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February 12, 2005

Why Oh Why Are We Ruled by These [Liars[?] Fools[?]] (The Administration Doesn't Understand Its Own Proposals Department)

Jason Furman is clearly near the breaking point as he looks at the analysis the White House has done about its own Social Security proposals. Mendacity? Simply incompetence? I bet on incompetence: The errors are so transparent that they could hardly be deliberate. Could they? They couldn't have so much contempt for the press corps that they would make false but easily checked claims--like that a typical worker choosing private accounts would thereby sacrifice only one-third of his or her defined-benefit Social Security annuity when the true share is two-thirds. Would they?:

Jason Furman: The White House plan allows people to... direct 4 percent of payroll... into individual accounts. Any individual who chooses this option... [sees] a reduction in... [the] traditional Social Security benefit.... The individual account exactly... [matches] the benefit cut if the account... [earned a] 3 percent real rate of return.... The White House fact sheet assumes that this plan will mean a one-third reduction in your traditional benefit... “you can choose to redirect one-third of your payroll taxes into an individual account, but then you have to accept a one-third benefit cut. That way long-run solvency is unaffected....”

(There are other important issues that I do not discuss in this memo, like the magnitude of the other benefit cuts required to restore solvency in the absence of any revenue measures, the administrative costs, potential problems with survivors and disability benefits, the additional up-front borrowing required for the accounts, the fact that the accounts appear to be designed in a way that reduces long-term solvency, and the political risk that the benefit offset would be reversed by a future Congress which would cause the plan to unravel.

Here’s the problem... right now you get a... return on your payroll tax contributions of about 2 percent.... The offset, however, is based on a 3 percent rate of return. Thus the offset amount accumulates more quickly than your benefit.... end[s] up... [costing] more than one-third of your Social Security benefit....

A Real Numerical Example: You Have to Give Up Two-thirds of Your Benefit: The White House fact sheet does not specify the age or earnings or work history of the worker, just that the worker would “get $15,000 annually in benefits from the traditional system, reformed to be permanently sustainable.” For my example, I will use an average earner born in 1990... the first person who can fully participate... he turns 21 in 2011 and starts contributing to his individual account in that year and retires at age 65 in 2055.

Under the current benefit schedule, this worker would get a retirement benefit of $21,700... (this number, like all numbers in this memo, is in inflation-adjusted 2004 dollars). The benefits payable through Social Security revenues under a system that, in the White House’s words, has been “reformed to be permanently sustainable” would be 73 percent of total benefits in 2055, or $15,934.... (By way of comparison, the benefit under [the White House's version of] price indexing... would be even lower, $13,596.) If this person contributes 4 percent of payroll to an individual account, then at retirement, this account would have $152,000 of assets... at 3 percent annually above inflation.... buy you an inflation-adjusted annuity of about $11,000 annually.... [T]he person would be left with a traditional benefit of about $5,000 annually – $15,934 minus the $11,000 offset for having opted for an individual account. This is about two-thirds lower than the person’s Social Security benefit otherwise would be....

By the use of faulty numbers that inaccurately present the offset as reducing Social Security benefits by only one-third, the White House dodges one of the important questions we should be debating: Is it sufficient to have the risk-free tier of retirement security replace only 8 percent of prior wages? Is $5,000 annually from a Social Security benefit enough for a person whose other assets may be invested in a more risky form?

But you cannot even start to have this debate when the White House will not provide the data... and... inaccurately claims that you get to keep $10,000 – or two-thirds – of your Social Security benefit....

Posted by DeLong at February 12, 2005 12:35 PM