How Much Do Americans Depend on Social Security?
Tuesday, August 07, 2007
by Laurence J. Kotlikoff, Ben Marx and Pietro Rizza
Table of Contents
Effects of Eliminating Social Security
"Changes in Social Security would not only affect households' retirement living standards, but their current consumption as well."
Policymakers are not seriously considering completely eliminating Social Security. But in order to demonstrate that Americans at all income levels depend on Social Security, the model was used to answer the hypothetical question: What would happen to households at different income levels if Social Security benefits were simply to disappear? Analysis of the representative households modeled for this study shows that the elimination of Social Security would not only affect households' living standards in retirement, but their current consumption as well.
"Social Security replaces more preretirement income for lower-wage workers than for higher-wage workers."
Effects of a 100 Percent Benefit Cut on Households Approaching Retirement. Figure I shows the full annual Social Security benefits representative households at different income levels expect to receive under current law. 4 If Social Security benefits were eliminated, retiring 65-year-olds would have no time to prepare. They would immediately reduce their discretionary consumption in reaction to the loss of retirement income, by 35 percent for the highest earners up to 100 percent for the lowest-earning households. 5 This represents a drastic reduction in living standards for all the households. The loss of benefits would also affect the obligatory spending of all of the households; however, they all have some asset income on which to rely for obligatory spending. As Figure II shows:
- With full Social Security benefits and their own retirement savings, the 65-year-old couple with a preretirement income of $200,000 would have $55,247 in annual discretionary consumption in retirement; but without Social Security benefits they would have only $12,204, or 78 percent less.
- The couple with a super-high preretirement income of $500,000 would have $108,454 available annually for discretionary consumption with Social Security; but without benefits they would have only $69,854, or almost 36 percent less.
"Without Social Security, high income retirees would cut their consumption by more than one-third."
Figure III shows that the percentage reductions in the consumption of single 65-year-olds are similar to the reductions for couples with comparable incomes:
- The single 65-year-old with a preretirement income of $100,000 would have $29,279 a year in discretionary consumption with full benefits; but without Social Security would have only $6,953, or about 76 percent less.
- The wealthier single with a preretirement income of $250,000 would have discretionary consumption of $49,691 with full benefits; but without Social Security would have about $30,147, or 40 percent less.
But how can it be that such high-earning households depend on Social Security for so much of their retirement consumption? It is not for lack of saving: In the simulation, the couple earning $500,000 arrives at age 65 with $2.3 million in assets. This may seem like a lot of money, but potentially it must finance 35 years of retirement. 6 The simulations assume the household earns a pretax real return on these assets of only 3 percent; 3 percent of $2.3 million is just $69,000 a year. 7 Lower-income seniors would face much greater reductions in their discretionary spending. For example, the simulations show that absent Social Security, 65-year-old couples with preretirement incomes of $20,000 to $50,000 and single households with incomes of $10,000 to $25,000 would have no income for discretionary consumption!
"Low-income retirees would lose virtually all of their discretionary consumption."
If Social Security disappeared tomorrow, the consumption of retirement-age households of all income levels would decline significantly, demonstrating that almost all households depend on Social Security — even the very wealthy.
"Younger workers would have many years to adjust to changes in Social Security."
Effects of a 100 Percent Benefit Cut on Younger Workers. Younger households would have decades to adjust to the disappearance of Social Security by reducing their current consumption in order to increase their savings rate. But lower-income households cannot fully smooth their consumption (as discussed in the side bar). Thus their retirement living standards will be much lower without the income they had anticipated from Social Security. Tables I and II show the reduction in current consumption of 35-year-old households resulting from Social Security cuts.
Among 35-year-old couples, for example [see Table I and Figure IV]:
- Those with annual incomes of $100,000 would reduce their current consumption almost 23 percent, from $43,860 to $33,905.
- At retirement, however, they would still have much less income available for discret ionary consumption than with full benefits; instead of the $43,276 annually they expected, they would have only $23,660, or 45 percent less.
- Couples with annual incomes of $200,000 would reduce their current consumption almost 24 percent, from $74,508 to $56,781; but at retirement, they would have only $39,622, or 39 percent less, in discretionary consumption.
"It would be difficult for couples to adjust to the disappearance of Social Security."
The single-parent households closely mirror the couples [see Table II and Figure V]:
- Singles earning $50,000 a year would reduce their current consumption almost 16 percent, from $24,918 to $20,966; but at retirement, instead of the discretionary income they expected with full benefits, they would have only $11,580, almost 50 percent less.
- Singles earning $100,000 a year would also reduce their current consumption about 16 percent, from $42,456 to $35,516; but at retirement they would have only $19,616 for discretionary consumption, about 42 percent less.
"Retirement living standards would be much lower for all but the wealthiest 35 year olds."
What do these numbers mean? They mean that these younger individuals and couples are unable to smooth their consumption over their remaining lives in response to the elimination of Social Security. This is shown by the fact that the percentage reduction in their discretionary consumption at retirement is much greater than the fall in their current consumption.
Young, wealthy couples and singles, however, would be able to spread the loss of Social Security benefits over the whole of their remaining lifetimes, smoothing their consumption:
- Couples earning $500,000 would reduce their current consumption at age 35 from $169,301 to $138,996, or about 18 percent, and at retirement would also have about 18 percent less discretionary consumption than with full benefits ($96,993 and $118,140, respectively).
- Similarly, the wealthiest singles, earning $250,000 a year, would reduce their current consumption 18 percent, from $100,414 to $82,786, and at retirement would also have about 18 percent less discretionary consumption than with full benefits ($45,724 and $55,460, respectively).
"Only the wealthiest couples would be able to spread the loss of benefits over the whole of their remaining lifetimes."
By doing so, they avoid drastic changes in their discretionary consumption over their remaining lives.