Will the President’s Proposal Solve Social Security’s Crisis?

Policy Reports | Social Security

No. 280
Wednesday, November 16, 2005
by Andrew J. Rettenmaier and Thomas R. Saving

Evaluation of the Pozen Progressive Benefit Formula

Table III - Composition of Total Benefits with Progressive Indexing and 4 Percent Personal Retirement Accounts

The original proposal advocated by Robert Pozen retains scheduled benefits for a larger segment of the retired population than the adjustment evaluated above. Rather than starting progressive indexing at the first bend point in the current benefit formula as above, Pozen has suggested that a new earnings level be defined each year at which progressive indexing begins to affect the calculation of benefits. Specifically, the new bend point would be the first bend point plus 28.6 percent of the difference between the second and first bend point.9 Because this new bend point is above the first bend point, a greater share of new retirees will receive their full scheduled Social Security benefits before the benefit offset. As with the adjustment described above, maximum earners receive benefits from Social Security that are indexed for prices rather than wages. Given that Social Security is paying 100 percent of scheduled benefits, before the benefit offset, to a larger share of retirees, the Pozen version of a progressively price indexed benefit formula, combined with 4 percent PRAs will be more expensive than the one just evaluated. Recall that the adjustment to the benefit formula suggested by Pozen was in conjunction with 2 percent PRAs rather than 4 percent accounts.

For illustrative purposes we now repeat the exercises performed above using the Pozen benefit formula and 4 percent accounts. Table III shows the composition of total benefits for workers born in 1960, 1980 and 2000. As expected from the similarities in the two benefit formulas, the composition of benefits for the very low earners and the maximum earners are identical in both exercises. In the Pozen formula, low earners’ progressive price indexed benefits equal 100 percent of their scheduled benefits. In the previous simulation, however, progressive price indexation resulted in reformed defined benefits slightly less than 100 percent of this group’s scheduled benefits. The reformed defined benefits and total benefits for the low, medium and high earning groups in each birth year exceed the benefits based on the previous simulation. Figures VI and VII parallel Figures II and III and provide a graphical representation of the net Social Security benefit, the PRA annuity and the total benefit for workers born in 1980 and 2000.

Figure VI - Total Benefits as a Percentage of Scheduled Benefits for Workers Born in 1980

The trade-off for the more generous benefits can be seen in Figures VIII and IX. Comparing Figures II and VIII, the Pozen formulation of progressive indexation reduces the cost of the system by less than the base formula. When combined with the benefit offsets, the ultimate cost rate falls below the reformed income rate by 2061 rather than in 2055 based on the first simulation. Figure IX indicates that by 2042 the Pozen plan would result in lower net costs than continuing the status quo. This is one year later than in the first simulation. Further, the greatest deficit with the Pozen proposal is 5.6 percent of payroll, whereas the greatest deficit with the base formulation was 5.4 percent of payroll.

Figure VII - Total Benefits as a Percentage of Scheduled Benefits for Workers Born in 2000

Figure VIII - Annual Revenues and Costs of OASI with and without Progressive Indexing and Personal Retirement Accounts

Figure IX - Income less Costs of OASI with and without Progressive Indexing and Personal Retirement Accounts

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