In fascinating testimony before the Senate Special Committee on Aging on 22 January, Dr. Jagadeesh Gokhale of The Cato Institute discussed rationales of (SS) Social Security reforms and national economic consequences for not implementing them. He and other experts express consensus (50+% probability) for reform this year and certainly within three years with a major achievement being to allow private retirement accounts. This has enormous implications for American industry.
Today 12.4% of earned income is withheld as SS tax and in the pay-as-you-go system, pays 37.6% of income for those over 65, more than earnings (20.7%), asset income (19.9%) or employer benefits (18.7%). SS taxes will generate $793.9 billion in fiscal year 2005 and pay out $1.0618 trillion ($515 B in pensions, $294.2 B for Medicare, and $252.6 B on Medicaid). Realize that retirement, even in America, is a recent event; "not working" is really a phenomena since WWII. Retiree consumption, mainly driven by rising health care costs, equals 22% of national spending in 2004 and based on historical trends is projected to be 43% in 2030, all this in context of a system (pensions and healthcare) that has negative cash flow. To pay for this consumption requires growth in output, in labor, in capital and in productivity. But two alternatives exist. One is to increase taxes from 12.4% to an estimated 18.9% beginning before 2017 in a desperate and futile attempt to stave off system failure. Another option is to cut benefits an aggregate 45% in a desperate and futile attempt to stave off system failure.
With net national saving rate barely positive since 2001 from a rate of 10% prior to 1975 and with an equivalent domestic investment rate only bolstered by foreign savers, national growth will slow. Subsidies to education and job training do not necessarily (as history shows) provide labor with additional skills, and productivity enhancements based on new technology take years to become effective. So continued technological advances require prior capital investment, which comes from a higher savings and investment rate. When you realize at the end of 2002 that America had a fiscal imbalance of $44.2 trillion for SS and Medicare commitments, some political leader talking about trust funds, lockboxes and "fighting for the people" makes a case of dysentery seem like a pleasant afternoon. Essentially every Member of Congress, House and Senate, was complicitous in creating this condition but soon must muster the courage to correct it.
It is rare that we see a good "two-fer," but SS reform done correctly seems to offer this opportunity. Most reforms suggest creation of private accounts with about half of SS tax (6% to 6.4%) going into "self directed" investments under strict rules for diversity, balance, safety and low-cost management. Personal ownership and control of retirement funds can produce wealth at rates a minimum of 2.5 times what government provides and without the onerous "death tax," more than enough to meet retirement and medical needs. Low and mid-income workers could accumulate wealth and pass unused savings to future generations. My preference is for a plan authored by Peter Ferrara for Institute for Policy Innovation (IPI) that allows lower paid workers to invest a greater amount (up to 8 or 10 points of the 12.4% of the first $10,000 or $20,000) and on a declining scale to reach a net 6.4% for all taxpayer withholdings into private investment. Those already in the SS retirement program could opt-out and receive "recognition bonds" that entitle them to benefits already earned, an innovative concept installed successfully in other nations. But the real benefit is derived from investment of SS fund in the national economy via stocks and bonds. Instantly the nation would have the "two-fer," a savings pool it needs for economic growth while government would have a rapidly declining future obligation it cannot otherwise meet, a self liquidating retirement of SS liabilities. As a political reality, bifurcation of SS tax into private controlled investment accounts and current SS methods of pension and health care payment is more a concession to government than true needs for safety in the system.
This approach to reform can eliminate future deficits and transitions current obligations into a reducing instead of increasing debt and does so without raising taxes or cutting benefits, now or later. It provides the nation with an investment capital pool the private sector needs. The private retirement and medical care account installs a public confidence and an equity and hope incentive for all income earners to participate in the American dream. Now is the time for every American to lean on their federal elected representatives to assure immediate Social Security reform that includes private investment accounts. IH