January 27, 2016
A few days ago, we got the news that for the first time ever, government spending on retirement benefits won’t be the biggest ticket item in the federal budget. According to a new Congressional Budget Office report, in 2015 spending on Social Security was displaced from its first-place position by spending on health care programs, including Medicare, Medicaid, the Children’s Health Insurance Program, and Obamacare subsidies.
That change in status doesn’t change the fact, however, that Social Security is going bankrupt. Since 2010, Social Security has been running a constant cash-flow deficit, meaning that taxes collected for the program aren't enough to cover the benefits paid to retirees. To fill the gap and keep payments to retirees going, the program is drawing from the trust funds (first using the interest paid on the bonds in the fund and then the principal), and then the Treasury Department is borrowing money to pay back the trust funds.
More worrisome is the fact that if nothing were to change, the Social Security retirement trust fund would be exhausted by 2034. When that happens, benefits will be cut by about 25 percent. These cuts, required by law, will actually happen a bit sooner now that Democrats and Republicans have agreed to “fix” the impending emptying of the Social Security disability trust fund by shifting payroll tax funds from the retirement fund to the disability fund during last year’s big budget deal.
These projections are also assuming that there aren’t any financial crises or major recessions between now and then. That’s unlikely.
But there are arguments even more damning against the program. Social Security is horribly unfair. According to Eugene Steuerle of the Urban Institute, Social Security redistributes income from minorities to white people, young people to old ones and single to married. His work also shows that with very few exceptions, most people pay more in Social Security taxes than they will ever get back in benefits. In addition, the program also tends to discourage savings, hence making the America people poorly prepared to face retirement.
Considering these facts, it is frustrating that we are not hearing more about Social Security reform from the presidential candidates, with a few exceptions.
On the Democratic side, there is the plan from Vermont Sen. Bernie Sanders. Not surprisingly, his proposal is all about raising taxes on “the rich,” by eliminating the current $118,500 cap on income subject to payroll taxes. As American Enterprise Institute’s Andrew Biggs explains, this is effectively a hike of “the federal tax rate by 12.4 percentage points, and add an additional 6 percent tax on investment earnings for high-income households.”
To be sure, if you don’t care about destroying the economy, this plan would likely raise enough money to pay for the current benefits. However, Sanders doesn’t plan to hold current benefits constant. As with most Democratic lawmakers who have spoken on the issue, he would dramatically increase benefits for both rich and poor retirees, meaning that large funding shortfalls would remain.
His plan is not that different than the noise made by Hillary Clinton, who has talked about the need to enhance benefits but for the poorest recipients only. She also embraced raising the payroll tax cap back in August 2014.
On the Republican side, the most detailed plan out there is the one Jeb Bush proposed last October. Bush deserves a lot of credit for tackling the issue with details during a presidential campaign. Since his brother tried and failed to implement reform when he was president, Republicans have carefully avoided the topic.
So how good is his plan? Well, it depends. If the goal is to “preserve and protect” an unfair program by implementing reforms to make it solvent, it is a good plan. To fair to Bush, however, the option of converting the current system to a pre-funded system with individual ownership at reasonable cost vanished several years ago. That’s the high price of kicking the can down the road.
Today, the baby boomers are in retirement, meaning we have waited too long for substantive reforms. As such, many experts think that if the government is going to provide retirement benefits, the only decent options left are pretty much to contain the fiscal damage wrought by the baby boomers, which means cutting benefit growth.
If that’s the goal, then the tools that this plan uses are the necessary ones. According to his campaign, his plan would raise the retirement age for Social Security beyond its current target age of 67, starting in 2022 by gradually increasing the age by one month every year (i.e., by 2058, when life expectancy is expected to be longer, workers would have to be 70 to claim full benefits – or 65 for early benefits.) It would also implement means-testing further than what we have today. It would also slow the growth of benefit payments (especially on the high income end) by using what is known as “chained CPI” for calculating cost of living adjustments.
One of the best things about the Bush plan is that it is trying to fix the poor work incentives facing younger seniors by eliminating the retirement earnings test, cutting the payroll tax after retirement age, and increasing the penalty for early benefit claims and the reward for later ones.
However, his plan could have gone further on that front by making payroll tax relief a function of the number of years making contributions rather than a specific age. That change would get rid of the age discrimination built into the system and create a work incentive from the moment workers enter the work force. That being said, this would be more complicated to administer, and the Bush plan keeps it simple.
To conclude, this plan preserves a fairly bad system but it does fix its insolvency problem.
A better reform would acknowledge that the middle-class and higher-income earners should be saving for their retirements rather than expecting benefits from the government. Besides, the data show that apart from low-income Americans, U.S. retirees are not as dependent on Social Security as many seem to think. To that end, I agree with Biggs that “the federal government should work to expand access to retirement saving plans such as 401(k)s and help people sign up. But if ever there were a case for letting households rather than government do a job, this is it.”
The government should only be in the business of providing a safety net. That would mean no benefits based on age, but instead based on need. Such a radical shift would actually free resources to improve Social Security protections for low-earning households. Needless to say, I am not expecting to hear that proposal on the campaign trail any time soon.