences.

[Bob Smith]

And Rick, let me tell you how "conservative minded people" view government. First, governments do sell "products". Schools, justice, roads, social assistance are all "products" sold by the government. The "price" we pay for those services are taxes. Second, no "conservative minded person" sees tax cuts as a "dividend" (really, where do people come up with these things?). This should be obvious, for conservatives tax cuts involve returning money to the people who earned it in the first place. Tax cuts aren't a "dividend" they're a price reduction for public goods.

So when "conservative minded people" say that the public sector should be run like a business, they're not thinking that it should pay dividends, they think it should try to provide consumers (i.e., citizens) with the optimal combination of services/quality/price (this is, admitedly, a somewhat idealized view of how many businesses are run, but not an unreasonable ideal for how government should be run). And while the "business" language might be a "conservative minded" one, I would hope the objective isn't unique to conservatives (although lefties and conservatives probably disagree as to what the optimal combination of services/quality/price are).

"The Ontario Public service compensation package isn't perfect, but the problem isn't simply bloated salaries and benefits. There hasn't been enough education out there (in that sense teachers are partly to blame) on why there has grown this stark contrast in private and public sector benefit plans."

Well, I can tell you why there "hasn't been enough education out there" about the "stark contrast" between private and public sector benefits. It's pretty easy. Employees in the public sector are given a monopoly on the provision of labour to an employer who has (a) a monopoly on the provision of essential public services and (b) a power to compel its consumers to pay the price it sets (and a soft budget constraint - governments can, and do, run deficits for decades, private sector employers can't). Employees in the private sector don't. It's that simple. Mind you, in the private sector, we generally see monopolies as bad things (they're generally illegal, and the competition bureau does their damndest to prevent that sort of market power from arising in the first instance). Which is probably why public sector unions aren't eager to advertise the source of their higher wages/benefits. People might start asking why we tolerate monopolies in the public sector for the benefit of private parties (i.e., union members). And that opens up a whole can-o-worms.

In any event, no one has ever explained to me why governments should explain above-market wages/compensation to its employees. Surely that money could be put to better uses (feeding the hungry, fixing roads, whatever)? The role of government should be to provide public services, not to provide hefty pay packages to public servants.

[Bob Smith]

"Would you lend money to someone knowing there's a good chanCe you won't get it back" Gotta start proofreading these things.

[Determinant]

the financial services lobby instead successfully pressured the legal system to count pensioners as unsecured creditors (when clearly they should fall under deferred wages and take priority).

This is where you lost me. I am a lefty and a member of the NDP, but defined pension benefits are not, and never were, deferred wages. Put simply, a DB pension is an insurance operation and it is nonsense to expect every company to be good at it. Widget factories have no business in life insurance.

Future pension payments have always been unsecured debt in Canada.

Second, corporations have a lifespan. They can and do die and DB pensions make very poor provision for this.

I reiterate that it would better for all concerned to have DB pension secured by group annuity contracts underwritten by a life insurer. If a life insurer defaults, annuities are protected at 100% up to $60,000/year, and at 85% thereafter. Assuris, the life insurance counterpart to CDIC has much better protections than Ontario's Pension Benefits Guarantee Fund. Further, it is in the interest of surviving insurers for insurance contracts to be honoured. This is a business based on trust and contracts. It has an excellent self-policing feature that way.

Pension funds should be separated 100% from the employer so that bankruptcy isn't devastating to pensions.

[Rick B]

@Determinant, I might agree with you, but that's not how things work, companies, past and present, provided pensions to employees and they hired professional managers to oversee the plans (The managers, however, worked for directly for the company and not the employees, which maybe was the problem). I don't expect everyone to be good at managing a pension plan, investing isn't something that anyone is really "good" at (see 2007), it just gets done. I also don't expect the DB pan to pay out 100%, I just don't want it to be looted.

I realize that companies do have a lifespan, but the pension assets belong to the employees; companies had no business using actuarial surpluses as an ATM, especially not to pay themselves or shareholders. The contribution holiday provision was a joke, a separate account should have been set out such that holiday payments were secured loans made to the company by the pension plans. If the plan gets revalued and it turns out to be deficit, so long as the deficit is equal to or less than the deferred payments due to the contribution holiday, the employees should have priority in a bankruptcy to collect that money back and roll it over into something else (not going to be the same benefit, but at least they aren't wiped out).

Future payments should be unsecured debt I agree, but the pension assets themselves, whatever the value they hold, should be protected, and there should be options available to the bargaining unit on what to do with them.

The Ontario government, OTOH, does not have a lifespan, so insolvency is not really an issue, is it?

Collective bargaining would have gone a lot different if there was no future security being offered. Wages would be higher, and employees would be a lot less loyal to the company...

[Rick B]

@Bob

As far as a lobby Bob, most bankruptcy judges at one point had banks as clients while they were working for firms, that's who paid their bills and helped to secure their appointments (true or false?)... may not be a lobby officially, but the attitudes of the judges are definitely skewed by the banking industry (we all know how balanced bankers and financial services lawyers are when it comes to the capital v. labor argument).

"If the Indalex decision is upheld, why would the banks provide DIP loans to under-water companies. Would you lend money to someone knowing there's a good change you won't get it back? Pre-Indalex, DIP funding was only available at a reasonable cost to the borrower precisely becaust the banks know they'll get their money back even if things don't work out."

It's risk reward. If the company is illiquid and the bank figures that their assets are worth more than their liabilities and they would be profitable in a better economic environment, a loan is warranted and they'll more than likely to get their money back. If the company is insolvent and the banks issue loans to keep "their friends who have been using them to finance their operations"... oops... I mean the "managers" in place in return for security over pension assets I think that's a different story.

[Bob Smith]

"The Ontario government, OTOH, does not have a lifespan, so insolvency is not really an issue, is it?"

Tell that to Greece, Italy, Spain and Portugal. For governments, especially governments that don't print their own currency, insolvency isn't an issue until it is.

"Future payments should be unsecured debt I agree, but the pension assets themselves, whatever the value they hold, should be protected, and there should be options available to the bargaining unit on what to do with them."

Keep in mind that the assets of the pension plan are not assets of the company, so they are protected. Take Nortel, its pension plan was badly underfunded (in part due to market losses after Nortel went under), but its employees/pensioners are entitled to whatever's in there, Nortel's creditors can't get at that. Pensioners are only unsecured creditors vis-a-vis Nortel to the extent of the difference between what's in the pension plan and and what they would otherwise be entitled to.

Also, keep in mind what contribution holidays are, they aren't taking money out of the plan. They're just not putting money into the plan. If the plan is adequately funded, the company shouldn't have to put money into the plan, after all, workers have what they bargained for, a fully funded plan. The trick, of course, is figuring out what an "adequately funded" plan is, which is a nasty judgement call in an era with rising live expectancies and uncertain market returns (and exceedingly low risk-free returns on government bonds). I suppose you could make the plan more secure by forcing companies to keep larger surpluses in their plans. But that's expensive, if they had done that, the plans would have been less generous and/or the companies wouldn't have offered them in the first place.

So almost have it right, collective bargaining would have gone a lot different IF future security was being offered. But it wasn't. It came down to a trade-off, employees took on the risk of being unsecured creditors of the company if it went under while the plan was underwater. They could have mitigated that risk, by requiring the plan to buy an annuity along the lines Determinant mentioned, by requiring the company to carry a hefty surplus in the plan, or by requiring the company to post security for its obligations vis-a-vis the plan. But those strategies come with costs that would have reduced their pension benefits (would Nortel have agreed to fund a plan with a 30-40% surplus, which might have covered its eventual losses? Not likely). Possibly, at the time, no one figure that those were risks worth insuring against (people are like that when it comes to insurance). Like everything in life, there's a risk/reward trade-off. Sometimes, people make the wrong choice.

[Rick B]

Pension holidays use favorable valuations to improve balance sheets... its an accounting technique and it raised share prices, paid bonuses, dividends and sometimes secured loans to invest in the company. It's the bonuses and dividends I have a problem with, because that money wasn't earned by their efforts, the fund earned that money, the fund belongs to the employees, they should've receive the benefit, or instead you could call it insurance against a drop in the market.

[Bob Smith]

"most bankruptcy judges at one point had banks as clients while they were working for firms, that's who paid their bills and helped to secure their appointments (true or false?)..."

You tell me whether it's true or false, you're the one making the assertion.

In actual fact most big law firms (including mine) who do bankruptcy work, do that work for a variety of clients including banks, but also other creditors such as unions, pension plans, etc (because, their money is the same colour as everyone elses, they're often significant creditors of dead-beat companies, and they have an interest in hiring top talen to protect their interests). They also generally do a fair bit of work for the insolvent companies themselves. So, the notion that lawyers at such firms monolithically represent the interests of one subset of their clients is ludicrous. And, of course, the judges who sit on the commercial list in Toronto (not bankruptcy judges), while they generally (but not always) have a commercial background (the commercial list generally deals with sophisticated commercial law matters), it doesn't follow that they practiced as bankruptcy lawyers.

"It's risk reward. If the company is illiquid and the bank figures that their assets are worth more than their liabilities and they would be profitable in a better economic environment, a loan is warranted and they'll more than likely to get their money back."

Wow, what colour is the sky in your world? If you want to talk about the CCAA/BIA process it helps if you know a bit about it. First, companies in CCAA or BIA are insolvent, meaning that their assets are worth less than their liabilities - that's (almost) a requirement to use the CCAA/BIA procedures. As a result of that DIP lenders are, almost by definition, lending to insolvent companies. If they weren't, the borrower wouldn't be in CCAA/BIA.

Second, typically DIP financing is typically provided in cases where the creditors will take a haircut, and know they'll take a haircut. If they weren't taking a haircut, they could probably restructure their loans outside of CCAA proceedings. A "successful" outcome of a CCAA/BIA proceeding usually doesn't involve creditors getting paid back in full. More commonly it involves unsecured creditors taking a bath on their debt claims and taking back equity interest (just ask the UAW, who are significant shareholders of GM and Chrysler) or else selling off the companies assets for 60 cents on the dollar. So, absent a superpriority interest, DIP lenders faces a reasonable prospect (i.e., the most likely outcome) that it's getting back 60 cents on the dollar, possibly in the form of shares. I don't know about you, but I know of no bank that lends money in the face of a real prospect of a 40% write-off, certainly not at any commercially reasonable (or legal) interest rate. So to suggest that DIP lending would exist without the superpriority interest is just fantasy.

Third, it isn't just employees who take a back seat to DIP lenders. Most creditors, including secured creditors, (such as Banks) rank behind the DIP lender. And they rank behind the DIP Lender (typically with the approval of the court) on the theory that the company's assets will be worth more with DIP financing, which allows the company to carry on business in CCAA (possibly to sell it as a going concern), than it would be if they just shut the whole thing down and sold off its assets piecemeal. That theory is often (but not always) correct, since without DIP funding, the company typically can't make payroll, pay taxes, buy inventory, etc. and has to shut down, even if it could have been salvaged with adequate financing.

[Bob Smith]

"the bonuses and dividends I have a problem with, because that money wasn't earned by their efforts, the fund earned that money, the fund belongs to the employees, they should've receive the benefit, or instead you could call it insurance against a drop in the market."

Rick, that's just not accurate.

First, a contribution holiday isn't an accounting technique, it's a real cash savings.

Second, a company can only take a contribution holiday where they've received an actuarial certificate that the plan is adequately funded (the Ontario and federal pension benefit law was recently amended to require that a plan have a 5% surplus before the employer can take a holiday). And they should be able to take a contribution holiday with a surplus plan because, under most defined benefit plans, any surplus belongs to the company NOT the employees. A defined benefit plan reduces the downside risk to employees, but also means they generally don't get the upside. Of course, one could draft a pension plan that provides that the surplus belongs to the employees and preclude a contribution holiday (and the recent amendments contemplate that as well), but that generally hasn't been the case. Had that been the case, the companies would probably have been less generous with their benefits in the first instance.

Is a 5% buffer sufficient? I don't know, but you have to draw a line somewhere, if you tell companies that they have to keep billions of dollars tied up in a pension plan to address the remote risk of a catastrophic collapse in the value of the plan, they'll probably terminate it.

[Rick B]

Bob,
I shouldn't have made a comment about DIP lending without looking into it first, if I could take that one back I would... live and learn I guess, I feel a bit silly for it.

That said, an orderly bankruptcy saves the bank money in losses. Most likely the DIP loans come from banks that have another secured interests in the bankruptcy and therefore they have significant stake in maximizing the value of the assets i.e. preventing a fire sale. The pension deficits should be independent the decision to finance a DIP loan, unless of course the difference between what the bank would get in an orderly bankruptcy and what they'd get in a fire sale doesn't cover the DIP loan, and the entire loan is lost to covering the pension deficit, which is unlikely. For banks it would be nice if they took priority, but it doesn't change the fact that the DIP loan is helping them collect more of their money.

And the definition of a contribution Holiday is semantic. The cash savings you talk about... where do they go? And I think that certificate has nothing to do with how the plan was evaluated, just that it was.

And, I understand the the surpluses belong to the company in practice, I think that they shouldn't. They shouldn't belong to the company because of how the managers of that company benefit from favorable evaluations; it turns out to be a conflict of interest. Bubbles, like the real estate one we just went through, happen. Company managers and shareholders take their benefits immediately, and then when it turns out that the valuations were inflated it turns out that the pensioners are the ones who pay for those benefits that were collected. If the money wasn't extracted... if it was put back into the business or invested, it would be a shared loss, but that's not how it works.

[Determinant]

Rick, DB pension sponsors get the surplus because they are responsible for the deficit. If the plan is in deficit, sponsors, not members, must make additional contributions. Under Ontario law, accrued member benefits cannot be reduced in a class single-employer plan. So the DB model has employer guaranteeing the benefit.

OK. That's a flawed model, IMO. Most companies aren't that creditworthy at the best of times and I don't expect all them be be around until I die. Previous generations, it seems, thought differently, including managers, unions and government. That has turned out be flawed thinking.

Second, The Income Tax Act says that pension contributions to plans with 110% funding aren't deductible. It is designed to discourage income smoothing for corporations using pension plans. Many have criticized this provision but that is the law.

Third, the problem is that a company in distress often at the same time faces poor returns in the market and so has to make extra payments to guarantee accrued benefits just when it can't because it is under business stress.

Unions have a solution to this problem, Specified Multi-Employer Pension Plans. The CAW runs one. The employer is only liable for a cash payment each year and the benefit is a target. If returns don't support the benefit, the benefit is reduced or the employer/employees make higher contributions (depends on negotiations).

New Brunswick just moved all of its provincial employees to this model.

Lastly, there is no such thing as a "Bankruptcy Judge" in Canada. There is no specialized Bankruptcy Court in this country. Bankruptcy cases are heard before the Superior Court of a province, such as the Superior Court of Ontario. In Ontario there is the Commercial List in Toronto which hears business cases, but its remit is much more than bankruptcy. Further, if you don't meet certain criteria to file a case in Toronto, you can't use the Commercial List, you have to use the local Superior Court justice.

I learned about this because I lived in Hamilton when Stelco filed for CCRA restructuring and the CCRA, BIA and the Commercial List were featured daily in the Hamilton Spectator. Accusing a Superior Court justice of favouritism when he has tenure until Age 75, is paid well and will never go back to his old firm is a bit much.

[Rick B]

Maybe that accusation was a bit much, but the judges rely on expert opinion and something called the 2 hats principle for pension managers and administrators, or some nonsense along those lines... something about the process was strongly influenced by banking relationships. It's seems like willful ignorance on behalf of the Judiciary. I read about it a couple of years ago, it really upset me, though it seems I remembered more of the emotion rather than the facts... Just remembering it now makes me angry.

Anyways... the system operates at the detriment of the laborers, and it doesn't have to.

[Bob Smith]

"The pension deficits should be independent the decision to finance a DIP loan, unless of course the difference between what the bank would get in an orderly bankruptcy and what they'd get in a fire sale doesn't cover the DIP loan, and the entire loan is lost to covering the pension deficit, which is unlikely."

Why is that unlikely? The gap between the value of a business as a going concern and the value of its assets is often massive. If the restructuring doesn't work, there may not be any tangible assets left. Moreover, keep in mind, as you noted, the DIP Lenders are often already the secured creditors. If you give pensioners a superpriority interest over DIP lenders, and the restructuring doesn't work, sure, they may get their DIP loan money back, but it'll be paid out of moneys they would otherwise have received as secured creditors. That's not particularly attractive (especially since, to the extent the underlying security has any value, the secured lenders can always push the company into bankruptcy, enforce their security and to hell with everyone else - which is what secured lenders are threatening to do after Indalex).

[Bob Smith]

The 2-hat principal refers to the ability of an employer to also act as a plan administrator (i.e., to wear two hats, on in its capacity as employer, who pays for the plan, one in its capacity as administrator to adminster the plan). It's a tricky practice, because of the real conflict of interest of those different capacities (as employer it wants to maximize returns to minize its contributions, as administrator it has an obligation to administer the plan in the best interests of pensioners) and it opens up the Company to liability (part of the reasoning in the Indalex case was that the Company was the administrator of the pension plan, and was in violation of its fiduciary duties - if that case is upheld by the SCC, I suspect it will be limited to that fact pattern). It's also a negotiated practice, and as Determinant noted, one that's changing.

Oslers has a decent case comment discussing some post-Indalex cases dealing with these issues: http://www.pensionsbenefitslaw.com/2012/02/articles/canada-pensions-benefits-law/timminco-limited-ccaa-court-considers-fiduciary-obligations-post-indalex/

[Bob Smith]

"Unions have a solution to this problem, Specified Multi-Employer Pension Plans. The CAW runs one. The employer is only liable for a cash payment each year and the benefit is a target. If returns don't support the benefit, the benefit is reduced or the employer/employees make higher contributions (depends on negotiations)."

That's the way of the future. We see something similar in the US, with the UAW taking the administration of the health and benefit trustsfor their members. Essentially, the Big 3 took a ton of cash (and securities) and dumped it into trusts to finance the future health and benefit costs of its workers and retireers. It got that risk off of their books, while workers get a degree of financial independence down the road (i.e., their health benefits aren't totally dependant on GM's solvency).