Thursday, June 9, 2011

Have Social Security benefits really been cut by 19 percent?

The National Academy of Social Insurance, of which I'm a member, has released a new issue brief titled "Social Security Beneficiaries Face 19% Cut; New Revenue Can Restore Balance." The paper argues that, based on changes implemented in the 1983 Social Security reforms—increases in the normal retirement age from 65 to 67; a one-time reduction in COLA payments; and the taxation of retirement benefits—future retirees will receive benefits 19 percent lower than what they would have received had the 1983 reforms not been implemented. Consequently, NASI argues, well, new revenues can restore balance.

Some perspective is needed. First, the 1983 reforms didn't only reduce benefits; they also increased taxes, by covering newly hired federal workers and non-profit associations, accelerating tax increases already on the books, prohibiting state/local workers from leaving the system, and so on. Together, tax increases made up around 38 percent of the total changes in the 1983 reforms, and that's even if you count the taxation of benefits as a benefit cut rather than a tax. How to categorize the taxation of benefits is ambiguous and I can go either way, although I'd note that benefit taxation tends not to affect low- and middle-income retirees very much. (This might be the first time I've seen NASI opposed to taxes on high earners.) Overall, the 1983 reforms were more balanced than you might guess from reading NASI's paper alone.

Second, while benefits in any given month will be lower in the future than they would have been under 1983 rules, that doesn't mean they'd be lower in real terms. Because Social Security benefits are indexed to wage growth, they increase faster than inflation, meaning that the typical retirement benefit in 2023, even after these cuts, would be around 30 percent higher than in 1983. You'd much rather get the real benefit levels that Social Security will pay in the future than it did in the 1980s.

Third, future retirees will live longer than those in the past did, so while they may receive somewhat lower replacement rates than in the past, they'll collect them over longer retirements. In 1983 the typical retiree lived around 17.0 additional years; in 2023, the typical 65-year-old will live around 20.6 years more. The difference: 21 percent. So what they lose month-to-month, they gain back year-to-year.

You could argue that people would want the same replacement rate even over longer retirements, meaning that these almost four extra years of collecting benefits shouldn't factor in. Fine. But the life-cycle theory of consumption says that as life expectancies increase, people will tend to target lower replacement rates relative to pre-retirement earnings. The reason is that longer life expectancies demand higher saving rates during working years, which means that—all other things equal—the ratio of Social Security benefits to pre-retirement consumption will rise.

All of this is open to argument. But NASI should show some more nuance in their work; showing one side of the argument in order to push for one policy prescription isn't the way to go when your mission is to promote understanding of the issues.

1 comment:

WilliamLarsen said...

"Because Social Security benefits are indexed to wage growth, they increase faster than inflation, meaning that the typical retirement benefit in 2023, even after these cuts, would be around 30 percent higher than in 1983. You'd much rather get the real benefit levels that Social Security will pay in the future than it did in the 1980s."

You are correct in this. I would like to point out that had wage indexing not been implemented in 1977, the initial benefit we all would be looking at could very likely be a standard of living based on the basket of goods available in 1977.

Wage indexing versus inflation means that all cohorts begin with an initial SS-OASI benefit that is equivalent with life time wages versus a benefit that is stagnant or fixed in time. The only problem with this discussion is that SS-OASI can pay but 76% of promised benefits under current law. Current law states that COLA will cease when the SS-OASI trust fund falls to 20% of any given year's projected expenses.

So what is the equivalent cost of no COLA? At 2% inflation the equivalent up front cut to SS-OASI benefits is 16% to 19% depending on how long you live. Based on life tables at age 67 it is 18.5%. In other words, SS-OASI is able to pay 58% of promised benefits with COLA.

So I ask the question once again. Who are we attempting to save social security for; ourselves or our children/grandchildren?