Since its inception in the 1930s, Social Security has provided millions of Americans with safety and insurance in the case of unemployment, injury, and old age. Compromising 20.8% of our government budget and spending more than $700 billion per year, it is our nation’s single largest transfer program. The benefits of the system, however, are well worth its cost; Social Security alone is estimated to keep roughly 40% of Americans over the age of 65 out of poverty. Protecting the program should therefore be of primary importance to all morally-minded Progressives.
Unfortunately, Social Security is in trouble. A report issued by its trustee’s warns that the program will likely be unable to pay retirees full benefits by the year 2037. The aging of the baby boomer generation coupled with decreasing fertility rates and increasing longevity means that the problem of insolvency (running out of money) is immediate and chronic; a temporary fix is not the solution. Republicans in Congress, led by Paul Ryan and his Path to Prosperity, have advocated overhauling the program by switching from the current pay-as-you-go system to a system of Personal Retirement Accounts (PRAs). PRAs effectively privatize Social Security by shifting revenue from its current home in the trust fund (which holds extremely safe, AAA rated government treasury bonds) to stocks and corporate bonds. According to Republicans, PRAs can restore Social Security back to complete solvency in a matter of only a few decades.
The supposed benefits of PRAs are quite impressive. Because stocks and bonds tend to grow at a much faster rate than treasury securities (a portfolio of 60% stocks and 40% bonds is expected to produce, on average, a 5.5% rate of return per year according to Conservative economist Martin Feldstein), PRAs could potentially make Social Security solvent with little increase in payroll taxes or cuts in spending. Think about it this way: under the current system, if you put in $100 today, in ten years from now, you would get back only a little more than $100 (using the rate of return on treasury securities). However, if you put $100 into stocks and bonds generating a 5.5% rate of return per year, you would get back $170 when you took out your money 10 years from now. At face value then, PRAs seem almost too good to be true. They’re like magic-we get a lot more money with no added cost.
But of course, like most things that seem too good to be true; PRAs are, in fact, too good to be true. They come with one very large implicit cost that cannot be controlled for or mitigated by diversification: market risk. Unlike treasury securities, the rates of return on stocks and bonds are subject to fluctuations. On the whole, they make money, but every now and again they suffer major losses. The stock market in particular has shown a propensity to starkly and rapidly drop in value. Take the crash of 1987; the market lost 22.6% of its value in a single day! Or look at the recent financial crisis in which the Dow Jones plummeted from over 14,000 points to around 6,000 points. What this means for PRAs is that occasionally, as a cohort of elderly folks is about to retire, they will suddenly find that they have no money in their accounts due to a decline in the market. So while PRAs might make most retirees better off in the long-run; some will be completely bankrupt.
Consequently, the Republicans have tried to solve this problem. Their game plan is to guarantee all benefits put into Social Security PRAs. In other words, even if the market totally collapses, the government will still pay you back for all the money you put into system. It’s like you can’t lose! Now, that sounds pretty nice, but ultimately this “solution” isn’t a solution at all. In reality, it just poses another problem: who will pay for the guarantee? Well…the taxpayer of course…So imagine that we have another financial crisis in the future, similar to the current one (and make no mistake we almost certainly will), the taxpayer will then be faced not only with potentially having to bail out failing companies, but also with having to bail out Social Security. This would be a double-whammy of costs that would hit the country at a time of great economic weakness; PRAs are simply too risky to undertake.
Make no mistake. The way forward in reforming Social Security won’t be easy. Without a doubt, we will have to raise payroll taxes (hopefully by removing current exemptions for those making over $100,000 per year). We probably will also have to cut entitlement benefits. We might even have to go so far as to lift the retirement age. However, if that is the course we choose, we can feel comfortable knowing that we take it together, that we keep Social Security public, and that we guarantee its solvency without adding unacceptable market risk.