Argument: Social security is in crisis

Issue Report: Privatizing social security


Edward Crane. “The Case for Privatizing America’s Social Security System.” CATO Institute. December 10th, 1997: “The Problem

Social Security in the United States, as it is in most nations in the world, is a pay-as-you-go system and has been except for the first couple of years of its existence. As such, it is an intergenerational wealth transfer. Nothing less, nothing more. Its solvency, therefore, depends on demographic factors more than it does on economic factors such as productivity gains. Birth rate and longevity determine the solvency of pay-as-you-go retirement systems.

In the United States the birth rate at the time of the creation of Social Security was 2.3 but had risen to 3.0 by 1950 and continued to climb during that decade. Today it is 2.1. The average life expectancy in 1935 was 63 and today it is 75. That’s good news for Americans, bad news for the Social Security Administration. As a result of these demographic factors, which are likely to stay the same in the case of the birth rate and to increase in the case of longevity, the number of workers paying Social Security payroll taxes has gone from 16 for every retiree in 1950 to just 3.3 for every Social Security beneficiary in 1997. That ratio is expected to decline to just 2 to 1 by the year 2025.

As one would expect under such demographics, the payroll tax has been increased continuously over Social Security’s 62 year history. From an original tax of just 2 percent on a maximum taxable income of $300, the payroll tax has been increased more than 30 times and is now set at 12.4 percent of a maximum income of $65,400. To pay all promised benefits under the current program the payroll tax for Social Security will have to be raised to 18 percent, and if Medicare is included the tax will have to go to nearly 28 percent. Obviously, such a level of payroll tax will have a very negative impact on employment, as it as has in Europe.

Incidentally, those tax rates reflect the so-called realistic actuarial estimates of the Social Security system. Historically, the so-called pessimistic assumptions have proven to be the most accurate. Under those assumptions, the total payroll tax would have to go as high as 44 percent, or nearly triple what it is today.

To make matters worse, and as a consequence of Americans having fewer children and living longer, the Social Security system has developed an incredible unfunded liability of $9 trillion. Compare that to the total national government debt of $5.4 trillion. The growing awareness of the overwhelming insolvency of Social Security in America has led to a rather remarkable change in the political dynamics of the issue there. Until recently, Social Security was an overwhelmingly popular program and considered the “third rail” of American politics: touch it and your career was over. Indeed, Barry Goldwater’s early support for privatizing Social Security in the 1964 presidential campaign is widely credited with having destroyed whatever slim hopes he may have had of winning that race. And one of Ronald Reagan’s worst political missteps was a short-lived effort to cap the benefits of Social Security.

But that has all changed. A poll commissioned by the Cato Institute through the prestigious Public Opinion Strategies polling company showed that 69 percent of Americans favored switching from the pay-as-you-go system to a fully funded, individually capitalized system. Only 11 percent said they opposed the idea. Interestingly, the major reason people cited for wanting to switch to a private system was not the higher rate of return they surely would capture under such a system (and we’ll get to that in a moment), but they pointed rather to the fact that they, and not the government, would be in control of their retirement income.

Other polls confirm this attitude. A 1994 Luntz Research poll found that 82 percent of American adults under the age of 35 favored having at least a portion of their payroll taxes invested instead in stocks and bonds. In fact, among the so-called Generation Xers in America, by a margin of two-to-one they think they are more likely to encounter a UFO in their lifetime than they are to ever receive a single Social Security check. Even more remarkable, perhaps, was a poll taken just this year by White House pollster Mark Penn for the Democratic Leadership Council, a group of moderate Democrats with whom President Clinton was affiliated prior to his election. That poll found that 73 percent of Democrats favor being allowed to invest some or all their payroll tax in private accounts.

Now, this is a truly astounding turn of events, because Social Security has not only been very popular during all but the past few years of its existence, it has always been cited as the very essence the Democratic party. The most popular Democratic president in history was FDR, Franklin Roosevelt. Yet, recently the Democratic Leadership Council’s magazine featured a picture of a smiling FDR seated in a car under the headline, “The New Deal: Time to Move On?” And that was an appropriately symbolic commentary because privatizing Social Security means privatizing 23 percent of the national government in America.

It also means changing the political dynamics of America in a very fundamental sense. For when members of labor unions, the average blue collar worker, blacks and other traditional constituencies of the Democratic party start investing in stocks and bonds that they own, rather than counting on government as a security blanket, their attitude toward the free enterprise system, toward corporate profits, and, indeed, toward big government itself is going to change. This dynamic has in fact already occurred in Chile. If the Democrats in the U.S. are going to be competitive in a post-privatized Social Security era, they’re going to have to fundamentally alter their agenda.

And that is why the political stakes are so high with this issue. Thus far, it has been primarily Republicans who have ventured out to explore the political possibilities of Social Security privatization. There is in the U.S. House of Representatives a bipartisan caucus of some 80 members pursuing the idea of privatizing the system. The vast majority of them are Republicans. In the Senate, however, one of the leaders of the privatization movement has been Sen. Bob Kerry of Nebraska, a Democrat who some think may seek the presidency in 2000. Another Senate proponent of the idea is Republican Sen. Phil Gramm of Texas who is an economics professor by training and well-equipped to make the case for privatization to his colleagues.

At the presidential level, we know first-hand that Bill Clinton is aware of the Chilean success story and aware of the pending crisis in Social Security. We also know that Mr. Clinton is seeking his place in American history — that he wants to make his mark on the American polity so he’s remembered for something other than the Paula Jones episode. So, I don’t think it’s out of the question that in Clinton’s State of the Union Address this winter he will make partial privatization of Social Security a major goal for the remainder of his administration.

Perhaps the most important new ally in the pension privatization movement is Federal Reserve Chairman Alan Greenspan. Ironically, he was the head of the Greenspan Commission that in 1983 claimed to have solved the Social Security system’s financial problems all the way through to 2068. His commission did so by increasing taxes, reducing benefits, and extending working years prior to receiving benefits. Privatization was not even considered. To his credit, however, Mr. Greenspan now seems to realize that privatization, especially if it increases the savings rate, which it undoubtedly would, is the answer to the financial crisis of Social Security’s huge unfunded liability.

In testimony before the Task Force on Social Security of the Senate Budget Committee on November 20, Greenspan said, “There are a number of broader reform initiatives that, through the process of privatization, could increase domestic savings rates. Given the considerable stakes involved, these are clearly worthy of intensive evaluation. Perhaps the strongest argument for privatization,” Greenspan said, “is that replacing the current under-funded system with a fully funded one could boost domestic savings.” Greenspan then spent the rest of his testimony discussing whether privatization should be phased in or done as “a ‘big bang’ one-shot transition,” as he put it. Based on this testimony, just three weeks ago, it is clear that the chairman of the Federal Reserve System in the United States favors privatization of the Social Security system.

As all of this points out, I hope, popular support and political support for this idea is quite strong in the U.S. I don’t mean to imply that we are on the verge of victory, because the opposition to Social Security privatization is intense and only now are opponents recognizing how much progress those of us in the movement have achieved. The battle is really only just being engaged.”