August 12, 1999 | Commentary on Retirement Security
From modest origins as a program of supplemental retirement income, Social Security has evolved into the biggest government program anywhere in the world -- with 44 million beneficiaries and a budget approaching $400 billion. Yet for all the good it has accomplished, especially reducing poverty among senior citizens, Social Security stands in need of serious reform.
Most Americans understand that Social Security will run short of money when the baby boom generation retires. What they probably do not realize, however, is the magnitude of the shortfall. Beginning with a modest deficit in 2014, the shortfall will grow dramatically, reaching $500 billion before 2030 and $1 trillion before 2040. Even after adjusting for inflation, cumulative deficits between 2014 and 2075 will total nearly $20 trillion -- or five times more than the current national debt.
And this financial crisis is not the only dark cloud on the horizon. Equally troubling, Social Security is deteriorating into a bad investment for workers. People are paying record amounts of tax money into the program during their working years, but the benefits they are promised (which they may not get) are relatively meager by comparison.
When Social Security began, workers must have felt like they won the lottery. The payroll tax was only 2 percent on the first $3,000 of income. Yet even though they paid little tax, these workers got full benefits when they retired. Indeed, consider the case of Ida Mae Fuller, the first person to receive a Social Security check. Her lifetime tax bill for Social Security was less than $25, but she wound up collecting $20,000 in benefits.
Today, workers are not nearly so lucky. First, the tax burden has grown dramatically. Instead of paying a tax rate of 2 percent, the Social Security payroll tax has climbed to 12.4 percent. And instead of paying the tax on just $3,000 of income, the tax now applies to the first $72,400. As a result, the maximum annual tax has risen from $60 to almost $9,000. Little wonder average workers now pay more in Social Security taxes than they send to the IRS.
What's more, benefits have not grown nearly as fast. Workers used to get back all the taxes they paid -- plus interest -- after spending just a few years in retirement. New retirees, by contrast, will have to collect benefits for decades to get their money back. And those just entering the workforce will have to live past 100 to get a decent return from Social Security. Of course, even these bleak forecasts assume Social Security will find the $20 trillion it needs to pay promised benefits.
Politicians have only three ways of dealing with this giant deficit: Raise taxes, cut benefits, or do both -- none of which is an attractive option. The tax "solution," for instance, would boost the payroll tax rate to 18 percent, making Social Security an even worse deal for today's workers. Instead of having to live until 105 to get their money back, they might have to live to 120.
This is the Catch-22 of Social Security. Raising taxes and cutting benefits would help the program's finances, but only by making workers pay more to get less. By contrast, cutting taxes and raising benefits would make Social Security a better deal but drive it into the red that much quicker.
Perhaps this is why so many countries around the world, facing the same demographic trends and fiscal problems as America, have responded by privatizing their old-age programs. Privatization allows policy-makers to escape the Catch-22. Younger workers forego the miserly benefits promised by government-run retirement schemes in exchange for the chance to invest a portion of their taxes privately. This saves the government programs money while allowing workers to amass greater retirement wealth.
Nations as diverse as Australia, Chile, Sweden, Mexico, Poland, Singapore and Great Britain are reaping the benefits of private old-age retirement systems. It's time for Americans to thank Social Security for its long service, give it a gold watch, and wish it a happy retirement. Only then can the country move to a modern retirement system that will provide better benefits for all workers.
Daniel J. Mitchell is the McKenna senior fellow in political economy at The Heritage Foundation, a Washington-based public policy research institute.
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