January 19, 2000

January 19, 2000 | Commentary on Social Security

It Was a Very Good Year ... For Others

"Stock markets around the world came roaring back to life in 1999," according to The Wall Street Journal, which was great news for workers in the 18 countries with retirement systems that allow personal retirement accounts. But here in the United States, where the stock market also boomed, American workers remained trapped in a Social Security system that requires them to pay record-high payroll taxes in exchange for meager returns.

In Australia, for example, the stock market grew 12.5 percent during 1999. Australian workers invest 9 percent of their income in personal accounts to pay for future Social Security benefits. Although this is less than the American system's 10.6 percent retirement payroll tax (which includes both the employer's and employee's share), Australians can expect higher benefits because their taxes earn more. The difference between what an Australian retiree earns and what an American retiree earns often amounts to hundreds of thousands of dollars.

Sweden is another example, and perhaps a more striking one because of its enduring reputation as the laboratory of the socialist welfare model. Despite this pedigree, Sweden recently reformed its Social Security system to permit personal accounts. In 1999, its workers earned 79 percent on the part of their Social Security taxes that can be invested in the stock market. That's right -- for every $1 in stocks they bought through their private accounts, they earned $1.79, nearly doubling their money.

Or how about Denmark, where workers earned 22 percent last year on their invested Social Security taxes? Or Great Britain, which has allowed partial individual investment since 1978 and is even now debating ways to further reform its retirement program? British workers with retirement funds in the stock market earned 17.5 percent last year. Not too shabby, as they say on Fleet Street.

In this hemisphere, workers in seven countries are able to use the stock market to enlarge their nest eggs. Workers in Chile saw their stock market rise by 49 percent in 1999, as did those in El Salvador. Mexicans earned a whopping 83 percent. Even the smallest gain, 14.7 percent in Bolivia, dwarfed U.S. returns.

So how did American workers do in 1999? The U.S. stock market rose 19 percent last year. Unfortunately, this growth did not add one penny to Social Security benefits. The average American two-income couple in their 30s can expect to earn only 1.2 percent on their Social Security taxes. If they were allowed to invest their taxes in stock index funds and government bonds, they could retire with $525,000 more than Social Security will provide. High-income workers needn't worry; they can always afford to sock extra money away in a stock portfolio. It's the middle and low-income workers for whom Social Security is the main source of retirement income who need to take advantage of the surging economy, but are barred by their government from doing so.

Instead, these workers must pay taxes into a system that the Social Security Administration itself says will run huge deficits before most workers reach retirement age. By 2015, Social Security's annual deficit will reach $21 billion in 1999 dollars. And by 2025, the red ink will climb to almost $200 billion a year.

Without personal accounts, there are really only two ways to "solve" this problem. Congress can either raise taxes by almost 50 percent or cut benefits by about a third. In other words, Americans must either pick the pockets of their children or their retirees. Either one would be morally wrong -- not to mention political suicide.

But as other nations have shown, there's a better way: Allowing workers to invest their payroll taxes in private accounts that tap market growth. If workers in Chile or Peru can use such accounts to provide a more secure retirement, why can't Americans? If socialist Sweden and capitalist Australia can agree that personal retirement accounts benefit all, why can't the United States work out the details of such a system?

Supporters of personal retirement accounts don't need to argue that stock markets always go up. On a day-to-day basis, they obviously don't. What's important is that over the long term -- which is how people are supposed to invest for retirement -- markets do rise, and they always beat Social Security. In fact, in every 20-year period since Social Security was created in 1935 the stock market has outperformed the government retirement program.

It's too late for American workers to reap the benefits of the market gains of 1999. Let's hope the same won't be true of future years.

About the Author

David C. John Senior Research Fellow in Retirement Security and Financial Institutions
Thomas A. Roe Institute for Economic Policy Studies

Related Issues: Social Security

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