Reforming Canada’s Employment Insurance System

A proposal that encourages individual accountability, more stable and better paying jobs, shares the risks of unemployment, while providing a savings pool for Canadians — a system fit for the modern economy

Imagine you own a 2010 Honda Accord, have been driving with a spotless record for 15 years, and live in a low crime neighbourhood, lock your car in your garage at night, and have a car alarm. Now imagine you have a 23 year-old neighbour, they have had multiple accidents, park their car on the road, and they drive a $55,000 luxury SUV. Would you be happy to pay the same car insurance premium as your neighbour? Well this is how Canada’s Employment Insurance (“EI”) works. Premiums don’t vary by how many times you have claimed, if your employer routinely lays people off, how long your periods of unemployment last, or if you make efforts to reduce the likelihood of claiming such as up-skilling or moving to where you have better job prospects. It does not make much sense does it?

With EI premiums in Canada averaging nearly $2,000 per employee, nearly $23bn in total annual EI premiums, and $22bn in claims, EI is one of Canada’s largest federal programs. For a program of such magnitude that economists, politicians, business, and many Canadians don’t believe is fit for purpose, it is high time that politicians found the courage to fundamentally reform EI. I propose a solution that is equitable, sustainable, incentivises better economic and social outcomes, all while providing Canadians with a nice financial incentive to modify the system…. cash. There is a solution available to government that could leave the average worker with a cash account with $295,000 when they reach the age of 65. With an incentive like this, politicians should be able to overcome the political heat that will come with any change to EI.

There are a few key problems with Canada’s EI system that make if both inefficient and ineffective.

  • No experience rating by employer — It has been well documented that because premium rates are the same for employers regardless of how often they make staff redundant, that some employers, employees, and whole industries have developed strategies to maximise EI payouts. What this does is have more dynamic and viable businesses and industries subsidise those that are less financially viable, exactly the opposite of what should be happening if we want a sustainable and dynamic Canadian economy. Canada’s EI system should not cross-subsidise precarious businesses at the cost of overtaxing dynamic companies that could grow faster, create more jobs, and pay higher wages if their EI premiums better matched their risk of laying off staff.

These are just some of the economic and insurance based problems with EI. When you combine these with Canada’s regional frictions, the EI program becomes a political hot potato that politicians change at their peril. However, continuing EI in its current form risks lower economic prospects for Canadians and the rise of regional hostilities, particularly in western Canada. Here are just a few of the political challenges that the current EI model presents.

  • Individual inequity — Two people in different parts of the country, but being employed at the same time can get vastly different EI payouts all else being equal. Research conducted in 2017 for instance, found that two “workers in identical circumstances, with equivalent private resources and contribution hours, can be treated very differently by the EI system. For example, a worker in London, ON, with a 6.2 percent regional unemployment rate, would need to contribute for a minimum of 700 hours before receiving a maximum of 38 weeks of benefits. In contrast, a worker in eastern Nova Scotia, which has an unemployment rate of 13.6 percent, would need only contribute for 420 hours to receive up to 45 weeks of benefits.” Amazingly, seasonal fisherman in some cases only need to earn $2,500 a year (something that can be achieved in one day of a high value catch) to be able to claim EI for the next 26 weeks. Fishermen are the only type of worker that get this special EI treatment. Why not tree planters who only work in the summer or oilfield workers that drill in the winter months? When a social program is so evidently inequitable in how it treats people in different parts of the Country, support for the program will suffer as well the the stability of the Canadian federation.

Canada’s EI program fails equity principles — it treats nearly identical claimants, has perverse incentives for individuals, companies, industries, and governments to become dependent on EI, taxes growing successful companies to subsidise failing ones, which all lead to less stable employment for individuals and lower incomes. Research has found that EI systems that have experience rating, meaning firms and/or claimants pay more and/or receive reduced benefits based on the risk they pose such as is the case for home or car insurance, results in GDP increasing, unemployment decreasing, wages increasing, and 82 out of 95 business sectors benefiting from the change. With all this, it is clear that Canada needs to reform its EI system.

So how could we reform EI to increase the economic wellbeing of Canadians, provide more stable employment, and reduce regional tensions? Well as usual, your non-economist has a few ideas.

Individual EI Accounts

With the average annual employment income of Canadian’s being $48,000 according to the most recent 2018 Statistics Canada figures, the average employee in Canada paid $797 in EI premiums, with their employer contributing $1,116. This means that the average working Canadian contributed $1,913 in EI premiums in 2018.

Imagine a world where these EI premiums don’t go into the general EI fund but instead go into individual EI accounts. Using some very basic assumptions, a 25 year-old working for 40 years, contributing $1,913 a year into the account, and investing it in a Royal Bank of Canada’s ‘Balanced Portfolio’ fund that has a 10-year annual return of 7.1%, the fund would grow to nearly $392,000. This scenario assumes that the employees wages are static over their career, which is not reasonable. If we assume that wages increase by 3.2% a year, which is in-line with the EI program’s Actuarial Report the individual EI pot grows to nearly $590,000 by the time the employee looks to retire at 65, assuming they don’t make an EI claim.

These individual EI accounts could be used by workers to payout EI claims with payouts and eligibility being the same across Canada. If the account did not have enough money the government would ‘loan’ the account money with future EI premiums topping it back up. At the end of someone’s working life any money in the account could be converted into an RRSP to retirement. The risk to government of this model is that during a recession a large number of individual EI accounts require loans so the government needs to come up with significant funds out of general revenues just as tax revenues are decreasing.

This is the model proposed by Justin Hatherly from the Atlantic Institute for Market Studies. It is based on a model use in Chile where there is evidence that people respond to the EI system by more quickly finding more stable employment in order to maximise the value of their individual EI accounts.

But rather than move to a purely individual account EI system, which could leave some individuals with large negative individual EI account balances and the government scrambling for money during a recession, I propose a mixed model.

EI Accounts & Insurance

My proposed model includes an element of risk sharing, meaning insurance and social solidarity with individual incentives to reduce EI claims via an individual EI account. For simplicity I propose that 50% of all EI premiums go to a government EI fund to provide unemployment insurance, with the other 50% going to individual EI accounts.

This model enables the government to accumulate funds to ‘loan’ to EI claimants who don’t have enough money in their individual EI accounts to pay valid claims. This pre-funding of the government’s loan should enable governments to avoid large financial shocks in periods of high unemployment. It also provides the government fund with cash to pay for other incentives built into my proposal, such as relocation grants.

The contributions held in individual EI accounts and the government’s EI fund would be administered by a Crown Corporation at arms-length of government, staffed by professional asset managers with the aim to maximise risk-adjusted returns for the assets. The board of directors would include representation from workers, businesses, governments, and academics.

The goal of the government’s EI fund would be to ensure that it has sufficient assets to cover economic shocks over a 15-year cycle. Any surplus assets in the government fund would be retained to cover potential future shortfalls. Each 15 years a detailed actuarial review of the government fund would be conducted with any deemed surplus being transferred to the central government in recognition of the financial backstop it provides the fund, while any deemed shortfall would need to be made up by the government. These goals, governance, and oversight should ensure that the government’s EI fund is not used for political purposes, that short-term surpluses don’t get ‘raided’ by the government of the day, and that the fund is secure and stable for the long-term benefit of workers.

Leaving the investment of individual EI accounts with the professional fund managers of a Crown Corporation protects individuals who are less financially literate. The professional management of the funds within individual EI accounts should enable Canadians to grow their accounts in a way that maximises upside while managing downside risk. If the average worker participated in this scheme and made no claims, by the time they were 65 their individual EI account could have nearly $295,000 in it.

So how might such a system work in practice?

  • Individual Premiums — Recognising that the choices of employers and employees have an impact on unemployment, EI premiums should be payable by employers and employees. However, to not discourage the hiring of people who may have been unemployed before, the premium paid by individuals and that goes into the individual EI account should be the same and not experience rated. Using 2018 data that would mean that the average employee would contribute $956.50 annually to their EI account. Because the money within the individual EI account belongs to the employee, there is no need to experience rate their premium as employees will have a strong financial incentive to do whatever is required to maintain stable employment in order to grow their EI account balances.

Nobody said reforming Canada’s EI system would be easy! Many politicians have paid a price for trying to reform the system. However, the social and economic costs of the current system are not helping individuals, families, or businesses. It is perverse that research from the Canadian Federation of Independent Business found that 20% of businesses in Atlantic Canada had been asked by employees to be laid off so that they could collect EI. At the same time, regions of Canada with high unemployment also have some of the highest labour shortages and use of temporary foreign workers. Why aren’t unemployed Canadians doing these jobs?

It is clear that Canada’s EI system leads individuals and businesses to ‘game the system’ to maximise EI payouts, discourages people from moving or taking on alternative employment where there are labour shortages, and the system is one of the causes of regional and inter-provincial tension in Canada. The system is also focused on the past, excluding many people who are self-employed or work in the modern gig-economy.

I encourage policymakers and politicians to consider my EI proposal as a way to fix the obvious inequitable nature and backwards incentives of the current system, encourage more stable higher-wage employment, and create a savings pool that Canadians can use to increase their employability, manage periods of unemployment, and provide security in retirement.

Will anyone have the courage to change EI and is a $295,000 taxpayer incentive enough? Here is hoping so!

A dual-national Canadian-Brit sharing his take on Canadian & UK affairs

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