NCPA - National Center for Policy Analysis

Investing Suplus In Stocks Less Risky Than Doing Nothing

July 23, 2001

Based on the historic long-run behavior of the stock market, investing the Social Security surplus in stocks via personal retirement accounts would be less risky than maintaining the status quo, according to a study released today by the NCPA and the Private Enterprise Research Center at Texas A&M University.

Social Security uses a worker's highest 35 earning years to calculate benefits. In even the worst 35-year period in the stock market, the return has been greater than the return a young worker today can expect on Social Security taxes paid.

In fact, the study found, in any 35-year period over the past 128 years:

  • The average annual real rate of return for an all-stock portfolio was 6.4 percent, with the lowest being 2.7 percent.
  • The average annual real rate of return for a portfolio of 60 percent stocks and 40 percent bonds was 5.1 percent, with the lowest being 2.0 percent.
  • By contrast, nearly all young people entering the labor market can expect a return on the Social Security taxes they pay of less than 2 percent.

To provide insurance against outliving one's savings, a retirement system based on individual retirement accounts must convert the funds into annuities upon retirement. The study estimates that if a typical worker contributes 2 percent to an all-stock portfolio over 35 years:

  • During retirement, a private annuity would be expected to equal 43 percent of currently promised Social Security benefits, on average.
  • The annuity could equal anywhere from 85 percent in a best-case scenario to 17 percent in a worst-case scenario -- however, every serious proposal limits the downside risk to the retiree.

And if the surplus isn't invested in the market? When today's 18-year-olds become eligible for retirement in 2050, their children and grandchildren will face a payroll tax of about one-third just to pay for Social Security, Medicare and other health benefits now promised.

Source: Liqun Liu, Andrew J. Rettenmaier and Zijun Wang, "Social Security and Stock Market Risk," NCPA Policy Report No. 244, National Center for Policy Analysis, July 23, 2001.


Browse more articles on Tax and Spending Issues