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Interview ¦ October 26, 2000
Social Security plans leave much unanswered

By William Neikirk, Washington Bureau

WASHINGTON - Vice President Al Gore would put a large bandage on Social Security. Texas Gov. George W. Bush would perform major surgery. In either case, no one is sure whether the patient would get better.

No issue divides the two major party presidential candidates more than the long-term financial health of the 65-year-old retirement system, now scheduled to run out of money in 2037 with millions of Baby Boomers in retirement. Both men have dared to touch an issue called the "third rail of politics."

The fundamental question on the table for voters: Should the Depression-era retirement plan be converted from a pay-as-you-go system of guaranteed benefits based on lifetime earnings into a hybrid that gives workers a choice of what to do with some of their money? Both candidates' plans have flaws, but, according to most analysts, one thing is sure: Social Security faces a 21st Century funding crisis as the ratio of workers to retired people dips. Now there are 3.4 workers contributing taxes to the system for every retired person. In 2030, according to so-called intermediate assumptions of the Social Security trustees, there will be only 2.1 workers per retired person.

Without changes, the system's projected surplus of $2.4 trillion in 2010 would be exhausted by 2037, according to trustees. After the surplus runs dry, revenues from payroll taxes at first would be sufficient to pay only about three-quarters of promised benefits, the trustees said. This revenue gap would grow to an estimated two-thirds of Social Security's obligations by 2075. Gore's plan would simply shore up the current system with general revenue until 2054. Bush would introduce a privatization concept, allowing workers to put perhaps 2 percentage points of their Social Security payroll taxes into personal retirement accounts for investment in stocks and bonds. The payroll tax now totals 12.4 percent, with employers paying half.

Bush's forces claim that these accounts would bring higher returns and a better financial deal for workers than they would get by sticking with the current system. His advisers estimate a 7 percent annual gain from personal retirement accounts compared with Social Security's modest 2 percent return in interest earned on its vast government-bond holdings.

Despite these claims, Gore's supporters said the Republican candidate's proposal can't work without a dramatic cut in benefits and without introducing major new uncertainties for workers and their families as they plan for their retirement. Yet actuaries say both plans are rife with design problems and may fail to close Social Security's projected financial deficit.

"In order to save Social Security, you either have to raise taxes or cut benefits," said Rob Gebhardtsbauer, senior pension fellow at the American Academy of Actuaries. "Privatization alone won't do it."

Workers who opt for Bush's personal retirement accounts also could face huge transaction costs as they buy and sell stock, actuaries say, a fact that would lower their returns. "The cost of administration will be humongous," said New York actuary David Langer.

The back-and-forth contentions over Social Security make it hard to judge these competing claims. The claims hinge on the assumptions of those making them and, to some extent, on a profound faith in the marketplace. As economic experts like Gebhardtsbauer point out, it is increasingly clear that if Americans cast their vote based on the Social Security issue alone, they will become prisoners of economic assumptions that may or may not pan out over the next 75 years.

Gebhardtsbauer also said that Gore's proposal would, for the first time, use general revenue to prevent the Social Security system from going under, and this could cause a tax increase or a federal deficit if there is not enough money in the Treasury to keep the system afloat. Bush has been vague about the details of his plan, but there seems little doubt that workers who decide to set up private retirement accounts with 2 percentage points of their payroll tax likely would expect to see their benefits cut over their working lives. This is part of the basic design of most privatization plans.

The Texas governor has said that neither current retirees nor "near-retirees," those presumed to be 55 years or older, would face benefit reductions, implying that future retirees who are now under age 55 just might.

To set up the new accounts for workers, Bush would have to take away money from the trust fund that would otherwise go to pay current beneficiaries. In the first presidential debate, Bush did not dispute Gore's statement that his plan would eat up more than $1 trillion of the $2.4 trillion Social Security trust fund surplus over the next 10 years.

As a result of using some of the surplus, the trust fund would be exhausted much sooner, perhaps as early as 2023, several actuaries said. And it would call into question whether the personal retirement accounts alone would do the job of saving Social Security.

Gore adviser Alan Blinder, a former vice chairman of the Federal Reserve Board, said any workable privatization proposal includes either higher payroll taxes, cuts in future benefits or massive transfers of funds from the Treasury. Many such plans introduced in Congress combine some of these elements, he said.

"The Bush plan cannot work as he has suggested it would work," said Blinder, who co-authored a study for the Century Foundation claiming the governor's plan would require cuts of more than 50 percent in Social Security benefits for younger workers.

Some Republicans who claim that privatization will work are more up front about the need for benefit cuts. Rep. John Kasich (R-Ohio) has introduced a plan similar to Bush's that would reduce the Social Security benefits of future retirees by a total of about 45 percent.

Yet Kasich's staff said that an evaluation by the Social Security Administration's chief deputy actuary, Stephen Goss, showed that over 75 years the accounts would for the most part earn back the cuts for workers and in some cases put them ahead. In general, younger workers came out even or slightly ahead, while middle-age workers still did not earn back all their benefit cuts. The report, however, assumed a 7 percent return on the investments -- an assumption open to challenge by critics.

The Bush camp is unwilling to concede that Draconian measures will have to be taken, despite much testimony to the contrary. "Personal accounts will make the system solvent in the long run," said a confident John Taylor, a Bush adviser and economics professor at Stanford University.

As these accounts grow, advocates of privatization say, the gains over 50 to 75 years will offset the cutbacks in the traditional program. But Gebhardtsbauer is skeptical that these accounts can generate high enough returns to counter reductions required to make the system solvent. "You can't save Social Security just through privatization earnings," he said. Gore's plan would do nothing to reform Social Security, except to increase payments for elderly women who live alone. And for the first time, he would use general tax revenues to extend the life of the system. The vice president would first use projected government surpluses to pay down the $3.5 trillion federal debt. Then beginning in 2011, he would credit the Social Security Trust Fund with the annual interest saved from eliminating the debt, so that Social Security would last, at least in theory, until 2054.

Bush has called these transfers to the trust fund, made in the form of U.S. bonds, nothing more than government IOUs that later could cause taxes to be raised or benefits to be cut when the trust fund (which must invest in such bonds) cashes them in to pay benefits.

Retirement Savings Plus is Gore's answer to Bush's private account plan. Much in the way a company matches employee 401(k) plans, under Gore's proposal the government would match a portion of the savings of taxpayers earning up to $100,000 a year.

While Gore's camp said this plan would cost $200 billion over 10 years, Taylor said the cost could easily be three or four times that much. Laura Tyson, a former economic adviser to President Clinton, countered that Gore's retirement-plus proposal would prompt many middle-class Americans who now save little money to salt more away for retirement.

Critics of Bush's Social Security plan cite many problems that will crop up if the governor is elected and succeeds in passing his program through Congress. For example, transition costs of going to a so-called investment-based system could be enormous.

Bush's advisers have acknowledged that the Republican's plan would envision massive trust fund borrowing from the U.S. Treasury -- in the form of a "bridge loan" -- for a number of years in order to meet retirees' payments while the new personal accounts grow in value for workers. Taylor downplayed the extent of such borrowing, saying it would be necessary until 20 years from now, but in other privatization plans, such as the one proposed by Kasich, the cost of these bridge loans would amount to billions of dollars and be required for as long as 45 years.

Tyson said that the transaction costs involved in buying and selling stock could reduce the rate of return under these accounts by several percentage points. "I worry about unsophisticated investors," added Blinder. "All too many sharpies are ready to take them for a ride."

Bush has indicated he would favor some kind of government supervision over these accounts that would require workers to put their money in safer investments, such as stock and mutual funds. Actuary Langer had a larger concern. With so much money rushing into the stock and bond markets, he said, he fears that a stock market bubble will be created that could lead to a crash, then a recession. "It puts the public at risk," he said.


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