Experts Report on Social Security Reform Debate, Agree on Economics, Split on Values and Politics

For Immediate Release:

November 23, 1998
Contact: Virginia Reno at (202) 452-8097

Washington, D.C. — As Congress and the Administration prepare to tackle Social Security reform, a blue-ribbon panel of scholars released a report today analyzing two major approaches being considered. One would keep the current Social Security defined-benefit structure, but build and maintain a larger trust fund and invest part of it in stocks and corporate bonds. The other would establish individual Social Security accounts, also partially invested in private markets.

Chaired by economist Peter Diamond of MIT, the panel’s report, Evaluating Issues in Privatizing Social Security, was issued by the National Academy of Social Insurance. The report was more than two years in the making and involved experts from several disciplines and representing a wide range of political views.

The panel’s charge was to address the major economic and technical issues raised by the two reform proposals involving elements of privatization and intended to restore long-term fiscal balance to the program. It was asked to clarify areas of debate, not reconcile differences on major issues of policy. Only recommendations agreed upon by at least three-fourths of the members were included in the final report. Near the end of the process, three members of the panel withdrew, citing irreconcilable disagreements with the report’s final contents.

“I’m pleased that the panel laid out the important questions that define the Social Security debate, while reaching broad agreement on how to analyze them. By analyzing the pros and cons of reform proposals, the panel cast new light on how major policy alternatives would work,” said Diamond. “Even on the issue where panel members remained deeply divided, the Panel performed a valuable service by clarifying the basis of their disagreements.”

The panel considered three broad questions about Social Security reform:

• Should Social Security have more advance funding? The panel recommends increased advance funding because it could strengthen Social Security and raise national savings and economic growth. Advance funding means raising taxes or lowering benefits in the near term, in order to build up more
  funds to help pay for future benefits. That can be done in the traditional benefit system or by setting up individual accounts and the Panel differs on which would be better.
• Should Social Security funds be invested in the stock market? The panel concludes that the system would get better long-term returns with a diversified investment plan that includes stocks — and that this is worth the risk — but differs about whether this is better with or without individual accounts. The panel determined that an independent institution would be needed to limit political interference in investment decisions and corporate affairs if investments were organized by the government. It suggested a model based on the federal employees’ Thrift Savings Plan (TSP) — the 401(k) plan for government workers — which, to date, has avoided political interference.
• Should Social Security include individual (defined-contribution) savings accounts, or should it stay with its traditional defined benefits? The panel is divided on this question. It agreed that individual accounts would have higher administrative costs and expose workers to more market risks. Its disagreements were about values and political predictions. Proponents of individual accounts favor more individual choice and believe such accounts increase the chances that advance funding would be enacted and sustained without improper government involvement in the workings of corporations. Opponents of individual accounts favor the shared security of the collective system and believe that individual accounts will erode the security of benefits, particularly for low-paid workers, widowed and divorced spouses, disabled workers, children of deceased workers, and people who live a long time in retirement.

The panel emphasized that returns on particular Social Security investments (such as in the stock market) are not the same as the “rate of return on Social Security taxes” or so-called “money’s worth.” The return on taxes must take account of the fact that a large portion of taxes must go to pay benefits to current retirees and provide disability and survivors’ insurance to younger families. This is true whether or not there are individual accounts. The experts agreed that any given level of advance funding and investments, the rate of return workers receive on their Social Security taxes would be no higher with individual accounts than with traditional benefits.

The panel outlined a low-cost, low-service plan for individual accounts. It might cost about $25-$50 per participant per year to administer on top of the existing system, which costs $16 per person, or $3.4 billion in 1997. A plan like this would minimize new burdens on employers and be less flexible and state-of-the-art than many large private plans. Minimizing employer burdens in particularly important because Social Security covers many very small employers. Of the 6.5 million employers who report to Social Security, about 4 million have no more than 10 employees.

The panel noted that the more than 140 million workers covered by Social Security are far more diverse than those covered by private retirement savings plans. Many workers would need help in understanding a new savings plan in Social Security, the panel noted. Moreover, the 25 percent of American workers already in 401(k) plans are very different from the entire work force covered by Social Security. Workers covered by Social Security include many low-paid, part-time, and intermittent workers and multiple job-holders. About 62 million workers covered under Social Security earn less than $15,000 a year, including 30 million who earn less than $5,000. Explaining a new system of Social Security accounts and enrolling workers in it would be an important part of setting it up.

The panel considered two more questions about individual accounts, if they are adopted: How much choice should workers have about their investments and how should benefits be paid? and Should the accounts be organized by government or private financial institutions? Privately organized accounts would allow greater individual choice, but would also have higher administrative costs and would require new regulatory structures not now in place. Because many workers may not understand the risks of investments, the Panel concluded that some constraints on investment choice would be desirable. If adopted, at least initially, such accounts should be set up by the government.

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The National Academy of Social Insurance is a non-profit, non-partisan organization devoted to research and public education on Social Security, Medicare, workers’ compensation and other social insurance programs. The work of this study panel was supported by the Alfred P. Sloan Foundation, the AARP Andrus Foundation, The Actuarial Foundation and TIAA-CREF. The findings are those of the panel and do not represent the views of the Academy, or its funders.