Raising the Ante in Social Security ReformCommentary by Pete du Pont
July 22, 1998
A few years ago, no one but the Vast Right-Wing Conspiracy was talking about the need to privatize Social Security so that part or all of the 12.4 percent payroll tax that working people pay into the system would go into their own private retirement account.
But a funny thing happened on the way to ridiculing the privatizers: President Clinton's own Social Security advisory council confirmed in January 1997 that the current system is unsustainable and proposed three different reforms, each of which included some level of privatization. The Vast Right-Wing Conspiracy suddenly became the Vast Middle-of-the-Road Conspiracy.
The next major step came when President Clinton called for national town halls that would examine the issue. That step did not mean that the administration was serious about reforming Social Security, only that it wanted to appear to be taking the matter seriously. No better way to postpone or kill a popular idea than by studying it to death.
Then Senator Daniel Patrick Moynihan (D-N.Y.) called the president and raised him by proposing a 2 % reduction in the Social Security payroll tax, which workers could deposit in their own personal retirement savings accounts.
Now Phil Gramm has kicked in his plan: Let's call it the "3 % solution."
Current workers would have the choice of joining the new investment-based system or remaining in the old system. Those who stay in the old system would see no changes, either in taxes or benefits.
Those choosing the investment-based system and all new workforce entrants would invest 3 percentage points of their payroll tax into their Social Security Individual Investment Account (called an SI account). The remaining 9.4 percentage points would be used to fund current and future retirees who stay in traditional Social Security.
While the accounts would be the property of the worker, Gramm envisions a regulatory board that would oversee the safety and soundness of the accounts, so that they are safe from mismanagement either at the top or bottom.
At retirement, workers would take the money set aside in their account and purchase an annuity equal to 120 percent of promised Social Security benefits. If there wasn't enough money in the account to purchase such an annuity, the government would make up the difference. In other words, there is no way a person shifting from traditional Social Security to the SI account could lose.
As the limited number of workers and retirees in the old system die over time, decreasing financial demands on the Social Security system, the government would not need the whole 9.4 percentage points. As a result, workers' contributions to their SI accounts would increase and the payroll tax dedicated to funding the public system would decrease. Once the savings rate hit 8.5 % in addition to 1.5 % to finance Disability Insurance (which is included in the Social Security system), the payroll tax would be decreased from 12.4 % to 10 %, which would increase economic growth.
Unfortunately, the 9.4 percentage points of the payroll tax won't fund all of the transition costs ó the costs of moving from the old system to the new. That money will have to come from other sources, such as general tax revenue. But the important point to keep in mind is that while the transition costs are high now, they will only be higher in the future.
In response to Senator Gramm's and other's proposals, some Democrats are also increasing the ante. They know that if Social Security is really reformed they will lose their financial grip on the nation's elderly. As a result, they are offering to cut benefits and invest, say, 50 % of the money going into Social Security in the market. Of course, since the government spends almost all of the money it receives in payroll taxes to pay current retirees, it could not set aside such large amounts without additional money. In other words, the Democrats can't afford their bet.
Senator Gramm's plan is one of the best bets yet. He knows that the Social Security trust fund is going bankrupt, and he is determined to do something about it. In the language of poker: Senator Gramm isn't bluffing.