As the Christmas shopping season is to retailers, RRSP season is to the financial services industry. But, in the years ahead, financial services firms may find that Christmas has been cancelled — or, at least, scaled back. That’s because of demographic changes that will challenge both government finances and economic growth, eventually leading to lower RRSP investments.

Historically, the RRSP has been a roaring success. Every year, millions of Canadians sock away billions of dollars in retirement savings in those savings vehicles. According to Statistics Canada, the total value of RRSP contributions in 2008 was about $33.3 billion — almost triple what they were back in 1990.

That many people (slightly less than 26% of taxpayers in 2008) are still saving for their retirements, even during the massive financial crisis and the worldwide recession, is certainly good from a public-policy point of view. While the immediate motivation may be simply to secure a tax refund, the result is that households are also taking some responsibility for their own retirement provisioning at a time when workplace pensions are disappearing, public pensions are starting to look increasingly inadequate and demographic trends are foreshadowing a looming challenge for governments.

The financial services industry has undoubtedly been a major beneficiary of RRSPs. A large portion of annual mutual fund sales comes in during the weeks leading up to the annual contribution deadline, and numerous other products are now garnering their share of these seasonal investments, too.

The recession has dented the RRSP market a bit. The total value of contributions in 2008 was down by about 2%, from more than $34 billion the previous year, and the number of people who contributed also slipped year-over-year.

But, on the heels of the rebounding stock market and the recovering economy, some analysts are expecting this year’s RRSP season to deliver a bounce-back, too. A recent report from CIBC World Markets Inc. senior economist Benjamin Tal states: “Early indications suggest that the 2009 RRSP season will be relatively strong.”

The CIBC report notes that the stock market’s resurgence since the end of last year’s season — the S&P/TSX composite index is up almost 47% since then — “almost guarantees that the current RRSP season will fare better this time around,” as contributions tend to follow the market’s lead.

Not only does Tal expect the demand for RRSP investments to rise, following the markets’ trend, but the supply of cash to make those investments should also be available, as incomes and savings rates have been rising in the past few months. Indeed, with savings rates at their highest level since 2001, the CIBC report indicates “Canadian households now sit on more than $17 billion more in savings compared with the same period last year.”

One sign that Canadians are likely to devote some of this money to RRSP investments comes from the Investment Funds Institute of Canada, which has observed a marked shift out of money market funds and into more long-term asset classes in its preliminary January sales statistics. This suggests that people will be looking to expand long-term investments.

But a more significant issue for both the financial services industry and government policy-makers is how RRSPs will perform in the years ahead, as the population ages. On that count, some recent research from Royal Bank of Canada forecasts a likely decline in contributions over the next 10 years.

RBC analysts have studied the pattern of RRSP contributions over the past 40 years and conclude that demographic factors, and the saving behaviour of various age groups, are the main drivers of the trends in contributions.

The RBC report suggests that if these drivers perform in the future as they have in the past, contributions will probably suffer in the decade ahead: “As the aging of the population becomes more pronounced over the next decade, particularly with respect to the baby-boom generation, this research suggests that RRSP contributions will likely continue to trend lower.”

In particular, the RBC report observes that RRSPs have seen their share of the disposable-income pie erode since the mid-1990s. Indeed, according to data from StatsCan, back in 1990, RRSPs were capturing about 2.45% of personal disposable income. That chunk rose steadily to more than 5% in 1997, but has been on the decline ever since, even as the absolute level of contributions has risen steadily. By 2008, RRSPs’ share was back down to 3.5%.

@page_break@Trends in the proportion of workers who contribute to RRSPs follow a similar path. In 1990, about 22% of taxpayers made a contribution. That share rose more or less steadily to peak at 30% in 1997, but has been declining since then — slipping to 25.7% in 2008.

The RBC report points out that the peak for contributions in 1997 — both as a share of disposable income and in terms of the proportion of taxpayers contributing — and subsequent declines correlates to a decline in the number of contributors in the newborn to 34 and 35 to 44 age groups: “At least a part of the rapid run-up in RRSP contributions over the 1980s and through the early 1990s could be explained by the entrance of the baby boomers into the 35 to 44 age category and an accompanying large marginal increase in RRSP contributions.”

The boomers have since moved into the higher-saving 45 to 54 age group, which has helped provide support for contributions in recent years. However, the RBC report points out, the population in that age group is expected to peak in 2011, adding: “Because household RRSP contributions have historically tended to fall after age 55, it is possible that we could actually see a decline in total real RRSP contributions over the next decade.”

In the past, the RBC report says, short-term declines in contributions have been observed, but these appear to have been driven by falling stock markets. Now, we could be on the verge of underlying demographic drivers turning against contribution levels, too.

Assuming income growth and market growth resume their long-term trend rates, and that the contribution limits remain indexed to income growth, RBC’s model foresees a decline in total RRSP contributions, beginning in 2012 and continuing for every year through 2020 as the boomers move into their late 50s and early 60s.

“This decline in the highest saving age cohort causes total RRSP contributions to fall through 2020, eventually approaching a share of disposable income that is comparable to that last seen in the 1970s,” the RBC report concludes, projecting that RRSP contributions as a share of income will fall below 2% by 2020.

Of course, any forecast is inherently uncertain. Notably, these projections assume that in the future, people will display the same sort of saving and investing behaviour as previous generations.

Notes the RBC report: “It could be the case that, in the wake of the recent financial market crisis, the post-boom generation boosts RRSP contributions enough to offset part of the projected decline in total contributions. Also, an increase in life expectancies could drive the baby boom and post-boom generations to save more and for longer than their predecessors.”

However, if these sorts of behavioural changes don’t occur, the report adds, contributions are expected to decline in the years ahead.

There may be some hope that future generations will, in fact, save more than their predecessors. As the CIBC report notes: “When comparing contribution rates among different age groups with the same income level, we found that, in most cases, Canadians aged 25 to 34 have a higher propensity to contribute to their RRSPs than Canadians aged 45 to 64.”

The report adds that, at a given income level, younger workers are more likely to make contributions — and make larger contributions — than their older counterparts.

The problem is that there are fewer younger workers, and fewer still that are earning as much as older workers. Nonetheless, the CIBC report suggests, this finding indicates that a different attitude toward retirement saving is emerging among younger workers. This shift could fuel higher contributions from that demographic in the future.

In particular, the CIBC report observes, younger workers increasingly doubt that they will be able to rely on public pension plans and employer-sponsored pension plans to fund their retirements. Indeed, while employer-sponsored pension plans still provide the largest share of retirement income, their relative importance is declining, the report notes, as the number of plans is on the wane and the proportion of workers that are covered by them is also shrinking.

Additionally, for those who are covered by a workplace pension plan, the funding challenges that many corporate pension plans face suggest that they are not something for workers to count on, either. Says the CIBC report: “In that environment, RRSP investments will need to play an increasingly important role in the Canadian retirement landscape.”

Encouragingly, this apparently higher propensity to save among younger Canadians suggests that they are taking a long-term view of their personal finances, and the CIBC report sees this as a positive development: “Will it offset the negative impact of [an] aging population? I don’t know, but at the minimum, it will ease the pain.”

For the financial services industry, a decline in RRSP contributions would clearly be a concern, but there are broader policy implications, too. As the RBC report says, not only do policy-makers have to worry that people may not be saving enough to fund their retirements but the trend toward lower savings also implies that Canadian companies will have less domestic financing available.

These sorts of worries may lead governments to try tweaking the RRSP rules to stimulate more contributions. In the past, various fundamental policy changes have coincided with increased contributions, the RBC report says. But, it observes, in recent years, policy changes “have not had the same impact in stimulating savings.”

One explanation may be that increased contribution limits do not improve the appeal of RRSPs for the vast majority of workers, who don’t max out their plans. Many simply lack the disposable income.

StatsCan reports that for the current tax year, there are almost 22 million Canadians with unused contribution room — out of 24 million taxpayers — totalling $622.6 billion. And, even after the government hiked the limits, the share of disposable income going into RRSPs has declined, suggesting that the move was not much of a spur to greater savings.

The recently introduced tax-free savings accounts are designed to address some of the failures of RRSPs to motivate retirement savings, particularly among lower-income households. Perhaps that’s where policy-makers will focus their attention as the RRSP settles into sedate middle age, along with the baby boomers that powered its initial popularity. IE