Social Security privatization

The Social Security Mess Revisited

Laurence Kotlikoff draws attention to the Social Security mess in his recent column, “Will Social Security Be There for You?“. He states the problem and poses two stark options for solving it:

Social Security’s trustees just released their annual report. It’s a very long document, with the most important part buried deep in appendix table VIF1.

Table VIF1 shows the system is $34.2 trillion in the red. That’s its unfunded liability. Stated differently, the system’s trust fund needs to be $37 trillion, not its actual $2.8 trillion, to permit Social Security to pay all scheduled benefits into the future. How large is $34.2 trillion? Very large. It’s almost two years of GDP!

There is, of course, more than one way to make ends meet. If we can’t get the good lord to drop $34.2 trillion into Social Security’s coffers as manna from heaven, we can raise taxes. One option is to take 4.2 percent more out of everyone’s paycheck (up to the taxable earnings ceiling, now $127,500) on a permanent basis. Since Social Security’s FICA payroll tax rate is 12.4 percent, we’re talking a 33.9 (4.2/12.4) percent immediate and permanent Social Security tax hike!

Another option is to cut all Social Security benefits (retirement, spousal, divorcee, widow(er), young child, disabled child, child-in-care spousal, mother (father), disability and parent benefits) immediately and permanently by 25 percent!

There are, in fact, other options. One is to keep kicking the can down the road, as long as foreign investors are willing, in effect, to underwrite Social Security’s deficit. They do this by shipping the proceeds of their “trade surplus” (our “trade deficit”) back to the U.S. in exchange for stocks, bonds, and real estate. Some of their money goes directly into U.S. government bonds; the rest helps to relieve the crowding out that occurs when the U.S. government borrows to sustain its profligate spending, which includes Social Security.

Here’s another one. The unfunded liability isn’t a current liability; it’s the  present value of future Social Security deficits. Which means that another way of kicking the can down the road is to gradually increase Social Security taxes and/or reduce benefits to a sustainable level while foreigners to underwrite the transition.

I prefer a third option, which is usually considered politically unthinkable: eventual privatization of Social Security. How would that work? Here’s my plan:

1. Abolish Social Security payroll taxes as of a date certain (Abolition Day).

2. Pay normal benefits (those implicitly promised under the present system) to persons who are then collecting Social Security and to all other qualifying persons who have then reached the age of 62.

3. Persons who are 55 to 61 years old would receive normal benefits, pro-rated according to their contributions as of Abolition Day.

4. The retirement age for full benefits would be raised for all persons who are younger than 55 as of Abolition Day. The full retirement age is now scheduled to rise to 67 in 2027. It could rise to 70 by, say, 2025. Moreover, the minimum age for receiving partial benefits would rise from 62 to 65.

4. Persons who are 45 to 54 years old also would receive prorated benefits based on their contributions as of Abolition Day. But their initial benefits would be reduced on a sliding scale, so that the benefits of those persons who are 45 as of Abolition Day would be linked entirely to the CPI rather than the wage index.

5. Persons who are younger than 45 would receive a lump-sum repayment of their contributions (plus accrued interest) at full retirement age, in lieu of future benefits. That payment would automatically go to a surviving spouse or next-of-kin if the recipient dies intestate. Otherwise, the recipient could bequeath, transfer, or sell his interest in the payment at any time before it comes due.

The residual obligations outlined in steps 2-5 would be funded in part by a payroll tax, which would diminish as those obligations are paid off. The U.S. government would continue to borrow as necessary to fund the Social Security deficit, but — unlike the first two options — the borrowing would eventually come to an end. Social Security would be “saved”, there would be less crowding-out in financial markets, and — best of all — everyone’s retirement savings would be plowed into investment-inducing vehicles: stocks, bonds, CDs, savings accounts. This would push up the rate of economic growth and make privatization all the more affordable, and desirable.

Texas Does Retirement Better

Merrill Matthews writes about the alternative to Social Security that was adopted by three Texas counties decades ago (“Perry Is Right: There Is a Texas Model for Fixing Social Security“):

Since 1981 and 1982, workers in Galveston, Matagorda and Brazoria Counties have seen their retirement savings grow every year, even during the Great Recession. The so-called Alternate Plan of these three counties doesn’t follow the traditional defined-benefit or defined-contribution model….

As with Social Security, employees contribute 6.2% of their income, with the county matching the contribution (or, as in Galveston, providing a slightly larger share). Once the county makes its contribution, its financial obligation is done—that’s why there are no long-term unfunded liabilities.

The contributions are pooled, like bank deposits, and top-rated financial institutions bid on the money. Those institutions guarantee an interest rate that won’t go below a base level and goes higher when the market does well….

If a worker participating in Social Security dies before retirement, he loses his contribution (though part of that money might go to surviving children or a spouse who didn’t work). But a worker in the Alternate Plan owns his account, so the entire account belongs to his estate. There is also a disability benefit that pays immediately upon injury, rather than waiting six months plus other restrictions, as under Social Security.

Those who retire under the Texas counties’ Alternate Plan do much better than those on Social Security. According to First Financial’s calculations, based on 40 years of contributions:

• A lower-middle income worker making about $26,000 at retirement would get about $1,007 a month under Social Security, but $1,826 under the Alternate Plan.

• A middle-income worker making $51,200 would get about $1,540 monthly from Social Security, but $3,600 from the banking model.

• And a high-income worker who maxed out on his Social Security contribution every year would receive about $2,500 a month from Social Security versus $5,000 to $6,000 a month from the Alternate Plan….

The Alternate Plan could be adopted today by the six million public employees in the U.S.—roughly 25% of the total—who are part of state and local government retirement plans that are outside of Social Security (and are facing serious unfunded liability problems). Unfortunately this option is available only to those six million public employees, since in 1983 Congress barred all others from leaving Social Security.

If Congress overrides this provision, however, the Alternate Plan could be a model for reforming Social Security nationally. After all, it provides all the social-insurance benefits of Social Security while avoiding the unfunded liabilities that are crippling the program and the economy.

Just think of it: real saving to underwrite economic growth, no crushing burden on future generations, and more money for retirees.

It’s a shame that FDR, his successors, and many Congresses have been incapable of grasping basic economic concepts. They have been too busy “governmentizing” the economy and slowing economic growth through their “soak the rich” schemes.

Related posts:
Social Security Is Unconstitutional
Why It Makes Sense to Privatize Social Security
P.S. on Privatizing Social Security
That Mythical, Magical Social Security Trust Fund
The Real Social Security Issue
Social Security — Myth and Reality
Nonsense and Sense about Social Security
More about Social Security
Social Security Privatization and the Stock Market
Social Security: The Permanent Solution
Social Security Transition Costs, in a Nutshell
A Market Solution to the Social Security Mess?
Saving Social Security
The Bowles-Simpson Report
The Bowles-Simpson Band-Aid
PolitiFact Whiffs on Social Security