 |
Time to Privatize Social Security
by José Piñera
José Piñera is president of the International Center for Pension
Reform and co-chairman of the Cato Institute's Project on Social Security Privatization.
Dear President Clinton:
In your state of the union address you called for an open debate
on Social Security reform. I wish to respond to that call.
At Georgetown University recently, you publicly recognized that
the U.S. Social Security system is going broke. You are right. Like the Titanic,
it is heading toward disaster, while some keep insisting that there is no problem.
The truth is that the U.S. has only two options: to prolong the
agony of the current system, or as you have said, "to experiment boldly."
But so far only short-term solutions have been proposed. Some have suggested
raising the payroll tax, but this would hurt job creation and increase the burden
of a regressive tax on low-income workers. Others recommend increasing the retirement
age, but that would especially burden blue-collar workers. These half-measures
can only buy time. If the ship doesn’t change course, sooner or later you’re
going to hit an iceberg – an aging population that cannot be supported
by the workforce.
Another Way
There is another way. When I was labor and social security secretary
of Chile in 1980, my country faced the same problem the U.S. now confronts.
We decided to save our social security system by converting it from a pay-as-you-go
model to individual retirement savings accounts. Workers now choose among competing
private companies to invest the equivalent of what used to be their payroll
taxes in a conservative portfolio of high rated bonds and equities. This allows
workers to harness the powerful force of compound interest – reflecting
the wealth-creating effect of the market – to ensure their security in
retirement.
If empowering the common man – turning every worker into
a shareholder – were the only benefit of such reform, that would be reason
enough to convert to individual retirement accounts. But the Chilean example
gives many more reasons. In the 17 years since Chile embarked on this course,
complemented by other important market reforms, a flood of investment has benefited
both individuals and the economy as a whole. As unemployment has fallen to its
lowest in history, productivity has increased sharply the savings rate has soared
to around 25% of gross domestic product and economic growth has more than doubled
to a 7% average during the last 13 years. If we keep up the present rhythm for
another seven years, the size of the economy will have quadrupled in only 20
years.
This is a real economic and social revolution, allowing the country
to improve education, health and the environment to a previously unthinkable
level. This success has led seven other Latin American countries – Argentina,
Bolivia, Colombia, El Salvador, Mexico, Peru and Uruguay – to emulate our
example in the last five years, and several Central and Eastern European countries,
including Russia, are actively considering similar reforms.
Of course there are political challenges that inevitably lie
in the path of any important reform – in particular, gaining public support
and managing the transition. Let me share with you the lessons I learned from
the Chilean experience.
- First and foremost, policy makers must emphasize the benefits to ordinary
citizens. Transforming Social Security into an investment vehicle will
boost the wealth of the U.S. economy, as many experts have calculated, but
that won’t capture the imagination of voters. The general public must
understand that they will benefit from the ownership of wealth through the
capital markets, giving them far more independence and freedom. This reform
is about citizens’ empowerment and not only about macroeconomic equilibrium.
- The public must understand that individual retirement accounts will
help the poor. High-wage earners can always save for their own retirement.
But medium- and lower-income workers don’t have spare cash to save
in separate individual retirement accounts; they suffer the most with negligible
returns on their Social Security payments. They will gain the most from
a system that allows them to invest their payroll taxes in real assets.
Of course, there should still be a safety net provided from general tax
revenues.
- Even though the reform is revolutionary, the execution must be conservative.
Financial soundness and prudent regulations should be paramount in the design
of the new system. Only when people understand that they will not lose their
money will they appreciate the joys of, say, an average 6 percent real rate
of return compounded over the course of their working lives.
- Make the reform optional. Give those who are already in the government
system the option of staying in it or moving to the new system. Those who
move should receive a recognition bond for their past contributions. In
this way the new system is not compulsory.
- Make it absolutely clear that the elderly will not be harmed by the
reform. On grounds of both fairness and prudence, I recommend guaranteeing
the benefits of the elderly currently receiving Social Security and of those
who decide to stay in the government system. That would be a move forward
since those benefits are now subject to reduction by political whim.
- The country should be assured that the transition from the old system
can be financed. True, the nation will have to foot the bill for current
benefits while payroll tax revenues dwindle. But these expenses are "sunk
costs" – they will have to be paid whether the system is reformed
or not. When a worker moves out of the government system, payroll tax revenues
will decline but so will future liabilities, because that worker will no
longer be accumulating rights to further benefits. In the long run the burden
on the system will be reduced. Budget surpluses present a historic opportunity
to begin financing the transition.
- Take this message to the people. Political support will be forthcoming
if people have good information. A Cato Institute web site already exists
(www.socialsecurity.org) that allows one to calculate returns on the government
program and comparable returns on equivalent savings invested in the market.
Cynics can discount political calculations all they want – mathematical
ones are more difficult to ignore.
In his recent testimony before the Senate Budget Committee, Federal
Reserve Chairman Alan Greenspan stated that "the general broad principles,
which are somewhat similar to the Chilean-type system, strike me as the way
in which convergence of opinion is starting to move and a valuable first step
in moving toward a solution." Policy makers must seize the day. The longer
they wait, the more difficult change becomes. Every year the unfunded liability
expands. Countries that phase out their tax-and-spend social security systems
and move towed investment-based schemes become more competitive, with a growing
capital base, lower labor costs and, eventually, lower taxes.
Paradigm Shift
The global social security crisis is creating the opportunity
for a fundamental paradigm shift regarding the role of government in modern
societies. Thomas Jefferson once predicted that "the ball of freedom, once
set in motion, will roll around the world." Transforming Social Security
in this way can be a massive blow against the economic drag of the welfare state
that has characterized the 20th-century and stifled the creative spirit of mankind
for too long. This would be true leadership and become your legacy for all time.
This article originally appeared in The Wall Street Journal
on April 10, 1998. It also appeared as a Cato Daily Commentary, An
Open Letter to President Clinton, April 10, 1998.
| Index of Op-Eds |
|
|
