SOCIAL
SECURITY REFORM
STATUS
While President Bush
made reform of the Social Security system one of his top
priorities after winning reelection, he met stiff resistance
from the Democrats in Congress. While ten Social Security
reform bills were introduced during the 109th
Congress, none received congressional action.
There is no activity on
this issue this Congress.
BACKGROUND
President Bush's initiative to
restructure Social Security through the creation of personal
accounts moved the policy issue to the forefront of the
political debate. The President advocates a system in which
benefits would be based increasingly on what is referred to as
a pre-funded system through personal savings and investments
with the creation of personal accounts. He has pointed to the
system's projected long-range deficit as a driver for change
in conjunction with his vision of an "ownership society."
Most congressional Democrats support maintaining the current
structure of the program (a system of defined benefits funded
on a pay-as-you-go basis) and are strongly opposed to private
accounts. Democrats have pointed to the system's long-range
financial projections to support their view that the system is
not in "crisis," and that only modest changes aimed at
supporting the current structure may be needed.
Currently, Social Security
income exceeds outgo. The Social Security Board of Trustees
(comprised of three officers of the President's Cabinet, the
Commissioner of Social Security, and two public
representatives) projects that, on average over the next 75
years, Social Security outgo will exceed income by 14 percent
and by 2041 the trust funds would be depleted (based on the
intermediate, or mid-range projections). At that point,
revenues would pay for an estimated 74 percent of program
costs. One of the main reasons is demographic: the leading
edge of the post-World War II baby boom generation will begin
retiring in 2008 and projected increases in life expectancy
will contribute to an older society. Between 2005 and 2025,
the number of people age 65 and older is predicted to increase
by 69 percent, while the number of workers whose taxes will
finance future benefits is projected to increase by only 13
percent. As a result, the number of workers supporting each
recipient is projected to decline from 3.3 today to 2.3 in
2025.
Social Security revenues are
paid into the U.S. Treasury and most of the proceeds are used
to pay for benefits. Surplus revenue is invested in federal
securities recorded to the Old Age, Survivors, and Disability
Insurance (OASDI, the formal name for Social Security) trust
funds maintained by the Treasury Department. Social Security
benefits and administrative costs are paid out of the Treasury
and a corresponding amount of trust fund securities are
redeemed. Whenever current Social Security taxes are
insufficient to pay benefits, the trust fund's securities are
redeemed and Treasury makes up the difference with other
receipts.
Currently, Social Security tax
revenues exceed what is needed to pay benefits. These
surpluses and interest credited to the trust funds in the form
of government bonds appear as growing trust fund balances.
The trustee's project that the trust fund balances will peak
at $6.0 trillion in 2026, after which the system's outgo would
exceed income and the trust fund balances would begin to
decline. By 2041, the trust funds would be exhausted and
technically insolvent. By 2017, Social Security tax revenue
(i.e., excluding interest credited to the trust funds) would
fall below the system's outgo. Because interest credited to
the trust funds is an exchange of credits between Treasury
accounts and not a resource for the government, other federal
receipts would be needed to meet the system's costs starting
in 2017 (in other words, the government would begin redeeming
bonds held by the trust funds). At that point, policymakers
would have three options: raise taxes, reduce spending, or
borrow the money from the public (i.e., replace bonds held by
the trust funds with bonds held by the public). The system's
reliance on general revenues is projected to be $64 billion by
2020 and $256 billion by 2030 (in constant 2005 dollars).
Today, the annual cost of the
system ($527 billion) is equal to 11.13 percent of workers'
pay subject to Social Security taxation (or taxable payroll).
It is projected to increase slowly over the next several
years, reaching 11.93 percent of payroll in 2013. It would
then rise more precipitously to 15.55 percent in 2025 and
17.37 percent in 2035, as the baby boomers retire. Afterward,
the system's cost would rise slowly to 19.12 percent of
payroll in 2080. Over the entire period (2005-2079), the
system's average cost would be 15.79 percent of payroll, or 14
percent higher than its average income. However, the gap
between income and outgo would grow throughout the period and
by 2080 income would equal 13.38 percent of taxable payroll,
outgo would equal 19.12 percent of taxable payroll, and the
gap would equal 5.75 percent of taxable payroll. By 2080,
outgo would exceed income by 43 percent.
This projected long-range
financial outlook is mirrored in public opinion polls that
show fewer than 50 percent of respondents express confidence
in Social Security's ability to meet its long-term
commitments. There is a growing public perception that Social
Security may not be as good a value in the future. Until
recent years, retirees could expect to receive more in
benefits than they paid in Social Security taxes. However,
because Social Security tax rates have increased to cover the
costs of a maturing "pay-as you-go" system, these ratios have
become less favorable. Such concerns, and a belief that the
nation must increase national savings to meet the needs of an
increasingly elderly society, have led to reform proposals.
Supporters of the current
program structure suggest that the issues confronting the
system are not as serious as sometimes portrayed and believe
there is no imminent crisis. They point out that the system
is now running surpluses, that there continues to be public
support for the program, and there would be considerable risk
in some of the new reform ideas. They contend that relatively
modest changes could restore long-range solvency to the
system.
THE BASICS
The Social Security system has
faced funding shortfalls in the past. In 1977 and 1983,
Congress enacted a variety of measures to address the system's
financial imbalance. These measures include constraints on
the growth of initial benefit levels, a gradual increase in
the full retirement age from 65 to 67, payroll tax increases,
taxation of benefits for higher-income recipients, and
extension of Social Security coverage to federal and nonprofit
workers. Subsequently, projections showed the re-emergence of
long-term deficits as a result of changes in actuarial methods
and assumptions, and because program changes had been
evaluated with respect to their effect on the average
75-year deficit. That is, while program changes were
projected to restore trust fund solvency on average over the
75-year period, a period of surpluses was followed by a period
of deficits.
The President and congressional
Republicans believe that some type of action should be taken
sooner rather than later. This view has been shared by the
Social Security trustees and other recent panels and
commissions that have examined the problem. In recent years,
a wide range of interest groups have echoed this view in
testimony before Congress. However, there is no consensus on
whether the projections represent a "crisis." In 1977 and
1983, the trust fund balances were projected to fall to zero
within a very short period (within months of the 1983
reforms). Today, the problem is perceived to be as few as 12
or as many as 36 years away. Lacking a "crisis," the pressure
to compromise is diffused and the issues and the divergent
views about them have led to a myriad of complex proposals.
In 1977 and 1983, the debate was not about fundamental
reform. Rather, it revolved around how to raise the system's
income and constrain costs. Today, the ideas range from
restoring the system's solvency with as few alterations as
possible to replacing it entirely with something modeled after
IRAs or 401(k)s. This broad spectrum was clearly reflected in
the 1997 Social Security Advisory Council report, which
presented three different reform plans. None of the three
plans was supported by a majority of the council's 13 members.
Similar diversity is reflected in the Social Security reform
bills introduced in recent Congresses.
PUSH FOR REFORM
Advocates of reform view Social
Security as an anachronism, built on depression-era concerns
about high unemployment and widespread "dependency" among the
aged. They see the prospect of reform today as an opportunity
to modernize the way society saves for retirement. They
maintain that the vast economic, social and demographic
changes that have transpired over the past 68 years require
the system to change, and they point to changes made in other
countries that now use market-based personal accounts to
strengthen retirement incomes and bolster their economies by
spurring savings and investments. They believe
government-run, pay-as-you-go systems are unsustainable in
aging societies. They prefer a system that allows workers to
acquire wealth and provide for their retirement by investing
in personal accounts.
They also view it as a way to
counter skepticism about the current system by giving workers
a greater sense of ownership of their retirement savings.
They contend that private investments would yield larger
retirement incomes because stocks and bonds have provided
higher returns than are projected from the current system.
Some believe that personal accounts would address what they
view as the system's contradictory mix of insurance and social
welfare goals (although benefits are not based strictly on a
worker's contributions, many of its social benefits go to
financially well-off individuals in the absence of a means
test). Others maintain that creating a system of personal
accounts would prevent the government from using surplus
Social Security taxes for other government spending.
Others, who do not necessarily
seek a new system, view enactment of long-range Social
Security constraints as one way to curb federal entitlement
spending. The aging of society means that the cost of
entitlement programs that aid the elderly will increase
greatly in the future. The costs of the largest entitlement
programs, Social Security, Medicare, and Medicaid, are
directly linked to an aging population. Proponents of
imposing constraints on these programs express concern that,
if left unchecked, their costs would place a large strain on
the federal treasury far into the future, consuming resources
that could be used for other priorities and forcing future
generations to bear a much higher tax burden.
As a matter of fairness, it has
been pointed out that many of today's recipients get back more
than the value of their Social Security contributions, and far
more than the baby boom generation will receive. Some believe
that to delay making changes to the program is unfair to
today's workers, who must pay for "transfer" payments that
they characterize as "overgenerous" and unrelated to need,
while facing the prospect that their own benefits may have to
be scaled back severely. Others emphasize the system's
projected long-range funding shortfall and contend that steps
should be taken soon (e.g., raising the full retirement age,
constraining future growth in initial monthly benefits,
reducing COLAs, raising taxes) so that changes can be phased
in, allowing workers more time to adjust their retirement
expectations/plans to reflect what these programs will be able
to provide in the future. Otherwise, they maintain that more
abrupt changes in taxes and benefits would be required.
Those who favor a more
restrained approach believe that the issues facing the system
can be resolved with modest tax and spending changes, and that
the program's critics are raising the specter that Social
Security will "bankrupt the Nation" in order to undermine
public support and to provide an excuse to "privatize" it.
They contend that personal savings accounts would erode the
social insurance nature of the current system that favors
low-income workers, survivors, and the disabled.
Others are concerned that
switching to a new system of personal accounts would pose
large transitional problems by requiring today's younger
workers to save for their own retirement while paying taxes to
cover benefits for current retirees. Some doubt that it would
increase national savings, arguing that higher government debt
(resulting from the redirection of current payroll taxes to
personal accounts) would offset the increased personal account
savings. They also contend that the capital markets inflow
created by the accounts would make the markets difficult to
regulate and potentially distort equity valuations. They
point out that some of the countries that have moved to
personal accounts did so to create capital markets. Such
markets, they argue, are already well developed in the United
States.
Some believe that a system of
personal accounts would expose participants to excessive
market risk for an income source that has become so essential
to many of the nation's elderly. They say that the nation now
has a three-tiered retirement system; Social Security, private
pensions, and personal assets that already has private saving
and investment components. They contend that while people may
want and be able to undertake some "risk" in the latter two
tiers, Social Security as the tier that provides a basic floor
of protection should be more stable. They further contend
that the administrative costs of maintaining personal accounts
could be very large and significantly erode their value.
Some say that concerns about
future growth in entitlement spending are overblown, arguing
that as people live longer, they will work longer as labor
markets tighten and employers offer inducements for them to
remain on the job. They state that a projected low ratio of
workers to dependents is not unprecedented, as it existed when
the baby boomers were in their youth.
THE SOCIAL SECURITY COMMISSION
On May 2, 2001,
President Bush announced the establishment of a bipartisan,
16-member Commission "to study and report specific
recommendations to preserve Social Security for seniors while
building wealth for younger Americans." In December 2001, the
Commission delivered a report offering three models for
reform.
The three models
for Social Security reform, devised by the Commission,
demonstrate how alternative formulations for personal accounts
can contribute to a strengthened Social Security system.
Reform Model 1 establishes a
voluntary personal account option but does not specify other
changes in Social Security's benefit and revenue structure to
achieve full long-term sustainability.
•
Workers can voluntarily invest 2 percent of their taxable
wages in a personal account.
• In
exchange, traditional Social Security benefits are offset by
the worker's personal account contributions compounded at an
interest rate of 3.5 percent above inflation.
• No
other changes are made to traditional Social Security.
•
Expected benefits to retirees rise while the annual cash
deficit of Social Security falls by the end of the valuation
period.
•
Workers, retirees, and taxpayers continue to face uncertainty
because a large financing gap remains requiring future benefit
changes or substantial new revenues.
•
Additional revenues are needed to keep the trust fund solvent
starting in the 2030s.
Reform Model 2 enables future
retirees to receive Social Security benefits that are at least
as great as today's retirees, even after adjusting for
inflation, and increases Social Security benefits paid to
low-income workers. Model 2 establishes a voluntary personal
account without raising taxes or requiring additional worker
contributions. It achieves solvency and balances Social
Security revenues and costs.
•
Workers can voluntarily redirect 4 percent of their payroll
taxes up to $1,000 annually to a personal account (the maximum
contribution is indexed annually to wage growth). No
additional contribution from the worker would be required.
• In
exchange for the account, traditional Social Security benefits
are offset by the worker's personal account contributions
compounded at an interest rate of 2 percent above inflation.
•
Workers opting for personal accounts can reasonably expect
combined benefits greater than those paid to current retirees;
greater than those paid to workers without accounts; and
greater than the future benefits payable under the current
system, should it not be reformed.
• The
plan makes Social Security more progressive by establishing a
minimum benefit payable to 30-year minimum wage workers of 120
percent of the poverty line. Additional protections against
poverty are provided for survivors as well.
•
Benefits under the traditional component of Social Security
would be price indexed beginning in 2009.
•
Expected benefits payable to a medium earner choosing a
personal account and retiring in 2052 would be 59 percent
above benefits currently paid to today's retirees. At the end
of the 75-year valuation period, the personal account system
would hold $12.3 trillion (in today's dollars; $1.3 trillion
in present value), much of which would be new savings. This
accomplishment would need neither increased taxes nor
increased worker contributions over the long term.
•
Temporary transfers from general revenue would be needed to
keep the Trust Fund solvent between 2025 and 2054.
• This
model achieves a positive system cash flow at the end of the
75-year valuation period under all participation rates.
Reform Model 3 establishes a voluntary personal account option
that generally enables workers to reach or exceed current-law
scheduled benefits and wage replacement ratios. It achieves
solvency by adding revenues and by slowing benefit growth to
less than price indexing.
•
Personal accounts are created by a match of part of the
payroll tax, 2.5 percent up to $1,000 annually (indexed
annually for wage growth) — for any worker who contributes an
additional 1 percent of wages subject to Social Security
payroll taxes.
• The
add-on contribution is partially subsidized for workers in a
progressive manner by a refundable tax credit.
• In
exchange, traditional Social Security benefits are offset by
the worker's personal account contributions compounded at an
interest rate of 2.5 percent above inflation.
• The
plan makes the traditional Social Security system more
progressive by establishing a minimum benefit payable to
30-year minimum wage workers of 100 percent of the poverty
line (111 percent for a 40-year worker). This minimum benefit
would be indexed to wage growth. Additional protections
against poverty are provided for survivors as well.
•
Benefits under the traditional component of Social Security
would be modified by: adjusting the growth rate in benefits
for actual future changes in life expectancy, increasing work
incentives by decreasing the benefits for early retirement and
increasing the benefits for late retirement, and flattening
out the benefit formula (reducing the third bend point factor
from 15 to 10 percent).
•
Benefits payable to workers who opt for personal accounts
would be expected to exceed scheduled benefit levels and
current replacement rates.
•
Benefits payable to workers who do not opt for personal
accounts would be over 50 percent higher than those currently
paid to today's retirees.
• New
sources of dedicated revenue are added in the equivalent
amount of 0.6 percent of payroll over the 75-year period, and
continuing thereafter.
•
Additional temporary transfers from general revenues would be
needed to keep the Trust Fund solvent between 2034 and 2063.
COSTS
In July 2004,
the Congressional
Budget Office (CBO) published its official cost estimate of
Reform Model 2. According to the CBO, reform model 2 would
enable the government to pay the benefits scheduled under that
law without transferring additional money from the general
fund until 2036. From 2036 through 2050, transfers from the
general fund would be required. After 2050, scheduled
benefits would fall sufficiently that dedicated revenues would
be large enough to pay them in full. Including payouts from
individual accounts, expected annual benefits under Reform
Model 2 would generally be stable in constant (2004) dollars,
but as real (inflation-adjusted) earnings increased, those
benefits would replace a declining portion of pre-retirement
earnings. As a result of increasing life expectancy, expected
benefits received over a lifetime would increase in real
dollars. However, total expected benefits, including OASDI
benefits and individual accounts payouts, would be less than
under current law, even though current-law benefits would fall
below scheduled benefits with the exhaustion of the trust
funds.
PRESIDENT'S PRINCIPLES FOR
REFORM
During the 2005 State of the
Union Address, the President offered the following guidelines
for reform:
-
workers born before 1950
(i.e., workers age 55 and older in 2005) would not be
affected by personal accounts or other components of reform;
-
participation in personal
accounts would be voluntary;
-
eligible workers would be
allowed to redirect up to 4 percent of covered earnings into
a personal account, initially up to $1,000 per year;
-
a centralized government
entity would administer the accounts; and
-
worker's would be required to
annuitize the portion of the account balance needed to
provide at least a poverty-level stream of life-long income,
with any remaining balance available as a lump sum.
LEGISLATION
Representative Sam
Johnson (R-TX) introduced H.R. 2002 on April 23, 2007. This
bill would establish individual accounts funded with 6.2
percentage points of the payroll tax. Participation in
personal accounts would be mandatory for persons under age 22
and voluntary for those between 22 and 54. Workers who
participate in personal accounts would no longer accrue
benefits under the traditional system and would be issued a
marketable "recognition bond" equal to the value of benefits
already accrued under the current system. The measure would
provide workers who participate in personal accounts a minimum
benefit equal to a specified percent of the poverty level,
ranging from 100 percent for workers with at least 35 years of
earnings to 0 percent for workers with 10 years of earnings.
Workers who choose not
to participate in personal accounts would remain in the
current system, however, initial monthly benefits would be
lower than those promised under current law. The measure
would constrain the growth in initial monthly benefits for
future retirees by indexing initial benefits to price growth
(rather than wage growth).
H.R. 2002 would
establish a central authority to administer the accounts and
provide at least three initial investment options with
specified allocations in equities and fixed income instruments
(government bonds, corporate bonds), including a default 60/40
investment mix. Once the account balance reaches $10,000
(indexed to inflation), the worker would be allowed to
transfer the balance to a private financial institution. The
personal account would become available at retirement, or
earlier if the account balance is sufficient to provide an
annuity at least equal to 100 percent of the poverty level.
When the account reaches this level, the worker may opt out
of Social Security (i.e., no longer pay the employee's share
of the payroll tax). The worker would be required to
annuitize the portion of the account balance needed to provide
an annuity at least equal to 100 percent of the poverty level.
Any remaining balance may be taken as a lump sum. If the
balance is not sufficient to provide the prescribed minimum
payment, a supplemental payment to the account would be made
from general revenues.
The other Social
Security reform bill that has been introduced this Congress is
H.R. 1090, the Social Security Guarantee Plus Act, introduced
by Representative Ron Lewis on February 15, 2007. This bill
would allow workers aged 18 and older to participate in
voluntary individual accounts funded with general revenues.
Account contributions would be equal to 4 percent of taxable
earnings, up to a limit of $1,000, indexed to wage growth.
H.R. 1090 would also
provide up to five years of earnings credits for workers who
stay at home to care for a child under age seven and eliminate
the earnings test for recipients below the full retirement
age. In addition, it would set widow(er)’s benefits equal to
75 percent of the couple’s combined pre-death benefit, allow
widow(er)s to qualify for benefits based on a disability
regardless of age and the time frame in which the disability
occurred, and lower the Social Security spousal/widow(er)’s
benefit reduction under the Government Pension Offset from
two-thirds to one-third of the individual’s pension from
noncovered employment.
Under H.R. 1090,
accounts would be administered by private financial
institutions selected by the government. The measure would
provide three initial investment options with specified
allocations in equities and corporate bonds (60/40,65/35,
70/30). The account would become available upon the worker’s
entitlement to retirement or disability benefits, or upon the
worker’s death. Upon benefit entitlement, the worker would
receive a lump sum equal to 5% of the account balance. The
remaining balance would be used to finance all or part of the
worker’s benefit. The account balance would be withdrawn
gradually and transferred to the trust funds for the payment
of monthly benefits. In addition to the 5% lump sum, the
measure would provide a monthly payment equal to the higher of
a benefit scheduled under current law and an annuity based on
95% of the account balance.
OUTLOOK
Historically, Social
Security has been called by many the "third rail" of American
politics. In public statements after his re-election,
President Bush stated that he would work to reform Social
Security and was looking to work with Democrats to achieve
this goal. Unfortunately, the President was met with
immediate resistance and was never able to get any real
legislative momentum.
One can point to any of
another of factors to explain why the initiative failed.
Whatever the cause, the result is it will become another
Congress’ problem.
/I20100807
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