- Consulting with Canadians -

The Canadian Chamber of Commerce Submission in Response to Finance Canada's Employment Insurance Premium Rate-Setting Mechanism Consultation:

The Employment Insurance Program:� In need of Reform

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Table of Contents

Introduction.

The Expanding Purpose of the EI Program.

Higher than Necessary Premium Rates.

The Negative Economic Impacts of Current EI Practices.

The Unnecessary Employer Premium Multiple.

The Unfairness of Employer Premium Over-Contributions.

The Absence of a Meaningful Process for Setting the EI Premium Rate.

Conclusions.

Canadian Chamber of Commerce Summary of Recommendations to the Federal Government for Modernizing the Employment Insurance Program�

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Introduction

The Canadian Chamber of Commerce is Canada's largest and most representative business association. We represent more than 170,000 members from every industry and every region of Canada. The vast majority of our members are employers who have a direct interest in Canada's labour market policy and the administration of the Employment Insurance (EI) program. As a result, the Canadian Chamber of Commerce has been an active participant in the Employment Insurance process.

The Canadian Chamber believes that a skilled, highly productive and mobile labour force is essential to achieving many of Canada's objectives. As we look to the future, it is clear that high levels of productive "human capital" will be essential to maintaining long-term economic growth, competitiveness and prosperity in Canada. This is more important now than ever when we consider that Canada is rapidly embracing the emergence of a global, knowledge-based economy. We must ensure that all government programs, including the Employment Insurance program, are conducive to fostering productivity and in turn economic growth.

While the Canadian Chamber of Commerce believes that the Employment Insurance program is an improved version of its predecessor, the Unemployment Insurance (UI) program, the Canadian Chamber has a number of concerns with the current system that must be addressed:

• The expanding purpose of the EI program;
• Higher than necessary premium rates;
• The negative economic impacts of current EI practices on high unemployment regions of the country;
• The unnecessary employer premium multiple;
• The unfairness of employer premium over-contributions; and,
• The absence of a meaningful process for setting the EI premium rate.

The Expanding Purpose of the EI Program

When the federal government introduced and passed the Unemployment Insurance Act in 1940, the new social insurance program was to be run as strictly as possible in accordance with the same principles that governed life, fire, theft and other forms of private insurance. The role of the program was to protect a specific group of employees against the temporary loss of employment. In addition, the program was to also guard against the potential dangers of "moral hazard", the risk that workers may abuse the plan by arranging their own unemployment or extending the period of their benefit.

In the early 1970s, regular benefits - defined broadly as to include regionally extended benefits, the extra weeks of coverage that vary with the local unemployment rate - constituted more than 90 percent of total pay-outs. Over the last three decades, items such as earning supplements, family-related benefits, and training grants to provinces have grown in importance. As a result, regular benefits now account for approximately 60 percent of total payouts. Moreover, of total premium revenues, approximately 50% are paid out as regular benefits.¹ This provides evidence to support the observation that the original intent of the EI program has diminished in importance. The EI program has become a holding tank for a grab bag of social programs far beyond insurance purposes. See Table 1.

Table 1

Employment Insurance Benefits ($million)	2000-01	2001-02	2002-03	2003-04	2004-05
A. Income Benefits
�1. Regular benefits	7410	8555	9178	9652	9780
�2. Fishing	264	290	317	325	340
�3. Work sharing	11	48	22	19	20
�4. Total	7685	8893	9517	9996	10140
B. Special Benefits
�1. Sickness	591	648	684	717	755
�2. Maternity	752	848	859	873	900
�3. Paternity	502	1311	1930	1961	2000
�4. Compassionate care				86	221
�5. Total	1845	2807	3473	3637	3877
C. Developmental Uses
�1. HRDC programs	1048	1191	425	470	483
�2. Transfers to provinces	891	893	1717	1717	1717
�3. Total	1939	2084	2142	2187	2200
D. Gross Benefits	11469	13784	15132	15820	16217
E. Repayments and Accrual Adjustments	-25	-58	-96	-108	-100
F. Net Benefits	11444	13726	15036	15712	16117

Throughout the 1990s, the Canadian Chamber of Commerce expressed concerns regarding the direction and content of the Unemployment Insurance (UI) system. For example, the Canadian Chamber was concerned that the UI system was increasingly being used for purposes that were not originally intended. Specifically, the Canadian Chamber was concerned that the UI system had been transformed from its role of maintaining the income of workers who experience short-term periods of unemployment because of cyclical fluctuations into providing income supplementation and basic income support for many workers (including seasonal workers or "repeaters") who may have worked for the same employer year after year.

In addition, the EI system is being used to achieve social policy objectives of the federal government, such as improving early childhood development, through the parental benefits program. In the Budget 2003, the federal government announced that it will implement an employment insurance compassionate family care leave benefit effective January 4, 2004.

Individuals who meet the eligibility requirements for EI special benefits, and have served the two-week waiting period, will be entitled to a six-week EI compassionate family care leave benefit to care for their gravely ill or dying child, parent or spouse. To provide flexibility in meeting the varying needs of individual families, eligible family members will be able to share the benefit. The Government will propose legislative changes so that permanent employees governed by the Canada Labour Code can benefit from the new leave provision by making sure that their jobs are protected during the leave period. The compassionate family care leave benefit is estimated to cost $86 million in fiscal 2003-2004 and $221 million in fiscal 2004-2005 and each year thereafter. The Canadian Chamber believes that a social program which recognizes the importance of providing financial assistance and ensuring job protection to Canadians while caring for gravely ill or dying family members should not have been funded through the EI program. It diverts the program further from its original goal of which was to provide insurance against unintended periods of unemployment.

Higher Than Necessary Premium Rates

Because the EI program has been used to support government spending in a variety of areas completely unrelated to the original purpose of the EI program, EI premium rates have been kept at unnecessary high levels. Unnecessarily high premium rates paid by employers add to employers' real wage costs, result in a drop in real wages received by employees and cause employment levels to be lower than otherwise. A study by Livio De Matteo and Michael Shannon found that a 1% increase in average payroll taxes paid by employers results in a 0.56% increase in real wage costs to employers, a 0.55% drop in real wages received by employees, and a 0.32% drop in the level of employment.² Employers have a lower disposable income than otherwise.

The Negative Economic Impacts of Current EI Practices

Bill C-12 (1996) made significant amendments to the UI program and re-introduced it as the "Employment Insurance" (EI) program. The debate surrounding UI reform leading up to, and including, Bill C-12 was focused on defining and describing the problem of "frequent" users and suggesting reform options that would reduce and/or eliminate "repeater's" recourse to�UI.

In the 1996 EI legislation, Ottawa introduced the "intensity rule." The intensity rule is an experience-rating provision that reduced the benefits received according to the number of weeks a claimant has collected insurance benefits in the previous five-year period. The intent of the intensity rule was to increase workforce attachment. Under the "intensity rule", the benefit rate (which starts at 55% of insurable earnings) for new claimants is reduced by one percentage point (to a minimum of 50%) for every twenty weeks of benefits received over the previous five years. In addition, those "frequent" claimants who earned more than $39,000 saw 50% to 100% of their benefits clawed back, depending on the number of EI weeks claimed in the previous five years. This compared to 30% clawback for other claimants who earned more than $39,000. The Canadian Chamber of Commerce supported the introduction of this provision and saw it as a reasonable approach to one of the pressing problems of the EI system - habitual reliance.

Overall, the Canadian Chamber supported the introduction of Bill C-12 (1996). The Canadian Chamber regarded the amendments as a progressive move towards greater levels of productivity and long-term growth for Canada. Moreover, the Canadian Chamber believed that the new designation, "employment insurance" reflected that progressive direction. The Canadian Chamber's submission to the Standing Committee on Human Resources stated:

In May 2001, Bill C-2, An Act to Amend the Employment Insurance Act and the Employment Insurance (Fishing) Regulations, received Royal Assent. In introducing this bill, the government maintained that some of the intended EI reforms had not achieved their 1996 policy objectives. As a result, the federal government repealed the intensity rule. The rationale for doing so was that the intensity rule had the unintended effect of being punitive and had failed to reduce "frequent" EI claimants.

The Canadian Chamber of Commerce was disappointed at the government's decision to repeal the intensity rule and regarded this decision as a step backward for Canada's labour policy.

The IMF, in its Statement of the IMF Mission (January 31, 2001), was critical of the measures contained in Bill C-2 stating that "the provision of extended EI benefits for high unemployment regions for a prolonged period of time, has had adverse effects on the behavior of both workers and employers, has significantly raised reservation wages in high unemployment regions, and has reduced labor mobility. In addition, the recent experience in the United States suggests that labor market flexibility is an important factor in fostering the rapid adoption of productivity-enhancing new technologies."

The OECD, in its Economic Survey of Canada (September 2001) was equally critical of the measures contained in Bill C-2. The OECD stated that "the abolition of the intensity rule combined with the perverse incentives of regional extended benefits, which hamper labour mobility and slow adjustment, makes progress in this direction difficult."

Simply put, the current EI program is inconsistent with the innovation and skills strategy that was released by the federal government in February 2002. The federal government views "innovation as something that can be encouraged as a part of a deliberate strategy to improve the productivity growth and Canadians' standard of living".³ While the Canadian Chamber of Commerce fully agrees with this goal, we have serious concerns regarding the government's ability to deliver on this goal. The current EI program does not support the development of advanced skills or entrepreneurial spirit and prevents certain industries and regions from restructuring.

As the C.D. Howe Institute said, the broader economic issue "is that the larger the non-insurance aspects of EI become, the more the program subsidizes industries and regions where the prospects of stable, well-paying jobs are poor, at the expense of industries and regions where the prospects are good - hardly a sound strategy for future prosperity."⁴

Prior to the UI programs, workers in traditional seasonal industries were sufficiently paid to allow them to live off their earnings during the period of time that they were out of work. With the introduction and the expansion of UI benefits, workers in certain seasonal industries were willing to accept lower wages and use UI benefits to supplement their income in the period of time in which they were not employed. The lower wages allowed companies to exchange labour saving capital for labour, thus expanding the labour pool in seasonal industries and increasing the unemployment rate.⁵

The Canadian Chamber believes that the federal government must implement policies that discourage the frequent use of EI. Reinstating the intensity rule, increasing the hours to qualify for EI, and reducing the benefit period in high unemployment regions would enhance labour flexibility, productivity, and accelerate industrial and regional adjustments in high unemployment regions of the country.

The Unnecessary Employer Premium Multiple

Another issue of concern for the Canadian Chamber of Commerce is the employer multiple. Since 1972, employers have paid $1.40 worth of premiums for every $1 paid by employees. This means that employers pay seven-twelfths or 58% of total premiums collected and employees pay the remainder. Prior to 1972, employers and employees paid equal contributions.

The employer multiple was implemented in 1972 as a part of the Unemployment Insurance Act. The legislation contained an enabling provision for an experience-rating approach^6� to determining employer premiums. The multiple of 1.4 was set as the default for all employers until an experience-rating system was implemented. Although the enabling provision for experience-rating was removed in 1977, the 1.4 employer multiple has been retained. The apparent rationale behind this is that employers have greater control over layoff decisions and, therefore, should bear a higher overall share of program costs. In recent years, however, EI benefits totally unrelated to layoffs (for example, parental leave benefits) have contributed to much higher program costs. There is little justification for requiring employers to pay more for these benefits than employees do.

The Canadian Chamber recommends that the federal government reduce the employer multiple so that the employer premium rate equals the employee premium rate.

The Unfairness of Employer Premium Over-Contributions

In 2003, the annual maximum contribution of employment insurance premiums for employees and employers is set at $819 and $1,147 respectively. If employee EI premium payments exceed the maximum contribution limit, employees are refunded the difference between what they have paid and the maximum annual contribution limit when they file their yearly income taxes. Over-payment by an employee typically occurs when two or more employers employ an individual in a given year.

An employer may also over-contribute EI premiums. While it is difficult to quantify the exact level of over-contributions by employers, the level is certainly in the several hundred million dollar range. However, there is currently no mechanism in place to refund employers for over-contributions. Given the fact that EI premiums represent a barrier to job creation, the Canadian Chamber believes that the federal government must immediately implement a system that allows for over-contribution by employers to be refunded by the federal government.

The Absence of a Meaningful Process for Setting the EI Premium Rate

In Budget 2003, the federal government announced that it will consult on a new EI rating-setting regime for 2005 and beyond. In the meantime, the government set the employee premiums for 2004 at $1.98 so that premium revenues would equal the projected costs of the program in that year. This takes into account the proposed compassionate family care leave benefit. Like the Auditor General of Canada, we are pleased that the government agrees that it is Parliament's intent that the EI program would be run on a break-even basis and that the government has endorsed a number of principles for a new rate-setting process, including transparency and seeking expert advice.

In regard to the EI premium rate setting process, the Canadian Chamber recommends that the federal government retain private sector economic forecasters, as is consistent with federal budget planning, to provide the necessary projections of the economic variables that would impact the level of expenses and revenues for the EI program. Based on the information provided by the economic forecasters, the EI Actuary should calculate the cost of benefits, the amount of premium revenue, and the corresponding 'break-even' EI premium rate. This information must be made available in a transparent published form. The break-even EI premium rate refers to the EI premium that would generate revenue that equals the cost of the entire EI program on a yearly basis. The Canadian Chamber recommends that the role of the Canada Employment Insurance Commission, or another independent body, with input from all relevant stakeholders should be to provide advice to the federal government on whether the actual rate should deviate from that produced from the Actuary's calculation. Therefore, the federal government would be left with some discretion to alter the EI premium rate from that technically calculated. This process must also be transparent.

In order to ensure EI premium rate stability, the Canadian Chamber proposes that the EI premium rate be set such that the program is projected to break even on a six to seven year going forward basis. Therefore, for example, set the rate for 2005 such that it would be sufficient to cover the costs of the program (not including any interest) for 2005-2010 or 2011. If there is a forecast error such that a deficit occurs in the employment insurance account for 2005, for example, do not try to make up for that deficit in setting the rate for 2006. For 2006, set the rate such that the Account is projected to break even for 2006 through 2011 or 2012. In order to ensure a level of stability in EI premium rates, it could be contemplated that a restriction be put in place on the extent of any year-to-year change in the premium rate. For example, the rate could not change in one year by more than 5-10 per cent.

Conclusions

The Canadian Chamber believes that the reforms outlined in this paper would re-establish EI as a true insurance program and would enhance the efficiency of labour markets, stimulate productivity and economic growth and, therefore, increase the standard of living of all Canadians over time.

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¹ Actuarial Services, Human Resources and Development Canada. [return]

² De Matteo, Livio and Michael Shannon, "Payroll Taxation in Canada: An Overview," Canadian Business Economics, vol. 3, no. 4. Summer 1995. [return]

³ Government of Canada, Achieving Excellence: Investing in People, Knowledge and Opportunity, Canada's Innovation Strategy, 2002. [return]

⁴ Poschmann Finn and William B.P. Robson, "Reprogramming the EI Cash Machine: Matching Employment Insurance Premiums and Payouts", Backgrounder, C.D. Howe Institute, 2001. [return]

⁵ Grubel Herbert, "What's Wrong With Equalization: Social Insurance and Moral Hazard", Conference Paper, Montreal Conference on Regional Equalization, October 24, 2001 [return]

⁶ Employer-based experience rating would reduce premiums for firms that generate fewer claims than others.[return]