Is Redistributive Social Security Reform Worth It?
By Lancelot Finn (March 2005)
Of
all the Social Security reform plans proposed to date, the one most likely to
get bipartisan support was proposed by Senator Lindsay Graham of
Graham proposes to increase the cap on income for which the Social Security payroll tax is payable, from $90,000 to as much as $200,000—in effect, a substantial tax hike on the relatively affluent. Meanwhile, the plan would allow workers to divert up to 4% of their payroll tax into a personal investment account. Over time, the plan would convert Social Security from a transfer system to a genuine mandatory savings scheme. But it would make the overall tax-and-transfer system notably more progressive.
From the economic point of view, the argument for linking the creation of personal accounts with a rise in the income cap is weak. Graham says that we need to raise the cap in order to “finance” the creation of personal accounts without “new debt.” Not quite. It is true that the government would have to issue Treasury bonds to raise money to pay current benefits if payroll taxes were diverted into personal accounts, this money is not really “new debt.” The government is already committed to paying benefits to the Baby Boomers in their retirement. By providing personal accounts in the place of future benefit promises, the government would unload these unfunded liabilities. So personal accounts would not really require the creation of “new debt.”
That
said, there’s another side to this story. Robert Samuelson has pointed out that, thanks
to the 1960 Supreme Court case Flemming v. Nestor,
no one has property rights to Social Security payments, i.e. paying benefits is
not a binding obligation of the
Anyway, from the political point of view, the argument for linking the creation of personal accounts to raising the cap is stronger. Personal accounts enjoy widespread support, as well as strong majority support among the young. But it seems that they do not enjoy majority support in the population at large. Raising the cap—which burdens only those who make over $90,000 per annum—is more popular. Jointly, the two solutions enjoy strong majority support.
Graham’s plan cleverly rearranges the landscape of political values. It is redistributive, and it replaces government dependency with ownership.
Democrats are in favor of collectivist social-insurance schemes, and they are in favor of redistribution. But which is more important? Is it worth it to dilute the social-insurance character of the retirement program, in exchange for a more progressive tax code?
Republicans and conservatives face the opposite question. Raising the cap will be a burden on small businesses and middle-class families. It will reduce the incentives to labor force participation facing some of our society’s most productive people. It may dampen job creation. But personal accounts stand a chance of transforming capital markets and raising the savings rate, thus fueling faster economic growth. They will turn workers into investors, and make them likely to care more about the business climate and less about government handouts in the future—and to vote Republican. So, is it worth it? A tax hike in exchange for personal accounts?
Hard to say. But while I am sympathetic to the case for holding down the marginal tax rate, the fact is that we are running very big, probably unsustainable budget deficits. Starve the beast is not working. If it’s a choice between tax-and-spend and borrow-and-spend, I don’t see any reason to prefer the latter. If Graham’s plan can introduce personal accounts while bringing the budget closer to balance—and it can—it might be worth it after all.