The Decibel - How inflation is messing with benefits and pensions

Episode Date: August 26, 2024

We often think about how food prices and income struggle to keep up with inflation, but what about things like pensions and benefits? Are they keeping pace with inflation? The Globe’s Erica Alini and Matt Lundy crunched the numbers, and found that pensions and benefits often aren’t stretching as far as they used to – and it has to do with something called indexation.Today, personal finance reporter Erica Alini joins us to explain inflation indexing, where we’re seeing it and where we’re not, and what impact that’s having on your finances.Questions? Comments? Ideas? Email us at [e-mail]

We often hear that money just doesn't go as far as it used to. We tend to think about wages and food prices and how they are or aren't keeping up with inflation. But what about things like pensions and benefits? Turns out, it all comes down to something called indexation. The Globe's personal finance reporter, Erica Alini, along with economics reporter, Matt Lundy, crunched the numbers on this. Today, Erica joins us to explain where we're seeing indexation, where we're not, and the impact it's having on your finances. I'm Maina Karaman-Wilms, and this is The Decibel from The Globe and Mail.

Erika, thanks so much for being back on the podcast. Thanks so much for having me. Let's just start really basic here. What is indexation? What does it mean when we say that? So indexation means pegging the value of something to inflation. So let's say you have $100 and inflation goes up by 5% in a certain year. So if that $100, say, is a government benefit that is fully indexed to inflation, at the end of the year and beginning the next year, it will become $105. It ensures that with that benefit, you continue to be able to buy the same amount of stuff. This gets back to the idea of like purchasing power then? Absolutely. Indexation, full indexation to inflation basically preserves your purchasing

power. Okay. So yeah, let's just, I guess, really spell it out. So if you're not indexed to inflation, then your money is having less value over time, essentially? Yeah. So people are very keenly aware of wages and inflation and the need for their salary, their pay to keep up with inflation, because if things get more and more expensive and you just keep making the same amount of money, you're going to be able to buy less with your paycheck. And wages are not generally automatically impact to inflation. We have to ask for a raise. The unions have to negotiate cost of living increases and wage increases.

But everyone knows about the relationship between wages and inflation. What we often forget about is that there are many other aspects of our lives in which indexation matters. And it matters that you're aware of what is indexed and what isn't. And when something is indexed, to what extent. Great. Yeah. And that's exactly what we're going to talk about today. And all these other places where indexation actually has an impact. So I know you and our colleague, Matt Lundy, looked into how Canada broadly is doing when it comes to indexing inflation. And so I guess, in broad strokes, what did you find? Is this something that we've been addressing? So when we're talking about indexation, generally we're talking about government benefits.

We're talking about sometimes tax brackets. And we're talking about employer benefits, particularly pension, employer pensions. And so it's in Canada, as in most other countries, it's a patchwork. Some things are indexed. Some things aren't. What's really striking is that we're coming off of this bout of inflation that sort of caught everyone off guard. And we were coming off such a long time that inflation and inflation indexation stopped being top of mind for so many people, for governments, for employers.

And so it's been really interesting that, you know, now we went through this inflation spike with the legacy of decades of low inflation. Yeah. So let's actually look at some of the areas now where we are seeing this have an effect, basically. So I want to start with social assistance. Erica, how is social assistance kept up with inflation? So, you know, I say, it's a patchwork. And, you know, this is true in Canada and other countries. It's not like Canada stands out. But where Canada really stands out is social assistance and how little of social assistance is pegged to inflation. So these are benefits for the poorest, some of the most vulnerable members of society. And almost all of them

are not pegged to inflation. There have been some changes because inflation picked up and there was a lot of concern about the fact that a lot of these benefits aren't pegged to inflation and they're already very low. So for example, Ontario decided to peg the Ontario Disability Support Program, ODSP, to a measure of consumer prices. But even that, which seems like a step forward, it came after such a long time that this benefit had not been modified or meaningfully increased.

It has lost a tremendous amount of value, purchasing power over the years. And now that it has lost all of this value, we're re-pegging it to inflation from a very low base. So even though like now we're pegging it to inflation because that differential drops so much over that interim period, it's actually not anywhere close to where it needs to be then. Yeah, exactly. So we let it drop and drop and drop, and then we pegged it to inflation. So just to give you an idea, in 1991, what someone receiving welfare for disability in Ontario would get over the year would be almost $24,000. And that's the equivalent in 2022 dollars. And as of 2022, they were getting less than $16,000. So that's the erosion.

Wow. And in so many other provinces, like basic social assistance is not pegged to inflation at all. Benefits are raised ad hoc, but there's no guarantee of automatic adjustments that are based on the increases in consumer prices. So you said that social assistance in Canada was quite bad. I guess what does that mean for someone who is on social assistance? How does that affect their purchasing power? Even for someone on ODSP, right? Like some of the few recipients of social assistance that now have a benefit that will adjust with inflation, they've taken a huge hit over the past few years, particularly food prices, right? Food

prices outpaced the general level of inflation by a huge degree. And if you are living below the poverty line, which you are if you're on social assistance, then food makes up a tremendous percentage of your budget. It's food and it's shelter, both of which have been rising much faster than overall inflation. And so I was talking to someone who is on ODSP, a woman in Toronto who is on ODSP, and that's her only source of income apart from a couple of minor provincial and federal tax credit. And so her benefit is it's already not enough. Like it's just slightly below what she actually pays in rent, which is around $1,300, which is very cheap for Toronto. She relies on friends to pay her internet and phone bill

and volunteer organizations to get food. And she said that a few years ago, she said she would be, you have just enough money to pay for maybe mac and cheese or instant ramen for lunch. And now after this bout of inflation, she's down to one meal per day when she does eat at all. Okay. So we can really see the impact that not indexing to inflation has there in social assistance. Let's also move on to talk about workplace benefits. I think a lot of people have a direct connection with workplace health benefits, so like dental care, eye care, massage, physio, all of those things, right? Mental health services as well. What have we seen there, Erica, when it comes to inflation? Health benefits are an important part of people's compensation. And so I really

wanted to shine a line on the fact that going to the eye doctor now costs like 20% more than five years ago on average in Canada. Going to the dentist costs about 23% more. And when you're thinking about things like massages or going to the physiotherapist, like those are all practitioners that have seen their costs really like skyrocket. And in many cases, the rent has gone up, the cost of supplies has gone up, the cost of wages for those small businesses has gone up.

And therefore like their fees have gone up. And in the vast majority of cases based on my reporting health benefits that have hard dollar caps like eye care generally right like you have a certain amount every two years that will cover glasses contact lenses and you know and your routine visits to the doctor that's's a hard cap. And that there's no mechanism to adjust it to higher costs or higher prices. And that's basically the real value of that part of your compensation is shrinking. So you're paying more out of your pocket. So you're paying more out of your pocket.

Exactly. Mental health is a bit of an exception. The pandemic was such a watershed moment for employers in appreciating the importance of mental health for employees and mental health benefits that a lot of companies, there was a really broad trend towards employers augmenting their coverage of mental health. Okay. So there's a bit of a positive there then. Yes. Another benefit that people would get from their employers is a disability benefit, right? How do those

measure against inflation? In the vast majority of cases, if you have to go on disability, you get a certain benefit that is pegged to a percentage of your pay at the moment, at the time when you have to go on disability. And then there's nothing to adjust that benefit based on inflation. And so if you're going on disability for several years, it's long-term disability and your workplace benefits are, in the vast majority of cases, not indexed to inflation. It's just a flat amount that will stay that flat amount so people who are earning a wage might see increases or you know gradual

ups there but if you are staying at that amount whenever you went on disability years ago it's going to stay stagnant at that amount exactly so your entitlement basically adjusts as your wage increases but once you take disability like if you have to take disability, that stays constant. We'll be back in a minute. Okay, Erica, let's talk about pensions, starting with employer pensions. How are those doing when it comes to inflation? The majority of Canadian, of working Canadians does not have an employer pension, about 40% do. What I'm talking about here is sort of the traditional pension plan, which in

jargon is called the defined benefit pension plan, which is the kind of pension that guarantees a certain benefit for the length of your retirement. And pension benefits that are indexed to inflation are becoming more rare. They're quite rare if you're in the private sector to begin with, but they're becoming less and less common in the public sector. So more and more plans, even in the public sector, are moving towards something called contingent indexing, which means that whether and to what extent your pension benefits are adjusted to inflation hinges on the financial health of the pension plan.

So if there's enough money, you will get inflation adjustments. But if the plan is not doing so great, then you might not. In this particular inflation spike that we just went through, we kind of got lucky because a lot of pension plans, private pension plans did quite well. Like they were coming off a long period of very healthy financial market returns, stock market returns. Thanks to that, even plans that offer contingent indexing were by and large able to offer pretty good inflation protection to their members. But the thing is, it's still important. It really highlights the importance of really knowing what your pension benefits are. It's really important when you're trying to plan ahead for retirement that you understand what your pension plan

guarantees and what is quote unquote contingent. Yeah, what you can count on are not there. Okay, so that's the employer pension. Let me ask you about government pensions too here finally, Erica. What has been going on with government pensions? So government pensions is really the rosy picture here. So we're talking about OAS, which is old age security, which is the pension benefit that is generally available to Canadians age 65 and older, whether or not they have worked. And also, obviously, the Canada pension plan, which is available to those who contributed to it from their paychecks. So you have to have worked to receive CPP. And the good news is that both OAS and CPP are fully indexed to inflation and have kept up very well with this latest run up in inflation very closely. There's always a lag between the actual inflation and the adjustment that people receive with OAS and CPP.

But the thing is, like, it catches up. Okay, interesting. So it sounds like when we look at CPP, OAS, these seem to be keeping up with inflation. But I understand, Erica, there's areas within these pensions that actually have not been doing that. So what's there? So, for example, the CPP's death benefit is something that is not indexed to inflation. The death benefit is a payment that's made to a deceased contributor's estate or other eligible survivors. A lot of people think of it as money that you can use to pay for funeral expenses, and funerals are very expensive. So that has been capped at $2,500 since 1998. Since 1998? Since 1998, the CPP death benefit was frozen at that amount.

But I mean, $2,500 in 1998 would go a lot further than $2,500 today, right? Exactly. So $2,500, if the benefit had kept up with inflation today, that would be over $4,300 today. $2,500 now is like woefully inadequate to pay. Like average cost of a burr today is between $5,000 and $10,000, according to Sun Life. Okay. And what about OAS? Is there anything there? So the issue with OAS is that there's nothing in the way that those benefits are calculated that takes into account the level of wages. With CPP, you contribute based on what you earn, right? So your earnings, people's earnings do factor into the CPP. With OAS, that's not the case. And the issue there is that wages over long

periods of time tend to rise a little bit faster than inflation. And so OAS was never meant to replace your earnings. It's just a little bit of a cushion, a little bit of money that you have in retirement. But the concern is that over time for someone who's been working all their life, that cushion will be proportionally smaller for new future retirees than it's been in the past. Okay, so it seems like a lot of things in Canada aren't keeping up with inflation, Erica. I wonder how deliberate is that? Is this accidental? Or is this something that that is kind of meant to happen? Normally, the decision to not peg something to inflation or unpack it from inflation is, you know, it's a deliberate choice to control costs. And so this is like employers or governments trying to limit costs. More recently, Alberta in 2019 decided to de-index

its tax brackets. De-index. De-index. Not indexing, going the other way. Going the other way. And it was definitely an attempt to, they wanted to boost revenue, very likely. And so when you de-index tax brackets, it means, you know, if wages are going up, you know, say like my wage is going up simply to, it just simply is keeping up with inflation. So it's not like I can

buy more with my money, my purchasing power is the same. But if tax brackets are frozen at a certain level, I might move up into the next bracket and I end up paying more taxes, even though my purchasing power is the same. And so between 2020 and 2021, this netted Alberta $300 million in extra revenue. Wow. So the province made a lot of money there. The province made a tiny sum of money. Yes. And now they've repacked tax brackets to inflation because obviously there was this spike in inflation that no one saw coming. Wow. Okay. So it does sound like a government or a company could actually, yeah, can make some money here

by not fully indexing these things to inflation. I wonder about the other side of things though, Erica. Is there some argument for not fully indexing everything to inflation? Is there, I guess, a benefit to that? There's always a calculus, right? Like whenever governments or employers are deciding not to index or to de-index, they're essentially transferring costs onto citizens and workers. And then you can argue, to what extent is that necessary or not? And that really depends on the circumstances. We certainly have seen private pension plans that didn't plan ahead

and were too generous with benefits. And then truly there wasn't enough money in the pot to pay the benefits they had promised, or there wasn't enough money to pay benefits to younger pension plan members. And so obviously cost control can be necessary for employers or for governments. Yeah. Wow. So just in our last few minutes then here, Erica, I guess, how should people be making sense of all of this? So I think the takeaway here from our story is that you should really be aware of inflation indexing or lack thereof in your life. So we're very used to thinking about wages, and the importance of wages keeping up with inflation,

the importance of certain things, like pension benefits keeping up with inflation. But there's so much more that matters, and it really pays to know what aspects of your life keep up with inflation and which don't. Erica, thank you so much for being here. This is great. Thank you so much for having me. That's it for today. I'm Mainika Raman-Wilms. Our producers are Madeline White, Rachel Levy-McLaughlin, and Michal Stein. David Crosby edits the show.

Adrienne Chung is our senior producer, and Matt Frainer is our managing editor. Thanks so much for listening, and I'll talk to you tomorrow.