INDEXING OF PENSION

 

By Ed Barrett

Staff Pensions Executive

 

In 1984, Mr. Crawford's letter to pensioners announcing the indexing rate also carried notice of a change in the formula. In that year and for the first time, a cap was placed on the indexing rate; the cap being based on the Consumer Price Index (CPI). This event sparked some discussion in The Pelican Post which is interesting to me to review.

 

Mr. Waugh's explanation of how the indexing works is still valid and difficult to improve upon. So it is reproduced here as it was written and published in The Pelican Post in 1984.

 

"Since 1965, the Canada Life has supplemented participating pensions in course of payment on an excess interest approach. The amount of supplementation is determined by the difference between the average net interest rate earned by the Canada Life and 4%. The purpose was to help pensioners faced with the increases in cost‑of‑living. Over the years, our excess interest rate has lagged well behind the cost‑of‑living index. However, because of the rapid decline in the Consumer Price Index in 1982, the excess interest index to apply in January 1984 was 7.06% while the Consumer Price Index (cost of living) declined to 4.9%. For a pensioner who retired in December 1983, a supplement of 4.9% would adjust fully for the change in Consumer Price Index, and so that is the increase that is provided for him.

 

However, those pensioners who retired earlier for years saw their pension eroded by inflation, in spite of the excess interest supplements we were granting. In order to provide catch‑up, our test for supplementation is to measure the cumulative excess interest index against the cumulative cost‑of‑living index. The supplement will be based on the excess interest index even though it is greater than the cost‑of‑living index, provided that the cumulative excess interest index does not exceed the cumulative cost‑of‑living‑index. The effect is shown in the table below for a few specimen retirement dates

              

	Cumulative Canadian	Cumulative Canada
	Consumer Price	Life Excess Interest
Date of	Index to	Index to
Retirement	January 1984	January 1984
December 1965	3.4950	1.8332
December 1970	2.8905	1.6727
December 1975	1.9776	1.4727
December 1980	1.2996	1.1997
December 1982	1.049	1.0706

 

For a person who retired in December 1980, supplements based on the excess interest index have increased his pension by 19.97%. In the same period the cost‑of‑living index has increased by 29.96%. He can continue to get supplements greater than increases in the cost‑of‑living until the 10% deficiency is made up. How long this would take (if indeed it does occur) depends on how the cost‑of‑living index in the next few years compares to our excess interest index.

 

On the other hand, the pension of a person who retired in 1965 is so far behind the cost‑of‑living index that he clearly will never catch up, and so will always get the supplement based on the excess interest index."

 

Bill's comment that 1965 retirements are so far behind that they will never catch up is a good example of why the word "never" should be taken out of the English language. We have had a number of years where the Company's investment performance has easily outstripped inflation. The result is that as of this year, Canadian pensions started in September 1947 or later have caught up to inflation (January 1970 for the U.S.). I am not sure if we have any pensioners who retired earlier than this, but if we do, they will have been indexed to at least 80% of inflation.

 

Also, and just for the fun of it, I have updated Bill's table as of

December last year.

 

	Cumulative Canadian	Cumulative Canada Life
	Consumer Price	Excess Interest
	Index to	Index to
Date of Retirement	December 1995	December 1995
December 1965	5.1941	5.3825
December 1970	4.2956	4.4315
December 1975	2.9389	3.3883
December 1980	1.9313	2.7603
December 1985	1.3796	1.9834
December 1990	1.1031	1.3367

 

The positive difference between the cumulative excess interest and the cumulative CPI is the amount stored up that we can use to give indexing in future, provided that the CPI lets us do so and even if there is no excess interest in that particular year. As you will probably have noticed from the recent annual report, the Company's earned rate (which will be the benchmark for indexing next year) has gone up to 9% giving excess interest of 5%.

 

Since it looks as though inflation will be about 3%, we expect to be able to put another 2% in the bank for future years.

 

We are very proud of our indexing record and I think justly so. In return, we are rewarded constantly by the kind remarks and the loyalty of our pensioners.