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January 15, 2005

Another Good Social Security Reform Plan

This one's from Bradford Plumer:

Bradford Plumer: As we think about how to shore up the program's finances over the next 75 years, I'd start by recommending these four little tweaks: 1. Put all state and local employees into the system. At the moment, 3.7 million such employees pay no payroll taxes, even though many of them end up receiving Social Security benefits anyways.... 2. This one's bloody, but pretty effective, I think. Pass some sort of immigration amnesty (or "amnesty") bill to get illegal immigrants paying into the system.... 8 million illegal immigrants working in America don't contribute much in the way of payroll taxes right now.... 3. Invest 40 percent of the Trust Fund in a broad index of equities. This suggestion was first pioneered by Robert Ball, I believe.... 4. Index benefits to a "smarter" cost of living index....

Okay, now there are a few improvements and add-ons I'd like to see made to the system. These will add slightly to the cost, no doubt, but with the tweaks above I think we can get to balance pretty easily: 1. Near and dear to my heart, fix the disability guidelines.... 2. A modest benefit enhancement for minimum-wage workers, so that those workers with at least 35 years of covered and steadily rising earnings would receive a benefit level equal to the poverty line or above. (Diamond-Orszag have something along these lines.) 3. Increase the benefits for elderly survivors. Widows too often suffer a drop in living standards of around a third when their husband kicks the bucket... again, Diamond-Orszag suggest one way to do it....

And then, only then, do we start talking about private accounts...

Posted by DeLong at January 15, 2005 06:09 PM

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Plumer’s idea is well worth discussion but it lacks focus as an opposition strategy.

The Democrats are making the mistake of fighting the Social Security battle on ground of the Republicans’ choosing. They ought to be demanding that the Republicans explain exactly where the money needed to redeem the special Treasury Bonds in 2018 is going to come from. This is money effectively owed to the working and middle class Americans who created the Social Security surplus by paying the extra payroll taxes after the reforms of the 1980s. If the Republicans’ cannot explain where the money is to come from, then it is clear for everyone to see that they took the Social Security surplus to give huge tax cuts to the wealthy during the first G.W.Bush Administration.

This is a simple, clear issue that everyone can understand and needs to be driven home with the utmost determination.

The deadline of 2018 is much closer than that involved with the longer-term funding problems referred to in the Bush Administration propaganda. The Democrats need to be talking about the missing surplus, where it went and what we need to do to get it back.

Posted by: Frances Perkins at January 15, 2005 07:12 PM

Frances has it exactly right! The Trust Fund is -- at the very least -- a promise to repay the regressive borrowed payroll taxes with progressive taxes like income taxes (including higher rates in the upper brackets) and estates taxes.

I give Plumer at most 1 out of 4.
1. I'd like to see Plumer's calculations here -- I'm not at all sure which way this cuts. The "Government Pension Offset" prevents those in local, state and older fed. jobs who didn't pay into SS from getting spousal benefits and the "Windfall Elimination Provision" uses a special formula that reduces the benefits of those who only paid in a bare min. because most of their earnings were not SS.

2. I've read that many illegal immigrants do pay -- at least their employers do in order not to reveal that they hire illegals. Facts please?

3. Invest Trust Fund in equities? Don't know how this affects the market but it would have kept the Feds. from stealing/borrowing at least part of the surplus.

4. Index benefits less advantageously. Yikes!

Posted by: SusanJ at January 15, 2005 07:46 PM

I don't agree that the CPI overestimates the impact of inflation by .5 percentage points. The CPI is imperfect and individuals are not impacted evenly by price changes. Plumer pointed to some web site that made the same claim but no one gave any evidence why this should be true. From the little I know about the calculation for the CPI, it's strictly a "best guess" figure. Also, because future economic growth is very very difficult to predict, I would only address half the projected shortfall at this time and revisit the trustee projections every 5 to 7 years. By the way, this is a very good weblog, I read it daily.

Posted by: Marvin Toler at January 15, 2005 07:52 PM

Brad: I ask again, is there any difference in economic effects between the SS fund borrowing to buy equities, and levying a broad-based tax on equity returns ?

Posted by: Richard Cownie at January 15, 2005 09:09 PM

Means test survivors benefits (or any benefits based on the marital status of the deceased) unless or until gay partners are granted survivor benefits.

Posted by: Pudentilla at January 15, 2005 09:22 PM

There is not going to be a problem with fewer working people and more dependent people in 2040. That's because as the percentage of population over 65 increases, the percentage under 15 decreases. The total number of dependent people stays about the same.
There are the separate questions of whether we want to pay off the national debt now and run it up later in 2040, or whether we want to invest some of the social security taxe receipts in mortgages instead of government bonds, or whether we want to invest some in the equity and bonds of the 1,000 largest corporations, or whether we want to let our population level off at 300 million rather than increase our population to some larger number, or whether we want to make the national debt explicit for military and civil servant pensions, or whether we want to lower social security taxes to allow the present generation to invest more money in private retirement accounts, or any amount of other things, but there is no real demographic crisis coming.

Posted by: wkwillis at January 15, 2005 10:29 PM

w/r/t investing the Trust Fund: I imagine they can't sell $500 billion in bonds to raise money for investments without causing a bit of a stir; how does the Trust Fund take advantage of higher returns in the stock market while simultaneously:

1) being responsible investor citizens, and

2) not costing the Federal Government a huge pile of money by pushing up interest rates even a tad?

The other three ideas seem fine to me.

Posted by: Kimmitt at January 15, 2005 10:32 PM

"3. Invest 40 percent of the Trust Fund in a broad index of equities."

I think this is a very, very, very bad idea.

Having such a huge amount of money sailing on a publicly known course would create a huge variety of opportunities for Wall St. and corporate pirates to raid the system.

And what does "broad index" mean? If it means the S&P 500, then the companies in that index will have a large advantage in fund-raising over those not. If it means some index that includes all public stock corporations in the U.S., then it advantages them over private firms, and ensures anyone who is able to take over a publicly traded company of a ready source of funds. The kind of people who brought us the Savings & Loan debacle will be take ample advantage of the opportunities.

Posted by: jm at January 15, 2005 11:22 PM

What is known about how immigration effects Social Security? Didn't one of the papers suggesting the system may be in better shape than we think suggest that a lot of workers pay into the system but then return to their home countries before ever collecting benefits?

No matter, I like the idea of expanding the base, both with state employees and immigrants. After all, if one of the problems is not as many workers paying in, why shouldn't we try to do everthing we can to get more people to do just that?

Posted by: Brian at January 15, 2005 11:48 PM

More tweaks that may have been mentioned above:

1. Pop the cap on income subject to FICA tax. If it's income, it pays FICA tax.
2. Include all forms of income to FICA tax. If it's income, it pays FICA tax.
3. Means-test the benefit to eliminate the 'millionaire's entitlement.'
4. Tax property as well as income.

Do these things, and then if using the Trust Fund to finance private enterprise, make the government a partner in the business venture, sharing all profit as well as all risk. This, of course, transforms the economy into a corporate socialism (which might properly be called 'fascism' by some definitions) but who's quibbling over terms?

Posted by: Jon Koppenhoefer at January 16, 2005 12:53 AM

Why not stop apologizing for the right we have earned to full Social Security benefits? Simply changing wage indexing to price indexing for public pension benefits in England has quickly helped to destroy the value of English pensions. There is no problem with affording full benefits for Social Security. The Administration wishes to convince us there is more than a problem, rather a crisis. Nonsense. The need is to preserve the government's promise to us all these years.

Posted by: anne at January 16, 2005 02:55 AM


"Put all state and local employees into the system. At the moment, 3.7 million such employees pay no payroll taxes, even though many of them end up receiving Social Security benefits anyways...."

This point by Bradford Plumer is useful.

Also though I am not opposed to investing a portion of the Social Security trust fund in a total stock market index with non-voting shares, there will need to be provision of enough of a surplus from payroll taxes to do this. Can payroll taxes be raised even slightly at this time?

As for changing frokm wage indexing, "Yikes."

Posted by: anne at January 16, 2005 03:39 AM

Paul O'Neill has a plan:

Everyone deserves a million dollars!

Kevin Drum takes it down:

Posted by: Unstable Isotope at January 16, 2005 06:10 AM

OK, all you economists out there: if SS funding is best achieved by appropriating X% of total equity returns in the country, what economic (rather than political) reason is there for borrowing money to buy enough equities, as opposed to levying an additional tax of X% on all equity returns ?

I keep asking this, because it seems to me that the differences all favor the tax approach (no need for extra borrowing; less potential for government to distort the market; get the extra income immediately rather than ramping up over many years of stock purchasing).

Posted by: Richard Cownie at January 16, 2005 06:53 AM

Speaking of factcheck.org, here is a rather poor analysis of the worker to beneficiary ratio:

Social Security Ads: Risk or Protection?


Very disappointing the lack of context.

Posted by: knobboy at January 16, 2005 07:31 AM

"OK, all you economists out there: if SS funding is best achieved by appropriating X% of total equity returns in the country, what economic (rather than political) reason is there for borrowing money to buy enough equities, as opposed to levying an additional tax of X% on all equity returns?"

Fine question. Borrowing costs money, and the costs lower future returns from stocks. Also, stock returns can be poor relative to bonds for quite some time as they have been for the last 5 years. The question then is should we pay from 4% to 5% in borrowing costs to capture what might hopefully be 9% to 11% in long term stock index returns?

Posted by: anne at January 16, 2005 08:05 AM

The problem with Jon Koppenhoffer's suggestion of extending FICA to all income is not just that it is dead in the water, Bush is trying to eliminate taxes on investment returns, not extend it, it is more fundamental. It removes a defense.

Social Security has always been funded by workers. In the final analysis the Trust Fund is our money and Capital has no moral claim on it. Currently its only excuse for tampering with the system is its assertion that it will be called to bail out the system, any extention of FICA to all income just reinforces the notion that they can tamper with the Trust Fund.

Right now the payroll gap needed to fund Social Security is said to be 1.89%. Given the strong growth numbers for 2004 and the dismal economic numbers that underly the Intermediate Cost alternative, we can expect that number to shrink, just as it has for each year since 1997.
But for now let's roll with 1.89% and assume that it all will come from the employee. What is the downside risk of simply saying "Okay, raise the tax, I'm game". If I am making the capof $80k I am looking at a tax increase of $1512 per year. Or $4.14 per day. If I am making a comfortable $50k (comfortable if you don't have kids in college anyway) I am faced with an increase of $945 or $2.56 per day. If I make $20k we are talking $378 or $1.03 per day.

That's it, That is the total downside risk of trying to tax ourselves out of the crisis, to the extent the crisis actually exists. It is laughable to suggest that option should simply be ruled out of hand. All it means in practical terms is taking the tax cut money Bush gave you and give it back to Social Security. You just return to Clinton era tax rates and I was't hungry then.

Now instead lets borrow $2 trillion dollars over say a 10 year period and borrow it in equal increments of $200,000,000 and at a 5.00 rate. That works out to $10 billiion in interest costs for each year, or an initial $34 per person, note not per taxpayer, per person. So for a family of four we are talking $136. Now take this out for the 10 years and that same family would be paying $1360 if in fact they were paying their share of the interest.

If you do the math you would see that for every family of four making less than $72,000 a 1.89% boost in payroll is cheaper than the debt you are implicitly assuming. For a couple the cutoff point is $36,000.

For the vast majority of Americans this is just a bad deal right from the start. People who suggest that the premium stocks earn over bonds is worth the risks had better factor this in.

And each and every year the economy returns better numbers than the projections suggest that payroll gap shrinks even if we do nothing.

Me I look at that chart and then compare numbers to the real world and suggest we don't need to do anything this year, or the year after that. Why should I take on interest debt now while the numbers are moving in a way that suggests the problem is shrinking at a rapid rate?

I say stay with a worker financed system. I am willing to bet that the economy will continue to pulverize the pathetic numbers underlying the Intermediate cost alternative. 1.8% growth for 2005? Give me a break. And that shrinks the payroll gap, given normal economic activity shrinks it to zero.

Posted by: Bruce Webb at January 16, 2005 08:18 AM

"At the moment, 3.7 million such employees pay no payroll taxes, even though many of them end up receiving Social Security benefits anyways...."

Only if they've paid SS taxes at some time, and if we move this group into the system they will qualify for MORE benefit. It isn't a solution at all.

" 2.... 8 million illegal immigrants working in America don't contribute much in the way of payroll taxes right now...."

Not necessarily true. Most illegals have documents that allow them to work, thus they do pay into the system, but they may not end up getting any benefits from them. An amnesty for this group might well exacerbate the problem.

These schemes for a free dinner, all end up ignoring the source of the problem: the free breakfast we've already given current and past retirees. That's a sunk cost, the only question is WHO is going to pay for it.

What we should do about FUTURE generations' retirement is a question that should be considered outside the problem of paying for our past mistakes.

Posted by: Patrick R. Sullivan at January 16, 2005 09:11 AM

Anne: thanks for your response, but my point is rather that regardless of what the future equity returns might be, the simple, cheap, and riskless way for the government to take a slice of equity returns is to tax those equity returns, not to purchase equities - using government funds to buy equities will distort the market, give many possibilities for corruption, and expose the government to downside risk. It doesn't matter what the actual numbers are: if/when the government needs revenue, it can and should raise taxes. Of course that is heresy to Bush, but that's a good thing; Democrats can propose taxing equity returns, secure in the knowledge that it's economically equivalent (or superior) to Bush's proposal, and yet has no chance of being accepted as a compromise. And with these clowns in power, doing nothing for 4 years is the best bet.

Posted by: Richard Cownie at January 16, 2005 09:29 AM

Yes to increasing incomes from all levels of govt. payrolls, loosing caps on income, capping lux reimbursements for deductible travel, lodging, and other perquisites. Disallow payment of personal taxes by employing entity. Disallow or adjust executive option allowances for "natural market, economic and inflation effects".

Declare neutrality in world affairs? Bring troops home to populate camps and training areas in the Homeland.

Rethink and adjust governmental payscales to reflect the permanency of employment, unused sick pay reimbursement, annuitant re-employment etc. Cap departmental travel and entertainment budgets ... tighten up on spending!

Posted by: don Majors at January 16, 2005 09:59 AM

"Put all state and local employees into the system. At the moment, 3.7 million such employees pay no payroll taxes, even though many of them end up receiving Social Security benefits anyways...."

I believe the reason most state/local employees are not in the system is that its illegal to force them into it. Remember, there's an *employer* as well as an employee tax in SS. The employer in this case is the state or city. Forcing state/local employees into the system means the feds force an involuntary tax onto the states. Not only the state employees, but the state itself.

I think the constitution had something to say about that.

Posted by: flory at January 16, 2005 10:06 AM

Going slightly off-topic, it seems the real problem with government accounting is that it makes no distinction between expenses and capital investments. So $200B for the Iraq war shows up on the deficit in exactly the same way as a hypothetical $200B investment in modern railway transport infrastructure. And conversely, allowing private companies to log government-owned forests shows up as a small income, ignoring the capital loss of those standing trees.

Does anyone know of good research into plausible ways of fixing this accounting problem to make government a little more sane ?

Based on this viewpoint, all that SS trust fund money should have been invested in GDP-boosting infrastructure investments, and then the debt would be repaid by raising extra revenue on the resulting larger GDP. Too late for that now, of course.

Posted by: Richard Cownie at January 16, 2005 10:12 AM

Does anyone know of good research into plausible ways of fixing this accounting problem to make government a little more sane ?

Its called accrual accounting.

Posted by: flory at January 16, 2005 02:46 PM

Richard Cownie, Bruce Webb:


Because the goods and services to be consumed in the future by retirees must be produced in the future, the most honest way to fund SS is on a pay-as-you-go basis. Any trust or investment funds will have value only to the extent that the wage-earners of the future have sufficient income to buy them from the retirees. Putting public money away in advance in trust or investment funds can be useful only to the extent that it finances investment in physical or human capital that will enhance the productivity of future workers.

Looking at the past record of government-subsidized investment, and of private pension fund investment, I am at a complete loss to understand how anyone can think it a good idea either for the government to direct SS money into some kind of index fund, or for it to give everyone some kind of privately directed account. The former is almost sure to lead to variants of the Savings & Loan debacle and the various private pension fund debacles now taking place, the latter to people being cleaned out by the kind of tactics used to fleece them in the recent NASDAQ bubble.

Contemplate that the reason why so many private pension plans are going belly up (and so many more will follow soon) is that companies started making completely unreasonable assumptions about future yields back during the bubble years -- and that our legislators just a few months ago passed a law explicitly intended to let them make even more unrealistic assumptions (since adjusting to less unrealistic assumptions would have reduced earnings and tanked the stock market). How can anyone believe that the same kind of games won't be played with the government-guided private investment accounts?

The most important question to ask about any decision is, "What if it is wrong?" The consequences of being wrong with the various schemes being promoted are far worse than the consequences of not capturing all the "risk premium" that is supposedly so easily garnered by blindly investing in an index fund.

And how can so many economists believe that a risk premium is a free lunch?

Posted by: jm at January 16, 2005 08:16 PM

Frances - yes, we should force Bush to explain how the treasury will pay back its debts.

The federal government spent $1.43 for every dollar of revenue of general obligations last year. At this pace, we'd need a massive income tax increase 20 years from now even if we didn't have to start paying interest on the Social Security trust.

A big problem is that pointing this out just reinforces the focus-group tested "See, Democrats just want to increase your taxes" meme.

If the Social Security trustees were made independent, and SS were to hold publicly traded government debt instead of the current arrangement, that would be a step towards recognition.

If the trust were allowed to hold other assets, that would be a leap.

About the question - should we borrow money to buy equities, or simply tax equities. SS will run a sufficient surplus over the next 15 years so that no borrowing would be needed to reach a reasonable level of assets.

This shift would make explicit the huge shortfalls in general government (the part where we've had tax cuts for much of the past 25 years), which would be a good outcome for progressives, because progressives wouldn't have to say "how are you going to pay back the trust fund". The problem would just be self evident.

It's also a much less risky proposition than diverting payroll taxes to private accounts. If we divert revenues to private accounts, we'll need perhaps $15 Trillion of borrowing between now and 2050 to finance that, and revenues would only start to match benefits paid after 2050 because we'd be phasing out benefits.

Government finances would be in much better shape if we make the SS trust independent now and force general obligations to stand on its own for the next 15 years.

Posted by: Charlie at January 17, 2005 01:29 AM

Maybe we should start by asking Bush and the other Republicans why they are running around saying the US govt is going to default on its debts.

And I really mean make a big deal of it every time they make one of their snide remarks about the SS trust fund .

The really big issue that emerges first is the govt having to raise the revenue to do without the SS surplus and repay the trust fund.
That is important long before other SS issues become important. Make such an issue of it that Bush and every other political candidate will have to pledge to honor and repay the trust fund.

Posted by: spencer at January 17, 2005 05:39 AM

Charlie: "SS will run a sufficient surplus over the next 15 years so that no borrowing would be needed to reach a reasonable level of assets."

OK, let me try to explain my point again. What would you say to a proposal that we increase income tax by 1% and use the money to purchase equities ? Surely you'd say, that's crazy, the government has no business taking money it doesn't need and buying equities.

Now why is it any different if the government is borrowing money to buy equities ? Answer: it isn't any different - if it makes sense for the government to borrow that money at all, then it should borrow the money and cut taxes.

And finally, with your suggestion that the SS surplus should be used to purchase equities - the distinction between the SS fund and the general fund has no economic significance (though it does have legal and political significance). If the SS fund starts buying equities, then the general fund has to borrow more money. Net effect, the government is borrowing money to buy equities.

Bottom line: the government shouldn't buy equities ever, for any reason. That leads to all the pitfalls of socialism. If government needs to get revenue from equity gains, it should tax them.

Posted by: Richard Cownie at January 17, 2005 08:44 AM

Bruce Webb: I contend that drawing Social Security revenue exclusively from labor income (and we may safely include the "employer's portion" in that -- I don't think employers don't consider it when designing their wage structure and are then surprised they have to pay extra) is part of the problem, as labor income becomes ever less of a proxy to production. With ongoing "productivity increases" (i.e. aggregate workforce reduction), labor income becomes an ever smaller share. Raising the the cap will mitigate this somewhat, but will enhance incentives to switch higher incomes to non SS-taxable forms, e.g. stock.

This has little to do with the trust fund. The issue with taxing other income is that according the spirit of the system this should earn somebody benefits, which have to be defined & administered.

And how comfortable $50K are depends on where you happen to live.

Posted by: cm at January 17, 2005 08:53 AM


Thank you for bringing the factcheck.org article to my attention. As a PhD from the university that holds that site, I will complain to them that their incompetent analysis undermines the market value of my degree.

Posted by: enfant terrible at January 18, 2005 01:11 PM

Bruce Webb:

You are completely wrong. Your conclusion is based on the assumption that debt would be repaid through a head tax. That scenario is not only politically infeasible, but most likely unconstitutional as well, since a head tax is effectively a poll tax.

If the debt is repaid through income tax, exactly the opposite conclusion is reached: any increase in payroll tax hurts the poor and benefits the rich.

It is clear and uncontroversial that the 1983 FICA tax increase was a transfer from the poor to the rich. The whole hoopla about the Trust Fund is exactly about that: the rich are supposed to repay what they borrowed, and they are trying to declare bankruptcy and keep the money.

Posted by: enfant terrible at January 18, 2005 01:23 PM


I think you are right about the constitutional issue, but I also think it would be moot if the current rules didn't allow states to severely underfund their pension plans. By not using risk-adjusted returns, states can offer benefits equivalent to Social Security and contribute less than they would have to pay in payroll taxes. But that is a sham, and if it were exposed and made illegal, states would have little reason to oppose joining the program.

Posted by: enfant terrible at January 18, 2005 01:32 PM

Richard Cownie:

You make complete sense. That, however, is a huge disability in this country at this time. Sense is a liability and may even be criminalized sometime in the next 4 years. ;-)

Posted by: enfant terrible at January 18, 2005 01:38 PM

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