Diamond-Orszag Social Security Plan

by Gary Boatwright, Fri Dec 31, 2004 at 01:17:20 PM EST

Matthew Yglesias suggested that The Diamond-Orszag Alternative was not quite up to the challenge of countering Bush's privatization plan to dismantle Social Security. I've only skimmed through their book Saving Social Security, but they have the best and most comprehensive plan I've seen. I'm going to hit the highlights of their plan and focus on their opposition to any privatization plan. Diamond & Orszag's analysis of privatization is thorough and devastating.

There is a bare bones outline of their proposal Reforming Social Security: A Balanced Plan and they have posted a fifty page summary The Diamond-Orszag plan expands the insurance features of Social Security and also makes Social Security more progressive in several important ways. Diamond & Orszag have genuine reforms to make Social Security more progressive; they raise the income cap on FICA payments and they slightly decrease the increase in benefits for future retirees.

There are three basic planks to the Diamond-Orszag proposal:

(1) Gradually phase in universal coverage under Social Security, to ensure that all workers bear their fair share of the cost of the legacy debt built into Social Security by the initial retirees who paid little or nothing into the system. Diamond-Orszag phase in contributions by state and local government employees, who are currently not covered by Social Security.

(2) Impose a legacy tax by gradually raising the payroll cap to $111,000, ensuring that very high earners contribute to financing the legacy debt. In addition, they would add an additional legacy tax on income above the payroll cap that would start at 3% and gradually rise to 3.5% by 2080.

(3) Gradually reduce benefits for all beneficiaries becoming eligible in or after 2023, and a modest increase in the payroll tax from 2023 onward.

In addition to our three-part plan to restore long-term balance on Social Security, we propose improvements to Social Security's financial protections for certain particularly vulnerable beneficiaries. We focus on changes in four areas: benefits for workers with low lifetime earnings; benefits for widows and widowers; benefits for disabled workers and young survivors; and further protection for all beneficiaries against unexpected inflation. These changes would significantly improve Social Security's ability to provide cost-effective social insurance while maintaining long-term financial balance.

Diamond & Orszag provide a chart of how their plan affects young wage earners. I haven't figured out how to import charts, so I'm omitting the percentage reduction in benefits that reach a maximum reduction of 8.6% from current benefit levels for a 25 year old. The following are benefits in constant 2003 dollars.

Age at end of 2004 Benefit at retirement

    55                $15,408
    45                $17,100
    35                $18,200
    25                $19,400

Benefits still increase for all age groups in constant dollars. They just don't increase as rapidly as under the current plan.

The full chart is available in their fifty page summary

Before I get to the problems with privatization, a brief segway to the controversy over whether the assets in the trust fund are real assets. Brad DeLong describes the trust fund assets:

Trust fund assets are invested in government bonds: Social Security trust fund assets, currently worth over $1.5 trillion, are invested in special, non-tradable government bonds. Each year the U.S. Treasury issues these government bonds, up to the amount of the Social Security trust fund surplus, to be added to the account. The bonds earn an interest rate comparable to the market interest rate for tradable government bonds. During 2003, the effective annual interest rate earned on all bonds held by the trust funds was roughly 6.0%.

Diamond & Orszag add that whether or not these are real assets is unambiguous:

The bonds held by the trust fund are an asset to the Social Security system because they earn interest income and, when the time comes can be redeemed to pay benefits. The fact that these bonds ar "paper" assets does not in any way reduce their value. All pension funds hold paper IOUs; so would the individual acounts that some reformers favor. The value of any paper asset depends on the willingness of someone to honor it. The bonds held by the trust fund are, if anything, more secure than other paper assets, given their U.S. government backing.

Another way of looking at it, is that the Social Security Treasury Bonds are just as real as the Treasury Bonds purchased by countries, like the Chinese and Japanese, to fund Bush's massive budget deficit. Are the treasury bonds purchase every week by foreign investors any different from the treasury bonds held by the Social Security Trust Fund? Or for that matter treasury bonds held by private individuals and pension plans as well as the treasury bonds that would be generated by Bush's privatization plan. There is absolutely no difference between the treasury bonds held by the Social Security Trust Fund and treasury bonds held by any other organization. This horse is already dead, but it's going to take a whole lot of beatin' to make sure it stays dead. Wingnuts will try to keep this idea alive long after its pulverized calcium bones are dust in the wind. The key question: How is a treasury bond held by the Social Security Trust Fund any different from a treasury bond held in a private retirement account?

One answer to this question is that Bush and our irresponsible Republican Congress are stealing close to a trillion dollars over the next ten years, in FICA payments from wage earners, and using them to finance Bush's tax cuts for the wealthiest top 10%. The solution to this problem is Al Gore's lock box

Chapter Eight: Individual Accounts

This is the good stuff folks. Diamond & Orszag demolish the illusory advantages or private accounts. Here are the highlights:

Individual acounts ... already provide an extremely useful supplement to Social Security, and they can be improved or expanded. But they are simply inappropriate for a social insurance system intended to provide for the basic tier of income during retirement, disability, and other times of need.

Furthermore, individual accounts ... would not by themselves improve the ability of the Social Security system to finance its traditional benefits, and they might actually undermine that ability. ... [T]he immediate effect would be to increase the deficit within Social Security.

Disadvantages to private accounts:

--Retirement benefits under Social Security provide an assured level of income that does not depend on what happens in financial markets. ... Social Security represents the only source of income for one-fifty of elderly beneficiaries.

--Retirement benefits under social Security are protected from inflation and last as long as the beneficiary lives. ... [T]he goal of "bequeathable wealth," an explicit selling point of some proposals, is in direct conflict with the financing of benefits that last as long as the beneficiary lives.

--The Social Security benefit formula is progressive; it replaces a larger share of previous earnings for lower earners than for higher earners. .. for the nation, the progressivity of Social Security helps reduce poverty and narrow income inequalities ... [Protection for the individual] would be strengthened under our plan, which includes provisions to improve Social Security benefits for the most vulnerable members of society. Individual accounts generally do not provide these protections.

-- Social Security provides other benefits in addition to basic retirement income. ... [E]ven though disabled workers are on average in worse financial condition than retirees, a movement to individual accounts is likely to treat them even worse than retirees.

--A system of individual accounts would require certain administrative costs to maintain those accounts--costs that the present structure of Social Security avoids.

I'll wrap up with Diamond & Orszag's overview of The Role of Social Security and Individual Accounts in Retirement Security

Social Security provides the foundation of retirement income for most households. Other sources of income can be thought of as building on this primary tier. ... Social Security provides the majority of income for almost two-thirds of beneficiaries over age 65, and it accounts for all income for 20 percent of beneficiaries over 65. The basic level of income should be protectd from unnecessary risks, including financial market risks borne by the individual.

Employment-based pensions represent a second tier of retirement income. Especially in comparison with Social Scurity, however, pension coverage in the United States is relatively low: only about half of workers are covered by a pension plan at any one point in time, and only about two-thirds are covered at some point in their career.

Diamond & Orszag cover the third tier which is private retirement accounts like Roth IRAs. Then the go in for the kill:

If people do not make full use of the tax-favored individual accounts already available, it is natural to question the need to create new ones. In other words, unless an individual accounts system linked to Social Security is designed to be quite different from existing types of accounts, it is not clear what it would accomplish.

Those are just the highlights. You can't beat something with nothing in politics. Once the Diamond-Orszag Alternative is introduced it immediately frames the issue. Any plan is going to come out second best. The CBO analysis of the Diamond-Orszag plan will be analyzed extensively over the next few weeks. The CATO Institute is already hammering their plan, so we can assume it benefits wage earners over Wall Street.

The CBO also estimates that payroll tax increases proposed by Diamond and Orszag would cut real gross national product by about 0.8% in 2025 and 1.7% in 2080. CBO assumes that higher payroll taxes will raise the cost of wages and reduce the incentive for workers to enter the market.

If that's the worst criticism the CBO can come up, with this plan is golden. Are you kidding me? An .8% reduction in economic growth at the end of a twenty year forecast and 1.7% at the end of a 75 year forecast? I wonder what they are projecting for the year 2121?

This plan is going to be taking a beating. At least now you know why.

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Income vs. stored wealth

"Social Security provides the foundation of retirement income for most households."

This is devastating as Social Security checks do not come close to common expenses. Thus we see the heart of the matter. Americans don't save enough. Or they concieve of their domiciles as savings instruments. To liquidate their savings often means selling a home.

Concieved as a kind of personal savings, social security is already not enough for most Americans at their accustomed standard of living. Also, that standard of living is too high. Americans need to consume less for the sake of the planet.

"If people do not make full use of the tax-favored individual accounts already available, it is natural to question the need to create new ones."

If people spend like drunken sailors their whole lives, it is natural to question their lack of money at retirement, isn't it?

Thus we need to decide whether vice is to be publically subsidized by virtue, and what that will mean to society. Once you start subsidizing vice you will have to start punishing it. The beauty of limited government is that because it doesn't try to help you it usually doesn't hurt you.

Rather than Bush's plan or any plan, just do away with social security and start giving all people who you consider short of cash, cash. The people get what government they deserve. The people are debtors, their government cannot help but be the same.

by Paul Goodman 2004-12-31 02:04PM | 0 recs

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Re: Income vs. stored wealth

Social Security was not conceived as a kind of personal savings. It is primarily an insurance plan to protect the disabled, child survivors and widowers as well as provide a minimum base survival income. Drunken sailors and virtue have nothing to do with Social Security or Diamond & Orszag's proposal.

I don't think abolishing Social Security will be a real popular idea, if that's what you are suggesting in your final paragraph.

by Gary Boatwright 2004-12-31 02:32PM | 0 recs

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Additional Information

Below is the text of an email I sent to my Representative, Senators, and several media organizations. There is some additional information that may be helpful to those wanting to compose letters and emails.

________________________________________________________________________

Regardless of your opinion of the supposed "crisis" of Social Security funding you must come back to why there is Social Security in the first place. According to Social Security Online the original name had to do with economic security.

In fact, the original title of the Roosevelt Administration's bill was the Economic Security Act, and the title of the committee which drafted the legislative proposal was the Committee on Economic Security. It was during consideration of the Economic Security bill in the Congress that the name was changed to Social Security Act and that became the familiar term from that day forward.

There was much more in this act than a retirement plan as you can see in the Preamble of the Social Security Act of 1935.

An act to provide for the general welfare by establishing a system of Federal old-age benefits, and by enabling the several States to make more adequate provision for aged persons, blind persons, dependent and crippled children, maternal and child welfare, public health, and the administration of their unemployment compensation laws.

With the amazing performance of the stock market during the 1920s so fresh in mind, one must ask why Congress did not see fit to make investment in the stock market mandatory. After all, the stock market did incredibly well during 90 percent of the preceding decade. Just think of the wealth created in those nine years. Certainly, what happened in late 1929 and into the 1930s could not be expected to ever happen again. Now the economists had full understanding and control.

In the original proposal by President Roosevelt there was a multi-tier system.

FDR had proposed a three-part program of old-age security consisting of: old-age welfare pensions; compulsory contributory social insurance (what we now think of as Social Security); and a third-tier which would consist of optional annuity certificates sold by the government to workers who, upon retirement, could convert the certificates to monthly annuities which would be used as supplements to their basic Social Security retirement benefit.

We now have IRAs, 401(K)s, insurance annuities, etc. to fill in for that optional third tier. President Bush's planned reform is not a fix, but a diminution of the original intent. He is attempting to destroy the first tier -- that part of the bill that provides for economic security. Additionally he is in favor of forcing people to invest the second tier -- their mandatory contributions -- in the stock market.

President Bush and his supporters assure us that such a plan will provide a much better retirement for all Americans -- that we can all be certain that our economy and the stock market will never again come on hard times. Herbert Hoover made similar assurances that we could be certain of economic prosperity.

The outlook of the world today is for the greatest era of commercial expansion in history. The rest of the world will become better customers.
-- July 27, 1928 -- San Francisco, California
A continuation of the policies of the Republican party is fundamentally necessary to the future advancement of this progress and to the further building up of this prosperity.
-- October 22, 1928 -- Madison Square Garden
Any lack of confidence in the economic future or the basic strengths of business in the United States is foolish.
-- November 15, 1929 -- Press Statement
In the larger view the major forces of the depression now lie outside of the United States, and our recuperation has been retarded by the unwarranted degree of fear and apprehension created by these outside forces...Economic depression can not be cured by legislative action or executive pronouncement.
-- December 2, 1930 -- State of the Union Address
The depression has been deepened by events from abroad which are beyond the control either of our citizens or our government.
-- October 18, 1931 -- Radio address at Fortress Monroe, Virginia
It can be demonstrated that the tide has turned and that the gigantic forces of depression are today in retreat. Our measures and policies have demonstrated their effectiveness. They have preserved the American people from certain chaos.
-- October 22, 1932 -- Detroit, Michigan

Though the style of speech has changed over the past 75 years much of this sounds like the rhetoric of the Bush Administration. How confident should we be in the assurances of politicians that our economic future is secure? What would be the economic and social impact to our country if 47 million people lost their Social Security in addition to their life savings? Honest economists will tell you that the economic impact of a severe recession and stock market crash will be significantly worse with no guaranteed benefits from Social Security.

Leigh Strope of the Associated Press quoted economist Peter Orszag in a recent article.

Social Security is like a car with a flat tire. There is a problem. We need to fix the flat tire. But we don't need to replace the car.

Please take a hard factual look at what President Bush is trying to do with Social Security. Much is at stake and the purported "facts" presented by the administration do not add up.

by Herb La Tortue 2004-12-31 02:40PM | 0 recs