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The Myth of the 2.2 Percent Solution
by Neil Howe and Richard Jackson
Executive Summary
Some defenders of the current Social Security system suggest that a "mere"
2.2 percentage point increase in the payroll tax would be sufficient to solve
the system’s financial problems. Of course, "mere" is a relative
term. If enacted, that tax hike would cost roughly $75 billion in fiscal year
1998 -- the equivalent of a 10 percent increase in everyone’s personal
income taxes. But more important, the suggestion that Social Security’s
problems can be solved by a 2.2 percentage point increase in the payroll tax
is seriously misleading.
The claim of a 2.2 percent solution is based on a measure of Social Security’s
fiscal health, called actuarial balance, which counts surpluses accumulated
in the program’s trust funds as genuine savings. But the trust funds contain
nothing but a stack of Treasury IOUs that will require additional taxes or borrowing
from the public to redeem. The more accurate measure of Social Security’s
fiscal health is the program’s operating balance -- that is, its annual
earmarked tax revenues minus its annual outlays. That balance is projected to
turn negative in 2013 and widen to an annual deficit of $734 billion, or 4.8
percent of payroll, by 2031, the last full year the trust funds are technically
"solvent." Even if the 2.2 percent solution were enacted, Social Security
would still face large and steadily growing operating deficits starting in 2020.
Entirely apart from the savings fallacy, there are other serious problems
with the 2.2 percent solution:
- The 2.2 percent figure assumes that the reform would take effect at the
beginning of calendar year 1998. Thus it is already out of date. Each year
Congress waits, the magnitude of the tax hike required to balance the Social
Security trust funds rises.
- The solution is not permanent. In fact, an additional tax hike would be
required every year to keep the trust funds in balance over a full 75 years.
- The 2.2 percent solution is based on the Social Security trustees’
"intermediate" projection. If we accept the trustees’ "high-cost"
projection, whose key economic and demographic assumptions more closely reflect
historical experience, the necessary tax hikes would be at least twice as
large.
- The 2.2 percent solution focuses only on the program’s solvency. But
simply raising taxes (or cutting benefits), while it may balance the Social
Security trust funds, does nothing to redress the program’s other underlying
problems, most notably the declining rate of return for young workers.
Ultimately, the real issue in Social Security reform is, not how to meet some
official solvency test, but how to ensure Social Security’s economic sustainability
and generational equity. This can best be done by transitioning to a funded
system of personally owned accounts.
Index of Social Security Choice Papers
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