Wednesday, December 3, 2008

New paper: “Thinking About Tomorrow”

The National Center for Policy Analysis has released a new paper Andrew J. Rettenmaier and Thomas R. Saving titled "Thinking About Tomorrow," which looks at the unfunded obligations accrued through the Social Security and Medicare programs and how they can be converted to true assets to individuals through pre-funding of the programs. As the authors summarize,

Social Security and Medicare can be reformed so that each worker saves and invests funds for his own post-retirement pension and health care benefits. The burden for the current generation of workers would be substantial: saving for their own benefits while at the same time paying taxes to fund the benefits of current retirees. However, over time Social Security and Medicare would be transformed from pay-as-you-go programs in which each generation is dependent on the next generation of workers/taxpayers into funded programs in which each generation pays its own way.

Click here to read the whole paper.


Paul Lawin said...

I read the paper, and thought it did an okay job of looking "at the unfunded obligations accrued through the social security and medicare programs". In particular, I thought Figure VII was a nice exhibit on the accrued SS benefits. But, I didn't see anything on "how they can be converted to true assets to individuals".

I spent a few minutes on the NCPA site and found a 2004 paper by the same authors which described a 3.5% add-on program, oddly titled "The Five Percent Solution". That is probably the source of the the claim. So someone interested in a reform proposal would probably want to read that paper. (My apologies to Andrew if he has linked to it before.)

Andrew G. Biggs said...

Good point, and this gets at some of the basic difficulties with reform. Let's say we've promised you $X in Social Security and Medicare benefits. That's not a legal liability, but merely an "obligation" which the government may or may not meet. In all probability, it won't meet that obligation in full.

So what happens if we convert that promise to an asset -- for instance, give you government bonds with a value of $X. In that case, we're truly on the hook and have to raise taxes to finance that benefit. Alternately, we might not decide to pay you $X but instead $X - Y. So I guess we can convert that to government bonds and make it an asset. But alternately, we could just pay you $X - Y without turning it into a legal asset -- and if we're not sure how much we'll be able to actually pay, it might make sense to keep the value of Y flexible.

The point is that we've promised a lot more than current taxes will be able to pay. We can either raise taxes to pay the promise, or reduce the promise to some level we are comfortable paying. The form of the promise -- binding or otherwise -- is important, but not as important as the level of the promise and the level of resources we've actually got.

Paul Lawin said...

Andrew –

I can agree with you comment, as far as it goes. I agree “The point is that we’ve promised more ….”. I take your discussion on issuing bonds to indicate that you wouldn’t favor Milton Friedman’s famous recommendation.

I’m in the situation where I understand the problem, but many of the proposed “solutions” seem needlessly complex and intrusive. So when I read these pieces, I keep looking for a solution that seems appropriate to the problem.

Andrew G. Biggs said...

Friedman's view, which I had the chance to argue with him 5 or 6 years ago, was that making obligations explicit was equivalent to making them funded. In a sense, he's correct. But a stronger definition of 'funding' is that any increase in pension obligations should be accompanied by a roughly equivalent increase in national saving. Friedman's definition was really one of labeling, while mine is more economically oriented. I'm not against making pension obligations explicit, but I don't think that is enough to solve the problem -- we also have to figure out how to pay for them!

Paul Lawin said...

You are a lucky guy to have "had the chance to argue with" Milton Friedman about a topic that you know a lot about.

I'll agree that his proposal on issuing bonds to replace accrued SS benefits was really about helping people see the issue rather than about funding. Although, I thought he wanted to make it clear that a payroll tax isn't automatically the best way to fund these promises.

I'll also agree that the problem is "to figure out how to pay for them". The obvious choices are to increase the payroll tax, or decrease the benefits, or some combination. When I look at other proposals (the Rettenmaier/Saving paper is an example), I don't see anything better.

Anonymous said...

The Tsy's account is a liability on the Fed's balance sheet. Spending by the Federal Govt thus necessarily creates bank reserves and deposits. Wondering "how to pay for benefits" is inapplicable. "National saving" is only applicable under a gold standard . . . loans create deposits in the real world, while government deficits by definition add to non-government net saving.