Thursday, May 26, 2016

CAP: “Yet Another Reason Raising the Social Security Retirement Age Is a Terrible Idea”

Rebecca Vallas, Jackie Odum and Rachel West of the Center for American Progress argue that increasing the Social Security retirement age – currently 66 – is a bad way to move the program toward solvency:

Social Security’s benefit structure is progressive—that is, benefits replace a greater share of wages for lower-income workers, in part because they contribute a larger portion of their earnings in payroll taxes during their working years. Yet when viewed across beneficiaries’ lifetimes, the program’s progressivity has been deteriorating due to the widening gap in life expectancy between rich and poor Americans.

As I’ve argued elsewhere, linking Social Security’s retirement age to differential mortality between rich and poor misunderstands how Social Security works, because an increase in the retirement age is nothing other than a uniform percentage cut in everyone’s benefits. I can think of many reason why you wouldn’t want to fix Social Security with an across-the-board benefit cut, but the link to differing longevity for rich and poor – while seemingly intuitive – isn’t one of them.

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Butler: “It's time to end Social Security for the rich.”

The Brookings Institution’s Stuart Butler argues that Social Security should be means-tested to focus benefit on those who need them the most:

What if we were to recast regular Social Security as true insurance? Insurance is something that pays out only when things go wrong. If you don’t have a car crash, or your house doesn’t burn down, you don’t get your premiums back later in life. What you do get is protection and peace of mind.

So imagine Social Security as insurance protection against being financially insecure in retirement. If it were that, it would be very different from today.

For one thing, we would want the lowest-income retirees to get the largest regular check – assuming they had dutifully paid their payroll tax “premiums” when working – and also enough to keep them comfortably out of poverty without having to rely on SSI. Some retirees with a modest income from, say, an IRA, might still need a small Social Security “insurance payout” to maintain a reasonable standard of living.

In a true insurance model like this, retired Americans with healthy income from assets would get no Social Security check at all, rather than getting the largest checks as they do today. If Social Security is seen as insurance against financial insecurity then Warren Buffet clearly doesn’t need a check. Nor do other older Americans for whom a monthly Social Security check is just a little bit more icing on an already rich cake.

I’m not a fan of means-testing, though I do agree with Butler that Social Security needs to be refocused as a base benefit to insure against poverty rather than a middle- and upper-income substitute for personal saving. But others will disagree. Either way, Butler’s piece is well worth reading.

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How much does Social Security reduce work by older Americans?

Labor supply among older individuals has been dropping for many decades, but it is difficult to determine precisely what role Social Security benefits played in that decline. The reason is that Social Security, as a national-level program, pays the same benefits using the same formula for people in every state. While labor supply declined over the same time period that Social Security payments increased, many other things happened to the country over that long time period.

In a new issue brief published by the Cato Institute, Daniel K. Fetter of Wellesley College and Lee M. Lockwood of Northwestern look at Old Age Assistance (OAA), the precursor to Social Security. What’s important is that OAA benefit levels and eligibility rules differed between states, so Fetter and Lockwood were able to better analyze the effects of these benefits on labor supply from individuals ages 65 and over.

Our results indicate that OAA significantly reduced labor force participation among older individuals. Up to age 65, the age pattern of labor force participation was similar in states with larger and smaller OAA programs. At age 65, however, a sharp divergence in labor force participation emerges. Our estimates imply that OAA can explain close to half of the large 1930–40 drop in labor force participation of men aged 65 to 74.

We also show that when we restrict the sample to non-U.S. citizens — who were eligible for OAA in some states but not others — we find similar reductions in labor force participation after age 65 in states in which noncitizens were eligible for OAA, but we can reject comparable reductions in states in which they were ineligible.

You can find the more technical version of the Fetter-Lockwood study at the National Bureau of Economic Research.

While we want protections for individuals who cannot delay retirement, we also want incentives so that those who can work longer will do so. One idea I’ve proposed is to eliminate the 12.4% Social Security payroll tax on workers aged 62 and above, to make it pay to stay in the workforce rather than retire.

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Monday, May 23, 2016

New papers from the Social Science Research Network

"The Effect of Required Minimum Distribution Rules on Withdrawals from Traditional Individual Retirement Accounts"

JACOB A. MORTENSON, Georgetown University - Department of Economics, Joint Committee on Taxation, US Congress
Email: jm849@georgetown.edu
HEIDI R. SCHRAMM, Joint Committee on Taxation, U.S. Congress
Email: heidi.schramm@jct.gov
ANDREW WHITTEN, Georgetown University - Department of Economics, Joint Committee on Taxation, US Congress
Email: raw65@georgetown.edu

Traditional Individual Retirement Accounts (IRAs) are a substantial source of retirement savings. In 2013, individuals age 60 or older held $3.8 trillion in wealth in IRAs. Under current law, some fraction of these funds must be withdrawn each year beginning the year one turns 70.5 years of age, with the required fraction increasing in age. We study the effects of these Required Minimum Distribution (RMD) rules on the decumulation behavior of retirees using a 16-year panel of administrative tax data. Our data consist of a 5% random sample of individuals age 60 or older from 1999 to 2014, with approximately 2.6 million individuals per year. This period encompasses a unique policy change that we exploit for identification: a one-year suspension of the RMD rules in 2009. Though the RMD rules are modest – leaving one third of the original balance intact by age 90 even if investments generate zero returns – our empirical analysis shows they have large effects on behavior. We estimate that 52% of individuals subject to the rules would prefer to take an IRA distribution less than their required minimum. However, our estimate for the proportion of constrained individuals who took advantage of the RMD suspension in 2009 is 62%. The remaining 38% did not re-optimize, perhaps due to inattention or other optimization frictions. In addition, we document an extensive margin effect among 70.5-year olds: individuals newly subject to the rules are 28% more likely to close their IRAs relative to other age groups. The findings suggest that there are costs associated with paying attention to the RMD rules and that the rules represent a binding constraint for the majority of retirees with IRAs.

"Who is Saving Privately for Retirement and How Much? - New Evidence for Germany"
FZG Discussion Papers 57 (2015), University of Freiburg, Research Center for Generational Contracts (FZG)

CHRISTOPH METZGER, University of Freiburg - Institute of Public Finance
Email: chrisipissi@hotmail.com

Due to demographic change the replacement rates of the German statutory pension scheme will decrease over the next decades. Voluntary savings for retirement will therefore gain more and more relevance in order to maintain one’s standard of living during retirement. This article examines the savings behavior for retirement on an individual level in Germany. As a first step the decision to save at all is analyzed, showing that the main determinants for saving are personal income as well as the disposable household income. Furthermore migrants and individuals living in the Eastern part of Germany turn out to be less likely to save additionally privately for retirement. In a second step the chosen gross saving rates are analyzed using a Tobit, a lognormal hurdle model and a Type II Tobit Model. The results suggest that the decisions to save at all and about the saving rate are independent of each other leading to a loss of information if only a standard Tobit model is used. For example personal income increases the probability to save for retirement but decreases the resulting saving rate. Modelling both decisions separately therefore leads to a better understanding of the determinants of saving for old-age.

"'Death Tax' Politics"
Boston College Law Review, Vol. 57, No. 3, 2016, Forthcoming

MICHAEL J. GRAETZ, Columbia Law School, Yale Law School
Email: michael.graetz@yale.edu

In his Keynote Address “Death Tax” Politics at the October 2, 2015 Boston College Law School and American College of Trust and Estate Counsel Symposium, The Centennial of the Estate and Gift Tax: Perspectives and Recommendations, Michael Graetz describes the fight over the repeal of the estate tax and its current diminished state. Graetz argues that the political battle over the repeal of the estate tax reflects a fundamental challenge to our nation’s progressive tax system. This Address concludes that a revitalized estate tax is important for managing the national debt and reducing massive inequalities in wealth.

"Influencing Retirement Saving: Smart Beta in Defined Contribution Default Options"
Journal of Index Investing, Forthcoming

MANUELA SPERANDEO, Blackrock
Email: Manuela.Sperandeo@blackrock.com
MARCO CORSI, Blackrock
Email: marco.corsi@blackrock.com
SARA SHORES, Blackrock
Email: sara.shores@blackrock.com

Concerns over the adequacy of lifetime retirement income are, more than ever before, a global phenomenon. Issues around participants’ engagement and retirement security seem to be present across countries with different macroeconomic and cultural backgrounds, saving and social security setups. The traditional focus on fiduciary responsibilities, such as selecting managers and monitoring fees, has been expanded to cover areas such as participant usage and successful outcome, which are now some of the main areas of interest for industry practitioners. Prevailing academic research on the topic is grounded in the concept of the experiential learning cycle, namely that people learn from experience (see Goby and Lewis, 2000). The question then becomes how to improve participants’ experience within existing Defined Contribution (DC) plans so to encourage them to save more and save regularly. In this paper we take a look at some of the features of smart beta strategies, (i.e. passively managed portfolios that move away from market capitalization weighted indexes), which make these strategies an interesting potential tool for DC plans. We then test this by using existing smart beta indexes in the context of a traditional lifestyle fund, where market capitalization indexes are replaced with smart beta indexes on pre-defined allocations.

"The Influence of Time Preferences on Retirement Timing"

PHILIPP SCHREIBER, University of Mannheim - Department of Banking and Finance
Email: schreiber@bank.bwl.uni-mannheim.de
MARTIN WEBER, University of Mannheim - Department of Banking and Finance
Email: weber@bank.bwl.uni-mannheim.de

This study analyzes the empirical relation between the decision when to retire and individuals time preferences. Theoretical models predict that hyperbolic discounting leads to dynamic inconsistent retirement timing. Conducting an online survey with more than 3,000 participants, we confirm this prediction. The analysis shows, that time inconsistent participants decrease their planned retirement age with increasing age. The temptation of early retirement seems to become stronger the closer retirement comes. We show that the negative effect of age is between 1.5 and 3 times stronger for participants who can be classified as hyperbolic discounters. In addition, we find that time inconsistent participants actually retire earlier. On average, the most time inconsistent participants retire about 2.2 years earlier. The time inconsistent behavior has severe consequences: Time inconsistent participants are ex post more likely to regret their retirement timing decision. Also, the unplanned early retirement leads to a constant decrease of retirement benefits of about 13%.

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Saturday, May 21, 2016

9 Myths About Social Security

Courtesy of the Committee for a Responsible Federal Budget.

Myth #1: We don’t need to worry about Social Security for many years.
Myth #2: Social Security faces only a small funding shortfall.
Myth #3: Social Security solvency can be achieved solely by making the rich pay the same as everyone else.
Myth #4: Today’s workers will not receive Social Security benefits.
Myth #5: Social Security would be fine if we hadn’t “raided the trust fund.”
Myth #6: Social Security cannot run a deficit.
Myth #7: Social Security has nothing to do with the rest of the budget.
Myth #8: Social Security can be saved by ending waste, fraud, and abuse.
Myth #9: Raising the retirement age hits low-income seniors the hardest.

Check them all out here.

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Tuesday, May 17, 2016

Brenton Smith: Chained CPI is Not Way To Fix Social Security

Writing at Forbes, Brenton Smith of Fix Social Security Now argues that the so-called “chained CPI” – which would pay lower Cost of Living Adjustments than the currently-used CPI-W – is not a good way to fix Social Security:

The appeal of the shift of the COLA to a C-CPI-U to the spend-less-crowd is easy to understand. It saves money. The Congressional Budget Office estimates that this policy option would save the system $116 billion over nine years. That savings comes disproportionately from those with the highest benefit levels. Moreover, supporters of the change sell it as a more accurate measure of inflation than the current index used. If you listen long enough, the solution not only makes the system more stable, but actually improves the inflation adjustment process.

The problem is that C-CPI-U is not a better measure of inflation.  The index does not even measure true inflation. It actually measures the cost of living, which in part reflects the behavioral response to inflation.

Click here to read the whole piece.

I’ve generally opposed the Chained CPI, as it imposes the largest benefit cuts on those who are least able to work and most reliant on Social Security, while sparing “young” retirees who could probably work longer.

That said, I feel myself shifting… I think there’s pretty solid evidence that retirees voluntarily reduce spending over their retirement, even if they have plenty of money. (Health care expenses in very old age are an exception, but don’t seem to negate the trend entirely.) If that’s the case, then a more frontloaded real Social Security benefit level isn’t as much of a problem.

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Thursday, May 12, 2016

Trump open to Social Security changes if elected: adviser

Donald Trump has previously rejected calls for entitlement reforms to Social Security and Medicare. But, having secured the GOP nomination and looking to mend fences with the Republican leadership – including House Speaker Paul Ryan, a long-time leader on entitlement reform – Trump may be amending his views.

According to an advisor, “after the administration's been in place, then we will start to take a look at all of the programs, including entitlement programs like Social Security and Medicare.”

Click here to read the whole article by Reuters.

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