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Wednesday, May 11, 2005

Adding to the Social Security debate

Since most people don't read the magazine Contingencies, released by the American Academy of Actuaries, most people will miss a good article on Social Security by James B. Lockhart III, the deputy commissioner of the Social Security Administration. There are several facts and analyses that belong in the forefront of the Social Security debate.

First of all is a very large number: $11.1 trillion. That is the amount of money that would have to be set aside, earning interest at Treasury rates, in order to keep Social Security solvent for the entire future, without any benefit cuts or tax increases. Granted, projecting until the end of time is an uncertain thing. While this figure could be too high, it could also be too low. And every year without Social Security reform, it increases. (I'm inclined to think the greater risk is it's too low. Just think what a genetically engineered retrovirus that destroys cancer cells, curing all cancer, would do to life expectancy.)

Second is a year: 2064. If Social Security develops in a much more favorable manner, it will still exhaust the trust fund. Based on stochastic modeling, in the 97.5% scenario (where 97.5% of modeled scenarios are worse, in terms of insolvency), the "trust fund" is still exhausted by 2064. It's not like slightly better experience will mean that Social Security will be solvent without changes needed. It's a matter of when, not if.

Third is a graph:

click here for full size
The graph compares the current Social Security program to one that stays functionally the same but raises taxes and the retirement age, and one that implements personal retirement accounts and indexing benefits to the Consumer Price Index. Starting with an initial general revenue transfer of $500 billion, the personal accounts and price indexing option achieves sustainable solvency, while keeping the same structure just reduces the extent of the program's insolvency.

To President Bush's credit, he has risked his party's position in Congress to champion these two Social Security reforms. This graph all but settles the debate, in my opinion. Anyone who opposes personal retirement accounts and price indexing should be able to demonstrate his or her proposed changes should similarly establish the program as solvent in the long term.


At 4:25 PM, Blogger honestpartisan said...

I also think that projecting that far into the future relies on too many unknowns to make policy choices now at all meaningful.

But maybe that's not fair! So, I'll assuming for the sake of argument that the graph you have there is correct. If that's the case, my preferred solution would be a repeal of all tax cuts since 2000.

At 4:25 PM, Blogger honestpartisan said...

I should have better edited that comment, incidentally. Having a hectic day.

At 7:17 PM, Blogger Greg said...

Here's the thing with projecting that far in the future: the best estimate is still a good guideline.

For example, if you were to preserve Social Security with a huge cash infusion, then the best bet would be to put up the $11.1 trillion now. Then, if in 20 years you figure that the correct figure should have been $10 trillion, you can raise benefits or lower taxes slightly to restore balance. If the correct figure should have been $12 trillion, then you collect more payroll taxes or lower benefits to make up the difference.

Incidentally, that's how defined benefit pension plans work. They are "fully funded," and every year, you look at projected future outlays and deposit the appropriate amount to fund it. If, for example, your bond portfolio has an excellent year, you don't need to contribute as much. If it tanks, you need to contribute more. (The $11 trillion would be the immediate deposit needed to run Social Security like a fully funded pension.)

Social Security, on the other hand, is "pay as you go," which is not the best funding mechanism when the ratio of workers to retirees is falling.

Your desire to eliminate the income tax cuts of the last 4-5 years is irrelevant. Income taxes do not fund Social Security, payroll taxes do. Those were not cut by President Bush.

Or maybe we can save Social Security by levying a 50% income tax surcharge on New York lawyers?

At 1:12 AM, Blogger honestpartisan said...

Ha! Not a bad idea (New York lawyers are pretty rich) -- but I work for a nonprofit, so you wouldn't get much out of me.

I see your point about projecting, but how far out is the $11 trillion projection? Is that the "indefinite" time frame? Is it 2064? Do the projections that pensions make to be fully funded go out 60 years? That kind of time horizon strikes me as a little hard to gauge.

You're absolutely right that payroll taxes, not the taxes Bush cut, fund Social Security. But I don't think it's irrelevant. Your side of the debate talks a lot about 2018 (2017, sorry), when benefits paid out will be less than payroll taxes taken in. If the excess regressive payroll taxes collected from 1983 through 2017 were saved rather than used to mask deficits caused in part by tax cuts for the rich, then this date wouldn't be much of a problem, but it's now an issue because of that.

Even putting that issue aside, as long as we're fashioning proposals to remake Social Security, why not consider switching to a different taxation formula? I was responding to your request for Social Security funding solutions. If diversion of payroll taxes to private (or personal, whatever) accounts is on the table, I don't see why we can't rethink the payroll tax as the sole funding mechanism for Social Security.

At 1:38 AM, Blogger Greg said...

The $11.1 trillion figure is the estimate needed to fully fund Social Security, with its current benefit levels, forever, given best estimates about future mortality and population growth. Fully funded pensions do have to make these types of calculations for the indefinite time frame.

Far enough in the future, present values of amounts are trivial. But that's when you're trying to estimate the mismatch in a fully funded pension plan. In the case of Social Security, when you're trying just to fund the system through a set date, leaving nothing left in the system for future loss, that's a significant difference. ($7 trillion, or so.)

I do not think we should fund Social Security out of general revenues on a going-forward basis. It would radically transform the program from a national pension system to just another welfare program, and I think the consequences would be dire. However, I am willing to consider a temporary funding of shortfalls for a transformation of the system involving inviolable personal accounts.


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