Up Against The Wall Street Journal

Resuscitating Private Social Security Accounts

Countering Inequality with Panic and Prevarication

BY JOHN MILLER | September/October 2019

This article is from Dollars & Sense: Real World Economics, available at http://www.dollarsandsense.org

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Sometime next year, as the ranks of retirees swell, the Social Security system will pass an ominous tipping point and start the slide into insolvency. For the first time in nearly four decades, the government program that provides retirement checks to older Americans will pay out more in benefits in 2020 than it takes in. That will force the program to dip into a rainy day fund that will be depleted in about 15 years.
—Robert Weisman, “Invisible no more: Social Security will soon slide into insolvency,” Boston Globe, July 25, 2019

Democratic presidential candidates like Elizabeth Warren and Cory Booker have made inequality a central issue in the campaign. ... Republicans seem to have few [ideas] of their own to boost the wealth of working- and middle-class people... Fortunately, a simple solution exists: Help workers become owners and grow their investment income. ... Congress should amend the Federal Insurance Contributions Act to give every worker the option to shift up to 10% of his paycheck away from Social Security and into a new, personal “Own America Account.” ... Investment in the private market would deliver far better retirement savings than the current government-mandated structure.
—Jeff Yass and Stephen Moore, “Counter Inequality With Private Social Security Accounts,” Wall Street Journal, July 25, 2019

The 2019 Annual Report of the Social Security Board of Trustees warned that, “Social Security’s total cost is projected to be less than its total income in 2019 and higher than its total income [including interest] in 2020 and all later years.” Ominous headlines followed like the one in the Boston Globe announcing that the Social Security system will soon slide into insolvency.

The Trustees’ report, along with the silence of Republicans about what to do about inequality (other than to make it worse), was enough of an opening for Jeff Yass, the managing director of a Philadelphia-based investment firm, and Stephen Moore, a co-founder of the free-market Committee to Unleash Prosperity, to rush in with their attempt to resuscitate private Social Security accounts.

The reports of the imminent demise of Social Security, however, are greatly exaggerated, as are Yass and Moore’s claims about the wealth-creating powers of private Social Security accounts. To see why, let’s start by defusing the panic-inducing palaver in the Boston Globe and then turn to correcting the false promises and distortions that Yass and Moore rely upon to make their case for privatizing Social Security.

Sowing Panic

True enough, the 2019 Annual Report of the Trustees states that “Social Security faces a long-term financing shortfall under currently scheduled benefits and financing.” Without changes, the Trustees project that the shortfall will completely drain the current $2.9 trillion reserve by 2035, some 16 years from now. After that, Social Security will only be able to pay out about four-fifths of its scheduled benefits through 2093.

But that’s all old hat. The Trustees have been issuing nearly identical warnings for the last two and-a-half decades. What’s more, the Social Security Trustees’ warnings are about a crisis that is still a decade and-a-half away, and about a system that would continue to make full retirement payments every year between now and then. That’s not much of a crisis by Moore’s standards. If you listen to him, you would think that out-of-control entitlement spending, especially on healthcare, was likely to shut down the federal government any day now.

If the Trustees are less panicked about the future of Social Security than what the Boston Globe headline suggests, they still underestimate the health of the system. Currently the Social Security system is doing fine. It is 84 years old, has never missed a payment to its beneficiaries, and is still paying out full benefits. The system does need a shot of fiscal stimulus to remain fully functional past 100 years old, but who wouldn’t?

Nor do the Trustees have a crystal ball that allows them to foresee the future of Social Security. Rather, they make their projections about the future of the system based on economic and demographic assumptions about a wealth of variables since, as they put it, “the future level of these factors and their relationships are inherently uncertain.” In the report, the Trustees emphasize their intermediate projection, “their best estimate,” which falls somewhere between their more pessimistic high-cost and more optimistic low-cost projections. The Boston Globe headline underlines the long-term financing shortfall of the system predicted by those intermediate assumptions.

Social Security operates on a pay-as-you-go basis that taxes the wages of current workers to pay for the retirement benefits of current retirees. Each generation depends on the next generation of workers to pay for its retirement instead of each worker accumulating a fund reserved for their own retirement. The pay-as-you-go method allows Social Security to pay out benefits immediately, and those payments help to ensure the political viability of the system.

But the balance between the taxes paid into the system by current workers and the payments made to retirees is threatened by the retirement of the baby boomer generation, which is the largest group yet to receive Social Security benefits (there are approximately 74 million baby boomers in the United States, and nearly half of them are already retired) and a slow-growing labor force. In 1965 there were 4.0 workers for every Social Security retiree. That ratio has declined steadily, reaching 2.8 in 2017, and will fall to 2.2 in 2035, and 2.0 by 2093, according to the Trustees’ projections. For former New Hampshire Senator Judd Gregg (R-N.H.) those numbers confirm that, “The key problem with Social Security is the baby boom generation is too big,” as he told the Boston Globe.

The other key problem with Social Security is that the Trustees’ report rules out the return of rapid growth to the U.S. economy. As a result, the Trustees’ intermediate assumptions foresee tough times ahead for the U.S. economy. It is projected to grow an average of just 2.3% a year from 2018 to 2028, no faster than the sluggish economic growth of the current decade. After that, the report sees economic growth slowing further to an average of 2.0% a year, hardly faster than the 1.9% average growth rate during the 2000s, the decade of the Great Recession.

Setting Things Right: More Immigration, Faster Growth, and Lifting the Cap

But neither of these key problems is preordained or insurmountable. For instance, if the economy were to grow, as the Trustees’ low-cost estimates project, at 3.0% a year over the next decade and then at an average rate of 2.7% until 2095, the Social Security system would be able to pay out full retirement benefits through 2057, some 38 years from now (and with more robust public investment and policies dedicated to boosting the bargaining power of labor, this could happen). Still, even those growth rates would be slower than the 3.1% rate the U.S. economy averaged from 1969 to 2007, before the Great Recession.

Also, if a shortage of workers to pay the benefits of retirees were a problem, then lowering the barriers to immigration surely would help to resolve it. The U.S. immigrant population is overwhelmingly of working age (between 25 and 64 years old), and has a higher labor force participation rate and lower unemployment rate than the native-born population. On top of that, many undocumented immigrants pay into the Social Security system even though they are ineligible to receive benefits. To the extent that Trump administration policies actually slow immigration, they would also add to Social Security’s projected deficit. For instance, the Immigrant Legal Resource Center estimates that if the Trump administration plan to terminate DACA (Deferred Action for Childhood Arrivals) were enacted, Social Security contributions would decrease by $19.9 billion in the next 10 years.

Much of what would remain of Social Security’s financing shortfall could be resolved by increasing or eliminating the cap on wages that areeligible for Social Security payroll taxes. Payroll taxes fall far more heavily on poor and working people than on the well-to-do for several reasons: payroll taxes are a fixed 12.4% (6.2% on wages received by employees and 6.2% on wages paid out by employers); they are levied only on wage income and not property income; and a cap exempts high-income wages from taxation. The cap amount for 2019 is $132,900, which means that any wages or salary above this amount aren’t subject to the Social Security payroll tax.

Lifting the cap would make the payroll tax less regressive and would generate considerable revenue. Some 90% of wages fell below the cap in 1983, but that number has decreased to just 83% today, with the increased concentration of income among the highest-paid. The Congressional Research Service estimates that increasing the cap to once again cover 90% of all wages would close about one-quarter to one-third of the projected deficit (depending on whether benefits for high wage earners were increased). Eliminating the cap altogether would cover 68% to 83% of the projected shortfall in Social Security revenues (again, depending on whether benefits for high wage earners were increased).

There is a clear precedent for eliminating the cap. A similar cap used to apply to funding for Medicare, but a 1993 tax bill removed the cap and now every dollar of wage income is taxed to help fund the Medicare system. In addition, lifting the cap is quite popular. In a 2017 poll conducted by Lake Research Partners, 74% of voters supported gradually requiring employers and employees to pay Social Security taxes on all wages above the current cap.

Going beyond just lifting the cap on taxable wages and also subjecting investment income to Social Security taxes would provide yet more revenues and make the financing of the program yet more progressive. Not surprisingly, two Democratic Presidential candidates, Senator Elizabeth Warren (D-Ma.) and Senator Bernie Sanders (D-Vt.), have plans to do just that, along with making other changes to improve Social Security benefits. The Sanders plan would impose a 6.2% tax on investment income (over $200,000 for individuals and $250,000 for couples) while the Warren plan would impose a 14.8% tax on investment income (over $250,000 for individuals and $400,000 for families). Marc Zandi, Moody’s Analytics’ chief economist, estimates that taxing investment income at the Warren rate would close more than two-fifths (43.6%) of the projected Social Security deficit.

Selling Private Social Security Accounts

Social Security does face one genuine and immediate crisis: Private Social Security Accounts would rob the pay-as-you-go system of the revenue it needs to pay benefits to current retirees.

The Yass and Moore proposal would do just that, even though it’s dressed up in lofty language about giving workers “access to wealth.” It would allow workers to shift up to 10% of their paycheck out of the Social Security system, and those monies that would have gone to retirees would instead be invested in personal “Own America Accounts.” And those low-fee index funds, invested two-thirds in stocks and one-third in bonds, would transform workers into workers-owners who can “grow their investment income.”

But before you kiss Social Security goodbye and start making plans for the riches your “Own America Account” will bestow upon you, you better look closely at the fine print on the Yass and Moore bottle of wealth elixir.

Even Wall Street Journal readers weren’t lining up to buy what Yass and Moore were selling; and they made their concerns known in a series of letters to the Journal. For instance, Robert J. Sartorius from Palm Beach Gardens, Fla. pointed out that the federal government would have to come up with about $85 billion per year to pay for the benefits no longer covered by the 10% of payroll being diverted to the “Own America Accounts.” Yass and Moore make no mention of how Social Security will continue to pay today’s retirees their benefits with 10% less in payroll tax revenues. Presumably either benefits to current retirees would be cut by 10% or the federal government would have to come up with $85 billion or more each year.

Another Journal reader, Francis X. Cavanaugh of Washington, D.C., wrote in to object that because of its extensive family benefits, the actual returns of Social Security investments are several times the 1% return Yass and Moore claim. Social Security extends disability insurance and life insurance benefits to workers, surviving spouses, and dependents. Nearly one-fifth of Social Security payments go to those programs. Any fair assessment of how much recipients benefit from Social Security would need to take into account the value of the program’s disability and life insurance benefits.

Don B. Stuart of Pensacola Beach, Fla. added that it is not possible to compare stock market investment returns to individuals’ returns from Social Security. Depending on how long they live, some workers will die before they collect any Social Security benefits, while others will receive much more than they paid in. And unlike an annuity generated from a private account, Social Security will pay retirement benefits no matter how long a retiree lives.

On top of those complaints, Yass and Moore’s promise that their private accounts will continue to yield 6% (corrected for inflation) returns into the future is illusory. That 6% real rate of return is derived from historical data from when U.S. economic growth rates averaged over 3% a year. But future growth rates will barely top 2.0% per year according to the Social Security Trustees’ intermediate projections. And with slower growth rates come lower stock market yields. Even the Trustees’ low-cost projections still foresee growth rates slower than the historical average. Any fair comparison of the future rates of return of pay-as-you-go Social Security and private Social Security accounts surely must be based on the same future growth rates.

Then there’s this problem: Even low-cost private accounts will be unable to match the low administrative costs of the current Social Security system, which are less than 1% of the Social Security Budget (actually 0.5% of total costs in 2018). For one thing, introducing individual accounts creates the need to assign annuities that will disburse the funds into each worker’s account when she retirees. Economist Peter Diamond estimates that the administrative costs of even low-cost private accounts will be four times those of the current Social Security system. Finally, the added risk that comes with investing in the stock market—as opposed to investing in near-risk free treasury bonds from the Social Security Trust Fund—needs to be factored into the estimates of the rates of return of private accounts and Social Security.

It Is Not Social Security

But by far the biggest problem with private accounts is that they are not Social Security. Even if we were to endow private accounts with all of the wealth-creating attributes that Yass and Moore imagine, private accounts would not accomplish what Social Security has. Social Security provides retirement benefits that continue for the life of the retiree and are adjusted for inflation, a benefit that is especially important to older recipients, most of whom are women. Also, unlike the payroll taxes that finance them, Social Security retirement benefits are quite progressive. For example, the benefits going to a low-income earner (with wages 45% of the average wage) replace about half of her or his income. But for a high-income earner (with wages 160% of the average wage) the replacement rate is about one-quarter.

Social Security has also lifted seniors out of poverty. The poverty rate for seniors (aged 65 and over) fell from 35% in 1959 to 9.2% in 2017, and is now lower than that of other adults (between ages 18 to and 64) and of children (under age 18). In their research, economists Gary V. Engelhardt and Jonathan Gruber found that increases in Social Security benefits accounted for the entire 17-percentage point decline in elderly poverty between 1967 and 2000. Without Social Security, 39.2% of seniors would have been poverty-stricken in 2017. Those numbers would be even higher for elderly women (42.9%), Latinos (46.1%), and African Americans (51.7%).

Social Security, as its official name of Old-Age, Survivors, and Disability Insurance (OASDI) implies, also provides benefits to the disabled and to surviving spouses and dependents. Disability payments especially benefit African-American and Latino workers, who have higher disability rates than white workers. And payments to survivors especially benefit African-American workers, who have higher rates of premature death than white workers.

Private accounts are not redistributive, do not provide disability or survivors’ insurance, and do not guarantee lifetime benefits. Instead, they would increase inequality among seniors, and would be less effective at reducing poverty than Social Security. Why then would anyone swap a highly successful Social Security system that provides life insurance as well as disability and retirement benefits for private retirement accounts? The answer is that they wouldn’t unless they were spooked by crisis-mongering headlines or deluded by the false promises of privatization like those in Yass and Moore’s Wall Street Journal commentary.

is a professor of economics at Wheaton College and a member of the Dollars & Sense collective.

Social Security and Medicare Boards of Trustees, Status of the Social Security and Medicare Program, A Summary of the 2019 Annual Reports, “A Message to the Public,” “Economic Assumptions and Methods,” “Summary of the 2019 Annual Social Security and Medicare Trust Fund Report,” “Additional Economic Factors—2019 OASDI Trustees Report,” and “Table IV.B, Trust Fund Ratios, Calendar Years 1975-2095;” “Immigrations” Effect on The Social Security System,” Bipartisan Policy Center, November 2018; “Social Security: Raising or Eliminating the Taxable Earnings Base,” Congressional Research Service, October 26, 2018; Mark Zandi, “Evaluating Senator Warren’s Social Security Reform Plan,” Moody’s Analytics, September 2019; “Letter from Don B. Stuart,” “Letter form Robert J. Sartorius,” and “Letter from Francis X. Cavanaugh,” Wall Street Journal, July 31, 2019; Peter Diamond, “Administrative Costs and Equilibrium Charges with Individual Accounts,” National Bureau of Economic Research, Working Paper NO. 7050, March 1999; Jason Furman, “Would Private Accounts Provide A Higher Rate of Return than Social Security,” Center on Budget and Policy Priorities, June 2, 2005; “Social Security and Elderly Poverty,” National Bureau of Economic Research, Sept 5, 2019; Kathleen Romig, “Social Security Lifts Americans Above Poverty Than Any Other Program,” Center on Budget and Policy Priorities, July 19, 2019; “Top Ten Facts About Social Security,” Center on Budget and Policy Priorities, August 14, 2019; Richard Fry, “Millennials projected to overtake Baby Boomers as America’s largest generation,” Pew Research Center, March 1, 2018 (pewresearch.org); Bob Pisani, “Baby boomers face retirement crisis—little savings, high health costs and unrealistic expectations,” CNBC, April 9, 2019 (cnbc.com).

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