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AARP Says Social Security Needs "Moderate" Changes

We explore just how "moderate" these reforms are, and what exactly they do to solve the system's long-term deficit.

March 8, 2005

Modified: March 8, 2005

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Summary

 

Can the current Social Security system -- without individual accounts -- be fixed with only "a few moderate changes," as AARP suggests in a recent newspaper ad? A look at some of proposals that have been verified by neutral experts shows that they rely more on tax increases than benefit cuts. Whether the required changes are "moderate" or not will be a matter of opinion, but readers can judge for themselves by looking at the details we present here.

We note here that some proposals turn out to be only temporary fixes. They put the system in balance for a 75-year period immediately following enactment but leave it with a large and growing gap between benefits and taxes at the end. Worse, such "75-year fixes" actually come undone within a few years, just like the 1983 package of tax increases and benefit cuts that was supposed to solve the system's financing problems, but didn't. Achieving sustainable solvency requires bigger changes.

Analysis

 

The "moderate changes" argument is made fairly often, mainly by opponents of  individual Social Security accounts. So let's take a look.preview image

A current newspaper ad from AARP, for example, says "If you have a problem with the sink, you don't tear down the entire house." And it adds, "Yes, the program is in need of reform, which can be done with a few moderate changes, but it is not in need of a radical overhaul." (For a larger image of the ad see "supporting documents" at right.)

The brief ad doesn't attempt to detail just what changes AARP might favor, and AARP has so far advanced no specific plan to eliminate the looming Social Security deficit.  For that matter neither has President Bush. He describes his proposal for individual accounts in glowing terms while his aides concede those accounts won't by themselves address the gap.

The problem, of course, is that the taxes now in place won't pay for the future growth of benefits built into the current system. The gap is estimated at $3.7 trillion over the next 75 years -- and is projected to get steadily worse after that.

A number of detailed proposals have been advanced to restore solvency to the current system -- without adding individual accounts. Some have been examined by neutral experts including the chief actuary of the Social Security Administration, a career professional who has the respect of experts on all sides of the debate.

A Temporary Fix: Ball's 2003 Plan

One of the most moderate (or least "radical," depending on your point of view) was put forth by Robert M. Ball, a former Social Security commissioner who has been a staunch defender of the program for decades.

 Why A "75-year Fix" Doesn't Last

Proposals that put the system in balance only for the next 75 years, without closing the gap between taxes and benefit at the endof the period, come undone in a few years.
That's what happened in 1983, when a bipartisan compromise seemed to solve the system's financial problems, for a while.
The reason is that every year the actuaries are looking at a different 75-year window, dropping the most recently ended "good" year in which there is a surplus, and adding a "bad" year at the end of the 75-year period, when there is projected to be a large and growing deficit.

In 2003, Ball proposed a combination of tax increases and one slight benefit cut that would have put the system in balance for the 75 years following enactment – but not permanently. “The (Ball) proposal would not achieve sustainable solvency,”  Social Security chief actuary Stephen Goss said in an analysis that was made public on the Social Security Administration's website.

In other words, given current long-term trends as projected by the system's actuaries, Ball's proposal would postpone insolvency by several decades, but not prevent  it. Furthermore, the system would appear to be in balance only for a short time and actuaries would soon be projecting new 75-year deficits.

(See "Why a 75-year Fix Doesn't Last" at left).

Ball’s 2003 plan would start with two relatively modest changes:

  • Phase in higher taxes on high-income earners . The increase would fall on the top 6% of earners, gradually raising the amount of earnings subject to the Social Security taxes to about $145,000 a year (in current dollars), up from $90,000 at present.
  • Trim the annual cost-of-living increases given to all beneficiaries by an estimated 0.22 per cent per year. This would be done by switching from the current inflation index to a new one devised by the Bureau of Labor Statistics, which Ball calls more accurate. Ball's sole benefit change would do about half as much as the tax increase to narrow the 75-year gap, the actuary calculated.

Taken together, these two measures would cut the 75-year deficit roughly in half and postpone the exhaustion of the trust fund by 13 years.  But they would still leave the system nearly as bad off at the end of the 75-year period as it is now. Overall, promised benefits would exceed taxes by just over 5 percent of payroll under Ball's proposal (compared to 5.9 percent under current projections), and the shortfall would be growing worse each year.

So, Ball included a second and much larger tax increase in his proposal, but delayed its effect. The third part of Ball's 2003 proposal would:

  • Schedule an across-the-board tax increase, adding 2.44 percentage points to the current rate of 12.4 percent (shared equally between workers and employers), starting 35 years in the future .

Scheduling a tax increase of that size 35 years in the future might make the Ball plan seem more "moderate" to today's voters, since most of them would be retired and no longer paying payroll taxes by the time it went into effect. That 2.44 tax increase would postpone insolvency until the end of the 75-year period, but it still wouldn't solve the problem permanently. According to the actuary's calculations, it would still leave promised benefits exceeding taxes by 2.71 percent of payroll in the 75th year. That would be less than half the current projected gap, but it would be growing larger each year after.

Another Temporary Fix: Ball's 2004 Plan

Ball put forth another plan in 2004, also relying largely on tax increases and also failing to achieve sustainable solvency.

His current plan starts with the same two features as the 2003 plan -- a tax increase on upper-income workers and a 0.22 percent per year reduction in annual cost-of-living increases for beneficiaries. But to close the rest of the 75-year gap Ball now proposes:

  •  Covering all state and local government employees hired after 2009. This does little, and only for a while. It would eliminate about 10 percent of the 75-year deficit as new government workers are taxed during their working lifetimes. But it also leaves the system about where it was at the end of the 75-year period, because it increases the amount of benefits owed when those state and local workers retire.
  • Use a permanent estate tax of up to 45% on the value of estates above $3.5 million to help fund Social Security beginning in 2010. Ball would freeze the estate tax at the level which it is currently scheduled to reach in 2009, and divert proceeds to Social Security. He also would eliminate the scheduled repeal of the tax, which is scheduled to go out of existence for one year at the end of 2010. This would at first fall only on the largest 1% or so of estates, but would gradually hit more families over the decades as inflation pushes up the value of future estates. This proposal would eliminate an estimated 27% of the 75-year deficit.
  • Schedule an across-the-board tax increase of 1.56 percentage point (shared equally between workers and employers), starting in 2058. Ball would also have this rate adjust automatically up or down -- depending on future projections of the Social Security actuary -- by just enough to carry the program through 2078. That would eliminate an estimated 15% of the 75-year gap.

Like his 2003 proposal, however, Ball's current plan wouldn't achieve sustainable solvency, an idea he dismisses as impractical. "I find that ridiculous," he told FactCheck.org. Ball says any number of current assumptions could turn out to be wrong and that nobody can foresee how trends will change over the next 75 years.

But unless trends change quickly, and for the better, Ball's proposal would leave Social Security facing another large 75-year deficit after only a few years. Ball himself acknowledges this in his own 2004 proposal:

Robert M. Ball: We should be aware, however, that future actuarial estimates may show a substantial deficit developing as the 75-year estimating periods move further and further into the future. This is because, other things being equal, each new 75-year period is slightly more expensive than the previous one.

That's just what happened after 1983 when a bipartisan compromise raised taxes and made other changes that put the system in balance for the 75 years following -- but not permanently. 

A Permanent Fix

Experts agree it will take bigger changes than Ball proposes to achieve a permanent fix for the system. One such proposal  was put forth by Peter Orszag of the Brookings Institution and Peter Diamond, a professor of economics at the Massachusetts Institute of Technology.

Like Ball's proposal, the Diamond-Orszag proposal leans more heavily on tax increases than on reductions in promised future benefits -- but changes in both would be larger. High-income workers would bear sharper tax increases and deeper benefit cuts than middle- or low-income workers, who in some cases would see benefits improve.

This plan would keep the program solvent even beyond the next 75 years, given current trends. The Social Security actuary examined the plan and said it would make Social Security "sustainably solvent . . . for the foreseeable future." The nonpartisan Congressional Budget Office also reported  that the Diamond-Orszag plan would achieve stability, with the Social Security trust fund actually growing slowly at the end of the 75-year period.
Here are the main features of the Diamond-Orszag plan:

  • new payroll tax to start immediately on upper-income workers - 3 percent of all wages over the amount already subject to the regular 12.4 percent Social Security tax. Half would be paid directly by the worker and half by the employer. After 2022 the new tax would rise gradually to 4 percent in 2079.
  • An increase in the amount of earnings subject to the current payroll tax, from $90,000 at present to roughly $105,000 (in today's dollars) in the year 2057.
  • A gradual increase the basic Social Security payroll tax rate paid by all workers and employers, eventually allowing the rate to escalate automatically in line with increases in life expectancy. The Congressional Budget Office projects that the rate would increase from 12.4 percent currently to 12.7 percent in 2025 and 15 percent in 2075.
  • A reduction in growth of future benefit levels for those born in 1950 and later , based partly on future increases in life expectancy. CBO calculated that currently scheduled benefits for a typical worker would be reduced by 2 percent in 2025, 12 percent in 2050, and 23 percent in 2105. The cuts would be even larger for upper-income workers.

Readers will have to decide for themselves whether changes of that magnitude are "moderate" or not, but that is the general scale of change required to bring the benefits currently promised in line with the taxes available to pay for  them.

Do Your Own Fix

There are many ways to cut promised future benefits or raise taxes, and the possible combinations are nearly endless. Recently the Social Security actuary updated for the Social Security Advisory Board an analysis of the effect of a laundry list of ideas that have been floated from time to time. The Feb. 7 memo gives the effects of each proposal as a percent of all taxable wages. From that, we calculated how much of the gap each of these proposals would close in percentage terms, both for the 75-year period now just ahead, and also at the end of the 75-year period. For a permanent, sustainable solution both gaps must be reduced by 100 percent.

Here are a few of the proposals:

  • Make all earnings subject to the payroll tax. Currently, earnings above $90,000 aren't taxed. Eliminating that cap would hit only the highest-earning 6% of the population. This would bring in enough to close 93% of the gap over the next 75 years, but only 33% of the gap at the end. One reason is that high-income taxpayers would draw increased benefits in the future based on their higher taxable wages.
  • Make all earnings subject to the payroll tax and deny high-income earners the benefit of that change when calculating their future benefits. This would close 116% of the gap for the 75-year period -- actually putting it in surplus. But it wouldn't be a permanent fix, closing just under 50% of the gap at the end.
  • Cover newly hired State and local government employees beginning in 2005,  four years sooner than Ball proposes. This would close 11% of the gap over 75 years, but leave things virtually unchanged after that -- a miniscule two-tenths of one percent improvement at the end.
  • Invest 40% of the Trust Fund in equities over the next 15 years. Since stocks usually bring a better return than the federal debt securities now held by the trust fund, this proposal is estimated to close some of the gap over the next 75 years. If stocks rise an average of 6.5 percent a year faster than inflation (in line with historical averages) it would close 48 percent of the gap. If stocks rose more slowly -- 5.5 percent per year above inflation -- it would close only 34 percent of the gap. Either way, the trust funds eventually become depleted, leaving nothing to invest. And so this proposal by itself closes zero percent of the gap at the end.
  • Reduce benefits across the board by 3 percent for those newly eligible for benefits in 2005 and later. Trimming promised benefits for all future retirees (and disabled workers and surviving spouses and children, too) would  close only 20% of the gap for the 75-year period, and 9% of the gap at the end.

For our calculations of the effect of other options see Table 1 in "supporting documents" at right. All percentages are calculated from figures given in the chief actuary's Feb. 7 memo.

One caution -- readers should be careful when attempting to "mix and match" these proposals to come up with their own package. All these calculations show the effects of each proposal enacted alone. The actuary's memo warns: "The combined effect of several provisions together would involve complex interactions that can result in quite different effects from those implied by simply adding the effect of the individual provisions."

For example, combining the proposal to invest trust fund money in the stock market with a proposal to raise the cap on taxable wages would have a combined effect greater than simply adding the two together. That's because the tax proposal by itself is estimated to push back the projected exhaustion of the trust fund to the year 2079, and so the system would be the benefit of the higher yields on stocks held in the trust fund for several additional decades.

Will We Just Get Lucky?

Nobody can predict the future, and we don't pretend to do so. The estimates given here are based on what are called the "intermediate" assumptions of the Social Security chief actuary. These include projections of how many years medical science will add to the average American's lifetime, how many immigrants (legal and illegal) will enter the country over the coming decades, how many babies will eventually be born to women who are themselves yet unborn, how productive workers will be 50 years from now and beyond, and how much the American economy will grow through economic cycles and possibly even future wars or disasters. The actual future could turn out to be better than expected, or worse. But the odds of Social Security's finances somehow fixing themselves are quite remote.

The Congressional Budget Office, for example, recently estimated the range of uncertainty by running 500 different computer simulations of possible Social Security outcomes. It found a 90% likelihood that benefits would exceed revenues by the year 2025, and a virtual certainty that the trust fund would be exhausted sooner or later.

Sources

 

Stephen C. Goss, "Estimated OASDI Financial Effects for Two Provisions that Would Improve Social Security Financing Plus a Balancing Tax-Rate Increase," memo  to Robert M. Ball: 10 Oct 2003.

Robert M. Ball, "Social Security Plus:" December 2004.

Chris Chaplain & Alice H. Wade, "Estimated OASDI Long-Range Financial Effects of Several Provisions Requested by the Social Security Advisory Board,"  memo to Stephen C. Goss, Chief Actuary, Social Security Administration: 7 Feb 2005.

Congressional Budget Office, "Updated Long-Term Projections for Social Security," March 2005.