Friday, April 17, 2009

OT: Pension Plans

A recent post has me wondering about how aware people are of how things are linked. A pension plan based on future government promise is no different than a pension plan that invests in government bonds at the most fundamental level. It doesn't matter if the promise is via a government program or via a government promise to pay out yields on bonds. Both require the future health of the government and a decision to honor obligations.

The history of bonds has many examples of where government policy worked to ensure that bonds (i.e. the basis of the National debt) were not paid. While countries like the United States and Canada are not Spain or Russia, even Britain has had some questionable episodes with national debt.

So why do people seem to assume that "defined contribution plans" based on government debt are safer than "defined benefit plans" like social security or the Canadian Pension Plan?

It is true that you could invest "defined contributions" into the stock market or corporate bonds instead. I venture to say that recent events have shown non-zero risk with corporate bonds. Stock markets have a bad tendency to have large shifts. So low risk investing is looking a lot like believing in government's ability to meet future debt obligations.

I think that once we accept this fact than the complexity of the situation is a lot more apparent.

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