Social Security: It Just Got Even Worse
Yesterday, the Trustees of the Social Security program released their annual report. The recession has taken a toll on the program's finances: the system will run deficits beginning in 2016 rather than 2017 and the program’s trust fund will run out in 2037 rather than 2041. (I’d span>guestimated something close to this in an earlier post<.) Due to the recession and to faster-than-expected increases in life expectancies, the long-term 75-year deficit increases from 1.7 percent of payroll to 2.0 percent of payroll. That's an 18 percent increase in the long-term deficit, which is a pretty big deal.
A shortfall of 2 percent of payroll implies that if the 12.4 percent payroll tax were immediately and permanently increased by 2.0 percentage points (or benefits were cut across the board by 13 percent), the system would remain solvent through 75 years. In the 76th year, however, it would once again become insolvent. This means that workers who paid a full career of tax increases wouldn’t receive their promised benefits. To make the system sustainably solvent would require an immediate increase in the payroll tax of 3.4 percentage points, to 15.6 percent of wages. That gives the scale of the problem.
So unless our view of the future changes radically, Social Security needs reform. But why should we fix Social Security today? Three reasons:
- First, fairness: Social Security’s treatment of different generations of Americans is declining, such that those who retire in the near future will receive much higher benefits relative to their taxes than those who retire later. For instance, this study shows that a typical couple retiring today will receive around a 2.3 percent rate of return from Social Security, while a typical couple retiring in 2050 will receive around a 1.7 percent return. Compounded over a full career of paying taxes, these differences amount to a lot. By acting today, we can lower returns a little for near-retirees so we don’t need to hit future retirees as hard.
- Second, efficiency: The necessary tax increases or benefit cuts I cited above are if we act today – and only if we act today. If we wait, the necessary changes will be larger. If we waited until the system became insolvent in 2037, we would need to increase taxes by around 3.9 percentage points, with further increases to come. It’s a standard finding in economics that the “deadweight loss” of a tax span>rises with the square of the tax rate<. Whatever we’re going to do, it hurts the economy less if we do a little to every generation than to hit certain generations a lot harder.
- Third, uncertainty: people planning for retirement know that something will happen to Social Security, but they don’t know what, when, or to whom. The sooner we act, the sooner people can adjust their plans to account for those changes.