Committee Of Correspondence

Making Social Security Secure

Herb Stein
11:27 a.m.  Thursday  7/18/96

Now we have the first fairly specific proposal before us in the form of the Kerrey-Simpson plan. I would like to get the reaction of the other panelists to that. Several questions naturally arise.

1. Would the payroll tax, reduced by 2 percentage points of the employee’s share plus existing reserves, permanently fund the defined benefit part of Social Security, as it would be after the suggested reduction of benefit provisions? That is a question for actuaries, I suppose, but since there seemed to be disagreement among some of the panelists about the size of the financial deficiency with which we start I would like to hear any comments on that.

2. Would the defined-benefit part of the plan, as it would be after the suggested benefit reductions, satisfy Aaron’s interest in preserving the safety net, especially for low-income workers.

3. Would the Personal Investment Plan, financed by 2 percentage points of the employee’s share of the payroll tax, satisfy Weaver’s interest in strengthening the incentives of workers by connecting their benefits more directly to their own earnings.

Carolyn Weaver
11:59 a.m.  Thursday  7/18/96

The spirits of those who favor moving in the direction of personal investment accounts should be buoyed by the tone of Mr. Aaron’s remarks and his efforts to impugn the motives of reform-minded people. We must be getting somewhere!

One of the motives attributed to proponents of personal accounts is the desire to strip away Social Security’s redistributive elements. In point of fact, proponents want to separate, not strip away, Social Security’s pension and redistribution functions. Some, for example, support the idea of subsidies to people who accumulate small account balances because of low lifetime earnings. Some support a guaranteed minimum benefit. Some support retaining a scaled-back version of Social Security to supplement the personal accounts.

The partial privatization proposal that will be included in the Social Security Advisory Council’s report, supported by 5 of 13 members, including me, would convert Social Security into a two-tiered system in which the first tier provided a flat-dollar benefit to full-career workers, with a share of this payable to people with shorter careers, and the second tier would amount to a system of mandatory personal investment accounts. The flat benefit would be about two-thirds of the poverty level.

Does this strip away Social Security’s redistributive elements? Hardly. It basically maintains benefits for people with the lowest wage histories and heightens the degree of redistribution from high- to low-wage workers. Rather than being hidden in a complex benefit formula, actuarial adjustments, earnings’ calculations, and eligibility criterion, as is the case today, this redistribution would be explicit and well-targeted. In addition, workers would be free to begin withdrawing funds from their personal accounts beginning at 62 and could include any balances in their estates, benefiting, among others, those populations with shorter life experiences.

Some opponents of personal accounts admit that they believe Social Security redistributes far more income than the American public (i.e., the people who pay for it) would support if this redistribution were more transparent. Keeping it a secret, the logic goes, is the trick to protecting it. What a terribly weak case for trying to cling to the status quo, depriving workers–especially middle- and low-wage workers–of the fruits of their work, their saving, and their investments.

Also, Mr. Aaron speaks of “minor” or “modest” cuts in benefits that would bring the Social Security system back into balance. According to the government’s official projections, Social Security spending will exceed tax income by 30 percent in 2030–when today’s 30-year-olds are contemplating retirement–and the gap widens in future years. It would be interesting to know what minor cuts he has in mind given his concern about protecting low-wage workers and others who benefit from the “social” in social insurance. Increases in the retirement age (actually, the age at which people can draw full benefits) reduce projected benefits for people at all wage levels. Reductions in cost-of-living adjustments reduce projected benefits for elderly people at all income levels. Reductions in the benefit formula reduce projected benefits for people at all wage levels. Perhaps he has in mind reductions in benefits targeted on middle- and high-wage workers, making the reductions they must bear even larger than otherwise.

More than a few policy makers and analysts have expressed deep concern about reductions in benefits for middle- and high-wage (yes, even high-wage) workers given that they are the financial backbone of the system and, according to Social Security Administration estimates, are already projected to earn very poor rates of return on their taxes.

Carolyn Weaver
12:04 p.m.  Thursday  7/18/96

In response to Herb Stein’s questions about how Social Security’s surplus assets would be invested and what the effects would be on the federal budget, I should clarify that the essence of privatization–and the benefits likely to accrue–go well beyond the use of surplus funds to the use of some or all of the payroll taxes that now go to fund current benefits.

Social Security’s cash flow surplus–about $30 billion this year–is a tiny fraction of the government’s outstanding debt and an even smaller fraction of Social Security’s implicit debt. The surplus is declining and is projected to go negative in 2013.

Assuming surplus funds have been relaxing fiscal restraint in the rest of the budget, allowing income taxes to be lower or spending to be higher than otherwise, they have been spent rather than saved (which, in this context, would have meant reducing the amount of new debt issued to the public). The logical implication is that the loss of these surplus receipts–due to investment in private assets–would result in more fiscal discipline in the rest of the budget (i.e., higher taxes or lower spending) and thus to less overall indebtedness. This is as it should be, and its effects would depend on the offsetting adjustments made by Congress, but it has little to do with the effects of privatization more generally.

Carolyn Weaver
12:15 p.m.  Thursday  7/18/96

Mr. Aaron has suggested that all we need to do is reduce benefits slightly, raise taxes slightly (I think he subsequently withdrew this suggestion), accumulate a reserve fund, and–VOILA–increase national saving. Oh, if it could be so simple. That is precisely what Congress did in 1983 and it neither “solved” Social Security’s financing problems nor am I aware that it resulted so obviously in increased national saving. Remember Senator Moynihan’s charge to reduce the payroll tax, which was prompted by his concern that the government was spending the reserves rather than saving them. That concern has been shared by many economists, and it is part of what prompted the Advisory Council to look to new reform approaches and investment strategies.

Richard Thau
2:45 p.m.  Thursday  7/18/96

The strength of the Personal Investment Plan, and other schemes like it, is that it gives workers who otherwise might never save a dime for their own retirement an incentive to be personally responsible.

One would hope that a $30,000-a-year worker, once responsible for investing, say, between $600 and $1,500 per year of his/her own FICA taxes, would quickly come to the realization that they need to save even more in order to find some measure of comfort in their old age. Saving, like most other human activities, is ingrained at an early age. The virtue of this private component is that it can reconcile Carolyn’s desire for increased personal responsibility with Henry’s desire to prompt more private savings among the young. Of course, we won’t know the true outcome unless we try it, but is there really a better option?