Is Social Security on Solid Ground?

by Andrew Biggs

Andrew Biggs is a Social Security analyst at the Cato Institute.

Economists agree that Social Security faces a financing crisis. Falling birth rates, increased life spans and reduced wage growth mean that by 2035 payroll tax revenue will be sufficient to pay only 72 percent of promised benefits, pushing millions of low-income retirees into poverty.

Americans from all political, ethnic and gender groups favor reform that lets workers invest their payroll taxes in stocks and bonds. Respected leaders like Democratic Sen. Bob Kerrey (Neb.) are promoting personal account plans on Capitol Hill.

But to a few old-guard supporters of big government, private investment is heresy. Yet, the only alternatives to personal accounts - payroll tax hikes, benefit cuts, and increasing the retirement age - are flatly rejected by the public.

Their solution? Simply deny the problem exists at all. These "crisis deniers" make three basic claims, all promoting the idea that Social Security is doing just fine. None are correct. But if adopted, this ostrich-in-the-sand attitude could delay reform until it is too late. The result: trillions of dollars in tax increases, benefit cuts and debt.

First, the crisis deniers say, there's no hurry for reform. Social Security, they boast, can pay full benefits until 2035 without changing a thing by drawing on its Trust Fund. Not true. As President Clinton's own budget acknowledges, the Treasury bonds in the Trust Fund "do not consist of real economic assets that can be drawn down in the future to fund benefits. Instead, they are claims on the Treasury that … will have to be financed by raising taxes, borrowing from the public, or reducing benefits or other expenditures." Where is that money - an average of $120 billion annually between 2014 and 2035 - going to come from?

Second, the crisis deniers claim that demographic and economic predictions made by Social Security's Board of Trustees are overly pessimistic. In a bizarre twist, they accuse the Trustees of intentionally fudging its estimates to promote privatization. Somehow, it is hard to imagine die-hard liberal Board members like HHS Secretary Donna Shalala conspiring to shut down the crown jewel of New Deal liberalism.

If anything, the Trustees' estimates are over-optimistic. For instance, they predict it will take another 33 years of health and medical progress before American women have the same life expectancy French women enjoy today. Is that plausible? A bipartisan technical panel recently recommended raising life expectancy projections by 3.7 years, which would increase Social Security's deficit by over 25 percent.

The Trustees also forecast that wages will grow at twice the rate from 1975-1995. But even this doesn't stop the crisis deniers from looking at today's hot economy and arguing that economic growth (and hence wage growth and payroll tax revenues) are still underestimated.

But economic growth itself doesn't help Social Security much, because wage gains flow disproportionately to skilled workers already earning more than the payroll tax ceiling of $76,200. And even if total compensation to lower-income workers grew, much of it consists of non-taxable benefits like health insurance. Finally, since benefits are indexed to wages, even if tax revenues do increase benefits will rise alongside them, canceling out any benefits. We can't grow our way out of this problem.

Third, the crisis deniers argue that even in a worst-case scenario, a mere 2.2 percentage point payroll tax increase today would build up the Trust Fund and prevent insolvency for the next 75 years. Notwithstanding the costs (almost $1,200 annually for an average two-parent family), it still wouldn't work. Since Trust Fund bonds are a debt rather than an asset, the "2.2 percent solution" would only mean more money for government to spend today and more debt for taxpayers to repay tomorrow. It's no solution.

In the end, even if everything the crisis deniers say were true, privatization would still make sense. Because even without a "crisis," Social Security would still be a lousy deal. The bipartisan 1994-1996 Advisory Council on Social Security estimated that even if Social Security could pay benefits forever without raising taxes by a penny, a typical single worker born in 1973 would receive an annual return of just 1.7 percent.

Forget stock investment. Personal accounts holding only ultra-safe inflation-adjusted Treasury bonds, currently paying 3.9 percent annually, would more than double workers' retirement incomes. Plus, workers would have a true legal guarantee of repayment, which the Supreme Court ruled that Social Security does not provide. Investing in stocks and corporate bonds, ordinary workers could save enough to leave large inheritances to their heirs.

Before the Berlin Wall fell in 1989, the Communists insisted that life on their side was swell. But if everything was so great, why did they need the Wall? The same holds for Social Security. If Social Security is as healthy as the crisis deniers claim, they shouldn't be afraid of giving ordinary workers the freedom to choose where to invest their retirement savings.

This article originally appeared in the Columbus Dispatch on January 15, 2000.