Time to Change the EI Rate-Setting Mechanism - Again

In Budget 2008, the Government established the Canada Employment Insurance Financing Board (CEIFB), a Crown corporation, reporting to Parliament through the Minister of Human Resources and Skills Development. The government set the employment insurance (EI) premium rates for 2009 and 2010, while the new corporation will recommend the rate for 2011. The Board must take into account previous years’ deficits/surpluses (backward focus) rather than just focusing on setting a “break-even” for the upcoming year. The Board must maintain a $2 billion cash reserve as a contingency fund in order to support relative premium rate stability. Originally, the premium rate for a year can not be increased or decreased by more than 0.15% relative to the premium rate for the previous year. However, in setting the rate for 2011, the Government announced that annual changes post 2011 would now be capped at 0.10% (it capped the increase for 2011 at 0.05%). In addition, in the October 2010 “Update of Economic and Fiscal Projections”, the Minister of Finance stated that “the government will also undertake consultations on how the rate-setting mechanism can be further improved to ensure more stable and predictable rates going forward, while ensuring that the EI account is balanced over time”. Even though the CEIFB has yet to recommend a rate accepted by the government, the government recognizes that there are serious flaws in the current rate-0setting process.

The main flaw is that the current rate-setting process is countercyclical. During economic slowdowns, rates need to be increased in order to cover the higher costs of increasing numbers of people eligible for benefits and fewer people paying premiums. During an upswing in the economy, rates need to decline as fewer people are unemployed and more people paying premiums. Second, rates again need to take into account previous years’ surpluses/deficits. In the aftermath of a recession, there is a large cumulative deficit in the Employment Account, which will need to be financed by future premium rates. Third, the 10% cap on any annual rate change will limit the increase from what they otherwise would be. However, rates will be higher than the “break-even” well in the future as the annual rate will still have to offset the impact of deficits generated many years earlier. Even when the cumulative deficit has been “paid off”, premium rates will still be higher than the break-even, given the annual cap on rate changes.

Alternatively, a stable premium rate could be set over the medium term (five years), which would balance premiums with applicable program costs. Policy enhancements within this period would need to be financed through general revenues and only incorporated in the next rate-setting exercise. The rate would be determined by the Chief Actuary, with public input and subject to review by the House of Commons Standing Committee of Finance. Deficits/surpluses over the five-year the rate is in existence would not be recovered/returned. Audited annual reports would be prepared and made public showing the status of the EI Account over this period. This would provide premium rate stability and be less countercyclical than the current rate-setting mechanism. .

The concept of balancing the EI Account over the business cycle is not new. The original rational for the establishment of a reserve was that rates would be stable over time. In 1998, the Chief Actuary recommended a rate of 1.90 to 2.10 percent over the upcoming business cycle, with a reserve of about $10 to $15 billion. The C.D. Howe Institute1 proposed that premium revenues should cover program costs over the medium term – a business cycle - rather than just over one year. This rate would be “determined on an actuarial basis to ensure the EI Account cumulative balance remains within reasonable boundaries – within plus over minus $15 billion”.

There is merit to setting a stable premium rate over the medium term. For both employers and employees, it provides certainty on knowing what the rates, rather than being subject to annual variations (there would still be annual increases in premiums paid given the increases in maximum insurable earnings – the base to which the rates are applied). However, it is less countercyclical than the current rate-setting mechanism.

In the 2010 Budget, the Government assumed that EI rates would increase by 15 cents per year to 2014. By setting a stable rate over the next five years close to the current break-even rate, there will be loss of revenues of about $6 billion by 2014-15 (each 10 cents in rates amounts to about $1.1 billion), which would have to be offset by raising other revenues, reducing spending and/or accepting a higher deficit track. Under the stable rate proposal, there would be no need for the CEIFB. However, even the current criteria leave little discretion to the Board in recommending the rate and raise questions as to why the Board was created in the first place.

1 Getting Off the Rollercoaster: A Stable Funding Framework for the EI Program C.D Howe Institute June 16, 2009

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