Tuesday, June 29, 2010


A reader, Andi, is concerned about the value CPP gives for the money contributed. Andi sent a detailed analysis comparing RRSPs to CPP that can be summarized as follows:
If I could take all the CPP payments I’ve made and will make and instead invest them in my RRSP, the investment returns in the RRSP would make me far more money than I’ll ever get from CPP benefits.
Assuming Andi is one of the few who has the discipline to stick with a reasonable portfolio through thick and thin, the conclusion that the RRSP approach would beat CPP is very likely true. The problem for government is that the majority of investors will make an anaemic return on their money due to paying huge fees on mutual funds, failed market timing attempts, and so on.

Even worse, many people would simply dip into their RRSPs either out of true need or simply a desire for more consumption. Eliminating CPP would leave governments with a big problem. We can’t have huge numbers of older citizens no longer able to work lying around in the streets starving. So, the government would not have any CPP income and would still have to bail out some fraction of retirees with some sort of minimal payments.

The next suggestion is to allow people to opt out of CPP. The problem here is that it won’t be just those who can manage their money well who will opt out; many of those who opt out will end up needing help in old age. The opt-out strategy wouldn’t solve the government’s problem at all.

Some commentators suggest that people should take personal responsibility and accept the consequences of their actions. This sounds good until you think of the reality of an explosion of elderly beggars clogging our streets.

It is doubtful that CPP will ever be scrapped or made optional unless it is replaced with some other similar mandatory scheme. If anything, CPP is likely to expand over time.


  1. Beggars on the streets? What about soylent green?

  2. @Potato: I'm afraid there would be too much soylent green. The number of seniors who depend on CPP payments to keep a roof over their heads is high.

  3. I've done these types of calculations. The older you are, the better you made out or will make out on CPP since employee CPP contributions have gone up from 1.8% in the 60's to 4.95% today. It's still not too bad a deal if you're on the younger side. Think of future CPP benefits as income from a fictitous bond portfolio.

    The problem for younger workers is CPP was initially set up in the 60's as a 'pay as you go' system. It turns out this system doesn't work well under current demographic trends, where a shrinking number of younger workers will be paying the benefits for a growing number of retirees.

    So now we have a steady state system where current worker's CPP payments should stay at 4.95%, but are higher than they would have been if the CPP was initially set up as a fully funded system.

    The good news is if the CPP is expanded, the government is talking about fully funding the expanded portion of the CPP. I don't mind that since it seems fair and should mean a lower CPP payment-to-benefit ratio than the current steady state system.

  4. Prior to considering to do the math on funding my retirement via CPP vs via other investment venues, I realized that state takes an obligation to pay CPP through all retirement. To be on the safe side (and state has to be) state must
    - assume long retirement life
    - take low risk (therefore, low return)
    - support expensive public overhead

    As an individual investor I am more flexible. With reasonable portfolio I am likely to bit the state on returns and definitely avoid the overhead.

    With this in mind I figured that no math analysis is required to make me believe that making additional contributions to CPP brings less financial advantages compared to other reasonable (!) regular (!) investments.

  5. @AnatoliN: It's certainly possible for an investor to create a portfolio that takes on more risk than CPP and has lower costs. However, CPP definitely has an edge when it comes to longevity. By spreading risk over millions of people, CPP administrators know with high precision how many people will have to be paid at various ages. An individual has far more uncertainty. Another thing to consider is that most Canadian investors pay costs associated with their portfolios that are higher than CPP's costs. But it is possible to create an index portfolio that is cheaper than CPP.

  6. Indeed longevity is a possible flaw in my reasoning. I live a healthy active life and expect to live long, while many other people choose or have to do differently. As you said, CPP knows exactly the proportion and has mechanisms to adjust contribution levels if necessary. My answer to this: if I under-use my CPP allowance, it's lost; if I die with a remaining portfolio, my children will use it.

    And indeed I am strong believer in index funds. Actually believer is a wrong word, since here I did the math and research into other people's experience.