- THE FUTURE OF SOCIAL SECURITY FOR THIS GENERATION AND THE NEXT

[House Hearing, 105 Congress]
[From the U.S. Government Publishing Office]

THE FUTURE OF SOCIAL SECURITY FOR THIS GENERATION AND THE NEXT

=======================================================================

HEARING

before the

SUBCOMMITTEE ON SOCIAL SECURITY

of the

COMMITTEE ON WAYS AND MEANS
HOUSE OF REPRESENTATIVES

ONE HUNDRED FIFTH CONGRESS

FIRST SESSION

__________

MARCH 6 AND APRIL 10, 1997

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Serial 105-25

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Printed for the use of the Committee on Ways and Means

U.S. GOVERNMENT PRINTING OFFICE
47633 CC WASHINGTON : 1998

COMMITTEE ON WAYS AND MEANS

BILL ARCHER, Texas, Chairman

PHILIP M. CRANE, Illinois CHARLES B. RANGEL, New York
BILL THOMAS, California FORTNEY PETE STARK, California
E. CLAY SHAW, Jr., Florida ROBERT T. MATSUI, California
NANCY L. JOHNSON, Connecticut BARBARA B. KENNELLY, Connecticut
JIM BUNNING, Kentucky WILLIAM J. COYNE, Pennsylvania
AMO HOUGHTON, New York SANDER M. LEVIN, Michigan
WALLY HERGER, California BENJAMIN L. CARDIN, Maryland
JIM McCRERY, Louisiana JIM McDERMOTT, Washington
DAVE CAMP, Michigan GERALD D. KLECZKA, Wisconsin
JIM RAMSTAD, Minnesota JOHN LEWIS, Georgia
JIM NUSSLE, Iowa RICHARD E. NEAL, Massachusetts
SAM JOHNSON, Texas MICHAEL R. McNULTY, New York
JENNIFER DUNN, Washington WILLIAM J. JEFFERSON, Louisiana
MAC COLLINS, Georgia JOHN S. TANNER, Tennessee
ROB PORTMAN, Ohio XAVIER BECERRA, California
PHILIP S. ENGLISH, Pennsylvania KAREN L. THURMAN, Florida
JOHN ENSIGN, Nevada
JON CHRISTENSEN, Nebraska
WES WATKINS, Oklahoma
J.D. HAYWORTH, Arizona
JERRY WELLER, Illinois
KENNY HULSHOF, Missouri

A.L. Singleton, Chief of Staff

Janice Mays, Minority Chief Counsel

______

Subcommittee on Social Security

JIM BUNNING, Kentucky, Chairman

SAM JOHNSON, Texas BARBARA B. KENNELLY, Connecticut
MAC COLLINS, Georgia RICHARD E. NEAL, Massachusetts
ROB PORTMAN, Ohio SANDER M. LEVIN, Michigan
JON CHRISTENSEN, Nebraska WILLIAM J. JEFFERSON, Louisiana
J.D. HAYWORTH, Arizona \1\
JERRY WELLER, Illinois JOHN S. TANNER, Tennessee
KENNY HULSHOF, Missouri XAVIER BECERRA, California \2\

__________
\1\ January 7, 1997, through April
9, 1997.
\2\ Appointed April 9, 1997.

Pursuant to clause 2(e)(4) of Rule XI of the Rules of the House, public
hearing records of the Committee on Ways and Means are also published
in electronic form. The printed hearing record remains the official
version. Because electronic submissions are used to prepare both
printed and electronic versions of the hearing record, the process of
converting between various electronic formats may introduce
unintentional errors or omissions. Such occurrences are inherent in the
current publication process and should diminish as the process is
further refined.

C O N T E N T S

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Page

Advisories announcing the hearing................................ 2

WITNESSES

Congressional Research Service, David Koitz, Specialist in Social
Legislation, Education and Public Welfare Division............. 51
U.S. General Accounting Office, Jane L. Ross, Director, Income
Security Issues, Health, Education, and Human Services
Division; accompanied by Frank Mulvey, Assistant Director...... 69

______

Ball, Hon. Robert M., National Academy of Social Insurance....... 8
Butler, Stuart, Heritage Foundation.............................. 87
Mashaw, Jerry L., Yale University................................ 95
Myers, Robert J., Silver Spring, MD.............................. 107
Schieber, Slyvester J., Watson Wyatt Worldwide................... 18
Steuerle, C. Eugene, Urban Institute............................. 100
Gramlich, Edward M., University of Michigan...................... 16

______

SUBMISSIONS FOR THE RECORD

Center for the Study of Economics, Columbia, MD, Steven Cord,
statement and attachments...................................... 122
Employee Benefit Research Institute, Kelly A. Olsen, statement... 124
Kentucky Teachers' Retirement System, Pat N. Miller, letter...... 127
Kotlikoff, Laurence J., Boston University, and Jeffrey D. Sachs,
Harvard University, joint statement............................ 128
National Silver Haired Congress, statement....................... 130
OPPOSE, Denver, CO, Robert J. Scott, statement................... 131
State Teachers Retirement System of Ohio, Herbert L. Dyer, letter 137

THE FUTURE OF SOCIAL SECURITY FOR THIS GENERATION AND THE NEXT

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THURSDAY, MARCH 6, 1997

House of Representatives,
Committee on Ways and Means,
Subcommittee on Social Security,
Washington, DC.
The Subcommittee met, pursuant to notice, at 10:05 a.m., in
room 1100, Longworth House Office Building, Hon. Jim Bunning
(Chairman of the Subcommittee) presiding.
[The advisories announcing the hearings follow:]

ADVISORY

FROM THE COMMITTEE ON WAYS AND MEANS

SUBCOMMITTEE ON SOCIAL SECURITY

FOR IMMEDIATE RELEASE CONTACT: (202) 225-9263
February 14, 1997
No. SS-1

Bunning Announces Hearing Series
on ``The Future of Social Security
for this Generation and the Next''

Congressman Jim Bunning (R-KY), Chairman, Subcommittee on Social
Security of the Committee on Ways and Means, today announced that the
Subcommittee will hold a hearing series on ``The Future of Social
Security for this Generation and the Next.'' The first hearing day in
the series is on the report of the 1994-1996 Advisory Council on Social
Security. The hearing will take place on Thursday, March 6, 1997, in
the main Committee hearing room, 1100 Longworth House Office Building,
beginning at 10:00 a.m.

In view of the limited time available to hear witnesses, oral
testimony at this hearing will be heard from invited witnesses only.
Witnesses will include Advisory Council members Robert Ball, Edward
Gramlich, and Sylvester Schieber. However, any individual or
organization may submit a written statement for consideration by the
Committee and for inclusion in the printed record of the hearing.

BACKGROUND:

The Social Security program impacts the lives of nearly all
Americans. This year, the Social Security Administration will pay
benefits to more than 45 million retired and disabled workers and to
their dependents and survivors. Nearly every worker and his or her
employer pays Social Security taxes. The Social Security Board of
Trustees reports annually to Congress on the financial status of the
Social Security Trust Funds. In their 1996 report, the Trustees
reported that Social Security spending is projected to exceed tax
revenues beginning in the year 2012. By the year 2029, the Trust Funds
are projected to have income sufficient to cover only 77 percent of
annual expenditures. The reasons for these projections are partly
demographic, including: aging ``baby boomers;'' declining birth rates;
and increased life expectancies.

The final Advisory Council on Social Security was appointed in 1994
by the Secretary of Health and Human Services. (Under prior law, an
Advisory Council was required to be appointed every four years.) The
Council was asked to examine the program's long-range financial status,
as well as the adequacy and equity of its benefits and the relative
roles of the public and private sectors in providing retirement income.
The Advisory Council issued its report January 6, 1997. The Council was
unable to reach consensus, so the report includes three different
approaches to restoring financial solvency.

In announcing the hearings, Chairman Bunning stated: ``Social
Security affects the lives of virtually every person in this country.
It represents a promise, from one American to another, that we can
count on each other for a more secure financial future. We must honor
our promises and in doing so we owe it to every American to explore
fully every possible option to ensure the future of Social Security,
for this generation and the next. My aim is for all of us to listen and
learn so that we can make the right decisions for Social Security's
future.''

FOCUS OF THE HEARING:

The Subcommittee is interested in fully exploring major areas of
concern identified by the Council, along with the Council's specific
findings and recommendations.

DETAILS FOR SUBMISSION OF WRITTEN COMMENTS:

Any person or organization wishing to submit a written statement
for the printed record of the hearing should submit at least six (6)
copies of their statement and a 3.5-inch diskette in WordPerfect or
ASCII format, with their address and date of hearing noted, by the
close of business, Thursday, March 20, 1997, to A.L. Singleton, Chief
of Staff, Committee on Ways and Means, U.S. House of Representatives,
1102 Longworth House Office Building, Washington, D.C. 20515. If those
filing written statements wish to have their statements distributed to
the press and interested public at the hearing, they may deliver 200
additional copies for this purpose to the Subcommittee on Social
Security office, room B-316 Rayburn House Office Building, at least one
hour before the hearing begins.

FORMATTING REQUIREMENTS:

Each statement presented for printing to the Committee by a
witness, any written statement or exhibit submitted for the printed
record or any written comments in response to a request for written
comments must conform to the guidelines listed below. Any statement or
exhibit not in compliance with these guidelines will not be printed,
but will be maintained in the Committee files for review and use by the
Committee.

1. All statements and any accompanying exhibits for printing must
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2. Copies of whole documents submitted as exhibit material will not
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3. A witness appearing at a public hearing, or submitting a
statement for the record of a public hearing, or submitting written
comments in response to a published request for comments by the
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clients, persons, or organizations on whose behalf the witness appears.

4. A supplemental sheet must accompany each statement listing the
name, full address, a telephone number where the witness or the
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supplemental sheet will not be included in the printed record.

The above restrictions and limitations apply only to material being
submitted for printing. Statements and exhibits or supplementary
material submitted solely for distribution to the Members, the press
and the public during the course of a public hearing may be submitted
in other forms.

Note: All Committee advisories and news releases are available on
the World Wide Web at `HTTP://WWW.HOUSE.GOV/WAYS__MEANS/'.

The Committee seeks to make its facilities accessible to persons
with disabilities. If you are in need of special accommodations, please
call 202-225-1721 or 202-225-1904 TTD/TTY in advance of the event (four
business days notice is requested). Questions with regard to special
accommodation needs in general (including availability of Committee
materials in alternative formats) may be directed to the Committee as
noted above.

ADVISORY

FROM THE COMMITTEE ON WAYS AND MEANS

SUBCOMMITTEE ON SOCIAL SECURITY

FOR IMMEDIATE RELEASE CONTACT: (202) 225-9263
March 21, 1997
No. SS-2

Bunning Announces Hearing Series
on ``The Future of Social Security
for this Generation and the Next''

Congressman Jim Bunning (R-KY), Chairman, Subcommittee on Social
Security of the Committee on Ways and Means, today announced that the
Subcommittee will hold the second in a series of hearings on ``The
Future of Social Security for this Generation and the Next.'' At the
second hearing, the Subcommittee will hear from expert witnesses who
will establish a framework for evaluating options for Social Security
reform. The hearing will take place on Thursday, April 10, 1997, in
room B-318 of the Rayburn House Office Building, beginning at 10:00
a.m.

In view of the limited time available to hear witnesses, oral
testimony will be heard from invited witnesses only. However, any
individual or organization may submit a written statement for
consideration by the Committee and for inclusion in the printed record
of the hearing.

BACKGROUND:

The Subcommittee on Social Security's first hearing in the series
focused on the recommendations of the Advisory Council on Social
Security. The Council offered three very different approaches to
restoring Social Security's financial solvency. These proposals, along
with many others, offer a wide range of options, from maintaining the
program's current structure to revamping the system entirely.

As the hearings continue, the Subcommittee will assess the impact
of alternative solutions to Social Security's financing problems.
Members of the Subcommittee, as well as the public, want and need to
gain an appreciation of the effects that changes to Social Security
will have on the economy, national savings, the Federal budget, and the
retirement security of every participant.

In announcing the hearing, Chairman Bunning stated: ``The purpose
of this hearing is to develop a background understanding of Social
Security's relationship to the economy and the budget so that Members
will be in a stronger position to evaluate specific proposals to ensure
Social Security's future.''

FOCUS OF THE HEARING:

The Subcommittee will hear the views of a wide range of experts in
economics and public policy regarding the fundamental issues to
consider when evaluating options for Social Security reform.

DETAILS FOR SUBMISSION OF WRITTEN COMMENTS:

Any person or organization wishing to submit a written statement
for the printed record of the hearing should submit at least six (6)
copies of their statement and a 3.5-inch diskette in WordPerfect or
ASCII format, with their address and date of hearing noted, by the
close of business, Thursday, April 24, 1997, to A.L. Singleton, Chief
of Staff, Committee on Ways and Means, U.S. House of Representatives,
1102 Longworth House Office Building, Washington, D.C. 20515. If those
filing written statements wish to have their statements distributed to
the press and interested public at the hearing, they may deliver 200
additional copies for this purpose to the Subcommittee on Social
Security office, room B-316 Rayburn House Office Building, at least one
hour before the hearing begins.

FORMATTING REQUIREMENTS:

Note: All Committee advisories and news releases are available on
the World Wide Web at `HTTP://WWW.HOUSE.GOV/WAYS__MEANS/'.

Chairman Bunning. Good morning. First of all, I would like
to welcome all the Subcommittee Members and witnesses to our
first hearing of the 1997 or 105th Congress. We are especially
lucky to have a number of strong newcomers to this
Subcommittee. Our new Members are J.D. Hayworth from Arizona;
Jerry Weller from Illinois; Kenny Hulshof of Missouri; Sandy
Levin from Michigan is not a newcomer to the Full Committee but
he is to this Subcommittee; Bill Jefferson of Louisiana and
John Tanner of Tennessee.
I would also like to recognize a veteran of the Ways and
Means Committee but a new Ranking Member for this Subcommittee,
Mrs. Barbara Kennelly of Connecticut. Congratulations, Barbara.
I am pleased to be working with you in this 105th Congress.
Mrs. Kennelly. Thank you.
Chairman Bunning. Today we kick off a series of hearings on
``The Future of Social Security for this Generation and the
Next.'' Social Security touches the lives of just about every
American, and this popular, effective and vital program is
facing some serious challenges. The challenges are very, very
serious. In its report to Congress in 1996, the Social Security
board of trustees said that Social Security spending will
exceed tax revenues in the year 2012. They also project that
the trust funds will only be able to pay 77 percent of benefits
by 2029. In light of this outlook, it is not surprising that a
much cited recent poll by the Third Millennium showed that
today's youth have more faith in the existence of HMOs or
UFOs--than in getting Social Security benefits. I find this
disturbing and I am deeply concerned. How can we expect young
people just entering the work force to feel good about
contributing to a program that they view as going bust? I fear
that public support for this popular program will erode even
more quickly if younger workers and future generations cannot
count on a reasonable return on their contributions. We just
cannot let that happen.
That is why we are here to listen to the members of this
final Advisory Council on Social Security. This Advisory
Council was appointed by the Secretary of Health and Human
Services in 1994 and charged with studying the long-range
financial status of the program and presenting to Congress its
plan to address the solvency problem.
I am disappointed that the council could not reach
consensus and presented three plans rather than one. However,
their inability to agree on a solution just proves the
complexity of the issue. Since the Advisory Council released
its report in January, much public debate has emerged. Engaging
the public in these discussions is critical to the future of
Social Security. Finding solutions is not going to be easy.
Today, we will hear from three members of the Advisory
Council about their respective plans to fix the system. In the
next few months, we plan to hear from policy experts,
advocates, business leaders, Members of Congress, and many
others. We are taking this issue seriously. We want to listen
to what the people are saying, and we need to know all the
facts including who is impacted by each and every proposal. We
want answers, but we must be careful and thorough.
Many of you know that I have 9 children and 30
grandchildren. The future of Social Security is their future.
We must step up to the challenge and to our responsibility to
protect their future and the future of all Americans. In the
interest of time, it is our practice to dispense with opening
statements except from the Ranking Democrat Member. All Members
are welcome to submit statements for the record, and I yield to
Congresswoman Kennelly for any statement she wishes to make.
Mrs. Kennelly. Thank you, Chairman Bunning, and thank you
also for announcing to the public that this is only the first
of a series of hearings because we all know we are going to
have to study this question, listen to all points of view and
get as much information as possible. But today's meeting,
begins the series of hearings on the future of Social Security
with testimony from members of the Social Security Advisory
Council.
Gentlemen, I welcome you.
The members of the Advisory Council have offered us three
distinct choices for reforming Social Security. I hope these
proposals will fuel a vigorous national debate on the nature of
retirement income. Such a debate is essential. It is an
ingredient for action in this area. We need to be very sure we
understand fully the implications of any actions we take in
attempting to solve the Social Security solvency situation. The
Social Security system is one of our most successful government
programs. It has helped to keep older Americans out of poverty,
and it has provided important protection to families suffering
the death or disability of a breadwinner.
At the same time, however, we cannot avoid the demographics
of the 21st century. The rise in the number of retirees due to
increased life expectancy and the retirement of the baby boom
generation will force us to take a hard look at our retirement
policies.
I am pleased to have with us today three witnesses who have
spent an incredible number of hours working on this issue, most
recently as members of the Advisory Council. I know that they
have crafted their recommendations, and they have thought
deeply about the extent to which they think change is needed
and the nature of those changes. I am particularly interested
in the overall economic impact of the plans. I would like to
know what our witnesses think about the need for increased
national savings and the means of achieving this goal. I am
also interested in the impact of the plans of these individuals
and would like to hear from them about the extent to which
current Social Security protections are reduced under these
plans before us today.
What is the impact of an increase in the retirement age?
What happens to widows, nonworking spouses, children and the
disabled? What is the impact of changing a defined benefit plan
into a defined contribution plan? What are the risks? Who bears
these risks? I hope the presentation today will educate us on
these questions and further illuminate the choices before us.
Altering the Social Security system is a very serious
undertaking, and we should treat it as such. I look forward to
hearing from our witnesses about their plans and am hoping that
we can work together to find a stable retirement for this
generation and the next. Thank you, Mr. Chairman.
Chairman Bunning. Thank you, Mrs. Kennelly. I want to
inform our panel that we have a vote on the floor and we are
going to recess to vote on adjourning the House, and we will be
back as quickly as we can. I apologize to the panel.
[Recess.]
Chairman Bunning. The Subcommittee will come to order. I
would like now to introduce the witnesses from the Advisory
Council on Social Security. Robert Ball will present supporters
of the maintain benefits plan; Dr. Sylvester Schieber
representing the personal security accounts plan; and Dr.
Edward Gramlich, chairman of this Advisory Council,
representing the individual accounts plan. Welcome to all of
you, and Mr. Ball, if you would begin, I would appreciate it.

STATEMENT OF HON. ROBERT M. BALL, FOUNDING CHAIR, NATIONAL
ACADEMY OF SOCIAL INSURANCE; AND MEMBER, 1994-1996 ADVISORY
COUNCIL ON SOCIAL SECURITY (FORMER COMMISSIONER OF SOCIAL
SECURITY)

Mr. Ball. Thank you, Mr. Chairman. I think the key to the
position of the six of us who support the maintained benefits
(MB) plan is that we would like to restore full balance for the
long-term in Social Security with the least possible change in
benefit levels and in contribution rates. Our goal is not to
make major or fundamental changes in the program. We think that
it is quite possible and desirable--that is why we selected the
name--to maintain the system much as it is today.
Now, we agree, Mr. Chairman, with your characterization in
your opening remarks of there being a major and significant
long-range problem. But I think there has been, particularly in
the newspapers, some misunderstanding of the nature of that
problem. Some of the things I read sound as if the system in a
relatively short time was going to be without income and go
belly up. But, as you pointed out in your opening statement,
the true situation is that the program can pay full benefits on
time to about 2030 under present law. And then at that point,
the program does not disappear, but it has a shortfall, a
significant shortfall, and is able to pay only about 75 percent
of the cost of the system. But there is an important
distinction between having to find financing for the whole
program after 2030 or so, or whether we would be building on
the continuing support of present financing for at least 75
percent of the cost of the system. Most of the support of the
system comes from continuing contributions that individuals and
their employees make currently, not from a trust fund, and
current contributions go on after the trust fund is exhausted.
So, we are not in anything like a desperate or emergency
situation. We have an important job to do soon because the
sooner these problems are addressed, the less drastic the
solutions have to be, but there is time, and it is not an
emergency situation. Our proposal is to ask the administration
and the Congress to move as quickly as is reasonable to make
some common sense changes in the present program that are well
within the tradition of Social Security. Later on, I will
enumerate what those are. I cannot wait to take the time in
this opening 5 minutes to do that.
As a result of these changes, you move the deficit from the
present estimated long-term deficit of 2.17 percent of payroll
down to 0.80 percent of payroll, and you move the time that the
trust fund is exhausted, from about 2030 to 2050.
After that we focus on changes that I think really need
public debate, more study, and evaluation. There is real reason
for differences of opinion on the additional provisions that
would eliminate the last 0.80 percent of payroll deficit. For
example, if it is true that the cost of living has an upward
bias, and that steps are going to be taken to correct that, the
change in itself would go a long way to reduce that remaining
0.80 percent of payroll. I think we would all agree that we
want the most accurate possible Consumer Price Index, CPI, to
govern the cost of living for Social Security and there seems
to be a lot of opinion that supports the idea that there is an
upward bias. So to some extent, there is reason to delay the
final part of the solution to the long-range imbalance until
the controversy over the CPI is settled, as long as the delay
is for only a year or two.
We have proposed to the administration and the Congress
that this last 0.80 percent of payroll deficit be met by a
mixed public/private investment policy, similar to what just
about every other pension plan in the country has--that is,
invest part of the accumulating funds of Social Security in the
stock market, passively managed and indexed to a large part of
the market. If invested up to 40 percent of Social Security
funds in the stock market, you would get rid of that last 0.80
percent deficit. We think it is a good idea, but deserves more
study. We are not suggesting immediate action on this. It is
just enough different from what has been done in Social
Security in the past that it needs some getting used to. Social
Security with its huge effect on the whole nation, shouldn't be
changed significantly from the past without a broad consensus.
Mr. Chairman, I think probably I am close to my 5 minutes and
will not start off on another subject.
[The prepared statement follows:]

Statement of Hon. Robert M. Ball, Founding Chair, National Academy of
Social Insurance; and Member, 1994-1996 Advisory Council on Social
Security (Former Commissioner of Social Security)

My name is Robert Ball. I was Commissioner of Social
Security from 1962 to 1973. Prior to my appointment by
President Kennedy, I had been the top civil servant at the
Social Security Administration for about 10 years; my career at
Social Security including my years as Commissioner spanned
approximately 30 years. In 1948, I served as Staff Director of
the Advisory Council on Social Security to the Senate Finance
Committee which recommended the major changes that became the
Amendments of 1950. Since leaving the government in 1973, I
have continued to write and speak about Social Security and
related programs. I was a member of the 1965, 1979 and 1991
statutory Advisory Councils on Social Security, and I served on
the National Commission on Social Security Reform, the
Greenspan Commission, upon whose recommendations the 1983
Amendments were based. I am testifying today as an individual
member of the 1994-1996 Advisory Council on Social Security,
but my views are shared in general by five other Council
members. The views expressed are not necessarily those of any
organization with which I am associated.

I. Introduction

Perhaps the single most important point to keep in mind
about Social Security as we consider various options for the
future is this:
Social Security is not in the emergency room and does not
require heroic measures. Rather, it requires thoughtful
attention to an eventual imbalance of income and expenses that
begins to take effect in about 30 years. After that, unless the
program is amended (as I am sure it will be), present financing
would cover only about three-fourths of the cost.
The situation with Social Security is like that of
homeowners living in a sound house that they very much like and
that needs only to have its mortgage refinanced. There is no
need to move out of the house or tear it down. The need is only
to improve its long-term financing.
Six of us who served on the 1994-1996 Advisory Council on
Social Security \1\ propose to improve the program's long-term
financing by initiating, as soon as possible, a series of
common-sense measures that eliminate much of the anticipated
long-term deficit. We call this approach the Maintain Benefits
(MB) plan. It maintains Social Security as a defined-benefit
plan, with benefits determined by law--a key point to which I
will return.
The initial measures that we propose include:
Adjusting the Cost of Living Allowance to reflect
these technical corrections to the Consumer Price Index already
announced by the Bureau of Labor and Statistics;
Taxing Social Security benefits that exceed what
the worker paid in, in the same way that other public and
private defined-benefit pension plans are now taxed;
Making Social Security truly universal by
gradually extending coverage to those state and local
government jobs that are not now covered;
Either reducing benefits slightly--3 percent on
average--by increasing, from 35 to 38 years, the wage-averaging
period used to calculate benefits; or, alternatively,
Increasing the contribution rate moderately--0.15
percent each for workers and employers; \2\ and
When Medicare is refinanced, correcting an anomaly
in present law \3\ so that income from taxes on Social Security
benefits goes entirely to Social Security rather than to both
Social Security and Medicare.
These changes reduce Social Security's projected long-term
deficit by nearly two-thirds, from 2.17 percent of payroll to
0.80 percent, thus extending the life of the trust fund by two
decades, from 2030 to 2050.
To close the remaining deficit and maintain Social Security
in long-term balance, the options available for consideration
include: gradually increasing payroll taxes; gradually
increasing the retirement age or otherwise lowering projected
outlays; or generating a better return on Social Security trust
fund investments by diversifying them to include investing in
stocks as well as in government obligations. We recommend that
this last option be given very careful consideration by the
Congress.
This kind of public-private investment strategy--the same
strategy used by other pension systems--would permit Social
Security, while continuing to invest primarily in Treasury
securities, to invest part of the accumulating trust fund
surplus in a passively managed portfolio of stocks indexed to
the broad market.
This investment approach has many advantages over the two
proposals advanced by other members of the Advisory Council to
break up Social Security into millions of individual retirement
savings accounts. Most importantly, it preserves Social
Security as a defined-benefit plan, in which benefits are
determined by law rather than by what happens to an
individual's savings account.
That is a fundamentally important safeguard for a system
designed, as Social Security is, to provide a secure base on
which to plan and build one's retirement. If the base itself is
made less secure--by replacing it with millions of relatively
small individual accounts, all subject to the vagaries of
individual investment decisions and unduly dependent on the
performance of the stock market--Americans will have lost the
universal system of basic economic security that we have been
building so carefully and successfully for 60 years. Instead of
refinancing the mortgage, we will have undermined the house.
Whatever the President and the Congress decide to do with
Social Security in the future, we should not seriously consider
trading part of it for high-cost social experiments that put
all Americans at risk. In our view, the Social Security
Advisory Council did not produce three viable options from
which to choose. The six of us could not, under any foreseeable
circumstances, support either of the two private-retirement-
accounts proposals, and we do not believe that most Americans
will find them even remotely attractive, once the risks, costs,
and trade-offs are fully understood.

II. Social Security: America's Family Protection Plan

For 60 years the United States has pursued a three-tier
retirement income policy consisting of Social Security and two
supplementary tiers: employer-sponsored pensions, now covering
about half the work force, and voluntary individual savings.
Each tier complements the others and has become a fixed feature
of national policy. Social Security, covering nearly everyone,
is a contributory, wage-related, defined-benefit plan
administered by the Federal government and entirely supported
by dedicated Federal taxes, and the two supplementary tiers are
explicitly encouraged by Federal tax policy.
Social Security, the basis of this three-tier structure,
has been a uniquely successful program by any measure. For more
than half a century, it has been America's family protection
plan, providing millions of the elderly and disabled with
secure incomes, guarding them against impoverishment, and
relieving their children and grandchildren of what could easily
become the unmanageable burden of supporting them year in and
year out throughout their old age.
No program has ever done more to alleviate and prevent
poverty or to protect income against erosion by inflation. None
has done more to protect children against the risk of
impoverishment when a wage-earning parent dies or becomes
disabled. And no program has ever enjoyed greater public
support.
Several key points about Social Security need to be kept in
mind, particularly when considering proposals that would have
the effect of replacing or substantially altering it:
Social Security provides a basic income floor for
virtually all working Americans at the time of retirement,
allowing millions of the elderly to maintain their
independence. It provides $12 trillion in life insurance
protection, more than all private insurance combined. More than
43 million Americans are currently receiving benefits--
including 27 million retirees, 11 million family members and
survivors of deceased workers (including 3 million children
under 18) and 5 million disabled persons.
Social Security is self-supporting and has not
added a penny to the deficit. Since 1937 the program has
collected $5 trillion and paid out $4.5 trillion, leaving $500
billion in reserve.
Social Security is highly efficient and has very
low administrative costs. Administrative expenses consume less
than one percent of revenues, compared to 11 percent on average
(not including profit) for private insurance.
With fewer than half of all U.S. workers currently
covered by private pension plans, the majority of retired
Americans find themselves relying on Social Security for most
of their income. Without Social Security, nearly one of every
two elderly Americans would fall below the poverty line.
Social Security benefits and inflation adjustments
have been of crucial importance in reducing poverty among older
Americans. Thirty years ago, poverty among the elderly was more
than twice the national rate. Today the poverty rate among the
elderly is under 12 percent, comparable to other adults.
Social Security provides substantial protection
for survivors and those with disabilities. For a typical
example--a 27-year-old couple, both working at average wages,
with two small children--survivors' protection is worth
$307,000. Disability protection for the same family amounts to
$207,000.
Social Security is, in other words, a program of many
parts: part retirement program, part disability income program,
part life-insurance program, part anti-poverty program--and all
of them working together for the benefit of the nation. Even if
some individuals were able to do better under an individualized
retirement savings scheme, the nation as a whole would not be
better off.
It is also important to understand that although Social
Security does require financial strengthening to meet its full
obligations over the 75-year period for which Social Security
forecasting is done, the program does not face a financial
crisis--now or tomorrow.
Even with no changes in present contribution rates and
benefits, Social Security can continue to pay full benefits on
time for 30 years, and after that could still pay 75 percent of
its obligations. Even 75 years from now, without any change in
law, Social Security could still meet 70 percent of its
obligations. Our task, in other words, is not to overcome a
crisis but to make up a shortfall.
In 1995, the Trustees of Social Security estimated that
over the long run--that is, over the course of the 75-year
estimating period--outlays are expected to exceed revenues by
2.17 percent of total covered payrolls. In other words, if
Social Security contribution rates had been increased by 2.17
percentage points in 1995, the long-term deficit would be
eliminated. This is not to suggest that a contribution-rate
increase in 1995 would have been a good idea, but simply to
show that the shortfall on the horizon is not of such magnitude
as to require radical solutions. Moderate measures, undertaken
soon, can avert major problems later, in much the same way that
a minor course correction can steer a ship safely past a hazard
on the horizon.
The long-term imbalance of revenues and expenses can be
substantially reduced by taking several common-sense steps.
These options are discussed in Social Security for the 21st
Century: A Strategy to Maintain Benefits and Strengthen
America's Family Protection Plan, our statement in the report
of the Advisory Council, and are summarized below:

------------------------------------------------------------------------
Rationale for Impact on 2.17%
Proposed Change Change Deficit ^{4
------------------------------------------------------------------------
1. Increase taxation of benefits Benefits should be -0.31
taxed to the
extent they exceed
what the worker
paid in, as is
done with other
defined-benefit
pension plans..
2. Change Cost of Living COLA is determined -0.31
Adjustment (COLA) to reflect by CPI, which is
corrections to Consumer Price widely believed to
Index (CPI) announced in 1996 overstate
by Bureau of Labor Statistics. inflation; further
changes to CPI may
be made, perhaps
affecting COLA--
and thus the long-
term deficit--more
than shown here..
3. Extend Social Security Most state and -0.22
coverage to all newly hired local employees
state and local employees. are already
covered; the 3.7
million who are
not are the last
major group in
labor force not
covered..
4. Change wage-averaging period Helps bring program -0.28
for benefits-computation into long-term
purposes from 35 to 38 years, balance by
or increase contribution rate reducing benefits
0.3% (0.15% for workers and (3% on average)
employers alike). for future
retirees. Increase
would have
approximately the
same effect on
deficit as 3%
benefit cut..
5. Redirect income from taxes on Corrects anomaly in -0.31
Social Security benefits from current law. Note:
Medicare to Social Security ^{5. This change to go
into effect when
Medicare is
refinanced (2010-
2020).
------------------------------------------------------------------------
Long-term deficit remaining after implementation of above changes:
0.80% ^{6

The Advisory Council agreed that this package of relatively
modest changes reduces Social Security's anticipated long-term
deficit by nearly two-thirds, extending the life of the trust
funds from 2030 to 2050. That being the case, there simply is
no compelling argument for abandoning the traditional Social
Security program, with its unique advantages, for a radical
experiment with individual retirement savings accounts. Yet
that is the approach proposed by various Advisory Council
members.

II. `Individual Accounts' (IA)

The Individual Accounts (IA) plan proposed by two members
of the Council would:
(1) Reduce existing Social Security protection so that over
the long run benefits are brought into balance with the current
combined contribution rate (12.4 percent of payroll); and
(2) Establish a new compulsory individual savings plan,
financed by an additional 1.6 percent deduction from workers'
earnings, raising the worker's deduction from 6.2 percent of
earnings to 7.8 percent beginning in 1998.
Benefits under the Social Security part of the plan would
be gradually reduced, ultimately cutting benefits about 30
percent on average. This results in part from accelerating the
increase in the normal retirement age (NRA) scheduled in
present law and then continuing to increase it by indexing it
to longevity, and in part by changing the wage-averaging and
benefit formulas. The reduction in benefits would be gradual
but substantial.
Proponents argue that the IA plan, on average, is designed
to protect the status quo for Social Security participants by
bringing the combined benefits of the reduced Social Security
system and the new savings plan up to the level now provided
for (but not fully funded) by the present Social Security
system. However, the IA plan has many flaws:
It reduces Social Security's defined guaranteed
benefit plan in the long run by 30 percent for the average
worker (32 percent for higher-paid and 22 percent for lower-
paid workers), with the hope that the average return on savings
in individual accounts will make up for the losses in Social
Security benefits. But even if this turns out to be the case on
average, many will fall below average, particularly among the
lower-paid.
It requires all workers to set aside more of their
wages than at present--in effect a tax increase--with the
increase required to be saved for retirement, regardless of
other more immediate needs that the worker and his or her
family may have for health care, emergencies, or more basic
needs such as food, clothing and shelter.
It makes the challenge of solving Medicare's
financial problems more difficult by pre-empting compulsory
deductions from workers' earnings for retirement savings rather
than for health care. If a payroll-tax increase is to be
considered, there is a more immediate need to direct such
income to Medicare than to Social Security.
It undermines broad public support for the
residual Social Security system by producing lower and lower
benefits, which in turn will create pressure from the more
successful savers and investors to shift more of their payroll
taxes from Social Security to private accounts.
Even on average, it is unlikely to achieve the
goal of adequate retirement income because many savings
accounts holders will face more immediate needs and will want
access to their money before retirement, and there will be
great pressure on the Congress to authorize early withdrawals.
After all, the selling point for these private accounts is that
the money belongs to the individual. Individuals facing
emergencies or other major expenses will not take kindly to
being told that they must wait for many years to gain access to
their funds.
For all of these reasons (discussed at greater length in
our statement in the report of the Advisory Council), the six
of us strongly oppose the IA plan. Indeed, we see the IA plan
as something of a Trojan horse, in effect if not in intent,
because it could result in undermining support for what would
remain of the traditional Social Security program, thus leading
to even greater substitution of a private savings scheme for
social insurance.

III. Personal Security Accounts (PSAs)

The Personal Security Accounts (PSA) plan proposed by five
members of the Advisory Council would:
(1) Replace Social Security's existing benefits structure
with a flat monthly government-paid retirement benefit varying
only with length of time worked;
(2) Create a system of compulsory private individual
``security accounts'' (i.e., savings accounts) for retirement,
funded by 5 percentage points of the payroll tax now going to
Social Security.
The monthly benefit payable via the government system would
be $205 after 10 years of coverage (in 1996 dollars, wage-
indexed thereafter), rising by about $8 for each additional
year of coverage until the maximum benefit--$410 a month--is
reached for workers having 35 years of coverage. Spouses of
eligible workers would receive a monthly benefit of $205, and
older surviving spouses would get 75 percent of the total flat
benefit payable to the couple. A disability and young
survivor's program similar to the present system (but
ultimately reduced by 30 percent in the case of disability)
would also be part of the central government system.
The PSA plan requires increasing the payroll tax by 1.52
percentage points beginning in 1998 and continuing through
2069. In addition, the plan would borrow from the Federal
government over 33 years--at the peak owing the Treasury about
$2 trillion (in 1996 dollars, $15 trillion in then-current
dollars) and then repaying it over the next 35 years. The tax
increase and the borrowing are necessary to enable the plan to
fulfill the benefit promises of the present Social Security
system for those 55 and older, and to pay for past service
credits from the present system to those 25 to 54. All those
now under 25 would, at retirement, receive only the flat
benefit plus whatever the 5 percent of wages invested in PSAs
added up to.
Individuals would be free to invest their PSAs in any
generally available financial instrument, and the accumulated
amounts would become available when they reached retirement
age, with no requirement for annuitization and with no special
provision for spouses or other dependents.
The PSA approach has all the disadvantages of the IA plan--
and more:
It requires a 1.52 percentage point increase in
the payroll tax for 72 years, and, in addition, massive
borrowing from the Federal government.
The residual public Social Security program
becomes even more unattractive to most contributors than in the
case of the IA plan, with benefits related only to the length
of time under the system. Thus, regardless of wage levels or
what was paid in, the maximum benefit is only $410 a month
(about two-thirds of the poverty level) for someone who has
paid into the program for 35 years.
Investment choices are essentially unrestricted
(and thus difficult to monitor) and the payout at retirement
age could be in a lump sum, with no annuity requirement to
spread payments out over the retirement years--and no inflation
protection.
The more successful investors would have little
reason to want to keep what is left of the public system, and
without their political support it would probably be phased out
or converted into a means-tested poverty program.
The plan increases the Federal budget deficit by
$200 to $300 billion a year for the next three decades.
Moreover, with some investors failing to get good returns, the
burden on the government (read: taxpayers) would in all
likelihood be greater, because many retirees facing
impoverishment would be forced to turn to means-tested income-
support programs such as Supplemental Security Income (SSI),
thus driving up the cost of these taxpayer-supported programs.
The plan is particularly harsh on those with
disabilities and on those spouses who do not have sizeable
accounts of their own (as discussed in our statement in the
report of the Advisory Council).
The communication and administrative tasks created
by the plan, particularly during the ``transition'' period
(more than 70 years), seem overwhelming. The government would
have to explain the protection being provided under present
Social Security law and the new flat benefit program as it will
be for the young, while explaining the rules governing how much
one gets from each source during the transition.
Administratively, the government would have to keep an eye on
small as well as large employers to make sure not only that
deductions are made from wages each payday but that they are
deposited in the employee's choice of a bank, broker, or other
financial agent. Then the government must make sure that the
accumulating funds are kept intact--through all subsequent
movements of the varying totals among changing fiscal agents--
until retirement. This would be a monumental task. As noted
previously, the administrative costs of the present Social
Security system are below one percent. In contrast, the
administrative costs of Chile's privatized retirement system--
which offers fewer options than would be available under the
PSA plan--are reportedly in the range of 15 percent.
The plan violates the basic principle of pooling
resources and spreading the risk that has helped Social
Security to weather economic downturns and recessions and that
makes it feasible to distribute retirement income equitably.
Instead of sharing risks, workers would have to bear risk
individually--with the certainty that some risks would turn out
very badly, and that in such cases (typically people outliving
their savings accounts), retirees would have to turn to their
adult children or to means-tested income-support programs for
help.
The plan fails the test of cost-effectiveness. If
we want to increase returns on investment of Social Security
funds--both to completely close the remaining long-term deficit
discussed above and to make Social Security a more attractive
`investment' for younger workers--it would make far more sense
to centrally invest a portion of the trust funds in private
equities, as is done now by virtually all other federal, state,
local, and private-sector defined-benefit retirement plans.
With this approach, administrative costs are much lower and net
overall returns are thus higher.
The IA plan and the PSA plan have their differences, but
what they have in common is that both, in the guise of rescuing
Social Security, require radical and unnecessary ``reforms''
that would mean new risks and higher costs for workers and
retirees.
They require workers to pay twice for retirement:
once to keep the present system solvent enough to pay at least
reduced benefits to present beneficiaries and those workers who
will be retiring soon, and once to fund the new system of
individual retirement accounts.
They require major new tax increases. The IA plan
increases workers' deductions (workers only--no matching
increase for employers) from 6.2 percent to 7.8 percent of
payroll; the PSA plan increases the combined worker-employer
rate by 1.52 percentage points while simultaneously borrowing
more than $2 trillion from the Treasury. These are burdens that
would begin now and accumulate for decades.
They undermine public confidence in Social
Security, even in its ``reformed'' version, by requiring
substantial cuts in government-paid benefits, thus making some
private investment accounts appear to be more attractive.
They assume that workers will, on average, be able
to offset reduced benefits--and come out ahead--by earning
higher returns on their private investments. But of course
there are no guarantees. A skillful or lucky investor may
indeed do well; an unlucky investor could end up with much less
than the benefits that would have been guaranteed in law under
the present system. Averages being averages, it is a certainty
that many would earn below-average returns.
None of this is necessary. The six of us who propose the
Maintain Benefits plan believe that our first task is to take
the common-sense steps outlined above (and discussed in our
statement in the Council report) and this greatly reduces
Social Security's long-term deficit right away. At the same we
propose exploration of the various options to bring the program
into full long term balance.
There are several such options, including: enacting, in the
near future, moderate tax increases or benefit cuts for future
retirees; scheduling further increases in the normal retirement
age (which has the same effect on Social Security's long-term
deficit as reducing benefits, and which some would argue may be
justified by increases in longevity); or scheduling a series of
future increases in contribution rates. All of these options
have disadvantages, however, including making Social Security
less attractive to younger workers by lowering the ratio of
benefits to contributions. This strengthens the case for
exploring the pros and cons of a public-private investment
strategy.

IV. A Public-Private Investment Strategy

The six of us who advocate the Maintain Benefits plan also
advocate reviewing Social Security's present investment policy.
Under present law, funds may be invested only in low-yield
government bonds. Yet funds are accumulating in anticipation of
the demands on the system that will be made when the baby-boom
generation begins retiring in the second decade of the 21st
century. Investing up to 40 percent of this accumulating
``surplus'' in stocks indexed to the broad market would yield
higher returns, closing the remaining long-term deficit while
also improving the benefit/contribution ratio for younger
workers.\7\
The objective of investment neutrality can be established
in law and pursued as a matter of policy by establishing an
expert board (as in the case of the Federal Retirement Thrift
Investment Board, which administers the Thrift Savings Plan for
Federal employees) to select an appropriate passive market
index, choose portfolio managers, and monitor portfolio
management.
Some critics of this investment strategy argue that
politicians would be tempted to tamper with the index of
government investments in order to steer investments toward
preferred social objectives. In reality this is unlikely to be
a problem. Once the objective of investment neutrality is set,
we can be reasonably confident that our competitive political
system will furnish the necessary checks and balances to
protect this principle. Efforts by one party to undermine
neutrality would provide a major point of attack for the other
party, with the result that future Congresses would be
reluctant to interfere with an established investment
arrangement in which nearly every American family would have a
stake. (This is the same principal of political balance that
has thus far protected Social Security from radical change.)
Perhaps foremost among all the advantages of this approach
over the IA and PSA plans is that it preserves Social Security
as a defined-benefit plan, with benefits determined by law
rather than by the uncertainties of individual investment
decisions. In all respects, it leaves the essential principles
of the traditional Social Security system undisturbed while
restoring long-term balance and offering Social Security
participants the same investment benefits that are enjoyed by
participants in other large retirement plans--state, local, and
private. The investment risk is kept manageable and affordable
by investing as a group rather than as individuals, and the
administrative costs are, of course, very low in comparison to
making investments at retail and managing millions of
relatively small individual accounts.

V. Conclusion

Today Social Security fulfills what Lincoln described as
``the legitimate object'' of government: ``to do for a
community of people whatever they need to have done but cannot
do at all or cannot do so well for themselves in their separate
and individual capacities.'' It is extremely important that
Social Security, as the basis for all retirement planning,
continue in the form of a defined-benefit plan, promising
specified benefits that are not at risk of being undermined by
investment decisions.
With Social Security as a base to build on, those who can
afford to accumulate other retirement income are free to do so,
with encouragement from the tax code and without being
penalized by a means test. And, with basic Social Security
protection in place, pension plans and private investors can
more freely take risks in pursuit of higher investment returns.
This argues for retaining Social Security as the basic
foundation of our traditional three-tier retirement system--a
foundation that is not threatened by the failure of a business
or the decline of an industry, and with benefits continuing to
be defined by law. Over time, of course, Social Security has
adapted to change and can continue to do so, even as we are now
recommending. But the system that has met every challenge for
60 years has proven sound--and continues to merit powerful
public support.
Whenever Social Security's long-term stability has been
threatened by circumstances warranting a legislative response,
strong public support for the program has encouraged political
leaders to seek bipartisan solutions that build on Social
Security's inherent strengths. That is the approach we
recommend now--to build on rather than replace the family
protection plan that works so well for so many.

Notes

1. Robert M. Ball, Edith U. Fierst, Gloria T. Johnson, Thomas W.
Jones, George Kourpias, and Gerald M. Shea.
2. Council Member Edith U. Fierst would prefer not to implement
either of these changes; see her statement appended to the main report
of the Advisory Council.
3. Some of the revenue from taxation of Social Security benefits
now goes to the Medicare Hospital Insurance (HI) trust fund, not as a
matter of policy but for reasons related to Senate voting procedures
(see the report of the Advisory Council, p. 78), and this anomaly
should be corrected when Medicare is refinanced.
4. Estimates by the Office of the Actuary, Social Security
Administration.
5. This is the only one of these proposals not supported by a
majority of the Advisory Council.
6. Adjusted for interaction of proposed changes (see the report of
the Advisory Council, p. 80).
7. To help maintain the program in balance even beyond the
traditional 75-year estimating period, a contribution-rate increase of
1.6 percent should be scheduled to go into effect in 2045, with the
understanding that at that time, depending on actual experience, the
increase may not be needed (see the report of the Advisory Council, p.
86, for a discussion of this issue).

Chairman Bunning. Your time did expire.
Dr. Gramlich, would you please make your presentation.

STATEMENT OF EDWARD M. GRAMLICH, PH.D., DEAN, SCHOOL OF PUBLIC
POLICY, UNIVERSITY OF MICHIGAN; AND CHAIR, 1996 QUADRENNIAL
ADVISORY COUNCIL ON SOCIAL SECURITY

Mr. Gramlich. Thank you for soliciting my testimony on
Social Security reform, Mr. Chairman. In trying to reform this
important program that has worked so well now for 60 years, I
am guided by three goals. The first is to retain the important
social protections of this program that has reduced poverty and
the human costs of work disabilities. The second is to make the
social protections affordable by bringing Social Security back
into long-term financial balance. The third is to add new
national saving for retirement, both to help individuals
maintain their own standard of living in retirement and to
build up the Nation's capital stock in advance of the baby boom
retirement crunch.
In the recently released report of the Advisory Council, I
have introduced a compromise plan called the individual
accounts, IA, plan that tries to achieve all three goals. It
would preserve the important social protections of Social
Security and still achieve long-term financial balance in the
system by what might be called kind and gentle benefit cuts.
Most of the cuts would be felt by high-wage workers with
disabled and low-wage workers being largely protected from the
cuts. Unlike the other two plans proposed by the Advisory
Council, there would be no reliance at all on the stock market
for these benefits and no worsening of the finances of the
Health Insurance Trust Fund.
The IA plan would include some technical changes such as
including all state and local new hires in Social Security and
applying consistent income tax treatment to Social Security
benefits. These changes are also part of the Council's other
plans and go some way to eliminating Social Security's
actuarial deficit.
Then, beginning in the 21st century, the changes would be
supplemented with two other measures. There would be a slight
increase in the normal retirement age for all workers. There
would be a slight change in the benefit formula to reduce the
growth of Social Security benefits for high-wage workers. Both
of these changes would be phased in very gradually to avoid
actual benefit cuts for present retirees and to avoid notches
in the benefit schedule, which are instances when younger
workers with the same earnings records get lower real benefits
than older workers. The result of all changes would be a modest
reduction in the overall real growth of Social Security
benefits. When combined with the rising number of retirees, the
share of the Nation's output devoted to Social Security
spending would be approximately the same as at present,
eliminating this part of the impending explosion in future
entitlement spending. Of the three plans suggested by our
Council, my plan is clearly the best for achieving short- and
long-term balance in the Federal budget.
These benefit cuts alone would mean that high wage workers
would not be experiencing rising real benefits as their real
wages grow, so I would supplement these changes with another
measure to raise overall retirement and national saving.
Workers would be required to contribute an extra 1.6 percent of
their pay to their individual accounts. These accounts would be
owned by workers but centrally managed. Workers would be able
to allocate their funds among five to ten broad mutual funds
covering stocks and bonds. Central management of the funds
would cut down the risk that the funds would be invested
unwisely, would cut administrative costs, and would mean that
Wall Street firms would not find these individual accounts a
financial bonanza. The funds would be converted to real
annuities on retirement to protect against inflation and the
chance that retirees would overspend in their early retirement
years.
All changes together would mean that approximately the
presently scheduled level of benefits would be paid to all wage
classes of workers of all ages. The difference between this
outcome and present law is under this plan, these benefits
would be affordable, as they are not under present law. The
changes would eliminate Social Security's long-term financial
deficit while still holding together the important retirement
safety net provided by Social Security. They would reduce the
growth of entitlement spending and improve the Federal budget
outlook. They would significantly raise the return on invested
contributions for younger workers, and the changes would move
beyond the present pay-as-you-go financing scheme by building
up the Nation's capital stock in advance of the baby boom
retirement crush.
As the Congress debates Social Security reform, I hope it
will keep all of these goals in mind, and I hope also that it
will make these types of changes in this very important
program.
Thank you very much for hearing me.
[The prepared statement follows:]

Statement of Edward M. Gramlich, Ph.D., Dean, School of Public Policy,
University of Michigan; and Chair, 1996 Advisory Council on Social
Security

Thank you for soliciting my testimony on Social Security
reform, Mr. Chairman. In trying to reform this important
program that has worked so well now for sixty years, I am
guided by three goals. The first is to retain the important
social protections of this program that has greatly reduced
aged poverty and the human costs of work disabilities. The
second is to make these social protections affordable by
bringing Social Security back into long term financial balance.
The third is to add new national saving for retirement--both to
help individuals maintain their own standard of living in
retirement and to build up the nation's capital stock in
advance of the baby boom retirement crunch.
In the recently released report of the Advisory Council, I
have introduced a compromise plan, called the Individual
Accounts Plan (IAP), that tries to achieve all three goals. It
would preserve the important social protections of Social
Security and still achieve long term financial balance in the
system by what might be called kind and gentle benefit cuts.
Most of the cuts would be felt by high wage workers, with
disabled and low wage workers being largely protected from
cuts. Unlike the other two plans proposed by the Advisory
Council, there would be no reliance at all on the stock market
for these benefits, and no worsening of the finances of the
Health Insurance Trust Fund.
The IA plan would include some technical changes such as
including all state and local new hires in Social Security and
applying consistent income tax treatment to Social Security
benefits. These changes are also part of the Council's other
plans, and go some way to eliminating Social Security's
actuarial deficit.
Then, beginning in the 21st century, the changes would be
supplemented with two other measures. There would be a slight
increase in the normal retirement age for all workers. There
would also be a slight change in the benefit formula to reduce
the growth of Social Security benefits for high wage workers.
Both of these changes would be phased in very gradually to
avoid actual benefit cuts for present retirees and notches in
the benefit schedule (instances when younger workers with the
same earnings records get lower real benefits than older
workers). The result of all changes would be a modest reduction
in the overall real growth of Social Security benefits. When
combined with the rising number of retirees, the share of the
nation's output devoted to Social Security spending would be
approximately the same as at present, eliminating this part of
the impending explosion in future entitlement spending. Of the
three plans suggested by our Council, my plan is clearly the
best for achieving short and long term balance in the federal
budget.
These benefit cuts alone would mean that high wage workers
would not be experiencing rising real benefits as their real
wages grow, so I would supplement these changes with another
measure to raise overall retirement (and national) saving.
Workers would be required to contribute an extra 1.6 percent of
their pay to their individual accounts. These accounts would be
owned by workers but centrally managed. Workers would be able
to allocate their funds among five to ten broad mutual funds
covering stocks and bonds. Central management of the funds
would cut down the risk that funds would be be invested
unwisely, would cut administrative costs, and would mean that
Wall Street firms would not find these individual accounts a
financial bonanza. The funds would be converted to real
annuities on retirement, to protect against inflation and the
chance that retirees would overspend in their early retirement
years.
All changes together would mean that approximately the
presently scheduled level of benefits would be paid to all wage
classes of workers, of all ages. The difference between this
outcome and present law is that under this plan these benefits
would be affordable, as they are not under present law. The
changes would eliminate Social Security's long term financial
deficit while still holding together the important retirement
safety net provided by Social Security. They would reduce the
growth of entitlement spending and improve the federal budget
outlook. They would significantly raise the return on invested
contributions for younger workers. And, the changes would move
beyond the present pay-as-you-go financing scheme, by building
up the nation's capital stock in advance of the baby boom
retirement crunch.
As the Congress debates Social Security reform, I hope it
will keep all of these goals in mind. I also hope it will make
these types of changes in this very important program. Thank
you for hearing me.

Chairman Bunning. Dr. Schieber.

STATEMENT OF SYLVESTER J. SCHIEBER, PH.D., VICE PRESIDENT,
WATSON WYATT WORLDWIDE; AND MEMBER, 1994-1996 ADVISORY COUNCIL
ON SOCIAL SECURITY

Mr. Schieber. Thank you. Mr. Chairman, thank you for the
opportunity to testify before you today to relate to you my
perspective on the deliberations of the Social Security
Advisory Council, and the proposal calling for the creation of
personal security accounts, PSA, is the best way to reform the
program. Social Security's own trustees have been telling us
for some time that the program is significantly underfunded for
future generations. If the full imbalance were addressed
immediately through a tax increase, it would increase cost
rates by about 20 percent over the next 75 years.
Given current tax burdens, such an increase is no trivial
matter. In addition, by the time we get around to dealing with
Social Security's financing problems, the current funding gap
will be much larger than it is today. The potential
rededication of 2 percent of gross domestic product, GDP, to
provide old-age, survivors, disability insurance, OASDI,
benefits might be tenable if that were the only imbalance that
the Government were facing. But as we all know, it is not. For
reasons outlined in my prepared remarks, Medicare's claim on
the economy is going to be much harder to reduce or stabilize
than Social Security's.
We have to consider rebalancing Social Security in the
larger context of the total Federal Government claim on the
economy and within the context of other entitlements that must
be financed out of government revenues. It does not make any
difference that there is a separate earmarked tax that finances
Social Security. There is only so much that the public is
willing to give to the Government, and there are other things
that the Government has to do.
In the Advisory Council's deliberations, there was
virtually no support for a straightforward increase in the
payroll tax to rebalance the current system. We spent much time
looking for ways to live within the current tax rates, but in
the final analysis, there was little support for that option
either. The unwillingness to raise taxes or cut benefits in a
straightforward manner drove us all to consider policy options
not previously viable, but we split into three camps in terms
of the particular policy options that we supported.
The members of the council that I sided with, five of us,
advocated significant reorganization of the current system. We
proposed that 2.4 percent of covered payroll that now finances
disability and young survivor benefits should continue to be
financed through Social Security. The employer's portion of the
remaining payroll tax, 5 percent of covered payroll, would
finance a flat benefit payable to all long career workers. The
employee's remaining 5 percent would go into personal security
accounts managed like 401(k) or IRA assets. The combination of
scaled-down Social Security benefits plus the personal security
account or PSA benefit would be similar to benefits provided by
current law.
Critics of the PSA proposal argue that it would erode
public support for the redistributive aspects of Social
Security. Since the PSA system would have the same overall
benefit structure as current law, this opposition would only
arise because workers might understand the program's
redistribution work more clearly than they do under current
law, but it is likely that most workers already understand the
current system, either on their own or because many
commentators have told them how it works. Furthermore, if the
only way we can get the public to support such a program is to
confuse them about how it works, the program is not sustainable
anyway.
Critics of the PSA plan also argue it would expose workers
to undue risk in the financial markets. This argument often
paints a picture of individual account plans creating risks for
workers where none exists in the current environment. As I
point out in my prepared remarks, the 1977 Social Security
amendments reduce many workers' Social Security relatively more
than the October 1987 stock market crash. Today, Social
Security is significantly underfunded, and to restore balance,
benefits must be cut or taxes raised to finance current
promises. Either of these propose significant risks. Critics of
the PSA proposal finally argue that it would create tremendous
new obligations for future taxpayers. The reason that this
argument is given any credence is because the Government does
not consistently account for its future obligations.
Table 1 in my prepared remarks shows that the Advisory
Council proposal that most significantly reduces the long-term
Government obligations of Federal taxpayers is the PSA plan.
Considering the full projected costs of the transition
including any borrowing, the PSA proposal reduces total future
taxpayer obligations nearly twice as much as the individual
accounts proposal. It reduces them by more than 20 times the MB
proposal's cost reductions. It is the only proposal that would
reduce the claim that OASDI payments by the Government would
make on the overall economy.
While several members of our Advisory Council and others
have branded the PSA proposal radical, I suggest that we look
at the world around us to see that such proposals are
commonplace. Reforms of this sort are sweeping across Latin
America. Similar reforms have been adopted in a number of
countries in the Austral-asian sphere of the world. They have
been implemented in United Kingdom and are being considered
across other countries of Europe. What is radical about the PSA
proposal is that it would create an opportunity to turn our
national retirement program into a system that would begin to
fund its benefits promises by adding to savings of our economy.
We believe it would also restore confidence in a system that
the majority of taxpayers today believe will not deliver the
benefits that are being politically promised.
Thank you very much.
[The prepared statement and attachments follow:]

Statement of Sylvester J. Schieber, Ph.D., Vice President, Watson Wyatt
Worldwide; and Member, 1994-1996 Advisory Council on Social Security

The views in this statement are those of the author and do
not necessarily reflect the views of Watson Wyatt Worldwide or
any of its other associates.
Social Security's actuaries and trustees have been telling
us for some time that the program is significantly underfunded
for future generations of retirees. Some students of the
program trivialize its underfunding by saying that it is only
underfunded by 2.2 percent of covered payroll over the next 75
years and imply that its imbalance is no big deal. That is very
misleading. If the actuarial imbalance is to be made up through
a tax increase, it would be an 18 percent increase in the
program's cost over the next 75 years. Such an increase in the
tax that has become the largest federal tax for many workers is
no trivial matter.
In addition, the 2.2 percent figure assumes that we could
have raised the payroll tax rate 2.2 percentage points early
last year and banked the added accumulation, or cut benefits by
a comparable amount. There are three problems with such an
assumption. First, the 2.2 percentage points understates the
actuarial imbalance because the actuaries do not consider the
deteriorating funding status of the program at the end of their
75-year projection period. If we wanted to raise enough
revenues to make up for this calculation period problem, we
would have had to raise the payroll tax 2.5 percentage points
early last year. Second, after the experience of the ballooning
federal debt in conjunction with the trust fund accumulations
of the last 14 years there are questions about the government's
ability to convert added payroll tax collections into national
savings. Third, policymakers have not been willing to raise
taxes by the 2.2 percentage points, or the more realistic 2.5
points, needed last year or to cut benefits immediately by a
corresponding amount. By the time we get around to dealing with
Social Security's financing problems, the 2.2 percent or 2.5
percent funding gap will be much larger than it is currently.
If we wait until the baby boomers are retired to deal with this
problem, the actuarial imbalance will have doubled from its
current level.
It is important that Congress deal with Social Security's
financing imbalance soon because it damages the public's
perception about the long-term viability of the program. Some
people dismiss reports that the majority of workers under age
50 believe they will not get full benefits now provided by
Social Security when they retire as public cynicism. I believe
that while most people do not understand the arcane nuances of
Social Security financing, many of them do catch the yearly
news reports telling of the annual release of the Trustees
Report. The headlines generated last year by that report
indicated that Social Security would run out of money in 2029--
that is, within the normal life expectancy of virtually all
workers under age 50 today. Is it cynicism that people believe
their government's reports of the program running out of money
in their lifetime means they will get reduced benefits? I think
not.
In considering policies to deal with Social Security's
actuarial imbalances, Congress cannot ignore the larger context
of the government's total fiscal operations. It also has to
keep in mind the provision of retirement security to workers
while maintaining some modicum of equity across generations.
Balancing the various goals is no easy task. It was this
combination of considerations that drove the members of the
Social Security Advisory Council in very different directions
in proposing solutions to its current imbalances in the system.

Balancing Social Security in the Larger Context of Federal Fiscal
Operations

Figure 1 shows three-year averages of the total receipts of
the federal government as a percentage of gross domestic
product (GDP) starting with Fiscal Year 1951 through Fiscal
Year 1996. I use three-year averages rather than the actual
annual data to smooth the effects of economic cycles on tax
revenues. Over this 45 year period, total receipts varied from
a low of 17.1 percent of GDP to a high of 19.3 percent, only
about a 2 percentage point variation in the claim that the
federal government has made on taxpayers. While there is no
natural limit to government's claim on the economy, there are
clearly political forces that narrowly limit the amount US
taxpayers are willing to render to it. Even looking at actual
year-to-year numbers, the maximum claim in any year was 19.7
percent of GDP.
Under current law, OASDI claims are expected to grow from
4.7 percent of GDP in 1996 to 6.5 percent by 2035. If we begin
with an assumption that total government claims on the economy
are narrowly limited and that Social Security is scheduled to
make a bigger claim than currently, then some other government
expenditures must shrink. One way to look at the potential for
Social Security's claim to expand while other programs contract
is to look at it in the context developed by the Entitlement
Commission during 1994.
The Commission looked at the potential total claim that all
entitlement programs would make on the government as presented
in Figure 2.\1\ Entitlements include Social Security, Medicare,
retirement programs for federal civilian and military retirees,
Medicaid, and various other means tested welfare programs.
Social Security and Medicare make up about two-thirds of total
entitlement claims today. By 2030, entitlement claims alone are
projected to exceed the 17 to 19 percent of GDP that taxpayers
have been willing to share with government over the latter half
of the 20th century. Indeed, the programs aimed at the elderly
alone are expected to exceed that amount by 2030. The
predicament predicted in Figure 2 suggests that expanding
Social Security's claim on the US economy might be more
difficult than simply bringing its own accounts back into
actuarial balance.
---------------------------------------------------------------------------
\1\ In these projections, Medicare and Social Security outlays
follow the Medicare and Social Security Trustees' best estimates.
Medicaid outlays are assumed to reflect demographic changes and the
increases in health care costs that underlie the Medicare projections.
All other spending and revenues are assumed to follow Congressional
Budget Office projections through 1999 and to grow in proportion to the
overall economy thereafter.
---------------------------------------------------------------------------
Figure 3 dissects the projected increases in total
entitlement claims into three component parts, namely Social
Security, Medicare, and other entitlement programs. While each
of the component elements is projected to grow, the graphic
suggests that the most significant contributor to the expected
growth in total entitlements is expected to be the Medicare
program. In the case of the other entitlements, the growth of
Medicaid is a major contributor in projected growth. This leads
some policy analysts to argue that our entitlement problem is
really a Medicare and Medicaid problem rather than one with the
cash programs that are included under the entitlement umbrella.
They claim that if we can restrain the rapid growth in the
health care programs, we can sustain projected growth in the
cash programs.
One problem in constraining federal health programs for the
elderly is that doing so is likely to be more difficult than
constraining the cash programs for retirees. There are several
reasons for this. First among them is that old people simply
use more health care services than younger ones as shown in the
left-hand panel of Figure 4. The right hand figure shows that
the percentage of our population over age 65 is expected to
grow by as much between 2010 and 2030 as it had in the prior 80
years. In tandem, these two phenomena portend a significant
increase in the demand for health care in coming decades, and
much of it is likely to be funded through publicly funded
insurance programs aimed at the elderly.
Not only will the increase in the elderly population and
their natural tendency to use more health care drive up the
costs of Medicare in the future, but two additional factors are
likely to further exacerbate these forces. The first is the
excessive price inflation that seems to persist in the health
sector of our economy. While medical price increases as
reflected in the CPI in comparison to overall growth in the CPI
have moderated recently, the ratio of the Medical CPI to the
total CPI has been larger from the beginning of this decade
through the end of 1996 than it has been over the prior three
decades. It is premature to conclude that recent softening in
medical price inflation will persist in the long term. The
record from the last 40 years does not support that conclusion.
The second factor that will drive up future health costs is the
continued technological development and more intensive
treatment of patients. Development of life-extending
technologies account for the rapid increase in the numbers of
elderly persons over 85 years of age in recent years. The
numbers of baby boomers who will live to these ages could have
a tremendous effect on health care consumption rates by 2030.
These four factors, the greater consumption of health care
by older people, the aging of the population, the high
inflation rates in this segment of the market, and cost
expanding technologies are all compounding factors that will
drive up the cost of Medicare claims even in the face of
program reforms. Current projections suggest that under present
law Medicare's claim on the economy will grow from 2.5 percent
of GDP today to 7.5 percent by 2030. The underlying assumptions
in that projection, however, assume that the added price
inflationary pressures and the increased costs of treatment due
to cost expanding technologies will largely be eliminated by
the end of the first decade of the next century, just as the
first of the baby boomers begin to turn age 65. In other words,
our current Medicare projections assume we will have an
amelioration in inflationary pressures on this program just as
the baby boomers begin to bring on tremendous levels of new
demand.
Yet another problem in dealing with the Medicare dilemma is
that policymakers will find that they cannot get the same
leverage from limiting eligibility that they can get with
Social Security. If normal life expectancy at age 65 is 18
years, a two-year increase in the normal retirement age will
reduce Social Security claims by roughly 2/18ths or 11 percent.
In the case of Medicare, raising the age of eligibility would
move some recipients to Medicare disability or Medicaid
coverage, and these tend to be the high-cost cases. For others,
it would extend VA or CHAMPUS coverage. Figure 5 shows the
aggregate effects on case loads and potential cost reductions
from raising eligibility ages under the program and does not
include the extra potential costs to the government in its own
retiree health benefits coverage.
The point of this lengthy discussion is that we cannot
consider the rebalancing of the OASDI program in a vacuum. The
potential rededication of 2 percent of GDP to rebalance OASDI
might be tenable if that were the only imbalance that the
government were facing. But it is not. There is also a
tremendous imbalance in Medicare, a program targeted at exactly
the same population. For the reasons outlined, Medicare's claim
on the economy is going to be much harder to reduce or
stabilize than Social Security's. We have to consider
rebalancing Social Security in the larger context of the total
federal government's claim on the economy and within the
context of other entitlements that must be financed out of
total government revenues. It does not make any difference that
there is a separate earmarked tax that finances Social
Security. There only seems to be so much the public is willing
to give to the government and there are other things that
government has to do with those limited resources besides
financing entitlements.

Forces Driving toward Consideration of Nontraditional Policy Options

In the Advisory Council's deliberations, there was
virtually no support for a straightforward increase in the
payroll taxes when we discussed that approach to rebalancing
the system. We spent a great deal of time developing an option
that would have reduced benefits to live within current
statutory tax rates. When we finished developing that option,
there was virtually no support for it among the Council
members. The unwillingness to raise taxes or cut benefits in a
straightforward manner drove us all to consider policy options
that have not previously been on the table. But we split into
three camps in terms of the particular policy options that we
ended up supporting.
The first camp, comprised of six Council members, advocated
several changes, essentially maintaining the current level and
structure of benefits. Thus, their proposal was called the
Maintenance of Benefits (MB) proposal. They advocated: (1)
increasing the number of years of earnings used in determining
benefits from 35 to 38, moderately reducing benefits for
workers who do not work more than 35 years; (2) diverting some
income tax revenues now going to Medicare to the OASDI funds;
(3) taxing all benefits above workers'; own lifetime nominal
payroll tax contributions--i.e., their own basis in benefits;
(4) investing 40 percent of the trust funds in the private
equity markets to get a higher rate of return than that
provided by current investments; and raising the payroll tax
rate by 1.6 percentage points in 2045.
The MB option was opposed by the majority of the Council.
Even among its advocates, most came to oppose certain of its
elements, although they counted the expected revenues from the
whole proposal. Those of us opposed to the MB plan were
particularly concerned about the investment of OASDI assets in
private capital and the increase in the tax rate in 2045. On
changing investment policy, we are concerned that the equity
accumulation would be so large that investment decisions would
become politically motivated. We are concerned about
irresolvable conflicts of interest as the government would try
to reconcile its fiduciary obligations to program participants
while also regulating companies in the investment portfolio in
the interest of the public's health and welfare. In addition,
we do not believe that the corporate governance issues can be
resolved without government taking an active role in ownership
direction of the assets it owns. On raising the payroll tax, we
felt strongly that it would be unfair to impose taxes on our
grandchildren that we are unwilling to pay ourselves.
The second group on the Council, comprised of two members,
advocated that future benefits should be reduced to match the
12.4 percent of covered payroll now dedicated to financing
OASDI, but that Social Security benefits should be supplemented
by a defined contribution plan financed by employee
contributions of 1.6 percent of covered payroll. This saving
plan, known as the Individual Account (IA) plan, would work
much like a national 401(k) plan administered by Social
Security. Social Security would collect and manage
contributions. Workers could designate the investment of their
funds across restricted choices--e.g., a government bond fund,
a corporate bond fund, and limited equity funds--but the
government would manage the money. At retirement, workers would
be required to annuitize the assets in their individual
accounts. The combination of the scaled down Social Security
benefit plus the IA benefits would roughly replicate current-
law benefits.
The remaining five members of the Council, including me,
were uncomfortable with the prospect of Social Security running
this large investment scheme--indeed, managing more money than
under the MB proposal. We felt it was important to prefund more
of accruing benefits financed by the payroll tax than under
current law, but thought it unwise to have the government so
involved in the investment of the accumulated assets. We
advocated significant reorganization of the current system. We
proposed that the 2.4 percent of covered payroll that now
finances disability and young survivor benefits should continue
to be financed through Social Security as now. Under our
proposal, the employers' portion of the remaining payroll tax,
5 percent of covered payroll, would finance a flat benefit
payable to all long-career workers. The employees' remaining 5
percent would go into Personal Security Accounts (PSAs) that
they would manage like they manage 401(k) or IRA assets.\2\ The
combination of the scaled down Social Security benefit plus the
benefit funded by the PSAs would generate higher benefits, on
average, than now provided by current law.
---------------------------------------------------------------------------
\2\ For a complete description of this proposal and its financing
and benefits implications, see Sylvester J. Schieber and John B.
Shoven, ``Social Security Reform Options and Their Implications for
Future Retirees, Federal Fiscal Operations, and National Savings,'' a
paper prepared for a public policy forum, ``Tax Policy for the 21st
Century,'' sponsored by the American Council for Capital Formation,
Washington, DC, December 1996. Copies available from the author on
request.
---------------------------------------------------------------------------

Criticisms of the PSA Proposal and Responses to Them

The PSA proposal has been criticized for several reasons
but primarily for three important ones. First, critics argue
that the creation of a two-tier system with a defined
contribution benefit comprising the second tier would erode the
public's support for the redistributive aspects of Social
Security. Second they argue that the PSA proposal would expose
workers to undue risks in the financial markets. Third, critics
argue that the PSA proposal would create tremendous new federal
debt obligations for future taxpayers that do not exist today.
Each of these will be addressed in turn.
The combined tiers under the PSA proposal would continue to
deliver redistributive benefits similar to the current system.
According to the projections developed by the Social Security
actuaries for the Advisory Council, the PSA proposal offers the
potential for both low-wage and high-wage workers to become
better off under a proposal of this sort than under the
extremely low rates of return provided by the current system as
a result of the funding of benefits that is an important
element of the proposal. The essence of the argument that high-
wage workers would oppose the first-tier of the PSA system is
that they would get such a relatively low rate of return from
the first tier compared to the second that they would campaign
to have all their contributions go to their individual
accounts. Since the PSA system would essentially have the same
redistributive characteristics as current law, this opposition
would only seem to arise because workers might understand the
redistributive characteristics more clearly under the PSA than
under current law. But it is likely that most workers already
understand that the system is redistributive, either on their
own or because many commentators and financial planners tell
them about it. Furthermore, if the only way we can get the
public to support such a program is to confuse them about how
it works, the program is not established on a sustainable basis
and will ultimately be challenged anyway. Finally, a number of
other countries, including Canada and the UK have run their
social security programs this way for years and those programs
continue to receive widespread public support.
The second argument concerns the PSA or the IA plan
exposing workers to investment risk. This argument often paints
a picture of individual account plans creating risks for
workers where none exists in the current environment. To
illustrate that this is a distorted perspective, consider the
hypothetical case of two brothers. The first held all of his
retirement wealth in the form of Social Security promises at
the beginning of 1977--i.e., he had no personal retirement
savings or pension rights. He was not going to be eligible to
retire until five years after the implementation of the 1997
Social Security Amendments--i.e., he was one of the notorious
notch babies. The net effect of the 1977 Amendments was to
significantly reduce his retirement wealth. His brother was
somewhat younger and managed to hold all of his retirement
wealth as financial assets invested in the stock market. The
younger of the brothers happened to be hiking in the Himalayas
through the month of October 1987 and came home to find that
his retirement wealth had been significantly reduced by the
stock market crash that month. In relative terms, the older of
the two brothers suffered a greater loss in his retirement
wealth than the younger. Today, Social Security is
significantly underfunded. Either benefits are going to be cut
or taxes raised to finance them. Either cutting benefits or
raising taxes poses significant risk to program participants.
The PSA proposal would diversify workers' risk between the
financial markets and the political world in which Social
Security financing decisions are made. Many policy analysts see
such diversification as desirable.
The third argument is that the PSA would create tremendous
new federal debt obligations for future taxpayers that do not
exist today because of the transition costs that are part of
the proposal. The reason that this argument is given any
credence is because the government does not consistently
account for its future obligations. The formal debt of the
federal government is a promise to pay the holders of that debt
the face value of the bonds they hold at a future point in
time. Paying off those bonds will be a burden on future
taxpayers. It is carried on the books of the government. Future
entitlement obligations are created by statute and are promises
to pay beneficiaries in accordance with those statutes in the
future. Meeting future statutory obligations will be a burden
on future taxpayers just as paying off formal debt will be. But
statutory obligations are not carried on the books of the
government. While legislators can reduce statutory benefits and
the future tax burdens they portend, there is tremendous
reluctance to do so.
Table 1 shows projected government obligations under the
various proposals that were developed by the Social Security
Advisory Council. The one that most significantly reduces the
long-term governmental obligations of the taxpayers is the PSA
plan. Considering the full projected cost of the transition,
including the cost of transition borrowing, the PSA proposal
reduces future taxpayer obligations nearly twice as much as the
IA proposal. It reduces them by more than 20 times the MB
proposal's reductions. It is the only proposal that would
reduce the claim that OASDI payments by the government would
make on the overall economy.

Table 1
Present Value of OASDI's 75-Year Obligations under Alternative Policy Options (Dollar amount in billions)
----------------------------------------------------------------------------------------------------------------
Change from Percent
Obligations current law Change
----------------------------------------------------------------------------------------------------------------
Present law.................................................. $21,345
PSA flat benefit*............................................ 14,619 $ 6,726 31.5
PSA flat benefit plus transition tax*........................ 16,487 4,858 22.8
OASDI benefit under IA proposal*............................. 18,867 2,478 11.6
MB proposal.................................................. 21,177 228 1.1
----------------------------------------------------------------------------------------------------------------
Source: Social Security Administration, Office of the Actuary.
* Balances do not include the individual account balances in either the PSA or the IA proposals.

While several members of our Social Security Advisory
Council and others have branded the PSA proposal radical, I
suggest that we look at the world around us to see that such
proposals are becoming commonplace. Reforms of this sort are
sweeping across Latin America. Similar reforms have been
adopted in a number of countries in the Australasian sphere of
the world. They have been implemented in the United Kingdom and
are being considered across other countries of Europe. What is
radical about the PSA proposal is that it would create an
opportunity to turn our national retirement program into a
system that would begin to fund its benefit promises by adding
to the savings base of our economy. We believe it would also
restore confidence in a system that the majority of taxpayers
today believe will not deliver the benefits that are being
politically promised.

[GRAPHIC] [TIFF OMITTED] T7633.004

[GRAPHIC] [TIFF OMITTED] T7633.005

Chairman Bunning. I thank the panel for their testimony. I
would imagine, through questioning, more details will be
revealed. I want to start with Mr. Ball. Mr. Ball, your plan
restores solvency only if it assumes that 40 percent of the
trust funds are invested in the stock market. Yet you did not
include this feature in your final plan, only offering it as a
recommendation. What do you recommend to close the gap if this
approach is not pursued?
Mr. Ball. If it is decided after consideration and study
that the Administration and the Congress do not want to invest
central Social Security funds in stocks, then there are several
alternatives. We would be dealing with a remaining deficit of
0.80 percent of payroll. The first possibility I mentioned in
my opening remarks, is that I think it is somewhat likely that
there is going to be some redefinitions of the CPI which would
mean a slowdown in the cost-of-living adjustment, COLA, and to
some extent reduce that 0.80 percent. I am not advocating this.
I just think it is likely to happen. Beyond that, I would
propose that there be a modest increase in the maximum tax and
earnings base of say $10,000. Counting the fact that those who
pay more will get additional benefits, this change would reduce
the deficit 0.20 percent of payroll.
Beyond that, I believe that probably the best thing to do
would be a modest increase in the contribution rate. The other
two plans in the council report have major increases in the
payroll tax. The backers of the IA plan do not want to call it
a tax, but it is a considerable increase in deductions from
workers' earnings, which has many of the characteristics of a
tax.
In our plan, we do not propose any significant increase for
the next 50 years in the tax rate, even as an alternative, but
under the circumstances that you propound, I would think
perhaps a combined tax rate of about 0.40, that is 0.20 on
each, starting in 1998, when most other changes would be
scheduled to go into effect would reduce the balance another
0.38 percent of payroll and with modest CPI changes bring the
system fully into balance without investment in the stock
market. I think investment in the stock market is a very good
idea, but I recognize that it is controversial enough that it
might not get adopted. In any event, it is not the only way to
bring about long-term balance.
You do not have to go to individual accounts. You do not
have to change the whole system, as the PSA plan would do, in
order to bring the system into balance. It can be done by quite
traditional means if central investment in stocks is not
accepted.
Chairman Bunning. I just have one followup question.
Regarding the recommendation to study the investing of 40
percent of the trust funds, did you determine how the stock
market would be affected by such a large influx of dollars?
Mr. Ball. There was no detailed study of that. However,
although the proposal would invest a large proportion of Social
Security funds and even a large proportion of all government
funds, it is not a large part of our $7.5 trillion economy. The
amount that would be going into the stock market probably would
not exceed about 5 percent of the value of the stock market and
the total would be reached gradually over the next 15 years and
from then on new investment in stocks would be a declining
portion of the value of all stocks. It does not appear that it
would have any very significant effect. I am not personally
really expert on the performance of the stock market, if
anybody is, but----
Chairman Bunning. We found out Dr. Greenspan is.
[Laughter.]
Mr. Ball [continuing]. Dr. Greenspan certainly has more
credentials than I do in that area, but we have a member of our
group who you may want to consult with at sometime in the
course of these hearings Thomas Jones, who is the president of
the Teachers Insurance Annuity Association-College Retirement
Equity Fund, TIAA-CREF, which is the largest private pension
and group insurance plan in the country, is very experienced in
this matter. That is what he does everyday.
Chairman Bunning. I have a question for Dr. Gramlich. If
FERS, the Federal Employment Retirement System, is your model
for an individual account, what would prevent the Government
from attempting to influence the operation of any company's
assets that they might own?
Mr. Gramlich. Well, there would be several checks. First,
the individuals would be given a choice of five to ten funds,
and so no one fund would have a monopoly, and no one fund would
be that large. My funds would be significantly smaller than the
amount of stock market investment envisioned under the study
part of the maintain benefits plan. And second, I have not
heard any reports that the Federal thrift plan is abused in any
way. In fact, you barely read about it, and so I think that
setting up accounts--these would be nonbudget accounts, be
alongside the budget--and I think setting it up in that way it
would be like standard 401(k) plans, and I do not see any
likelihood that that would be at all abused.
Chairman Bunning. Well, under our 401(k) plans, the
investments are not in individual stocks, they are in averages
like the Standard & Poor's 500.
Mr. Gramlich. That is right. Yes.
Chairman Bunning. And, therefore, we do not own the stocks
as such, but we own the average, and therefore we would not be
able to control any of the amounts.
Mr. Gramlich. That is right. And the individual accounts
work the same way. These would be average funds, index funds.
Chairman Bunning. You would buy the average in other words?
Mr. Gramlich. Buy the average.
Chairman Bunning. Instead of buying General Motors?
Mr. Gramlich. That is right.
Chairman Bunning. Or Ford?
Mr. Gramlich. That is right.
Chairman Bunning. Or Chrysler?
Mr. Gramlich. That is right.
Chairman Bunning. Or something like that?
Mr. Gramlich. That is right.
Chairman Bunning. Question for Dr. Schieber. In your
testimony you emphasized the importance of balancing Social
Security in the larger content of Federal fiscal operation,
making a number of compelling arguments. Would you please
summarize your views in this area for us?
Mr. Schieber. Well, first of all, if you go back and look
at the work that the Entitlement Commission did a couple of
years ago, it suggested that the amount of revenues that the
Government has been willing or able to collect from the
taxpayers over the last 40-45 years has been relatively
constant between 17.5 and 19 percent of gross domestic product,
and they said if that is the amount that we can collect, then
what are the issues that we are going to be facing as the
population ages and we kind of naturally mature our entitlement
programs? And they concluded that by 2030 that the entitlement
programs related to the elderly themselves would claim the full
allocation that taxpayers have been giving to the Federal
Government historically.
And so they said that something has to give. And when you
look at Social Security in the context of the entitlement
programs, Social Security and Medicare make up about three-
fourths of them today. The largest growth in these in the
projected future is going to come in the medical area. One of
the problems that we have in dealing with the medical area is
that there are a number of factors that are going to make
reductions there more intractable than in the cash benefit
programs. Older people use more health care than younger
people, and we are an aging society. We are aging at the very
oldest ages more rapidly than anywhere else.
We do not have the same kind of leverage that we do with
Medicare in terms of increasing the entitlement age. If we
raise the eligibility age in Social Security, say 2 years, and
life expectancy is 18 years at age 65, you reduce the total
benefits that you pay to a single person by 2/18ths, about 11
percent. In Medicare it does not work that way. Older people
use more health care than younger people, and even the sickest
of the younger elderly would probably still end up getting
disability benefits. So it is going to be very hard to
constrain that. Social Security, as it is currently configured,
is expected to expand its claim on GDP, our total output, from
around 4.8 percent today to about 6.8 percent by 2030.
So if you have got these other entitlements growing, and we
have got this kind of overall limit, we are going to have to
constrain something somewhere, and we tried to come up with a
proposal in this larger context that would do that, that would
give people financial assets so they would have other claims
outside the Government to meet their retirement needs, and I
think that drove our thinking very strongly.
Chairman Bunning. I want to ask all of you one question. If
you were a benevolent dictator, as was the case when they
changed the retirement system in one Latin American country, at
what point in time do you think that we can act prudently? What
year? 2000? 2010? Or somewhere between 1997 and 2012 when we
start dipping into the trust funds. When should we take some
action to ensure Social Security remains solvent for the next
75 years? I would ask all three of you.
Mr. Schieber. I would be happy to start with that. The
former Chairman of this Subcommittee, Congressman Pickle, put
in a proposal shortly before he retired that would have reduced
benefits as the way to fix it. The benefit reductions that we
would be facing if we were going to make them today would be
around 20 to 25 percent of current promised benefits. If you
were to make a benefit reduction say of 25 percent to fix the
program, and you were to implement it with a 10-year lead time
so it would affect, say, people that were 55 years of age and
younger, for a person who was 55 years old, if they wanted to
save on their own to make up for that benefit reduction, would
have to save about 10 percent of their earnings each of their
last 10 years that they worked.
If you could give that worker a 20-year lead, it would be
about 4.5 percent. If you could give the worker a 30-year lead,
it would be a little under 3 percent. The longer lead time you
can give people in terms of forming their expectations for what
they are going to get from this program so they can develop the
rest of their retirement program on a rational basis, the
fairer you are going to be with the American people. So I think
the window is fairly short. I think the sooner you can go
through the deliberative process, and you should definitely go
through a deliberative process, you should not rush to
judgment, but I think you should make a judgment and you should
move with due dispatch because I think otherwise you are
putting people, your constituents, in tremendous jeopardy.
Mr. Gramlich. I think we are all going to give the same
answer to this question.
Chairman Bunning. OK.
Mr. Gramlich. One date that could be kept in mind is that
the baby boomers first become eligible for Social Security
early benefits, in the year 2008. As Dr. Schieber said, you do
have to give people advance warning in advance of that. So
really I think the best time to make changes is in this
Congress far and away.
Chairman Bunning. Mr. Ball.
Mr. Ball. As I suggested earlier, I would move as promptly
as you possibly could, meaning in this Congress, for solutions
to about two-thirds of the problem. I am not saying that it is
easy to do all the traditional things we propose--to extend
coverage to the remaining State and local employees for
example. Some States are going to object to that. Some
employees are going to object. It is not easy to tax more of
the Social Security benefit, which is part of this traditional
solution. That was an issue in the 1994 election for example.
But these proposals are fair. It is actually desirable from
an equity standpoint because that is the way other pensions
that are defined benefit plans and contributory are taxed. Why
should not Social Security benefits be taxed the same way? If
you are going to change the COLA to a more accurate measure, if
that is what happens, you would want to do it as soon as
possible. Now in things like that--and we have a the list of
five points--there is no reason to delay. They are understood.
They have been talked about for a long time. Where a delay is
justified--and I do not mean a long delay but where at least 2
or 3 years of discussion is justified--are these new ideas.
Certainly if consideration is going to be given to individual
accounts, that is a brand new blockbuster of an idea for Social
Security. I am opposed to it, but it certainly should not move
from anybody's point of view without a lot of consideration.
And I think that there is enough difference between the
tradition in Social Security and investing some of the central
fund in the stock market--even though it is indexed and even
though it is passively managed--that I would not urge it right
away. But I would not think you would need more than say 3
years to evaluate that kind of an approach. So we are all in
agreement on very early action. I guess I am the only one that
divides it into two parts and urges you to act very quickly on
the traditional changes that have already been studied.
Chairman Bunning. Thank you. Mrs. Kennelly.
Mrs. Kennelly. Thank you, Mr. Chairman. In my readings
about your plans and the various comments that have been in
many of the periodicals and newspapers, there seems to be a
suggestion that by taking funds out of the Social Security
trust funds and putting them into individual accounts or
personal security accounts, you increase national savings, and,
Mr. Gramlich, I heard you say that you had to have national
savings. I am sure Mr. Schieber agrees. Could you further
elaborate how, in fact, your plans with these new ideas do
increase national savings because we cannot do it unless we
increase national savings.
Mr. Gramlich. Yes. Well, let me start on this. My
individual accounts would be on top of Social Security, and you
can probably divide the world out there into those workers who
have defined contribution pension accounts on top of Social
Security and those who do not. Roughly half of the work force
do not have any pension saving on top of Social Security, and
so if you mandate some saving on top of Social Security, then
surely saving has to go up for that part of the work force.
Those who already have pensions on top of Social Security
may to some degree reduce their pensions or have their
employers reduce them. That does not bother me so much because
they already have pension saving on top of Social Security. I
am interested both in increasing national saving and in having
it to some degree targeted to the people who are now not saving
on top of Social Security, and I think my approach does that.
Mr. Schieber. In the case of the personal security account
plan, over a fairly lengthy period of time, we would be moving
from a system that is currently almost totally unfunded. Today
we have a little over a half trillion dollars in the trust
funds, and that seems like a lot of money, but if we were to
shut off the flow of revenues to the system, it would only last
for about 18 months. So it is not very significantly funded. By
the end of this fairly lengthy transition, more than half of
the benefits in our system would be funded. The way we
accomplish it in the short term is through a transition tax,
and we are quite explicit about that. We called it a tax. We
could reconfigure it so it would not be called a tax, but when
you legislate that somebody should put some extra money in the
bucket, we said let us be honest, let us not kid around, let us
call it tax.
So we called it a tax. It is through that mechanism early
on that you create additional saving. Over time, though, the
system would become very significantly funded. By the end of
the transition, more than 50 percent of all benefits would have
financial assets laying behind them.
Mrs. Kennelly. Thank you, doctor.
Mr. Ball.
Mr. Ball. Mrs. Kennelly, I am very glad you asked this
question because I think there has been confusion about our
plan and the savings issue. The maintain benefit plan over
time, if you take say the year 2030, has savings that are the
equivalent of about two-thirds of the savings that are claimed
without any offsets for the IA plan. It is about half of what
is claimed for the PSA plan but without any offsets, and, as
Dr. Gramlich said, there is very good reason to think there
would be some offsets. So on the savings effects, these plans
are closer together than that seems.
But all savings that we need in the economy do not have to
come from this change in Social Security. It is very important
to do, and it is good to have Social Security changes make a
contribution, but it is not the whole story. I am concerned
about this proposal to deduct another 1.6 percent from workers'
earnings for the sole purpose of retirement. Professor Gramlich
is saying that he wants to focus on the people who are not now
saving. The problem with that is I do not think you are doing
relatively low-income workers any favors to make them save
more, particularly for the single purpose of retirement. Many
of those workers live payday to payday. Many of them need all
their income for food, clothing, and shelter. Almost all need
income for partial protection, at least, and maybe total
protection against the cost of health care.
You really make it harder to solve the Medicare problem,
which is a much more difficult problem than the Social Security
problem, if you preempt deductions from workers' earnings or
payroll taxes for this one purpose of retirement. So as good as
savings are, not every way of accomplishing savings is
desirable. These other two plans get their savings almost
entirely on the basis of increased taxes. We can do the same.
You can add an increased tax to the maintain benefit plan and
it results in savings the same way.
Mrs. Kennelly. You have got the other gentleman's
attention, Mr. Ball.
Mr. Gramlich. Yes, he did indeed get my attention. If I
could come back on that, I said in my testimony, and I will
repeat here, that my plan was the only one of the three plans
that did not worsen the finances of the Health Insurance Trust
Fund. I mean that seriously. Both of the other plans have an
implicit tax increase that they are not telling you about, in
that, the Health Insurance Trust Fund is on pretty shaky
grounds, as you know, and they are diverting revenue one way or
another from that Health Insurance Trust Fund so they are going
to have to make it up in taxes, and so there are a lot of
things that are going up and down in these plans.
But I do think that my esteemed colleague, Mr. Ball, has
misstated the issue on health insurance because it is his plan
that is actually diverting revenues from the Health Insurance
Trust Fund, not mine.
Mrs. Kennelly. And that is where you take the funds that
are taxed from Social Security and take them out of the
Medicare Trust Fund and put them back? That is what you are
talking about?
Mr. Ball. Yes, Mrs. Kennelly.
Mrs. Kennelly. And that is a concern of mine.
Mr. Ball. Let me tell you what the proposal is. The
proposal is really to correct an anomaly that crept into the
system, not by the rules of the House but by the rules of the
Senate. In the 1993 amendments, when taxation of Social
Security benefits was extended--under they call it the Byrd
rule in the Senate--you could not put that extra tax money, in
OASDI. The Senate was barred from adding income to OASDI or
taking away from OASDI except by a supermajority of 60 votes.
So they parked the income in the Medicare Program, taxes on
Social Security benefits in the Medicare Program.
We are not proposing that it be taken away now. We are
proposing only that when Medicare is refinanced, as it must be,
between the years 2010 and 2020, that it would be desirable,
since the financing is being changed anyway to take into
account that Medicare is now getting money that really should
be in the OASDI system. At that time I would transfer future
payments to OASDI where they belong.
Mrs. Kennelly. I am going to end this debate because I just
have time for a few more questions, but I do want to say my
memory, and I voted on that, was, in fact, that every few years
because of the trustees' report, we have to do something to
keep Medicare solvent.
Chairman Bunning. Yes.
Mrs. Kennelly. And one of the ways we did it was to take
those dollars and put them in the Medicare Trust Fund, and
every time I have a townhall meeting, to this I get brought to
task for having done it. I can say honestly I did it to keep
the Medicare Trust Fund solvent, and I think it is 14 percent
of the change. If we took that money back to the Social
Security system, it would be 14 percent of the changes needed
to achieve solvency. So I do not know, Mr. Ball, if you are
going to get it back, but I think we would have to think about
it long and hard. But before I finish because all these
gentlemen are waiting to ask questions, I am concerned about
the situation of widows and divorcees in these plans.
Social Security was there for widows and children, and I
understand the huge amounts of women now working. However, when
I look at the plans, and particularly when I look at the flat
benefit that Mr. Schieber gives, I figure that a divorcee might
end up with $205 a month under your plan, and that certainly
disturbs me. I am also worried that some years ago we passed
legislation, and in the legislation we made it mandatory that
before a man could take it just for himself, he had to have his
wife's consent. We do not see any of that there. I wish you
would address that. In fact, women work a shorter amount of
time, coming in and out of the workforce to have children, and
end up with lower benefits. How, do you protect women in these
new plans from, in fact, having a very, very small benefit?
Mr. Schieber. Well, first of all, if you look at the labor
force participation rates of women today and compare them to
the labor force participation rates of retired women today,
they are very significantly different. For the most part, if
you look at the retired women today and you consider their
daughters at similar points in their age spectrum, the women
today's labor force participation rates tend to be about 35
percent higher, 30 to 35 percent higher than the mothers' labor
force participation rates were when they were a similar age.
So the spousal benefit that was implemented in the 1939
amendments and has been provided by Social Security throughout
the years was a very different benefit when it was initially
implemented than it is today. Now, to the extent that women are
working, women would accumulate their own entitlement rights,
and in many regards our plan is more fair than the current
plan.
Mrs. Kennelly. Then would they then get their own account?
Mr. Schieber. They would get their own benefit. Now if
equal sharing of earnings during a period that people are
married, if that is a concern of yours, it would actually be
more easily achievable under our plan than it is under current
law because if you wanted to actually split in any year a
couple were married, if you wanted to split their total
earnings, their total contributions to their combined PSAs, you
could split it at the end of each year, and you could say that
this was something that was not subject to negotiation at
divorce. If earning sharing is a true concern, there would be a
legislative way to deal with that that I think would be much
easier than what you've got today. So we are not totally
oblivious to the needs of women.
Mrs. Kennelly. And I also want to put on the record that I
don't know where you got the fact that all of a sudden instead
of a wife having 50 percent of the benefit, she only needs 35
percent of the benefit. I am concerned. I am glad I asked some
of these questions because when we began this hearing,
everything was sweetness and light, and I think this has
brought out that there is going to be some serious debate, and
so we are going to have to sharpen the pencils pretty well
before we get to the point where we can agree on a lot because
there is a lot in this. Thank you, Mr. Chairman.
Chairman Bunning. Mr. Johnson will inquire.
Mr. Johnson. Thank you, Mr. Chairman. Mr. Ball, you
mentioned in your testimony that you were trying to protect
Social Security and use traditional methods, and you used that
word several times. I wonder if you pursued all the avenues
that were available and, one, why you did not want to raise the
retirement age in your idea?
Mr. Ball. When I replied to the question about what would
we do if it was not possible to invest in the stock market, if
people ruled that out, I should have added that one possibility
would be to reduce benefits by the device of raising the age at
which people get full benefits beyond the 67 that is in present
law. I would do that with great--I would agree to that with
great reluctance. I think the problem is that it is another way
of cutting benefits, but the incidence of cutting benefits
falls on the people who have the hardest time staying in the
work force. That is people who are dependent upon their own
hand labor. It is people who are handicapped but not to the
degree where they can get a total disability benefit. The
proposal runs, too, against what has been happening. I would
favor raising the retirement age on a demonstration that people
were actually working longer, and that private industry was
giving them jobs, and that private pensions were also raising
the age of normal retirement.
Going to age 67 has been in the Social Security law now for
14 years. We are going to gradually start, beginning in 2000,
raising age 65 to 67. But there has been no response to try to
deal with this fact. Quite the contrary. The age at which
people actually are retiring continues to go down, and here we
already have a policy in Social Security which says, well, we
are going to go in the opposite direction. I think Social
Security policy and actual retirement ought to go together. We
have a natural experiment here. We have 67 in the present law.
Let us try it. Let us see what happens under present law, and
if it works well, if there really are jobs there for older
people, surely, later on we can go to 68. You do not have to do
it now.
Mr. Johnson. OK. You know you talk about putting Social
Security back in the form, I guess, that it originally was in.
That was one of your reasons for taking Medicare contributions
back from where they were, but were not disability payments
also not part of Social Security originally, and did you
propose to take them back as well?
Mr. Ball. Mr. Johnson, if I gave the impression that I want
to take Social Security back to the way it used to be, that was
a wrong impression. I did not mean to give that impression.
Mr. Johnson. OK. Well, that is kind of the impression I
got. I am sorry.
Mr. Ball. I think Social Security has been greatly improved
and properly so. It pays higher benefits. It pays total
disability benefits. It protects against increases in the cost
of living. It has done much better by women than it used to. I
think it is a greatly improved system, and we need to maintain
it with all its improvements.
Mr. Johnson. Yes. For all of you, do you think you really
considered all the options? I know you discussed it at length
among yourselves in your various groups and came up with these
proposals, but do you feel like you overlooked any solution, or
do you think there was maybe something that you all failed to
talk about that has come up since? Whoever wants to go first.
Mr. Gramlich. We spent 2\1/2\ years on this and there has
been a huge amount of debate. I personally have not seen any
idea since we made our report that I was not aware of before we
made the report.
Mr. Schieber. Right. Or that we discussed. We kicked most
of the rocks.
Mr. Johnson. Did you? And you did not find any snakes?
Mr. Schieber. We broke our toe a time or two. There were
snakes.
Mr. Ball. I think, Mr. Johnson, this does give me an
opportunity, though, to say that even though we may have
considered all individual proposals, I do not think we came up
with the three best plans. I think the two plans that set up
individual accounts have so many disadvantages to them, I would
not consider them a second, third, or fourth choice. Our group
of six people are completely opposed to the idea of reducing
the basic central Social Security system and then trying to
make up for the reductions with individual accounts which may
come out the same on average but only on average. Many will
lose.
Mr. Schieber. But the majority did support individual
accounts, and the fact of the matter was in the final analysis
the group of six who are dedicated to the current system could
not even agree on their proposal.
Mr. Johnson. Thank you, Dr. Schieber. Thank you, all.
Chairman Bunning. Thank you. Mr. Collins, we will give you
5 minutes, and then we will recess and go vote.
Mr. Collins. I will yield my 5 minutes.
Chairman Bunning. You will yield. Mr. Jefferson.
Mr. Jefferson. As I think about these three reports, I want
to ask you this. When you started out this work at some point,
as you were undertaking it, did you agree on the goals that you
were seeking to attain as a result of your work? Was there
agreement on just fundamental goals that you were seeking to
accomplish?
Mr. Gramlich. I will speak for myself. I think there is
broad agreement on the fundamental goals. I think that all of
the plans attempt to provide a social safety net of some sort.
It is different in the different plans, but there is broad
agreement that that is a goal. We certainly agreed that we
should make the system financially sound over the very long
run, and by very long run, we mean very long run, and so there
was certainly agreement on that. There was less agreement on
the goal of raising overall national saving for retirement.
There was some disagreement on how important it is to do that
within the context of Social Security, and so there might be
some disagreement there, but I think that there was broad
agreement on goals, speaking for myself.
Mr. Schieber. And I agree.
Mr. Ball. I find that generalization hard to agree to. It
seems to me these individual accounts have in mind other goals
than the traditional Social Security ones. They are perfectly
legitimate goals for people to have, but they are different.
One new goal is individual control over part of the
individual's own savings. That is a new goal within Social
Security as against----
Mr. Jefferson. Everybody agrees, though, on this idea of
solvency of the system. I mean that is obviously what--but the
emphasis on security plays in different places. Mr. Ball, in
your proposal, the security interest looks like security with
respect to the benefits, and in the other plans, the benefits
get dealt with tampered with, reduced, and the emphasis is on
the security of having a safety net, something there to fall
back on but not necessarily security of the standard benefits.
And I guess as we go through this, we have got to figure in
which of these directions really we are going to go. Let me ask
you about the--Dr. Schieber, I believe--let me see if I can
understand this. It is correct to say that between 1998 and
2029 that the Federal spending under the PSA plan would rise by
over $7 trillion? Is that correct?
Mr. Schieber. I find it unlikely, but I cannot respond to
that precisely.
Mr. Jefferson. What is your figure? Do you have one?
Mr. Schieber. The present value of the transition cost is
in the table, Table 1. It is stated in total dollars--I do not
even have a copy of my own full testimony with me--you show the
cost of benefits that are provided under OASDI through the PSA
plan relative to current law, and then there is a second line
in there that includes the present value of the full 75-year
transition cost. It reduces the cost to the taxpayers over the
lifetime of the program.
Mr. Jefferson. What it seems to show here is that there is
going to be an increase in the national debt if your program is
adopted as it is presently presented?
Mr. Schieber. We were very explicit. We laid that out in
detail in the report. In present value terms, the amount of the
added debt, formal debt, would accumulate to I think it is
around $1.2 trillion. In 1996 dollars, it would accumulate
around 2030 to about $2.4 trillion.
Mr. Jefferson. Well, if we do this, are we not going to
erode any idea of increased national savings when we increase
the debt that people have to pay to fund it?
Mr. Schieber. The amount of saving that goes on in the PSAs
themselves is significantly more than the added temporary
Federal debt, and that temporary Federal debt is ultimately
paid off by the explicit transition tax that we included in the
proposal. In net over time, we reduced the cost to the taxpayer
of the overall system significantly.
Chairman Bunning. We are going to have to recess, if you
will be patient again.
Mr. Schieber. Absolutely.
Chairman Bunning. We will come back.
Mr. Schieber. An important issue.
[Recess.]
Chairman Bunning. The Subcommittee will come to order, and
Mr. Neal will be questioning.
Mr. Neal. Dr. Schieber, let me pick up on a question that
Mrs. Kennelly asked before when we were talking about the
safety net. If the debate is to lose its focus on Social
Security being a safety net initiative, how can we conceivably
take the risk of that widow who is living on the $7,000 or
$8,000 a year by tying some of the moneys into the stock
market? We do forget there are people out there who live solely
on Social Security.
Mr. Schieber. Well, if you look at a pay-as-you-go Social
Security system of the sort that we have, the rates of return
that people can get on their contributions over their lifetime
when you have got a stable population is essentially the rate
of growth in wages. Rate of growth in wages in our economy over
the last 15 years has been something less than 1 percent real
per year, 1 percent over inflation. The projections going
forward we are expecting that it would only be around 1
percent. If you begin to fund some benefits, and this is one of
the reasons why many of us think that we ought to try and
figure out how to fund some of the benefits, you get a higher
rate of return on the assets that you put away, and this is
something that actuaries have learned and economists for years
and years, that a funded pension plan, a funded retirement
program, can throw off a higher level of benefits at a given
cost than a system that is not funded.
And one of the things that we believe that would happen is
that if you began to fund some of these benefits is that people
over time would actually earn higher benefit levels than they
do under current law, and the flat benefit in combination with
the individual savings we think would have a more beneficial
effect on lower wage workers than it would on higher wage
workers, and this is all spelled out in the report.
So part of the goal here is trying to figure out how to
fund these benefits, and as we began to make the commitment to
fund, a number of us were very concerned about funding them in
the fashion that the maintenance of benefits proposal suggested
because the Government would become the largest single
stockholder in the U.S., become the largest holder of equity
capital, and we thought that would raise a number of problems.
It would raise problems of potential political decisionmaking
in terms of making investments. It would raise conflict of
interest questions. The Government would have fiduciary
responsibilities on the one hand. It would have regulatory
responsibilities on the other, and in some cases those would
conflict.
There are governance issues that are raised, and so we came
to the conclusion that if you were going to try and fund a
significant portion of benefit to get the economic benefits
that derive from that, that you would be driven toward
individual accounts. Now, five out of seven of us oppose the
approach that Dr. Gramlich has proposed because the Government
would be a larger manager of investment assets under that
proposal than under the maintenance of benefits proposal, and
so we were driven more purely to individual accounts.
So I think it is the funding that really drove us in the
direction we went, and the goal was to provide larger benefits,
not lesser benefits. Now there are risk issues, but there are
risk issues all around, and I think we have to try and figure
out how to continue to put the netting in the safety net, but
we need to do it in a viable way where we can accomplish what
we are trying to accomplish, and some of us do not believe that
the current system can do that.
Mr. Neal. Mr. Ball, you said something I thought was very
interesting as it relates to low-income people and how to raise
their rate of savings. You took a contrary position. You did
not think that that was important to increase or encourage
perhaps the working poor and others to increase their savings.
Let me just build upon that for a second. I think that one of
the things that is lost in this abstract argument over the CPI
is that when you cut back 1 percent for the working poor or for
senior widows, it is a pretty significant piece of change for
them.
Mr. Ball. Yes.
Mr. Neal. But I was curious about your position on savings
for low-income Americans.
Mr. Ball. Mr. Neal, I certainly agree that it is very
important to increase the U.S. savings rate, but I do not think
you are doing low-paid workers any favors by forcing them to
save more, particularly for the one purpose of retirement.
Health insurance is one of the biggest needs of middle and
lower income families, and to take 1.6 percent, as the IA plan
does, in further deduction from wages entirely for retirement
benefits seems to me, a mistake. If we are going to increase
savings, which I think we should, I would not pick out low-
income people to do the saving.
Now, if I might enlarge on that just a bit, I would like to
say something about ``averages'' in all this discussion we have
been having. Professor Gramlich in presenting his plan made the
point that when you combined the basic Social Security system,
as he would modify it, plus what workers get from the
individual accounts, the two together on average would be
roughly the same as what people get under the present system or
what they would get under the maintenance of benefit plan.
That is true, but averages are a real problem if we are
talking about the basic system. There will be a lot of people,
by definition, who will be below average. So I have concern
about the adequacy of the IA plan from the standpoint of their
stated objective.
I would also like to criticize my friend's use of
``adjectives'' a little bit. He speaks of the kinds of cuts he
would have in his plan as ``mild,'' ``as relatively small,
particularly for low-income workers.'' But the truth is when
you put together not just change in the benefit formulas, but
everything he does to benefits, the average benefit is reduced
30 percent, and even the benefit for low-wage earners is
reduced 22 percent. That does not seem small to me.
Mr. Neal. I think Mr. Gramlich would like to comment that
alright, Mr. Chairman?
Chairman Bunning. You will get another turn, Mr. Neal.
Mr. Neal. OK.
Chairman Bunning. Mr. Hulshof will inquire.
Mr. Hulshof. Thank you, Mr. Chairman. Good afternoon,
gentlemen. Just a couple of quick background comments. I am
obviously a newly elected member. I also ran in 1994, and
coming through this past campaign season was just a lot
different because of the misinformation about certain issues
and trying to defend and talk about and educate on those
issues. I appreciate the Chairman convening these hearings. As
we begin this dialog, I quite frankly think that we should go
outside these doors and continue to have this public discourse
because I think we need to bring the American people in and
allow them to weigh in on the various options that you have
been talking about.
Now, I understand that the council actually convened a
couple of technical panels to support you in your efforts, and
I think one was on assumptions and methods. Is that right?
Mr. Schieber. Correct.
Mr. Hulshof. It is my understanding also that one of the
conclusions was that the intermediate projections of the Social
Security trustees provided, a reasonable evaluation of the
financial status, and Dr. Gramlich, you are nodding in assent,
and I would assume if there was any objection that you would
tell me. I think part of the problem is it is very confusing
when we bring the public in to begin to discuss these issues
because there are so many things. You can pick up a newspaper
everyday, and you have different estimates when Social Security
will go bust. Some say, as early as, shortly after the year
2000. Some say it is at 2050, and there is this wide disparity
and misinformation or perhaps correct information, but it is
just not being communicated effectively. Can you give us any
guidance as we begin this public discourse across the country
as to how we can better present these proposals?
Mr. Schieber. Well, it is difficult because all of the
estimates for Social Security hinge on 75-year forecasts, and
these are forecasts of the real wage growth, of fertility
rates, of mortality rates for 75 years ahead. If you want to
put it in context, it is as if we were sitting here in the
Harding administration forecasting now and look at all that has
happened since then that could not reasonably have been
forecasted.
So the fact that in making 75-year forecasts, the numbers
differ does not mean that anybody is giving misinformation or
anything like that. It just means that there is real live
uncertainty in these forecasts. The best guess of when the
combined retirement and disability trust fund exhausts its
assets--it does not mean it disappears, but it exhausts its
assets--is 2030. That is the best guess. Then there is a range
of uncertainty around that, and so I do not actually know what
the precise numbers are. The most optimistic for the trust fund
is that it would never exhaust its asset, and the least
optimistic is that it would exhaust its assets somewhat before
2030. That is not misinformation. That is true information
about the likely uncertainty we are likely to have with Social
Security.
Mr. Hulshof. Let me give a quick background for this
question. Colleagues on the other side of the aisle, the blue
dogs, have put together a coalition budget, and there has been
some discussion by the press and even here in the halls of
Congress, beginning to discuss the merits of various budget
proposals. It is my understanding, if you know the answer to
this, regarding COLAs, cost-of-living adjustments, that the
coalition budget being offered by the blue dog coalition has a
fixed COLA, and there is also some discussion about changing
the consumer price index, the CPI. Did that come into your
deliberations as well? Would any of you like to take that
question, please?
Mr. Gramlich. Yes. We talked about that quite extensively.
One is a political point that I believe we all agree on that if
you put the inflation adjustment of Social Security in the
domain of politics there are serious dangers. I think the
wording in our report was that we would like to follow the
Bureau of Labor Statistics, BLS, which does the consumer price
index. We would like to follow that wherever it goes. There are
grounds for thinking that the consumer price index is biased on
the upward side, and there are things that BLS can do to change
their procedures to go to a more current estimate of consumer
market baskets and things like that would lower the rate of
inflation, and we would all favor that.
But I will speak for myself at this point. I have serious
misgivings about a separate Commission that is independent of
the BLS and rules on how much the inflation adjustment would
be. Let me make one other point about this whole thing, and
that is that a key variable in forecasting the long-run
finances of Social Security is the rate of real wage growth.
That is wages deducting inflation. And if there is adjustment
in the inflation indexation, whatever sort, in effect, what is
being assumed is that there is going to be higher real wage
growth for the whole 75 year period. It struck a lot of us on
the Council that that would be a very risky assumption to make,
that real wage growth has been down for a long time now, and a
lot of that does not hinge on the measurement of inflation by
the BLS, and so I think that there may be some way that there
could be a downward adjustment in inflation. But I think this
notion of a separate commission is very dangerous, and I would
much rather have it come from the BLS.
Chairman Bunning. The gentleman's time has expired. I have
a question for Dr. Gramlich and Mr. Ball. Your plans call for
taxing Social Security benefits the same way private pensions
are taxed.
Mr. Gramlich. Defined benefit pensions.
Chairman Bunning. Example. As they receive over what they
have paid in.
Mr. Gramlich. Right.
Chairman Bunning. Is this feasible in the Social Security
program where someone can receive benefits on his own record as
a retired or disabled worker but could also be eligible for
benefits as a survivor or dependent on another's account? Did
you ask SSA if they could do this type of bookkeeping?
Mr. Ball. It used to be thought that Social Security back
10-15 years ago was not in a position to carry out these
individual calculations. I do not believe that is any longer
the case. I think they indicated a year or two ago that they
now could do it leaving aside the question of whether they
thought it was desirable.
Chairman Bunning. Did you ask them if they could do it in
your deliberations?
Mr. Ball. Not as a formal request, I do not think; did we?
Mr. Gramlich. Not that I recall either.
Chairman Bunning. In other words, you did not ask them if
they could?
Mr. Gramlich. What I can say is this, that the Social
Security Administration has reviewed the draft of the report
that says they can do it many, many times, and it was sent all
around the agency, and the only rewording that I remember in
that process is that there are some people in the agency who
feel that they could have done it before. We in the end changed
the wording on that, but nobody questioned that they could do
it now in the drafts they saw.
Chairman Bunning. Dr. Schieber, you have something to add?
Mr. Schieber. Could I make an informational point in regard
to this observation?
Chairman Bunning. Certainly.
Mr. Schieber. The tax treatment of private pensions, I
think, is different than it is really being characterized here
in practical terms. To the extent that an employee contributes
to a defined benefit plan in the private sector, the
contributions are made with post-tax dollars, dollars that have
already been taxed. To the extent that there is a benefit that
accrues based on that, the benefit only becomes taxable in
excess of the employee's base. The overwhelming majority--I
mean it is virtually all private sector plans--because of this
tax treatment of employee contributions, when employer
contributions are tax deductible, virtually all of the
contributions--there are some limited contributions that go
into the plan, but very limited--are made by the employer
because they are tax deductible.
The benefits that are distributed in the final analysis are
then taxable. For defined contribution plans since the creation
of 401(k)s for the private sector, both employer and employee
contributions are made after tax. The tax treatment of private
sector pensions, for all practical purposes, is extremely
different than what is being characterized here.
Chairman Bunning. Clearly, there are major disagreements
among the three of you within the Council and among others in
the Council. You are able to agree on four major areas of
concern: Long-term balance, long-term balance beyond the 75-
year horizon, contribution/benefit ratios, and public
confidence. Can you tell me how you reached this consensus and
how this consensus framed your deliberations? Any and all.
Mr. Ball. Mr. Chairman, I think on those things that you
mentioned, we brought to the council views that were similar or
the same.
Chairman Bunning. Starting out?
Mr. Ball. Yes. It is not that they emerged from a
negotiation or anything of that kind. And that is true of some
other points, in the very first chapter. We also came to the
conclusion that it was undesirable to test people's other
income and then have a means test deducting such income from
your Social Security benefit. We came to the Council
individually agreeing on some of these things before we started
the discussion, but it seemed good to record it.
Chairman Bunning. Does anybody want to add anything?
Mr. Gramlich. The question of when we magically agreed,
whether we came to it beforehand or agreed in the
deliberations. I do think that on the question of truly long-
term balance, that was one where the discussion that the
Council had did influence people, and they agreed to things
that they might not have beforehand. So I think there was some
value in our discussions, if you will.
Chairman Bunning. Mrs. Kennelly.
Mrs. Kennelly. Thank you, Mr. Chairman. Just a quick
question to Mr. Gramlich. My understanding is with your
accounts that you suggest that you have them annuitized, and
from reading your report I could not decide if it was a private
annuity or a public annuity. The president's report says
public. Could you just clear that up for me?
Mr. Gramlich. Yes. I have mandated that all of those
accounts are annuitized because there is what is known as a
self-selection problem in the private annuity market that only
the people who expect to live a long life will get annuities
and the insurance companies charge for that. I would like to
break out of that by saying that everybody must annuitize the
accounts, and so therefore you would not have that load charge,
the self-selection load charge, and so you could annuitize the
accounts at actuarially accurate rates. That is the point
there. So they would be publicly annuitized in that sense.
Mrs. Kennelly. Thank you for clearing that up. Dr.
Schieber, are you concerned about people outliving the benefits
in the PSA accounts, because you do not require annuities, and
that concerns me, especially with regard to women. We women
live forever.
Mr. Schieber. In the report, we indicated that this was
what we thought was a political consideration. That it would
possibly make sense to require that benefits up to one and a
half times, two times, the poverty line or something of that
sort be annuitized. We did not know at what level that should
be set. We thought that was a political decision. Our sense was
that having studied how some of these processes evolved in the
past that people would take our framework if they were
interested in our framework and try and craft legislation
around it, and this was an issue that we, I think, highlighted
in the report and said that it was one that deserved political
consideration. Personally I think it might make sense to
require some annuity, some annuitization of that PSA, to make
sure that people do not go off and spend their money too
aggressively early on and then end up back on the public dole.
But we did not know where to set that in our deliberations. We
certainly did not rule it out. We were quite specific in the
report saying it is a consideration.
Mrs. Kennelly. I have another concern. We see incredible
amounts of money now going into mutual funds, into the market.
And it is thought that it is the baby boomers putting it in
because they are thinking about their retirement. What concerns
me is these same baby boomers--we know exactly who they are--46
to 64--when they retire and they start pulling the money out,
what happens to the market there when everything is--you know,
it is like if everyone sells their house at once, the price
drops. What happens here?
Mr. Schieber. This is an idea that is meant to haunt me for
the rest of my life. Professor John Shoven at Stanford
University and I wrote a paper on this 2 or 3 years ago that
has come to be known as the ``asset meltdown paper'' that has
been widely written about. The issue is whether or not during
the baby boom generation's retirement there is a continued net
saving going on in the economy. If there is continued net
saving going on, then there will be people to buy up the assets
that the baby boomers, in effect, are selling during their
retirement period.
Now, we have written a subsequent paper I would be happy to
share with you. One of the things we believe is that if you
were to go to a more aggressive funding program of the sort
that we have, you would really ameliorate that concern. But
financial markets are far more dynamic than the housing market
that you suggest. My own guess is that we are going to have
problems in the housing market when the baby boomers dump all
their assets. I think it is much less likely that you are going
to see that in the financial markets.
Mr. Gramlich. Could I say a word about that?
Mrs. Kennelly. You have to do it quick. The light is on.
Mr. Gramlich. OK. But he used all the time. The baby
boomers are not all the same age. It is not like all baby
boomers hit retirement in the same year. You will have the
early boomers selling their stock when the later boomers are
still accumulating, and so the baby boom does happen over a 30-
year span. The other thing is that unlike housing, financial
assets are traded in a worldwide market these days, and there
are other countries coming along who have population bursts
that are younger than our baby boomers, and so these assets can
be traded on an international market and not necessarily have
the people take a loss in the asset when they sell it in
retirement. So I happen to think that the asset meltdown is
overblown. Assets are not going to melt down that much.
Chairman Bunning. Richard.
Mrs. Kennelly. Thank you, gentlemen.
Mr. Neal. Thank you, Mr. Chairman. As is not the case here,
often many of the panels that we have, the people that come
before the Members of the Congress, are oftentimes chosen
because they have certain political views, and both sides have
been part of this strategy for an awful long time, but I think
that these sessions that Chairman Bunning has provided us with
are very helpful. It does encourage us to think in larger terms
than we are used to around here. I do think that your presence
here today is indeed very helpful.
Let me raise again, a very important part of this
discussion. What are we going to do about those 19 million
Americans who do not have pensions?
Dr. Gramlich.
Mr. Gramlich. I think that you ought to mandate that they
save 1.6 percent on top of Social Security.
Mr. Schieber. Or that they fund a significant portion of
their Social Security accumulation.
Mr. Ball. I think it is terribly important that Social
Security be maintained at its present level because this is the
only retirement that these people have and that they can count
on. It is the base for everybody, but for one-half of the
American workers, it is the only retirement system. It is not
adequate in itself, but it certainly does not do any good to
cut it back.
Mr. Neal. I think that is interesting because if I might
just put in a plug, too, that I think we tend to forget how
successful Social Security has been. I think there are some
legitimate criticisms about the reach of some of us on our side
of the aisle, but it is also hard, I think, not to come to
grips with the reality of how we change the lives of millions
of senior citizens who until Social Security occurred lived in
abject poverty. That has been lost in this discussion. We tend
to treat this as though it is abstract.
Mr. Schieber. No, I am not sure that is correct.
Mr. Neal. Feel free to disagree.
Mr. Schieber. I think if you looked at the deliberations
within the Council, there was no one suggesting that we cast
the public back to a pre-1935 environment. I think we were very
cognizant of considerations about the low-income population.
That led in the development of the program that Professor
Gramlich talked about. He protects benefits for low-income
people to a much greater extent than he does high income
people. If you look at the characteristics of our plan, that is
exactly the same case. I think we were very cognizant of the
safety net, and even those of us that suggested somewhat
significant changes from the existing system, we did not
abandon the traditional goals of this program, and I think
anyone--there are proposals out there that would do that, but
no one on the Council that I know of seriously suggested that
we take up those kinds of considerations.
Mr. Neal. I did not mean to infer that you folks had done
that. I think that oftentimes here in the abstract when we talk
about these issues inside of the Congress, we tend to treat
them with that sort of a proposition.
Mr. Schieber. Right.
Mr. Neal. I think that is dangerous. Let me just share one
anecdote with you, and each Member of this Subcommittee, and I
have not polled them about it. We frequently spend Fridays or
Mondays with senior citizens. You attend a luncheon or you go
to some sort of an event. People talk about the entitlement
mentality, again in the abstract, but one of the things that
always strikes me at those luncheons, particularly when you are
dealing with people that are in their seventies or their
eighties, if there is an extra piece of bread or whatever on
the table, they do not leave it there. They wrap it up and take
it with them. If there is candy, they wrap it up in a little
napkin or whatever, and they take it with them. That is a
terrific lesson about how their parents saw their lives 50
years ago, and it is a pretty important lesson for all of us as
we begin down the road during this debate. And I do not think
we should ever lose sight of just how successful Social
Security has been.
Mr. Schieber. And I agree, but I think we also cannot lose
sight of the people who have to support it and the burden that
it imposes upon the backs of labor. All of the people who come
to these sessions or the overwhelming majority of them that you
are talking about have children and grandchildren, and they are
all part of the equation, and I think, what we toiled with in
the Advisory Council was trying to figure out how to balance
this equation fairly, and some of us came out with different
conclusions than others, but it does not mean that we were not
cognizant of the concerns about the elderly.
Mr. Neal. Thank you. Thank you, Mr. Chairman.
Chairman Bunning. Mr. Christensen.
Mr. Christensen. Thank you, Mr. Chairman. It is on that
note, Dr. Schieber, that I want to follow up with a question to
both you and Dr. Gramlich, and it is really a question of
advice on how we can marshal the forces of the younger
generation, the Generation Xers. When Richard said he is at
senior citizen centers on Fridays and Mondays, when we are not
there, we are at high schools. When I am at the high schools
one thing I talk about with these high school seniors, juniors,
and sophomores is about generational equity and the Social
Security system, and we have the best discussions with these
young adults. Mr. Bunning earlier said that in the polls more
of them believe in UFOs than actually seeing their Social
Security ever come back to them. What can we do to marshal the
forces of those 16- through 25-year-old individuals who are not
in tune politically, who do not go to the polls to vote, but
are giving 25 to 30 to 40 percent of their little pay stub,
their paycheck, every other week, to Washington, and they have
no idea where it is going, and they are never going to see it
again? They are frustrated. They are mad.
I have thought about the Internet system, maybe some way we
can hook them in and marshal them through that way and get them
to be a force like the senior citizens groups are. I am open
for ideas and I would like to hear both of your comments.
Mr. Schieber. The only thing I can suggest having lived
through two teenagers is maybe MTV.
Mr. Gramlich. I am going to try a more serious answer.
Earlier, one of you, I think it may have been Congressman
Bunning, asked us what is the important date to act, and we all
said that we ought to act now. That is one of the things that
we agree on. I happen to think that the people out there are
probably more interested in action than they are in words, and
I think that the best thing that could be done by the Congress
to assure national faith in the retirement system in the years
ahead is a far-reaching, future-oriented plan that puts
retirement saving on a more solid basis than it is right now.
We have proposed three options. There are other options,
but the present system does have to be shored up, and the way
it is shored up is by you people, and so I would think that you
would want to get cracking on it.
Mr. Schieber. One of the things about this UFO issue that
keeps getting raised in this discussion, some people attribute
it to cynicism. My guess is that for the overwhelming majority
of people, the one thing that they see each year about the
financing situation of Social Security is the headline that
gets printed after the Trustees' Report is released, typically
in April, and that Trustees' Report recently has been telling
people when the system was going to deplete its trust fund. For
many people when you tell them that a trust fund is going to be
depleted and it is backing something that is a benefit that is
being promised to you, and that falls within your life
expectancy, I think it is not unnatural that people would
conclude that, hey, that is probably not going to be there for
me. They do not understand the point that Bob Ball made a
little while ago that even when we run out of money in the
trust fund, there would still be 75 percent of benefits paid by
current taxation.
I will come back. I agree with Ned. I think it is time for
us to try and get this thing solved so we can go to our
constituencies and we can say we have put this on a sound
financial basis. There will be money in the bank when you get
to retirement. There will be something to support your
benefits. Action is what is important now.
Mr. Christensen. Well, I appreciate your testimony here,
and I also appreciate the fact that you have spent so much time
looking at this issue. Mr. Ball, do you want to say something?
Mr. Ball. Yes, I would like to comment on this. I agree
with my two colleagues here that what we need to do is act and
put the system once again on a completely balanced basis, but
in the meantime, these young people are being given lots of
misinformation. It just is not true that they are not going to
get their money back. One of the common points that the Council
all agreed on was that this idea that Social Security is not
going to be there when they retire is wrong. That is one of the
common points that all 13 members----
Mr. Christensen. Mr. Ball, if I could have Dr. Schieber's
response to that.
Mr. Schieber. The problem is that they are not going to
become well-developed students of the financing of this
program, and when we publish reports annually saying we are
going to deplete the trust fund within their life expectancy,
then they begin to question seriously whether we are telling
them the truth about these promises. I think it is relatively
simple.
Mr. Christensen. Mr. Chairman, I know I have gone over my
time, but I think we owe the younger generation of this
country, the Generation Xers, if you want to call them that,
information, some kind of information that they know what they
could be earning, what they could be receiving if they were
just getting some kind of interest rate that was respectable
versus the type of 2- and 3-percent returns we see, and what
kind of money they could expect at age 65 versus what they are
going to see at age 65 based upon the current system, and
somehow we have got to engage the Generation Xers into this
fight because it is their backs, as Dr. Schieber said. They are
paying and they are carrying this debt and I think that they
are getting highly unfair treatment in this whole organization.
Chairman Bunning. Thank you, Mr. Christensen. I would just
like to sum up and thank the panel for their input and for
their many years of work in developing three different
alternatives for consideration. I fully understand having 30
grandchildren what Mr. Christensen is talking about. Even some
of my own children wonder about the Social Security system
being fully funded. They do not realize the amount of dollars
that would be there even if we depleted all the reserves as we
go beyond 2029.
In closing this first hearing, we really want to thank you.
You have made recommendations. The Advisory Council has spent
more hours than anyone looking at the many problems and many
solutions to the problems of Social Security. Your findings
have been instrumental in bringing Social Security challenges
to the forefront of public discussion. If we could get
bipartisan support for any of your plans, and I am talking
about bipartisan support out of this Subcommittee, out of the
Full Committee, we could move forward. We did not do that with
Medicare, and therefore there was unbelievable conflict during
the election cycle that just passed, one side blaming the other
side for cuts in Medicare. To get consensus on Social Security,
it is going to take not only your help, but the help of many
others who are involved. As our series of hearings on the
future of Social Security moves forward, we are going to get a
lot of other opinions besides the ones that you have expressed
today. We will hear from advocacy groups like the AARP or the
National Committee to Preserve Social Security and Medicare,
the Heritage Foundation, the Cato Institute, for example.
I want to thank you for your appearance today and getting
us off to a good start. The hearing stands adjourned.
[Whereupon, at 12:30 p.m., the hearing was adjourned, to
reconvene on Thursday, April 10, 1997, at 10 a.m.]

THE FUTURE OF SOCIAL SECURITY FOR THIS GENERATION AND THE NEXT

----------

THURSDAY, APRIL 10, 1997

House of Representatives,
Committee on Ways and Means,
Subcommittee on Social Security,
Washington, DC.
The Subcommittee met, pursuant to notice, at 10 a.m., in
room B-318, Rayburn House Office Building, Hon. Jim Bunning
(Chairman of the Subcommittee) presiding.
Chairman Bunning. Good morning. Today we continue our
series on the Future of Social Security for this Generation and
the Next.
Before we get underway, I would like to focus on an issue
which has caught the attention of many deeply concerned
Americans, including Mrs. Kennelly and myself. That is the
Social Security Administration's new online access to personal
earnings and benefit statements via the Internet.
Thankfully, yesterday afternoon the Social Security
Administration announced that, in response to public outcry,
the service was being suspended. While I appreciate SSA's
desire to provide fast and expedited service, that service
should never compromise the privacy of Americans. Public
confidence in the Social Security system is based on trust, and
Americans trust that their records will be kept safe and
secure.
I have asked SSA's Inspector General to thoroughly
investigate this service and report to the Subcommittee by
April 22. I then plan to conduct a full oversight hearing on
this activity.
Now back to the matters at hand. The focus of this second
hearing is to establish a framework for evaluating options for
Social Security reform. Our first hearing focused on the three
plans proposed by the Advisory Council on Social Security.
Future hearings in this series will include testimony from a
wide variety of groups and individuals regarding their views on
Social Security reform.
To prepare us for these hearings, I think it is imperative
that we learn about the impact of the various plans for reform,
how changes to the current system will affect the economy,
national savings, the Federal budget, and the retirement
security of every participant. Some of the proposals may sound
like simple solutions, but each has underlying complex issues
that cannot be overlooked.
As the Subcommittee has agreed, we are going to be thorough
in our investigation into Social Security reform.
Today we look forward to hearing the perspectives of the
Congressional Research Service, the General Accounting Office,
and four distinguished experts.
In the interest of time, it is our practice to dispense
with opening statements, except for the Ranking Democrat
Member. All Members are welcome to submit statements for the
record.
I yield to Congresswoman Kennelly for any statement she
wishes to make.
Mrs. Kennelly. Thank you, Mr. Chairman. Thank you for your
opening statement concerning Social Security and privacy. And I
would suggest probably that if the Social Security
Administration had let us know of their intentions, it would
have been a good idea because we might have been more helpful
if we had known it earlier.
I am pleased the Subcommittee is holding the second in a
series of hearings on the future of Social Security. During
these hearings we will examine more carefully the options of
Social Security reform.
There is no escaping the demographics of the 21st century.
With the retirement of the baby boom generation, fewer workers
will be supporting more retirees. Not only will the group
reaching retirement be larger, but they will be living longer.
These demographics present us with an enormous challenge. The
challenge is to provide an adequate retirement income for
tomorrow's retirees without reducing the standard of living of
younger generations.
The Social Security Advisory Council has given three
options for reform. We are also receiving other options. Our
witnesses today have analyzed many of these plans and they will
give us their views on the fundamental issues which need to be
addressed as part of any Social Security reform and they will
give us answers to several critical questions. Do we need to
increase national savings? If so, how can we accomplish this?
What impact will these proposals have on the Federal deficit?
What will happen to the current protections which Social
Security offers to retired and disabled Americans? Will private
investment in retirement funds increase the risk that
individuals will have inadequate retirement income?
I am particularly interested in the impact of these
proposals on women. I have asked the General Accounting Office
to look at the labor force participation patterns of women and
the impact of those patterns on the retirement income of women.
In addition, I have asked GAO to compare the protections of the
current Social Security and pension systems to the protections
offered by the three Advisory Council plans.
GAO's conclusion must give us pause. The analysis raises
serious questions about a new system which strips away the
current protections provided by Social Security and replaces
them with private investment accounts. Surely we do not want to
move toward a system which increases the inequities in
retirement income.
I appreciate the work the GAO has done and I look forward
to hearing from each of today's witnesses. Thank you, Mr.
Chairman.
Chairman Bunning. Today we will begin with testimony from
David Koitz from the Congressional Research Service. He is a
specialist in the Social Legislation, Education and Public
Welfare Division of CRS. If you'll join us at the witness
table, you may begin.

STATEMENT OF DAVID KOITZ, SPECIALIST IN SOCIAL LEGISLATION,
EDUCATION AND PUBLIC WELFARE DIVISION, CONGRESSIONAL RESEARCH
SERVICE

Mr. Koitz. Mr. Chairman and Members of the Subcommittee, I
was asked to speak to you about some of the issues involved in
putting together a long-range Social Security reform. Obviously
for this Subcommittee, the primary question about any proposal,
is does it make the system solvent? For this, the task is
figuring out what combination of changes will erase the
system's 75-year deficit and keep a balance in the trust funds
throughout the period.
Two of the three recent Advisory Council plans--the
Gramlich and the Schieber/Weaver plans--pass this test and the
third--the Ball plan--could be deemed to do so if its
proponents' suggestion to invest some of the trust funds in
equities were considered part of their plan.
While trust fund solvency is important, how a plan affects
the Government as a whole also needs to be considered. Social
Security's financial operations are accounted for separately
through trust funds, but the money is not kept separate, no
more so than a bank keeps your money separate when you make a
deposit. Social Security money goes into and out of the U.S.
Treasury and, as such, it affects the overall financial flows
of the Government.
Two of the three Advisory Council proposals would increase
budget deficits for as many as 30 years, one by modest
amounts--that would be the Ball plan; the other by large
amounts--that would be the Schieber/Weaver plan. If one thinks
about the struggle that Congress and the President are having
now over achieving $400 to $500 billion in cumulative deficit
reductions by 2002, it is hard to comprehend how a gap of two
or more times that size would be dealt with. The Schieber/
Weaver plan would create such a gap.
What a plan does to the level of future government
spending--that is, when the baby boomers are in retirement--is
another consideration. Medicare and Medicaid spending, in
conjunction with Social Security, is projected to rise from
about 8.5 percent of GDP today to 16 percent in 2025. Changes
in Social Security can affect the potential strain that this
increase may cause.
In this regard, the Advisory Council's three plans provide
a range of impacts. The Ball plan reduces Social Security's
average costs by 2 percent, the Gramlich plan by 13 percent and
the Schieber/Weaver plan by 30 percent.
The impact the plan has on national savings is yet another
consideration. Some would contend that diverting Social
Security money into the financial markets will increase
savings. However, if there are no accompanying revenue
increases or spending cuts, the Government simply has to borrow
the money to make up for the foregone revenues. With one hand
it invests; with the other hand it borrows; on balance, there
is no change.
Moreover, if people refrain from saving elsewhere--for
instance, in their 401(k)s--because part of their Social
Security taxes are going into market-based accounts, part of
any positive impact on savings is lost.
The Gramlich plan raises Social Security receipts and cuts
spending and also mandates a 1.6-percentage point increase in
payroll withholding for private accounts. Both parts of this
plan could raise savings, although a portion of the 1.6-percent
set-aside might be offset by reductions elsewhere.
The other two plans also would make large investments in
the markets, but only part would be financed with revenue
increases and spending cuts. The other part would be financed
with government borrowing. When you add this new government
borrowing together with possible reductions in voluntary
savings, it is unclear what their net savings impact would be.
The idea of introducing a market element to Social Security
also trades off greater risk for greater rewards. Even a
passive investment fund, using a market-index approach, still
carries risk.
The three Advisory Council plans were priced assuming more
than 11 percent annual rate of return based on the performance
of the stock market from 1900 to 1995. However, much of this
success is the result of what the equities market did in the
last 13 years. The Dow-Jones stood in the 800 to 1,000 range
from 1964 to 1982. At the end of 1995, it stood at 5,117. Since
1950, the average return on the S&P 500 index was almost twice
that of the Social Security trust funds, but in 20 of those 47
years, it underperformed the trust funds.
In other words, if one were depending on the market to give
the trust funds a bigger boost over the next decade or two,
there is the possibility it would not happen.
I am not trying to minimize the market's potential to
enhance investment returns for the system or for individuals.
Certainly a broad based, buy-and-hold strategy practiced over
the working lifetimes of most retirees today would have been
very rewarding. The point here is only that there is more risk.
On another level, I would point out that there is a
tendency by many to suggest that economic growth is the panacea
to Social Security's problems. Its problems, however, are not
simply a savings or financing issue. They reflect a broader
change confronting society; namely, that there will be
considerably fewer workers for each retiree in the future. A
plan that makes working more attractive than retiring and
encourages employers to retain older workers may be as
important as how effectively it restores balance to the Social
Security trust funds.
Finally, no plan will effectively address the Social
Security problem unless it addresses the public's current lack
of confidence. It may be that the most valuable feature of a
plan that allows workers to invest part of their Social
Security taxes in the markets is that it would give them a
greater sense of ownership of the system. On the other hand, a
plan that relied on traditional fixes--of raising revenue and
cutting spending--could achieve a similar result if it stood
the test of time. Arguably, the 1983 Social Security amendments
failed the latter.
[The prepared statement and attachments follow:]

Statement of David Koitz, Specialist in Social Legislation, Education
and Public Welfare Division, Congressional Research Service

Mr. Chairman and Members of the Committee, I was asked to
speak to you about some of the basic issues involved in
constructing a long-run Social Security fix. I am not here to
put forward any single proposal or point of view. As requested,
my purpose is to attempt to provide some sort of framework
under which you may consider various options. You might think
of the 8 questions I'm about to pose as a checklist. Congress
is often asked to focus on proposals, i.e., on the changes
themselves, and the underlying policy concerns emerge only in a
piecemeal fashion. The recent Social Security Advisory Council,
for instance, presented you with three different plans, but as
many of you already recognized in your previous hearing, they
spent 2 years contemplating the underlying issues. The
multitude of things they considered are in their report but are
presented from the opposing points of view of the various
factions. I'm going to try here to set out some issues without
coming to a conclusion about which plan best addresses them.

1. Do the trust fund numbers balance?

Obviously for this Subcommittee, given its stewardship of
Social Security, the primary question about any proposal is
does it make the Social Security trust funds solvent over the
long run. For this, the task is figuring out what combination
of proposals will eliminate the average 75-year deficit
reported by the trustees and keep a balance in the trust funds
throughout the period. In the past, this was the predominant
criterion used by this Committee. Two of the 3 Advisory Council
plans--the Gramlich and Schieber/Weaver plans--pass this test,
and the third--the Ball plan--arguably could be deemed to do so
if its ``suggestion'' that part of the trust funds be invested
in equities were considered a recommended change.

2. Is the Government's overall deficit reduced (or at least left
unaffected)?

Given the emphasis that Congress and the President are
placing on eliminating federal budget deficits and halting the
growth of the federal debt, the financial well-being of the
government as a whole needs to be considered. Some of the plans
presented to you would achieve long-range actuarial balance of
the Social Security system, but they also would increase the
imbalance between the government's income and outgo. Simply
put, Social Security receipts and expenditures are accounted
for separately through federal trust funds, but the money is
not kept separate--no more so than a bank keeps your money
separate when you make a deposit to your checking account.
Social Security money goes into and out of the U.S. Treasury,
and thereby affects the overall financial flows of the
government.
Two of the 3 Advisory Council proposals would increase
budget deficits for as many as 30 years--one by modest amounts
(the Ball plan), the other by large amounts (the Schieber/
Weaver plan). They would do so by diverting Social Security
receipts into investments in the nation's financial markets. If
one thinks about the struggle Congress and the President are
having over achieving $400 to $500 billion in cumulative
deficit reductions by 2002, it is hard to comprehend how a gap
of two or more times that size would be dealt with. One of the
plans (the Schieber/Weaver plan) would create such a gap. Over
its first 10 years, it cumulatively would divert $1.8 trillion
into the markets by diverting 5 percentage points of the Social
Security tax rate into personal accounts. Even more modest set-
asides of 1.5 to 2 percentage points of the Social Security tax
rate would mean large revenue diversions from the Treasury. Two
percent of payroll is equal to $65 billion a year today, $75
billion in 2000, and $95 billion in 2005.

3. Is the overall growth of entitlement programs affected?

Examining what a plan does to the overall level of
government spending is another important measure of fiscal
impact. Ultimately, the overall level of federal taxation is
driven by the overall level of government spending, even if not
dollar for dollar. If Social Security were made solvent
primarily through future revenue increases, or for argument's
sake, infusions from the general fund to the trust funds, there
would be no reduction in the burgeoning spending on
entitlements arising from the retirement of the post World-War
II baby boomers and a rapidly aging population. Under current
projections, Medicare and Medicaid in conjunction with Social
Security would rise from 8.5% of GDP today to 16% in 2025.
Social Security does not function in a fiscal vacuum; it is
part of the government; and changes to it can affect the long-
run fiscal strains posed by all major entitlement programs. In
this regard, the 3 Advisory Council plans provide a range of
impacts: one reduces Social Security's projected long-range
cost by 2% (the Ball plan); a second reduces it by 13% (the
Gramlich plan); and the third by 30% (the Schieber/Weaver
plan).

4. Are national savings increased (or at least left unaffected)?

Some proponents of investing Social Security money in the
financial markets see it as a means of increasing national
savings. However, diverting Social Security funds into the
markets by itself does little or nothing to savings. If there
are no accompanying federal revenue increases or spending cuts,
the government simply has to borrow the money to make up for
the foregone revenues. With one hand it invests (or mandate
that individuals invest), with the other hand it borrows--on
balance there is no change.
Other proposals raise Social Security receipts and/or
constrain Social Security spending. In so doing, they reduce
government deficits and thereby reduce what the Treasury has to
borrow from financial markets (or perhaps some day reduce the
outstanding federal debt held by the public). More money in the
financial markets should make more money available for private
investment. Economists would say that tax increases and
spending constraints are likely to cut consumption and, thus,
increase savings.
Still other plans would raise Social Security receipts and/
or constrain Social Security spending, but then divert funds
into the markets either by investing a part of the trust funds
in them or requiring individuals to do so with part of their
Social Security taxes. Certainly, the first part--raising taxes
and/or constraining spending--reduces deficits and government
borrowing, and potentially raises savings. What happens because
of the diversion of funds into private accounts, on the other
hand, is less certain.
If people refrain from retirement saving they would
otherwise do because they believe a part of their Social
Security taxes now are going into market based accounts with
higher returns, especially if these investments belong to them
personally, part of any positive impact on national savings
would be lost. For instance, if some people stop making
payments to their 401(k)s, on balance they may not be saving
more. One of the Advisory Council's plans, the Gramlich plan,
raises Social Security receipts and cuts spending--economists
would say that part potentially increases savings. It also
would mandate a 1.6% increase in payroll withholding that would
go into private individual accounts. That too potentially
raises savings (by cutting consumption), but the amount by
which it does so is unclear because some of this mandatory
saving could be offset by reductions in voluntary savings. The
other two Advisory Council plans would make substantial
investments in the markets (one much more than the other), part
of which would be financed with a combination of Social
Security revenue increases and spending constraints and part
with government borrowing. As with the Gramlich plan, the part
that increases receipts and constrains spending could raise
national savings. However, if some substantial part of the
money diverted to the markets is offset by decisions to save
less elsewhere, it is unclear what the net savings impact would
be, particularly under the Schieber/Weaver plan which mandates
the creation of large individual retirement accounts.

5. How much risk/reward should the future Social Security system
assume?

The idea of introducing a market element to Social Security
raises the question of trading off greater risk for greater
rewards in planning for future retirement. Although actuarial
projections of the effects of the Advisory Council proposals
assume greater rates of return from market investments than the
trust funds or individuals would earn from Social Security,
there is no guarantee. Timing as well as investment choices are
critical. Even a passive investment fund, using a market-index
approach so as to minimize the risks of poor investment
choices, still carries more risk.
The 3 Advisory Council plans were priced assuming more than
an 11% annual rate of return based on the performance of the
stock market over the 95-year period, 1900-1995. However, much
of this long-range average is based on what the equities market
did in the last 13 years. The Dow Jones stood in the 800-1000
range from 1964 to 1982; on December 31, 1995, it stood at
5,117. Looking back at the performance of the S&P 500 index
since 1950, its annualized average rate of return was almost
twice that of the Social Security trust funds (11.36% versus
5.96%); but in 20 of those 47 years, it underperformed the
trust funds. There were 7 years in which its 10-year moving
average underperformed the trust funds. In other words, if one
were depending on the market to give the trust funds a
considerably bigger boost over the next decade, or the
following decade, there is the possibility that the market will
not meet that expectation and may even underperform the
traditional means of investing Social Security funds.
The point here is not to minimize the market's potential to
enhance the expected returns for the Social Security system or
for individuals using market-based retirement accounts. The
longer the period, the greater the likelihood the market will
do so. Since 1970, the 30-year moving average of the S&P 500
outperformed the trust funds in every year. Certainly, a broad-
based, buy-and-hold strategy practiced over the working
lifetimes of most retirees today would have been very
rewarding. The point is only that there is more risk. U.S.
equity markets have prospered steadily for the past 15 years,
and this may or may not continue. Their performance has been so
robust that some analysts would suggest that we may be
experiencing the top of an historic bull market. The crucial
decision for policymakers is how much risk to allow in the
development of Social Security in the future.

6. How is the ratio of future workers to non-workers affected?

There seems to be a preoccupation among many who look at
Social Security to see economic growth as the panacea to its
problems. However, Social Security's problems are not simply a
savings or financing issue. They are a reflection of a broader
issue confronting society, namely that 25 years from now there
will be considerably fewer workers for each non-worker. An
important question with any Social Security fix is how does it
potentially affect choices about continuing to work late in
one's career. A plan that makes working more attractive than
retiring and encourages employers to retain older workers while
accommodating their increased desire for leisure may be as
important as how effectively it restores balance in the Social
Security trust funds. The extent to which the various Advisory
Council factions considered this perspective in the development
of their plans is unclear.

7. What long-run level of retirement income is desirable?

While the budget and macro-economic effects of any plan are
important, the impact a plan has on future retirees' income has
to be part of the equation. Under current projections Social
Security receipts would cover roughly 75% of the cost of the
system once its reserves are depleted in 2029. Hence, a plan
that avoids future tax and revenue increases and relies
exclusively on constraining Social Security benefits would
reduce the relative size of future benefits by about 25%,
assuming the constraints were equally spread throughout the
Social Security benefit package.
Keep in mind, however, that current-law projections already
anticipate constraints on future Social Security benefits
resulting from a scheduled increase in the so-called normal
retirement age from 65 to 67. Thus, a cut in future benefit
levels would have to be on top of this. A Social Security fix
that relies exclusively on benefit constraints would reduce the
relative benefit level of a 2030 retiree (i.e., the percent of
the retiree's final earnings replaced by benefits) by more than
35% from what it is for someone retiring today. This is not to
suggest that if today's workers choose later retirement ages
than today's retirees, today's benefit levels couldn't be
sustained; but compared to the relative benefit levels at
retirement ages typically chosen today, i.e., 62-65, they would
have to be more than 35% lower.
Although the 3 Advisory Council plans assume different
mixes of traditional Social Security and private retirement
savings, they generally aim for a combination of the two that
approximate the Social Security benefit levels projected under
current law. In other words, embedded in their plans is the
premise that the level of future retirement incomes does not
have to (or perhaps should not) be reduced beyond what is
scheduled under current law.

8. Is public confidence in the system bolstered?

Finally, no plan will effectively address the Social
Security problem unless it addresses the public's current lack
of confidence. The 1983 amendments brought major changes to
Social Security, but did not have a lasting effect in restoring
public confidence. It may be that the most valuable feature of
a plan that would allow individuals to invest part of Social
Security in the markets is that it would give them a greater
sense of ownership of the system. On the other hand, a plan
that relied on traditional fixes of raising revenue and cutting
spending could accomplish a similar result if it stood the test
of time. Arguably, the problem with the 1983 amendments is that
they failed the latter. At the time of enactment, the system's
average 75-year deficit was projected to be eliminated.
Congress, however, did not examine whether the system's income
and outgo were matched over the long haul--they weren't, but
there were no year-by-year projections made at the time of
deliberation. Consequently, there was little understanding that
after a period of surpluses, there would be an indefinite
period of deficits that eventually would throw the system back
into actuarial imbalance. Another problem is that no cushion
was built into the 1983 changes in case the projections proved
overly optimistic, which they did.

The Advisory Council's 3 proposals do not reflect the full range of
options

In response to a question asked by Representative Johnson
in your last hearing, the witnesses from the Advisory Council
stated that they had explored the full gamut of options.
Certainly, their 3 plans contain wide ranging differences.
However, they have a number of fundamental similarities as
well. None is voluntary--they all require workers to
participate even in their market-based components. None uses a
means test--all base benefits on employment and contributions
records, not on need. None totally eliminates the system's
social features--all retain a tilt that favors lower income
workers. None relies on general taxation. Although one borrows
heavily from the government's general fund, workers' taxes and
contributions remain the dominant means of financing. Finally,
all rely on some form of increased taxation (or payroll
withholding) to reform or restore the system to solvency.
I think this last similarity is important in illustrating
that the panel's three proposals do not reflect a full range of
options. Outside of the Council, there have been a number of
plans suggested to address the system's problems without tax
increases. Those that contain a market-based component carve it
out of the existing tax base. They would earmark a piece of the
existing Social Security tax rate for individual investment.
The plans offered by the Advisory Council range from doing as
little as possible to alter the system's benefits (the Ball
plan) to adopting a fundamentally new system (the Schieber/
Weaver plan). In between is the Gramlich plan which would
retain but reduce the cost of the current system and then
mandate a 1.6-percentage-point increase in payroll withholding
for private retirement accounts. None of the Council's options
would reduce the cost of the current system and then carve out
a piece of the existing tax rate for private accounts. I am not
suggesting such a change nor that it avoids the issues raised
by the Advisory Council's plans, but just pointing out that the
range of options is more complete with it. If Congress does not
want wholesale reform, does not want to raise payroll
withholding, and wants at least some market-based component
added to the system, this fourth approach becomes relevant. It
certainly becomes relevant if for no other reason than it,
unlike any of the Advisory Council's three approaches, has been
introduced by Members of Congress in one form or another.

Table 1. Impact of 1994-96 Social Security Advisory Council's Proposals on Federal Deficits and the Federal Debt
Held by the Public
[$s in billions; (+)=increase, (-)=decrease]
----------------------------------------------------------------------------------------------------------------
Impact on federal deficits Impact on Federal debt held by the
-------------------------------------------------------------------------- public
--------------------------------------
Personal Personal
Maintain Individual security Individual security
Calendar year benefits accounts accounts Maintain accounts accounts
(Ball plan) (Gramlich (Schieber/ benefits (Gramlich (Schieber/
plan) Weaver (Ball plan) plan) Weaver
plan) plan)
----------------------------------------------------------------------------------------------------------------
1998.............................. -5 -4 +101 0 0 0
1999.............................. -8 -5 +121 -5 -4 +101
2000.............................. +13 -8 +137 -13 -9 +223
2001.............................. +13 -11 +155 -1 -17 +360
2002.............................. +13 -16 +175 +12 -28 +515
2003.............................. +13 -23 +192 +25 -44 +690
2004.............................. +13 -31 +211 +37 -67 +882
2005.............................. +13 -39 +231 +50 -98 +1093
2006.............................. +15 -48 +248 +63 -137 +1324
2007.............................. +18 -58 +263 +78 -186 +1571
2008.............................. +22 -67 +277 +96 -244 +1834
2009.............................. +25 -77 +288 +118 -310 +2111
2010.............................. +29 -89 +301 +143 -387 +2400
2011.............................. +32 -103 +311 +172 -477 +2701
2012.............................. +34 -119 +320 +204 -580 +3012
2013.............................. +36 -136 +325 +238 -699 +3332
2014.............................. +35 -157 +330 +274 -835 +3657
2015.............................. -106 -181 +333 +309 -992 +3987
2016.............................. -131 -211 +329 +203 -1173 +4320
2017.............................. -160 -245 +322 +72 -1384 +4648
2018.............................. -193 -284 +311 -88 -1630 +4970
2019.............................. -229 -326 +298 -281 -1914 +5281
2020.............................. -269 -372 +282 -509 -2240 +5580
2021.............................. -314 -416 +264 -779 -2612 +5862
2022.............................. -363 -463 +243 -1093 -3028 +6125
2023.............................. -416 -513 +218 -1455 -3490 +6368
2024.............................. -474 -568 +190 -1871 -4003 +6587
2025.............................. -536 -629 +158 -2345 -4571 +6777
2026.............................. -603 -700 +123 -2881 -5200 +6935
2027.............................. -673 -778 -84 -3484 -5900 +7058
2028.............................. -749 -864 -40 -4157 -6678 +7141
2029.............................. -829 -958 +9 -4906 -7542 +7181
2030.............................. -914 -1062 +63 -5734 -8501 +7172
----------------------------------------------------------------------------------------------------------------

Source: Analysis by Stephen C. Goss, Deputy Chief Actuary,
Office of the Actuary, SSA, based on assumptions underlying the
Intermediate projections of the 1995 OASDI Trustees' Report.
Report of the 1994-1996 Advisory Council on Social Security.
Volume 1, Table UB.

Table 2. Comparisons of Total Returns of S&P 500 Index to Effective Yields Earned by Social Security Trust
Funds, Year-to-Year Performance, 1950-1996
[Annual rate of return]
----------------------------------------------------------------------------------------------------------------
S&P 500 outperformed
Calendar year S&P 500 Social Security trust Social Security trust
funds funds? (Yes)/(No)
----------------------------------------------------------------------------------------------------------------
1950................................. 27.35%................. 2.02%.................. yes
1951................................. 21.6%.................. 2.89%.................. yes
1952................................. 16.58%................. 2.24%.................. yes
1953................................. -1.82%................. 2.31%.................. no
1954................................. 48.97%................. 2.30%.................. yes
1955................................. 29.48%................. 2.20%.................. yes
1956................................. 5.71%.................. 2.40%.................. yes
1957................................. -10.96%................ 2.49%.................. no
1958................................. 41.03%................. 2.52%.................. yes
1959................................. 10.71%................. 2.58%.................. yes
1960................................. -0.50%................. 2.60%.................. no
1961................................. 25.11%................. 2.76%.................. yes
1962................................. -9.44%................. 2.83%.................. no
1963................................. 21.06%................. 2.92%.................. yes
1964................................. 14.98%................. 3.08%.................. yes
1965................................. 11.06%................. 3.18%.................. yes
1966................................. -10.69%................ 3.48%.................. no
1967................................. 22.29%................. 3.75%.................. yes
1968................................. 9.73%.................. 3.95%.................. yes
1969................................. -9.12%................. 4.44%.................. no
1970................................. 2.93%.................. 5.07%.................. no
1971................................. 12.93%................. 5.29%.................. yes
1972................................. 17.47%................. 5.41%.................. yes
1973................................. -15.31%................ 5.75%.................. no
1974................................. -26.25%................ 6.22%.................. no
1975................................. 34.86%................. 6.59%.................. yes
1976................................. 21.92%................. 6.73%.................. yes
1977................................. -7.88%................. 6.96%.................. no
1978................................. 5.34%.................. 7.20%.................. no
1979................................. 16.78%................. 7.52%.................. yes
1980................................. 30.03%................. 8.57%.................. yes
1981................................. -5.53%................. 9.95%.................. no
1982................................. 19.57%................. 11.18%................. yes
1983................................. 20.67%................. 10.77%................. yes
1984................................. 5.04%.................. 11.60%................. no
1985................................. 29.58%................. 11.21%................. yes
1986................................. 17.11%................. 11.09%................. yes
1987................................. 4.11%.................. 10.06%................. no
1988................................. 15.04%................. 9.77%.................. yes
1989................................. 29.70%................. 9.55%.................. yes
1990................................. -3.95%................. 9.30%.................. no
1991................................. 28.55%................. 9.08%.................. yes
1992................................. 6.45%.................. 8.74%.................. no
1993................................. 8.84%.................. 8.32%.................. yes
1994................................. 0.28%.................. 8.03%.................. no
1995................................. 35.67%................. 7.84%.................. yes
1996................................. 21.16%................. 7.52%.................. yes
----------------------------------------------------------------------------------------------------------------
Note: Analysis of returns of the S&P 500 includes growth (or decline) in capital value and dividends paid, less
a hypothetical 1% per annum to reflect administrative costs. Derived from Standard and Poor's Security Price
Index Record, 1996 Edition.
Source: Analysis by Geoffrey Kollmann, Congressional Research Service, March 1997.

Table 3. Comparisons of Total Returns of S&P 500 Index to Effective Yields Earned by Social Security Trust Funds, 10, 20, and 30-Year Moving Averages
(annualized rate of return)
--------------------------------------------------------------------------------------------------------------------------------------------------------
10-year moving average, 1950-1996 20-year moving average, 1960-1996 30-year moving average, 1970-1996
--------------------------------------------------------------------------------------------------------------------------------------------------------
S&P 500 S&P 500 S&P 500
Social outperformed Social outperformed Social outperformed
Calendar year S&P 500 Security Social Security S&P 500 Security Social Security S&P 500 Security Social Security
trust trust funds? trust trust funds? trust trust funds?
funds (Yes)/(No) funds (Yes)/(No) funds (Yes)/(No)
--------------------------------------------------------------------------------------------------------------------------------------------------------
1950............................ 11.52% 2.08% yes............... ........ ........ .................. ........ ........ ..................
1951............................ 15.19% 2.13% yes............... ........ ........ .................. ........ ........ ..................
1952............................ 14.99% 2.13% yes............... ........ ........ .................. ........ ........ ..................
1953............................ 12.39% 2.15% yes............... ........ ........ .................. ........ ........ ..................
1954............................ 15.07% 2.18% yes............... ........ ........ .................. ........ ........ ..................
1955............................ 14.69% 2.20% yes............... ........ ........ .................. ........ ........ ..................
1956............................ 10.85% 2.24% yes............... ........ ........ .................. ........ ........ ..................
1957............................ 14.50% 2.30% yes............... ........ ........ .................. ........ ........ ..................
1958............................ 18.05% 2.27% yes............... ........ ........ .................. ........ ........ ..................
1959............................ 17.52% 2.39% yes............... ........ ........ .................. ........ ........ ..................
1960............................ 14.65% 2.45% yes............... 13.08% 2.26% yes............... ........ ........ ..................
1961............................ 14.98% 2.44% yes............... 15.09% 2.28% yes............... ........ ........ ..................
1962............................ 12.11% 2.50% yes............... 13.54% 2.31% yes............... ........ ........ ..................
1963............................ 14.49% 2.56% yes............... 3.43% 2.35% yes............... ........ ........ ..................
1964............................ 11.56% 2.64% yes............... 13.30% 2.41% yes............... ........ ........ ..................
1965............................ 9.86% 2.74% yes............... 12.25% 2.47% yes............... ........ ........ ..................
1966............................ 8.02% 2.84% yes............... 9.43% 2.54% yes............... ........ ........ ..................
1967............................ 11.51% 2.97% yes............... 12.99% 2.63% yes............... ........ ........ ..................
1968............................ 8.74% 3.11% yes............... 13.30% 2.69% yes............... ........ ........ ..................
1969............................ 6.62% 3.30% yes............... 11.93% 2.84% yes............... ........ ........ ..................
1970............................ 6.98% 3.54% yes............... 10.75% 3.00% yes............... 11.01% 2.69% yes
1971............................ 5.89% 3.80% yes............... 10.34% 3.12% yes............... 11.93% 2.79% yes
1972............................ 8.68% 4.05% yes............... 10.38% 3.27% yes............... 11.90% 2.89% yes
1973............................ 4.87% 4.34% yes............... 9.57% 3.44% yes............... 10.50% 3.01% yes
1974............................ 0.31% 4.65% no................ 5.79% 3.64% yes............... 8.80% 3.15% yes
1975............................ 2.28% 4.99% no................ 6.00% 3.86% yes............... 8.82% 3.30% yes
1976............................ 5.51% 5.32% yes............... 6.76% 4.07% yes............... 8.11% 3.46% yes
1977............................ 2.56% 5.64% no................ 6.94% 4.29% yes............... 9.40% 3.62% yes
1978............................ 3.10% 5.96% no................ 5.39% 4.53% yes............... 9.45% 3.77% yes
1979............................ 4.74% 6.27% no................ 5.68% 4.77% yes............... 9.48% 3.97% yes
1980............................ 7.22% 6.62% yes............... 7.10% 5.07% yes............... 9.56% 4.19% yes
1981............................ 5.32% 7.08% no................ 5.61% 5.43% yes............... 8.64% 4.42% yes
1982............................ 5.51% 7.65% no................ 7.08% 5.84% yes............... 8.73% 4.71% yes
1983............................ 9.31% 8.15% yes............... 7.07% 6.23% yes............... 9.48% 4.99% yes
1984............................ 13.25% 8.69% yes............... 6.58% 6.65% no................ 8.22% 5.30% yes
1985............................ 12.79% 9.15% yes............... 7.41% 7.05% yes............... 8.22% 5.59% yes
1986............................ 12.34% 9.59 yes............... 8.87% 7.43% yes............... 8.59% 5.88% yes
1987............................ 13.72% 9.90% yes............... 8.00% 7.75% yes............... 9.16% 6.13% yes
1988............................ 14.73% 10.17% yes............... 8.26% 8.04% yes............... 8.42% 6.37% yes
1989............................ 15.94% 10.37% yes............... 10.20% 8.30% yes............... 8.99% 6.61% yes
1990............................ 12.48% 10.45% yes............... 9.82% 8.52% yes............... 8.86% 6.83% yes
1991............................ 16.00% 10.36% yes............... 10.53% 8.71% yes............... 8.96% 7.05% yes
1992............................ 14.66% 10.11% yes............... 9.99% 8.88% yes............... 9.55% 7.25% yes
1993............................ 13.48% 9.87% yes............... 11.38% 9.01% yes............... 9.16% 7.43% yes
1994............................ 12.96% 9.51% yes............... 13.10% 9.10% yes............... 8.67% 7.60% yes
1995............................ 13.48% 9.18% yes............... 13.13% 9.16% yes............... 9.39% 7.75% yes
1996............................ 13.86% 8.82% yes............... 13.10% 9.20% yes............... 10.51% 7.89% yes
--------------------------------------------------------------------------------------------------------------------------------------------------------
Note: Analysis of returns of the S&P 500 includes growth (or decline) in capital value and dividends paid, less a hypothetical 1% per annum to reflect
administrative costs. Derived from Standard and Poor's Security Price Index Record, 1996 Edition.
Source: Analysis by Geoffrey Kollmann, Congressional Research Service, March 1997.

Chairman Bunning. Thank you, Mr. Koitz.
Let me ask you just a couple of questions. You seem to be
saying that to maintain the benefit plan along with the
personal savings accounts plan of the Advisory Council, does
not necessarily increase national savings. How did you reach
that conclusion?
Mr. Koitz. OK, I considered three parts of an equation. The
PSA plan, for instance, would put roughly 5 percent of payroll,
about $150, $160 billion a year, into the markets. Part of that
would come from revenue increases or spending cuts that the
Government would make, but part would come from borrowing.
So with one hand, we are putting $150, $160 billion into
the markets; with the other hand, we are borrowing the money to
do that. With one hand we put it in; with the other hand, we
take it out.
The other thing is that most economists would expect some
reduction in voluntary savings because the PSA plan is a
mandatory approach. Over time, as amounts in these plans
accumulate, people are going to say, well, I have a big pot of
money growing over here in this PSA. I am also putting money
into my employer's 401(k), or I am putting money into an IRA,
or into a 403(b) or 457 plan. But I also have a big mortgage to
pay. Maybe I have special medical expenses, kids' education,
and so forth. Something may draw me away from that voluntary
savings route that I was following.
So if you make an assumption that some of the net money
going into the markets from the PSA investment is going to be
offset by voluntary savings, you do not necessarily get an
overall increase in the amount of money going into the markets.
Chairman Bunning. That assumes that the person would then,
who was voluntarily saving, would no longer voluntarily save;
they would take more out of their 401(k) or other plan they
might have.
Mr. Koitz. Right.
Chairman Bunning. Now, your testimony includes reference to
the 1983 amendments. You say at the time Congress did not
examine whether the system's income and outgo were matched over
the long haul. You mention there was little understanding at
that time that an indefinite period of deficits, mostly due to
the aging baby boomers, would eventually throw the system back
into actuarial imbalance.
How should we approach the problem differently this time
around?
Mr. Koitz. Well, the first part is really easy.
Chairman Bunning. The first part is really easy, OK.
Mr. Koitz. There was very little understanding of the year-
to-year flow of funds emanating from the 1983 amendments. There
was some discussion in the Greenspan Commission about there
being surpluses, but it was not a long discussion.
When the plan was being developed here in this Committee
and in the Finance Committee, there were no year-to-year
projections. There were two principal goals. One was to get rid
of the short-run problem, 1983 to 1989-90. Nobody wanted it to
come back again.
In the long run, the focus was on the average 75-year
deficit. For the short run, both Committees looked at
pessimistic projections because they did not want to see the
problem arise again in the near term. In the long run, however,
they focused on what would be reported in the trustees' report
and that was the average deficit.
So I think the easy part is that when you are developing a
plan, you continuously look at what that plan will do year to
year throughout the projection period. If that had been done in
1983, you would have seen that there was this huge buildup, a
huge surplus, a huge trust fund balance building up in the
early years and, then that income would be less than outgo in
or around 2020 and 2025, indefinitely. So that is the easy
part.
Chairman Bunning. I ask this only because it is a topic of
discussion on Capitol Hill from Mr. Greenspan to the Boskin
Commission and others. In 1983 was the adjustment in the CPI a
consideration at all?
Mr. Koitz. We delayed the COLA by 6 months permanently.
Chairman Bunning. No, I mean the change in determining in
the CPI.
Mr. Koitz. Not the measurement of the CPI itself.
Chairman Bunning. So it was not discussed at all?
Mr. Koitz. No, but I think it was just the year before that
a major change was made in the treatment of the housing of the
CPI. We went to a rental equivalency basis rather than a
purchase price basis.
Chairman Bunning. Mrs. Kennelly.
Mrs. Kennelly. Thank you.
You have joined the club of a few who can talk about this
important issue.
I am going to look at this issue from a slightly different
angle. I know you gave us a great deal of information, but you
note in your testimony that the diversion of 5 percent of the
payroll tax from the trust fund into the private personal
security accounts will increase the Federal deficit. Then you
calculate that the increase in the deficit will be roughly $1.8
trillion in the first 10 years.
So I would like to come at this from a little different
angle. Why doesn't the large reduction in the benefits in the
PSA plan and the 1.5 percent increase in the payroll tax cover
this so that we do not get that huge deficit change?
Mr. Koitz. The PSA plan would immediately divert the 5
percent into the markets. The savings that come from its
benefits changes and a few of the revenue items that it
proposes are slow growing. So in the early years, you do not
get much budget savings, so to speak, but you have a big
revenue loss with the immediate nature of the 5 percent set-
aside.
Mrs. Kennelly. Let me follow up on that. How does this $1.8
trillion increase that you have talked about in the deficit
compare to the increase in the deficit under Mr. Ball's
maintained benefits plan, which invests a portion of the trust
fund in the private markets?
Mr. Koitz. Why don't I lay out the three plans for that
time period, which is the first 10 years.
Mrs. Kennelly. You can do that. I do congratulate you
again.
Mr. Koitz. The PSA plan cumulatively increases the
borrowing from the public over 10 years, which is the
cumulative effect of deficit increases, by $1.8 trillion with
interest. The Ball plan cumulatively increases deficits by $.1
trillion; i.e., $100 billion over that period. The Gramlich
plan improves the budget by about $250 billion over that
period. So there is a wide dimension with those three plans.
Mrs. Kennelly. Thank you, sir. I am going to ask you
another hard one, but you do them very well.
We know that this is a transition problem, with many of the
proposals, to move Social Security toward a more market-based
system.
Could you distinguish for us between the transition related
to the trust fund and the transition related to the Federal
deficit?
Mr. Koitz. OK. There are two types of transitions. One is
how do you keep the Social Security system going in the context
of its trust funds, making sure that there is enough credit in
those trust funds to cover the benefit expenditures that the
Treasury is going to have to make. The other transition is what
happens to the Federal Government?
Where all three of these plans achieve solvency and, in
fact, cover the transition from a Social Security standpoint,
all three of them do not meet the transition from the
standpoint of the overall government situation.
Mrs. Kennelly. So we should get that information.
Mr. Koitz. Right.
Mrs. Kennelly. Here is my big problem with this. Since
Social Security is pay-as-you-go, a person is working to pay
the benefits of the people that are living right now and
collecting the benefits, and working to make sure the trust
funds remain solvent so he gets something down the line.
Is that at all possible when you are dealing with these
kinds of numbers? It is like a double pay we see when we read
it.
Mr. Koitz. Somebody has to pay.
Mrs. Kennelly. So I am right that there will be a period
there where someone is working for present day beneficiaries
and also working for their own benefit?
Mr. Koitz. Yes, assuming you do not increase borrowing.
Mrs. Kennelly. I know the gentleman just said we are doing
it now and I know we are doing it now. But when you are
starting to really put big dollars into other areas, not just
the trust fund and not just the bonds, do you think this is
possible?
Mr. Koitz. I would have to say, ``Show me.'' We are talking
about huge amounts of money here. I go back to what I started
with. If you are struggling, trying to find 400 to 500 billion
dollars' worth of change to reach balance in the budget by
2002, how do you achieve something that is twice that amount,
three times that amount? I do not think reverting to borrowing
will do it.
Mrs. Kennelly. Thank you very much.
Chairman Bunning. The gentleman from Missouri, Mr. Hulshof.
Mr. Hulshof. Thank you, Mr. Chairman.
In your testimony, I know that you did not get to the last
couple of pages, which actually talk about the fact that the
Advisory Council's three proposals do not recognize or explore
the full range of options, and I appreciate your responding to
a question that Ms. Johnson had asked at a previous hearing.
It seems, and some argue that there are some real
advantages to the alternative of reducing the cost of the
current system and then carving out a piece of the existing tax
rate for private accounts; in fact, some Members have
introduced just that type of approach.
What are some of the advantages that you see, should
Congress ultimately decide to utilize this type of approach?
Mr. Koitz. Right off, you don't have to increase taxes. The
other three plans--the three plans before you, in some way, all
increase taxes, either directly through the payroll tax or
through the increase in the income taxation of Social Security
benefits.
I would worry, however, that the carve-out approach, as I
have labeled it in my testimony, might have the same kind of
negative budget effect as the 5-percent set-aside in the PSA
plan. If the revenue items or spending constraints that are in
this plan, not counting the set-aside, do not add up to how
much you are putting into these private accounts, you are going
to have a negative effect on the budget, and I think most of
the five or six bills that have been recently introduced do
have this problem.
Mr. Hulshof. You also point out that the three plans, while
mixing traditional Social Security benefits and private
retirement savings in different ways, aim for the same level of
benefits, at least as projected under our current law.
Can you give us some additional detail regarding what we
need to consider as we determine what long-run level of
retirement income is desirable?
Mr. Koitz. First of all, I would say that Social Security
benefits are projected to grow in real terms. Even with the
transition from the normal retirement age being age 65 today up
to age 67 in 2027, there will be real growth in the benefit
level. There would be huge differences in terms of the
financial effects, if the system were geared solely to
maintaining the purchasing power of today's benefit levels.
So I think you have a range in making your value judgments,
in your policy choices here about this government-run system,
that span from maintaining purchasing power versus increasing
the real value of the benefits.
Mr. Hulshof. The reason I ask the question is having just
come from the district when we had a 2-week, district work
period, a senior came to me and actually showed me the amount
of moneys that he had contributed to Social Security between
the years 1937 to 1981 and how much he had put into the system
and then how much money he had already taken out of the system
and was angry that we were talking about maintaining the
current level of benefits, which was somewhat unique to hear
from someone in his capacity.
I guess as a last question, let me ask you, and I recognize
that CRS is very objective, nonpartisan, not advocating a
particular plan, but what are the advantages to us, Members of
Congress, of acting sooner rather than later? Can you just
briefly talk about the timing and the need for the reform?
Mr. Koitz. I do not think I am out of school saying the
sooner you act, the better, because the dimensions of the
change can be piecemeal. They can be scaled. They can be
gradual. If you wait until 2010 or 2015 and we still have a
situation like is projected today, the changes, whatever they
are, be they tax increases or spending constraints, would have
to be very large and abrupt.
And I think the best measure of that is that if we were to
finance the system solely through benefit reductions when the
trust fund goes belly up in 2029, that would take a 25-percent
reduction in benefit levels then.
Mr. Hulshof. Thank you, Mr. Chairman. I yield back.
Chairman Bunning. Mr. Neal.
Mr. Neal. Thank you, Mr. Chairman.
Thank you very much, Mr. Koitz. I think you did a great job
of framing the issue for all of us. I think that everybody
understands the dilemma that the Nation confronts.
Let me bounce an issue off you that you raised when you
spoke of the national savings rate. I am currently carrying,
for the sixth time in 9 years, an IRA bill. This time it has
125 cosponsors in the House and 51 cosponsors in the Senate.
Do you want to speak to the advantages of incremental
changes as we proceed to try to do a better job of getting
people to put aside some money for their own retirement?
Mr. Koitz. Well, I may sound like an economist, but I am
not.
Mr. Neal. Does that mean you are only going to give us one
answer?
Chairman Bunning. It is the other way around.
Mr. Koitz. I guess I have a hard time with this one. I
think the key question is substitution. If you design an IRA
plan that is merely substituting for some other form of saving
and it is not increasing the amount that goes into the markets
that could potentially go to saving, I am not sure what you are
doing, other than moving money around.
So I think the key question with any IRA change is what its
net impact would be.
Mr. Neal. But isn't part of it behavioral?
Mr. Koitz. Yes.
Mr. Neal. Shouldn't we be getting people to set aside some
money for their own retirement, getting people to understand
that there is a link to their own fate by doing a better job of
determining what their own retirement is going to look like,
encouraging people in their twenties, for example, in their
thirties, to start to set aside some money? Do you accept the
notion that we could incentivize some savings?
Mr. Koitz. Maybe, because what you are asking them to do--
what you really want them to do--is cut consumption.
Mr. Neal. That is right.
Mr. Koitz. And I am not going to be any more forthright
than most economists. I am not sure I know how to do that.
Mr. Neal. Thank you. Thank you for clearing that up for us.
Chairman Bunning. We like those direct answers.
Mr. Hayworth.
Mr. Hayworth. I thank the Chairman and my friend from
Massachusetts, and I am proud to be a cosponsor of his bill to
deal with the IRA. And let us again return to this notion of
savings for just a second.
You mentioned really three elements in the equation when
you were first addressing the Chairman's question, and perhaps
I lost you somewhere in there because, in listening to your
answer, you talked about the PSA really taking 5 percent off
payroll and looking at $150 to $160 billion.
Then you offered, I guess, a consensus statement from
economists, thinking that really you would have the reduction
in the 401(k) and that type of enforced savings.
I guess it begs the question of taking into account other
forms of savings, apart from retirement plans. Right now, just
generally with the Tax Code, there is a disincentive to save in
traditional ways. Would it be helpful for us to lift that
disincentive to save? Would that put more money into savings in
general?
Mr. Koitz. Tell me what you are doing to the Federal
Government's revenue stream and then I could probably answer
it. If what we are doing is losing revenue to make that
incentive, I do not know where it comes out, on balance.
I have another table that I think will clarify a little bit
of what I was saying earlier, if the staff could hand it out.
Mr. Hayworth. Great.
Mr. Koitz. The Advisory Council report provided estimates
based on the 1995 Trustees' Report of what the budget effects
would be of the various plans. About 1 week ago I called the
office of the actuary and asked them for how much money would
go into the markets as a result of the PSA plan. That is shown
in the column on the left under ``money flowing into the
markets, PSA contributions.''
Let's pick the year 2000. The estimate was $168 billion
would go into the markets from the 5-percent set-aside. The
Federal borrowing that would have to take place was equal to
$137 billion. And if there were no reduction in voluntary
savings, you would have a net flow into the markets of $31
billion. That is scenario number one.
Under scenario number two, again picking the year 2000, I
made the assumption that 30 percent of the money going into the
markets, under the PSA plan, would be offset by reductions in
voluntary savings, and that turned out to be $50 billion. And
the net result for the year 2000 was that $19 billion would
flow out of the markets.
I think that illustrates the point I was trying to make,
that you have a range, depending upon a variety of assumptions,
but one of them being what people do with their voluntary
savings.
I would also mention that I picked the year 2000 because
there is no money flowing out of the PSAs at that point to meet
day-to-day consumption; but as you move out, people are going
to be relying on their PSAs to live off of, in part because the
Social Security benefit coming from the Government is that much
smaller. I did not take that into account. But by 2020, you
would start seeing some of that effect.
Mr. Hayworth. Thank you, sir. I have no further questions.
Chairman Bunning. Mr. Levin.
Mr. Levin. Thank you, Mr. Chairman.
I am not quite sure how much of the later testimony will
focus on this issue and unfortunately, some of us are going to
have to be away for another meeting, including myself. So let
me zero in on your charts, the budget flows, the deficit
impacts.
I would ask you, you come from an analytical kind of
neutral entity, so I am going to try to force you to put up the
best defense against your own arguments.
Mr. Koitz. OK.
Mr. Levin. Talking about the PSA plan, now tell me what you
think the best, strongest argument is against the apparent
impact. It increases the deficit dramatically. Your latest
chart even has some analyses of savings that would indicate
that there isn't going to be necessarily a huge benefit in
terms of savings.
So we are trying to look at all these proposals
objectively, so tell me what you think will be the best
rejoinder to your analysis of the impact on deficits and the
rather small potential impact on net savings.
Mr. Koitz. You do not know that there will be a small
increase in savings. That is the point.
Mr. Levin. But you posit a relatively small impact.
Mr. Koitz. Under one scenario, yes.
Mr. Levin. So put on another hat or pretend you are writing
an exam in economics and the professor says to you to put forth
the best rejoinder to these materials.
Mr. Koitz. I think there is a long-run potential savings
from this kind of plan because what you are doing is
leveraging. You are borrowing at a low rate and hopefully
making considerably better investments with a bigger rate of
return in the long run, from going into the market. I think
that is principally what is going on in this plan.
The amount of borrowing is very high and it goes on for a
long time, so you are asked to make a huge leap of faith that
you will be able to pay this back, and more so, and that there
will be a cut in consumption and increased savings in the long
run.
You are also, from the other side, saying that we are going
to take a big risk. And it is not, in this instance, the Social
Security system that is taking the risk. If you are aiming for
a given level of retirement income, because so much of that
income would come from individual plans where individuals would
make the choice as to how to invest, if they invested
conservatively or they were unlucky, they may not get that
level of retirement income that we were aiming for here in
1997.
So the risk factor on the individual, I think, is a
critical factor with the PSA plan.
Mr. Levin. All right. I will not tell you what grade I
would give that answer. I think you have tried.
I asked that because your critique, I think, has some
dramatic implications for the PSA plan and I think that those
who propose it have to be ready to respond to these kinds of
tables.
Thank you.
Chairman Bunning. Mr. Tanner.
Mr. Tanner. Thank you very much, Mr. Chairman. I apologize
for being a few minutes late. Like everything else around here,
we all have three places to be at 10 a.m., in different areas.
Thank you for your testimony. I reviewed some of the
material and I just have a couple of questions.
Are you familiar or have you been made acquainted with the
so-called Blue Dog proposal with respect to our budget?
Mr. Koitz. As of the last Congress, yes.
Mr. Tanner. And what we did. Would you describe the
interrelationship between the Boskin Commission's position that
the CPI is overstated and the reasons contained in that
document for that position and the solvency of the trust fund
in the out years?
Mr. Koitz. How big of a COLA reduction is anticipated under
the Blue Dog plan right now?
Mr. Tanner. We took the Boskin Commission, which indicates
the overstatement is somewhere between 0.8 and 1.6. He thought
the number was 1.1. We took the low side, of course, being
politically sensitive, and did a 0.8 adjustment.
In so doing, we think that that could relieve the budget by
2005 of relying on the Social Security surplus for balance and
could reestablish the Social Security trust fund on its own by
2005. We also think that by doing that, you gain an additional
13 years of solvency. I would like to know your comment.
Mr. Koitz. Well, at that order of magnitude, you are
probably eliminating somewhere in excess of half of the long-
run deficit. And what you would be doing--the long-run
assumption is that there would be a 4 percent per year COLA
throughout the 75-year projection period, and you would be
talking about providing 3.2 percent per year.
I think 0.8 would give you something in the neighborhood of
a 1.2 percent of payroll savings on average. The deficit is
2.19 percent of taxable payroll. So you would get somewhere
near half. But as you just indicated, it does not buy you a lot
of time. It buys you some more time. That 2029, if I understood
you, would go out to 2042.
But I think the real pressure point comes when revenue
coming into the Government is less than outgo. That happens in
2012, and if what we have done is push that out to maybe 2020
or 2022, I am not sure that that would be the only action I
would want to see in a long-run Social Security plan.
Mr. Tanner. I could not agree with you more. I am just
talking about--there are two problems here.
Mr. Koitz. Right.
Mr. Tanner. Short term and long term. Perhaps a fix in the
short term with, then, a followon, with some of these proposals
that have been placed, the PSAs and others, would that be a
reasonably sane way to go about the problem?
Mr. Koitz. Only if the 0.8 is a good reflection of the CPI
overstatement, and I am not going to jump into that swamp.
Mr. Tanner. I understand. We get much praise for our
courage and little support, it seems. I think, in the interest
of accuracy, if it were properly posed in that context, it
seems that we all would prefer for the CPI to be as accurate as
possible. People disagree with Boskin in his reasoning, I
suppose, but--well, I will just leave it at that.
Thank you, Mr. Chairman.
Chairman Bunning. I have no further questions. We want to
thank you for your testimony. We appreciate your analyzing the
many proposals as objectively as you have. Thank you.
Presenting the views of the GAO are Jane Ross, Director,
and Frank Mulvey, Assistant Director of the Income Security
Issues, Health, Education and Human Services Division.
Miss Ross, welcome back and you may proceed.

STATEMENT OF JANE L. ROSS, DIRECTOR, INCOME SECURITY ISSUES,
HEALTH, EDUCATION, AND HUMAN SERVICES DIVISION, U.S. GENERAL
ACCOUNTING OFFICE; ACCOMPANIED BY FRANK MULVEY, ASSISTANT
DIRECTOR, INCOME SECURITY ISSUES, HEALTH, EDUCATION, AND HUMAN
SERVICES DIVISION

Ms. Ross. Thank you, sir. Mr. Chairman, Mrs. Kennelly,
Members of the Subcommittee, I am pleased to be here to discuss
the impacts of proposals to address the long-term financing
problems of the Social Security system, especially their
effects on the financial well-being of women. I would like to
talk about how and why the outcomes for women differ from those
of men under the current Social Security system and under each
of the three reform proposals of the Social Security Advisory
Council.
One reason to be especially concerned about the financial
well-being of women is that elderly, unmarried women currently
have a poverty rate that is about four times that of elderly
married couples.
The Social Security Act's provisions, as well as those of
the three proposals, are called gender-neutral. That is, the
program rules are the same for men and women. But the benefits
differ because men and women differ in terms of their labor
force participation, earnings levels, longevity, and the ways
they invest in financial assets.
As you know, Social Security currently provides benefits
based on an average of a worker's highest 35 years of earnings.
Women's lower rate of labor force participation and lower
earnings levels lead, on average, to lower Social Security
benefits for women than for men.
For example, men currently have about 4 years of zero
earnings, on average, out of the 35 years that are used in the
calculation, while women average about 15 years of zero
earnings out of their high 35 years. With regard to the level
of earnings, the median earnings of women working year round
and full time are about 70 percent that of men.
Pension benefits are also based, in various ways, on years
of work and earnings levels. So, as is the case with Social
Security, women retirees, on average, receive lower monthly
pension benefits than men.
Social Security also provides a broad range of dependent
benefits for spouses, widows, parents and children. Workers'
benefits are not reduced to pay for these dependent benefits.
Dependent benefits are especially important to women because
two-thirds of older women are receiving some or all of their
Social Security benefits based on their husband's earnings
records.
Now, pensions generally don't offer the same protection to
dependents as Social Security. The primary benefit for
dependents in a pension system is the provision for a
survivor's benefit. However, if the worker chooses this
benefit, the monthly amount of the benefit is reduced in order
to pay for the additional survivor protection.
At the current time, differences in longevity do not affect
the receipt of monthly Social Security benefits. However, they
can affect the income from pensions, which may be adjusted to
reflect the number of years over which pensions will be
received.
Since women live longer, their monthly pension benefits may
be lower, even when their earnings were the same as men's. For
men and women who are currently 65 years old, a woman can
expect to live 19 years in retirement while a man can expect to
live 15 years.
Further, differences in the investment behaviors of men and
women do not currently affect Social Security benefits, but
many defined contribution plans provide for workers to invest
their assets, and differences in how men and women invest can
lead to differences in their pension benefits.
When making financial decisions, women tend to be more
risk-averse or conservative than men. As a result, women tend
to invest more of their pension funds in safer but lower
yielding assets, such as government bonds.
Consequently, a woman who contributes the same amount to
her pension plan as a man may still have lower pension balances
at the time of retirement because of her lower investment
returns.
The three proposals of the Social Security Advisory Council
make changes of varying degrees to the structure of Social
Security. Many of the proposed changes will have different
effects on the benefits received by men and women.
For example, extending the computation period for lifetime
average earnings from 35 to 38 years, as is proposed in two of
the plans, will have a greater impact on women than on men. For
most women, the additional 3 years will be years with zero
earnings, while for most men, the additional years will include
some positive earnings.
Consequently, women will see a larger decrease in their
lifetime average earnings than men, and therefore experience
relatively greater reduction in their benefits.
Two of the Advisory Council plans create defined
contribution accounts for workers. Since women tend to work
fewer years and earn lower wages, they usually will be
contributing less to their accounts.
Furthermore, even if the contributions are equal, women's
more conservative investment behavior may lead to lower
investment returns and lower pension benefits.
In addition, one of these plans leaves the decision about
purchasing an annuity up to the individual retiree. The monthly
payments to a woman will be lower than those to a man in order
to offset the woman's longer life expectancy and longer period
of benefit receipt. Let me just sum up.
While the proposals of the Social Security Advisory Council
are intended to address the long-term financing problems, they
make changes that might affect the relative level of benefits
received by men and women. Narrowing the gaps in labor force
attachment, earnings and investment behavior may reduce the
differences in outcomes, but they are unlikely to eliminate
them any time soon.
In light of this, plans to change the Social Security
benefit structure should take account of their effect on the
distribution of benefits between men and women, as well as for
other groups.
This concludes my statement and I would be glad to answer
any questions you may have.
[The prepared statement and attachments follow:]

Statement of Jane L. Ross, Director, Income Security Issues Health,
Education, and Human Services Division, U.S. General Accounting Office;
accompanied by Frank Mulvey, Assistant Director, Income Securities
Issues Health, Education, and Human Services Divison

Mr. Chairman and Members of the Subcommittee:
I am pleased to be here to discuss the impacts of proposals
to finance and restructure the Social Security system,
specifically the impacts on the financial well-being of women.
As you know, the Social Security trust funds are predicted to
pay out more in annual benefits than they collect in taxes
beginning in 2012 and are expected to be depleted by 2029.
Recently, the Social Security Advisory Council offered three
alternative reform proposals to address this long-term
financing problem. Each of the alternative proposals also
affects the financial well-being of beneficiaries, especially
women. One reason to be especially concerned about the
financial well-being of women is that elderly unmarried women
are much more likely to be living below the poverty line. For
example, 22 percent of unmarried elderly women have income
below the poverty threshold, compared with 15 percent of
unmarried elderly men and only 5 percent of elderly married
couples.
Today, I would like to discuss how and why the benefits for
women differ from those for men under the current Social
Security program and how each of the three reform proposals of
the Social Security Advisory Council might particularly affect
women. The information I am providing today is based on
previous GAO work and contains preliminary findings from a
report being prepared at the request of the Ranking Minority
Member of the Subcommittee. \1\
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\1\ Pension Plans: Survivor Benefit Coverage for Wives Increased
After 1984 Pension Law (GAO/HRD-92-49, Feb. 28, 1992); Social Security:
Issues Involving Benefit Equity for Working Women (GAO/HEHS-96-55, Apr.
10, 1996); and 401(k) Pension Plans: Many Take Advantage of Opportunity
to Ensure Adequate Retirement Income (GAO/HEHS-96-176, Aug. 2, 1996).
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In summary, our work shows that, despite the provisions of
the Social Security Act do not differentiate between men and
women, women tend to receive lower benefits than men. This is
due primarily to differences in lifetime earnings because women
tend to have lower wages and fewer years in the workforce.
Women's experience under pension plans also differs from men's
not only because of earnings differences but also because of
differences in investment behavior and longevity. Moreover,
public and private pension plans do not offer the same social
insurance protections that Social Security does.
Furthermore, some of the provisions of the Social Security
Advisory Council's three proposals may exacerbate the
differences in men and women's benefits. For example, proposals
that call for individual retirement accounts will pay benefits
that are affected by investment behavior and longevity.
Expected changes in women's labor force participation rates and
increasing earnings will reduce but probably not eliminate
these differences.

Demographic Characteristics and Labor Market Attachment Affect
Retirement Income for Men and Women Differently

Over their lifetimes, men and women differ in many ways
that have consequences for how much they will receive from
Social Security and pensions. Women make up about 60 percent of
the elderly population and less than half of the Social
Security beneficiaries who are receiving retired worker
benefits, but they account for 99 percent of those
beneficiaries who receive spouse or survivor benefits. A little
less than half of working women between the ages of 18 and 64
are covered by a pension plan, while slightly over half of
working men are covered. The differences between men and women
in pension coverage are magnified for those workers nearing
retirement age--over 70 percent of men are covered compared
with about 60 percent of women.

Labor Force Participation and Earnings Differ for Men and Women

Labor force participation rates differ for men and women,
with men being more likely, at any point in time, to be
employed or actively seeking employment than women.\2\ The gap
in labor force participation rates, however, has been narrowing
over time as more women enter the labor force, and the Bureau
of Labor Statistics predicts it will narrow further. In 1948,
for example, women's labor force participation rate was about a
third of that for men, but by 1996, it was almost four-fifths
of that for men. The labor force participation rate for the
cohort of women currently nearing retirement age (55 to 64
years of age) was 41 percent in 1967 when they were 25 to 34
years of age. The labor force participation rate for women who
are 25 to 34 years of age today is 75 percent--an increase of
over 30 percentage points.
---------------------------------------------------------------------------
\2\ The labor force participation rate is the proportion of the
population under consideration who are working or actively seeking
employment.
---------------------------------------------------------------------------
Earnings histories also affect retirement income, and women
continue to earn lower wages than men. Some of this difference
is due to differences in the number of hours worked, since
women are more likely to work part-time and part-time workers
earn lower wages. However, median earnings of women working
year-round and full-time are still only about 70 percent of
men's.\3\
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\3\ Even after accounting for differences in education, work
effort, age, and other characteristics that affect wages, women earn
wages that are about 15 to 20 percent lower than men's wages, on
average.
---------------------------------------------------------------------------
The lower labor force participation of women leads to fewer
years with covered earnings \4\ on which Social Security
benefits are based.\5\ In 1993, the median number of years with
covered earnings for men reaching 62 was 36 but was only 25 for
women. Almost 60 percent of men had 35 years with covered
earnings, compared with less than 20 percent of women. Lower
annual earnings and fewer years with covered earnings lead to
women's receiving lower monthly retired worker benefits from
Social Security, since many years with low or zero earnings are
used in the calculation of Social Security benefits. On
average, the retired worker benefits received by women are
about 75 percent of those received by men. In many cases, a
woman's retired worker benefits are lower than the benefits she
is eligible to receive as the spouse or survivor of a retired
worker.\6\
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\4\ Years of covered earnings are the years in which the individual
received earnings on which Social Security taxes were paid.
\5\ Social Security benefits are based on the 35 years of highest
covered earnings.
\6\ GAO/HEHS-96-55, Apr. 10, 1996.

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Life Expectancies Differ for Men and Women

Women tend to live longer than men and thus may spend many
of their later retirement years alone. A woman who is 65 years
old can expect to live an additional 19 years (to 84 years of
age), and a man of 65 can expect to live an additional 15 years
(to 80 years of age). By 2070, the Social Security
Administration projects that a 65-year-old woman will be able
to expect to live another 22 years, and a 65-year-old-man,
another 18 years. Additionally, husbands tend to be older than
their wives and so are likely to die sooner. Differences in
longevity do not currently affect the receipt of monthly Social
Security benefits but can affect income from pensions if
annuities are purchased individually.

Women Invest More Conservatively Than Men

Many pension plans give participants responsibility for
managing the investment of their pension assets, and
differences in how men and women invest can lead to differences
in pension benefits they receive. When making financial
decisions, women tend to be more risk averse than men. One
consequence of this is that women tend to invest more of their
pension funds in safer but lower yielding assets, such as
government bonds. The results of recent study \7\ of the
federal Thrift Savings Plan indicate that men are much more
likely to invest in the stock fund than are women. The authors
estimated that, after 35 years of participation in the plan at
historical yields and identical contributions, the difference
in investment behavior between men and women can lead to men
having a pension portfolio that is 16 percent larger.
---------------------------------------------------------------------------
\7\ Richard P. Hinz, David D. McCarthy, and John A. Turner, ``Are
Women Conservative Investors? Gender Differences in Participant
Directed Pension Investments,'' in Positioning Pensions for the Year
2000, Olivia Mitchell, ed. (Philadelphia: University of Pennsylvania
Press, 1996).
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Pension Plan Provisions Offer Different Benefits from Social Security

Social Security provisions and pension plan provisions
differ in several ways (see app. I for a summary). Under Social
Security, the basic benefit a worker receives who retires at
the normal retirement age (NRA) \8\ is based on the 35 years
with the highest covered earnings.\9\ The formula is
progressive in that it guarantees that higher-income workers
receive higher benefits, while the benefits of lower-income
workers are a higher percentage of their preretirement
earnings. The benefit is guaranteed for the life of the retired
worker and increases annually with the cost of living.
---------------------------------------------------------------------------
\8\ Currently, the normal retirement age is 65 years. It is set to
gradually increase to 67 for those born in 1960 or after. The early
retirement age (the earliest age at which a worker qualifies for Social
Security retirement benefits) will remain at 62.
\9\ The calculation of a worker's basic benefit amount first
involves calculating average indexed monthly earnings (AIME) on the
basis of the 35 years of highest earnings. For workers becoming
eligible for Social Security benefits in 1997, benefits are equal to 90
percent of the first $455 of AIME, plus 32 percent of the AIME from
$455 to $2,741, plus 15 percent of the AIME in excess of $2,741. The
dollar amounts in the formula are called the bend points, and the
percentages are called the conversion factors.
---------------------------------------------------------------------------
Private pensions are different. They can be classified into
two basic types: defined benefit and defined contribution
plans. Pension benefits in defined benefit plans are generally
based on a formula that includes years with the firm, age at
retirement, and salary averaged over some number of years.\10\
Employers offering defined contribution plans generally promise
to make guaranteed periodic contributions to workers' accounts,
but the amount of retirement benefits is not specified. The
benefits from defined contribution plans depend on the
contributions plus investment returns or losses. Today, defined
contribution plans are the most prevalent type of pension plan,
and 401(k) plans are one of the fastest growing defined
contribution plan types.\11\ Typically, at retirement, workers
receive a joint and survivor annuity that provides pension
benefits to the surviving spouse after the worker's death,
unless both the worker and spouse elect, in writing, not to
take the joint and survivor annuity. In this instance, the
retiring worker may elect, along with the spouse, to take a
single life annuity or a lump-sum distribution if allowed under
the plan.
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\10\ In defined benefit plans that are integrated with Social
Security, pension benefits also depend on the size of an individual's
Social Security benefit.
\11\ 401(k) pension plans are salary reduction plans that allow
participants to contribute, before taxes, a portion of their salary to
a retirement account. Many employers match workers' contributions to
these accounts. Also, many employers allow participants to direct the
investment of their account balances.
---------------------------------------------------------------------------
When workers retire, they are uncertain how long they will
live and how quickly the purchasing power of a fixed payment
will deteriorate. They run the risk of outliving their assets.
Annuities provide insurance against outliving assets. Some
annuities provide, though at a higher cost or reduced initial
benefit, insurance against inflation risk, although annuity
benefits often do not keep pace with inflation. Many pension
plans are managed under a group annuity contract with an
insurance company that can provide lifetime benefits.
Individual annuities, however, tend to be costly.

Benefits for Dependents Differ Under Social Security and
Pensions

Under Social Security, the dependents of a retired worker
may be eligible to receive benefits. For example, the spouse of
a retired worker is eligible to receive up to 50 percent of the
worker's basic benefit amount, while a dependent surviving
spouse is eligible to receive up to 100 percent of the deceased
worker's basic benefit. Furthermore, divorced spouses and
survivors are eligible to receive benefits under a retired
worker's Social Security record provided they were married for
at least 10 years. If the retired worker has a child under 18
years old, the child is eligible for Social Security benefits,
as is the dependent nonelderly parent of the child. The retired
worker's Social Security benefit is not reduced to provide
benefits to dependents and former spouses.
Pensions, both public and private, generally do not offer
the same protections to dependents as Social Security. Private
and public pension benefits are based on a worker's employment
experience and not the size of the worker's family. At
retirement, a worker and spouse normally receive a joint and
survivor annuity so that the surviving spouse will continue to
receive a pension benefit after the retired worker's death. A
worker, with the written consent of the spouse, can elect to
take retirement benefits in the form of a single life annuity
so that benefits are guaranteed only for the lifetime of the
retired worker.
This wasn't always the case. Under the Employee Retirement
Income Security Act of 1974, a married worker had the option to
choose an annuity that provided benefits only as long as the
retiree lived. Recognizing marriage as an economic partnership,
the Congress sought through the Retirement Equity Act of 1984
to bring the retiring worker's spouse directly into the
decision-making process concerning benefit payment options.
Under this act, a joint and survivor annuity became the normal
payout option and written spousal consent is required to choose
another option. This requirement was prompted partly by
testimony before the Congress by widows who stated that they
were financially unprepared at their husbands' death because
they were unaware of their husbands' choice to not take a joint
and survivor annuity. Through the spousal consent requirement,
the Congress envisioned that, among other things, a greater
percentage of married men would retain the joint and survivor
annuity and give their spouses the opportunity to receive
survivor benefits.
The monthly benefits under a joint and survivor annuity,
however, are lower than under a single life annuity. Moreover,
pension plans do not generally contain provisions to increase
benefits to the retired worker for a dependent spouse or for
children. As under Social Security, divorced spouses can also
receive part of the retired worker's pension benefit if a
qualified domestic relations order is in place. However, the
retired worker's pension benefit is reduced in order to pay the
former spouse.

Some Reform Proposals Would Make Social Security More Like Pension
Plans

The three alternative proposals of the Social Security
Advisory Council would make changes of varying degrees to the
structure of Social Security. The key features of the proposals
are summarized in appendix II.

The Maintain Benefits Plan Would Make Fewest Changes to Social
Security

The Maintain Benefits (MB) plan would make only minor
changes to the structure of current Social Security benefits.
The major change that would affect women's benefits is the
extension of the computation period for benefits from 35 years
to 38 years of covered earnings.\12\ Currently, earnings are
averaged over the 35 years with the highest earnings to compute
a worker's Social Security benefits. If the worker has worked
less than 35 years, then some of the years of earnings used in
the calculation are equal to zero. Extending the computation
period for the lifetime average earnings to 38 years, would
have a greater impact on women than on men. Although women's
labor force participation is increasing, the Social Security
Administration forecasts that fewer than 30 percent of the
women retiring in 2020 will have 38 years of covered earnings,
compared with almost 60 percent of men.
---------------------------------------------------------------------------
\12\ One supporter of the MB plan does not support this provision.

The Individual Accounts Plan Would Add a Defined Contribution
---------------------------------------------------------------------------
Component

The Individual Accounts (IA) plan would keep many features
of the current Social Security system but add an individual
account modeled after the 401(k) pension plan. Workers would be
required to contribute an additional 1.6 percent of taxable
earnings to their individual account, which would be held by
the government. Workers would direct the investment of their
account balances among a limited number of investment options.
At retirement, the distribution from this individual account
would be converted by the government into an indexed annuity.
The IA plan, like the MB plan, would extend the computation
period to 38 years; it would also change the basic benefit
formula by lowering the conversion factors at the higher
earnings level. This plan would also accelerate the legislated
increase in the normal retirement age and then index it to
future increases in longevity. As a consequence of these
changes, basic Social Security benefits would be lower for all
workers, but workers would also receive a monthly payment from
the annuitized distribution from their individual account,
which proponents claim would offset the reduction in the basic
benefit.
In addition to extending the computation period, elements
of the IA plan that would disproportionately affect women are
the changes in benefits received by spouses and survivors,
since women are much more likely to receive spouse and survivor
benefits. The spouse benefit would be reduced from 50 percent
of the retired worker's basic benefit amount to 33 percent. The
survivor benefit would increase from 100 percent of the
deceased worker's basic benefit to 75 percent of the couple's
combined benefit if the latter was higher. These changes would
probably result in increased lifetime benefits for many women.
Additionally, at retirement a worker and spouse would receive a
joint and survivor annuity for the distribution of their
individual account unless the couple decided on a single life
annuity.

The Personal Security Accounts Plan Would Replace Social
Security With a Flat Benefit and a Defined Contribution
Component

The Personal Security Account (PSA) plan would make the
most dramatic changes to the structure of Social Security. This
plan would replace the current system with a two-tier system.
The tier I benefit would be a flat benefit based on years of
covered earnings. The full tier I benefit, which would be
equivalent to 65 percent of the poverty threshold, would be
received after 35 years of covered earnings. The tier II
benefit would be the distribution from the retired worker's
personal security account. The personal security account is
modeled after the 401(k) pension plan and would be funded by
diverting 5 percentage points of the worker's Social Security
payroll tax into the account,\13\ which would not be held by
the government. Proponents of the PSA plan claim that over a
worker's lifetime the tier I benefits plus the tier II
distribution would be larger than the lifetime Social Security
benefits currently received by retired workers. The worker
would direct the investment of his or her account assets. At
retirement, workers would not be required to annuitize the
distribution from their personal security account but could
elect to receive a lump-sum payment. This could potentially
affect women disproportionately, since the worker is not
required to consult with his or her spouse regarding the
disposition of the personal account distribution.
---------------------------------------------------------------------------
\13\ The payroll tax for Social Security is 12.4 percent of taxable
earnings. The tax is split evenly between the employee and employer.
---------------------------------------------------------------------------
Under the PSA plan, the tier I benefit for spouses would be
equal to the higher of their own tier I benefit or 50 percent
of the full tier I benefit. Furthermore, spouses would receive
their own tier II accumulations, if any. The tier I benefit for
a survivor would be 75 percent of the benefit payable to the
couple; in addition, the survivor could inherit the balance of
the deceased spouse's personal security account assets.

Effects on Women's Benefits of Changing Basic Social Security Law

Many of the proposed changes to Social Security would
affect the benefits received by men and by women
differently.\14\ The current Social Security system is
comparable to a defined benefit plan's paying a guaranteed
lifetime benefit that is increased with the cost of living.
Each of the Advisory Council proposals would potentially change
the level of that benefit, and two of the proposals would
create an additional defined contribution component. Not only
would retired worker benefits be changed by these proposals,
but the level of benefits for spouses and survivors would be
affected.
---------------------------------------------------------------------------
\14\ The proposed changes could also affect benefits received from
pension plans that are integrated with Social Security. How the changes
in these benefits would affect men and women is beyond the scope of our
testimony.

Conservative Investment Behavior May Have Adverse Consequences
---------------------------------------------------------------------------
for Retirement Income

Two Advisory Councils plans--the IA and PSA plans--would
create defined contribution accounts for workers. Both plans
would also lower basic Social Security benefits. On the basis
of calculations by the National Academy of Social Insurance,
the IA plan would lower basic benefits by 17 percent for the
average earner, while the PSA plan would lower the basic or
tier I benefit to about 47 percent of the benefit paid to
today's average earner. The rest of a retired worker's Social
Security benefit would come from the distribution from his or
her private account. Under both plans, the account balances at
retirement would depend on the contributions made to the
worker's account and investment returns or losses on the
account assets. Since women tend to earn lower wages, they
would be contributing less, on average, than men to their
accounts. Furthermore, even if contributions were equal, women
tend to be more conservative investors than men, which could
lead to lower investment returns. Consequently, women would
typically have smaller account balances at retirement and would
receive lower benefits than men. The difference in investment
strategy could lead to a situation in which men and women with
exactly the same labor market experiences receive substantially
different Social Security benefits. The extent to which
investor education can close the gap in investment behavior
between men and women is unknown.

How Account Distributions Are Handled Affects Benefit Levels

The two Advisory Council proposals with individual or
personal accounts differ in the handling of the distribution of
the account balances at retirement. The IA plan would require
annuitization of the distribution at retirement, and choosing a
single life annuity or a joint and survivor annuity would be
left to the worker and spouse. If the single life annuity
option for individual account balances was chosen, then the
spouse would receive the survivor's basic benefit after the
death of the retired worker plus the annuitized benefit based
on the work records of both individuals.
The PSA plan would not require that the private account
distribution be annuitized at retirement. A worker and spouse
could take the distribution as a lump sum and attempt to manage
their funds so that they did not outlive their assets. If the
assets were exhausted, the couple would have only their basic
tier I benefits, plus any other savings and pension benefits.
Furthermore, even if personal account tier II assets were left
after the death of the retired worker, the balance of the PSA
account would not necessarily have to be left to the survivor.
If a worker and spouse chose to purchase an annuity at
retirement, then the couple would receive a lower monthly
benefit than would be available from a group annuity.
Both the IA and the PSA plans could lead to situations
where men and women in identical circumstances received
different Social Security benefits. Suppose a man and woman had
the same labor market experiences and the same amount in their
private accounts and then annuitized their distributions. The
monthly annuity payments would reflect the differences in
expected longevity (separate life tables could be used for men
and women in the calculation of annuitized benefits) and,
although the expected lifetime payments would be the same, the
monthly payments to the woman would be lower, since women have
longer life expectancies.

Conclusions

Even though the current provisions of Social Security are
gender neutral, differences during the working and retirement
years may lead to different benefits for men and women. For
example, differences in labor force attachment, earnings, and
longevity lead to women's being more likely than men to receive
spouse or survivor benefits. Women who do receive retired
worker benefits typically receive lower benefits than men. As a
result of lower Social Security benefits and the lower
likelihood of receiving pension benefits, among other causes,
elderly single women experience much higher poverty rates than
elderly married couples and elderly single men.
Social Security is a large and complex program that
protects most workers and their families from income loss
because of a worker's retirement. Public and private pension
plans do not offer the social insurance protections that Social
Security does. Pension benefits are neither increased for
dependents nor generally indexed to the cost of living as are
Social Security benefits. Typically, at retirement a couple
will receive a joint and survivor annuity which initially pays
monthly benefits that are 15 to 20 percent lower than if they
chose to forgo the survivor benefits with a single life
annuity. Furthermore, under a qualified domestic relations
order, a divorced retired worker's pension benefits may be
reduced to pay benefits to a former spouse.
While the three alternative proposals of the Social
Security Advisory Council are intended to address the long-term
financing problem, they would make changes that could affect
the relative level of benefits received by men and women. Each
of the proposals has the potential to exacerbate the current
differences in benefits between men and women. Narrowing the
gap in labor force attachment, earnings, and investment
behavior may reduce the differences in benefits. But as long as
these differences remain, men and women will continue to
experience different outcomes with regard to Social Security
benefits.
This concludes my prepared statement. I would be happy to
answer any questions you or other Members of the Subcommittee
may have. For more information on this testimony, please call
Jane Ross on (202) 512-7230; Frank Mulvey, Assistant Director,
on (202) 512-3592; or Thomas Hungerford, Senior Economist, on
(202) 512-7028.

Features of Social Security Under Current Law and Pensions
Appendix I
----------------------------------------------------------------------------------------------------------------
Social Security Current pension plan provisions
----------------------------------------------------------------------------------------------------------------
Federal Employees'
Provisions under Retirement System/ Defined benefit Defined
Type of beneficiary ^{a current law Thrift Savings plans contribution plans
Plan
----------------------------------------------------------------------------------------------------------------
Retired worker.................. Benefit FERS benefit is Benefit is based Benefit is based
computation is based on on formula under on contributions
based on 35 years statutory formula. plan documents. of employee,
of highest employer, or both
covered earnings. plus investment
returns of
individual
account balances
Progressive TSP benefit is ..................
formula leads to based on employee
redistribution. and government
contributions
plus investment
returns of
individual
account balances.
Benefits reduced ..................
actuarially if
taken between 62
and normal
retirement age
(NRA); increased
if taken after
NRA.
NRA to increase to
67 years for
those born after
1959.
Spouse.......................... Benefit is 50% of ^{(b)............... ^{(b)............... ^{(b)
the retired
worker's benefit.
Benefit is
actuarially
reduced if taken
between 62 and
NRA.
Survivor........................ Benefit is equal Joint and survivor Joint and survivor Joint and survivor
to amount annuity is normal annuity is normal annuity is normal
deceased spouse form of annuity, form of annuity. form of annuity
would be and survivor
receiving but not receives 50% of
less than 82 \1/ basic annuity.
2\% of deceased
spouse's benefit.
Benefit is
actuarially
reduced if taken
between 62 and
NRA.
Dually entitled beneficiary ^{c... Receives own ^{(b)............... ^{(b)............... ^{(b)
retired worker
benefit plus
difference (if
positive) between
spouse or
survivor benefit
and his/her
retired worker
benefit.
Divorced and surviving divorced Must have been Qualifying court Qualified domestic Qualified domestic
spouse. married for at order. relations order. relations order
least 10 years
and currently be
unmarried.
Must be at least
62 years old for
divorced spouse,
60 years old for
divorced survivor.
Benefit
actuarially
reduced if
younger than NRA.
Divorced spouse
benefit is 50% of
retired worker's
benefit.
Surviving divorced
spouse benefit is
100% of retired
worker's benefit.
Mother or father and widowed Have eligible ^{(b)............... ^{(b)............... ^{(b)
mother or father plus child. child in care.
Under 65 years old
50% of retired
worker's benefit
plus 50% of
child's benefit.
75% of deceased
worker's benefit
plus 75% of
child's benefit.
----------------------------------------------------------------------------------------------------------------
^{a Beneficiary categories are based on Social Security definitions.
^{b Not applicable.
^{c Entitled to benefit both as retired worker and as spouse or survivor of retired worker.

Features of Social Security Under Current Law and Three Reform Proposals
Appendix II
----------------------------------------------------------------------------------------------------------------
Social Security Reform proposals of 1994-96 Social Security Advisory
----------------------------------------------------- Council
-----------------------------------------------------------
Type of beneficiary ^{a Provisions under Individual Personal security
current law Maintain benefits accounts accounts
----------------------------------------------------------------------------------------------------------------
Retired worker.................. Benefit Extends Extends Creates two-tier
computation is computation computation system with tier
based on 35 years period from 35 period from 35 I a flat benefit
of highest years to 38 years years to 38 years based on years of
covered earnings. of covered of covered covered earnings
earnings. earnings. and tier II a
personal security
account (PSA)
based on defined
contribution
pension
Progressive Changes benefit Accelerates
formula leads to formula by increase of NRA
redistribution. lowering and indexes to
conversion longevity
factors.
Benefits reduced Accelerates Increases early
actuarially if increase of NRA retirement age to
taken between 62 and indexes to 65 years.
and normal longevity.
retirement age
(NRA); increased
if taken after
NRA.
NRA to increase to Creates individual
67 years for account (IA)
those born after based on defined
1959. contribution
pension.
Spouse.......................... Benefit is 50% of Same as current Benefits are Benefits are tier
the retired law. lowered from 50% II accumulations
worker's benefit. to 33% of retired plus 50% full
worker's benefit. tier I benefit
Benefit is Joint and survivor
actuarially annuity with IA
reduced if taken balance.
between 62 and
NRA.
Survivor........................ Benefit is equal Same as current 75% of couple's 75% of benefit
to amount law. combined benefit. payable to couple
deceased spouse plus eligible to
would be inherit balance
receiving but not of deceased
less than 82 1/2% spouse's PSA
of deceased
spouse's benefit.
Benefit is Joint and survivor
actuarially annuity with IA
reduced if taken balance.
between 62 and
NRA.
Dually entitled beneficiary ^{b... Receives own Same as current Higher of own Tier II
retired worker law. basic benefit or accumulations
benefit plus 33% of spouse's plus higher of
difference (if benefit. own tier I
positive) between benefit or 50% of
spouse or full tier I
survivor benefit benefit
and his/her
retired worker
benefit.
Divorced and surviving divorced Must have been Same as current No mention........ No mention
spouse. married for at law.
least 10 years
and currently be
unmarried.
Must be at least
62 years old for
divorced spouse,
60 years old for
divorced survivor.
Benefit
actuarially
reduced if
younger than NRA.
Divorced spouse
benefit is 50% of
retired worker's
benefit.
Surviving divorced
spouse benefit is
100% of retired
worker's benefit.
Mother or father and widowed Have eligible Same as current Same as for spouse Same as for spouse
mother or father plus child. child in care. law. or survivor plus or survivor plus
child's benefit, child's benefit,
which is same as which is same as
current law. current law
Under 65 years old
50% of retired
worker's benefit
plus 50% of
child's benefit.
75% of deceased
worker's benefit
plus 75% of
child's benefit.
----------------------------------------------------------------------------------------------------------------
^{a Beneficiary categories are based on Social Security definitions.
^{b Entitled to benefit both as retired worker and as spouse or survivor of retired worker.

Chairman Bunning. Thank you very much, Ms. Ross. I would
like to hear your suggestions on how we can reform Social
Security and restore long-term financial solvency without
hurting the relative position of elderly women.
Ms. Ross. There are four factors I talked about that make
the most difference between men's and women's retirement
incomes--the level of earnings, labor force participation,
longevity and the differences in the ways in which men and
women invest.
In two of the proposed plans more of everybody's retirement
income will come from parts of the system where not only the
earnings and labor force factors are at play, but the
investment and longevity factors are important as well. So you
are putting more retirement income into places where the
potential for the men/women retirement income differential will
be greater.
GAO, does not have a specific proposal. What we seek to do
today is highlight the fact that when you are restructuring a
system, you have to keep in mind the distribution of benefits
in addition to kinds of things that Dave Koitz talked about as
long as the program has a sound insurance dimension.
It is especially important to raise this issue because
there is already a large group of highly vulnerable women out
there--aged widows--with a very high poverty rate. I don't
believe that you want to structure a system that looks fair in
terms of the consistent application of the rules but could
disproportionately affect a group that is already experiencing
a high poverty rate.
Chairman Bunning. So you do not have a suggestion?
Ms. Ross. Pardon?
Chairman Bunning. So you do not have a suggestion?
Ms. Ross. No, I do not have a specific suggestion.
Chairman Bunning. Let me just go over a little background,
then. When Social Security began, what percentage of women were
in the workforce?
Ms. Ross. In the forties--
Chairman Bunning. Thirties.
Ms. Ross. It was about 30 percent.
Chairman Bunning. Perhaps. Would you say that since we now
have more women working, that this will eventually work its way
out, except for the salary structures--and eventually that will
work its way out, I believe, too--for female employees, rather
than male employees?
Ms. Ross. There has certainly been a huge increase in labor
force participation already among women and the rate is up to
about 75 percent. The estimates are that it might go as high as
80 percent. I do not think anybody anticipates that women's
labor force participation will ever get to be as high as the
men's rate because of other kinds of--
Chairman Bunning. Other duties, chosen duties.
Ms. Ross. Right. The same will likely hold true for
earnings levels also. The gap seems to be narrowing, but it is
not clear that the differential will go away entirely.
An important thing to keep in mind is how long the
transition period is. Because the averaging period for Social
Security benefits is 35 years, it will take a very long time
for these improvements in women's earnings histories to be
completely incorporated into the benefits contributions. So the
difference could narrow, but not anytime soon.
Chairman Bunning. I can speak for my family. I have a
daughter that is 13 years older than my youngest daughter, and
her participation in the workforce has been from the very first
day that she graduated from college. My younger daughter's
participation has been delayed just a little bit because of
four children. But she is participating, but not at the same
high level of salary that my oldest daughter is.
Over the long haul, that should relieve some of the
problems that you are speaking about, not all of them but some
of them.
Ms. Ross. Right.
Chairman Bunning. So we are going to have to take that into
consideration when we are looking for a long-term solution, not
only in benefits but in how we balance the flow of the money
that is coming in.
I did not realize that women were more conservative than
men in their investments. I am glad the GAO knows that because
some of the daughters that I have are not more conservative
than men. [Laughter.]
So I think we must include what you have suggested in any
long-term solution, but there are other benefits and problems
that we have to look at.
Why do you believe that women investment behavior is
different than men? Do you have that as a fact?
Ms. Ross. Part of the reason it is different is because
investment behavior is affected by income and women, in
general, have lower incomes. So there is some association
between incomes and investment behavior. You are picking it up
by gender, but it relates, at least in part, to income.
Beyond that, researchers are still trying to understand if
other factors such as women being less familiar with the
workings of financial markets are important. If that is the
case, then, over time, women's investment strategies are likely
to change as they become more familiar with the stock and bond
markets. Some people are already studying whether invest or
education could be helpful. In fact, we are contemplating doing
a job in that area, to understand a little better whether
people would have better retirement income if they had a better
understanding of their investment options.
Mrs. Kennelly. I am glad you brought that up, Mr. Chairman,
because I was afraid this would begin to seem that it is a
personality trait, that women are more conservative than men,
and that is not the fact. The facts are exactly what Ms. Ross
has been saying, that women are very, very aware that they
still only earn 70 percent of income that men earn. They are
very, very aware that they live longer than men live and they
have to cover themselves for a certain amount of years. And
they are very, very aware, if you do a study of wealth in this
country, it's still, though there are many wealthy widows,
there are still women, on the whole, that are much poorer than
men.
So the whole issue here is not personality traits. It is
that if you have less to lose, you have to be more careful
about going in the market. You go into safer securities, which
are obviously government securities. And we see also that you
took, I think, Ms. Ross, this information from the Federal
retirement investment.
Ms. Ross. Right.
Mrs. Kennelly. And we wish that we had a lot of wealthy
government workers but usually they are the average income
workers in the Government and they would love to go in the
market. I cannot tell you the number of government workers,
including myself, that have said, ``Oh, my gosh, I wish I could
have been investing the last few years,'' but, you never know
when that bull is going to come around. If you cannot afford to
lose it, don't put it in the market. This is something that we
are very aware of, and women have to be cautious to take care
of themselves. And we live forever.
But this is something that the Chairman and I have both
discussed about the whole effort, of making sure we protect the
right of women to have the choice to stay at home with their
children. And yet the other side of the coin now is becoming
very much forward, that so many more women, as the Chairman
pointed out, work now than when the Social Security system was
put into place.
To go back to your Federal thrift savings plan, my concern,
Ms. Ross, and maybe you have put some time into this, my
concern is if, in fact, as I said, most people cannot afford to
lose their life savings and take a bet on the market, wouldn't
it seem to you that if we go through this great change to
personal savings accounts and go into the market and change our
basic traditional Social Security system, we might find that
people are taking their personal savings accounts and investing
in government securities. So in other words, we have gone
through this whole venture and all we have done is increase
administrative costs, which are now very good, by the way, in
Social Security. Have you thought about that at all?
Ms. Ross. Well, we have certainly thought about the fact
that we don't know how people will invest, but we have not done
much detailed work on it yet. To the extent that many low-
income people with very little investment experience will be
managing their own individual retirement accounts, it is not at
all clear whether they will invest in the same way as people
already in the market or whether they will feel, as you have
just suggested, that they have more at risk or more to lose and
therefore, they will tend to be more conservative.
Mrs. Kennelly. But I think we do know the administrative
costs will definitely go up.
You mentioned the figure two-thirds of women now rely on
their husband's Social Security or get their husband's Social
Security.
Have you done any work to show the difference that the
Chairman was talking about, that more women are working? Is
that number changing? Do we have any more up-to-date
information? Demographics, once again.
Ms. Ross. What we have seen in terms of receiving Social
Security benefits is that the proportion of women who get
benefits on just their own work history has actually decreased
some. At first this does not seem to make sense, because there
are more women in the labor market. But what is happening is
that the number of women who are jointly entitled--earning some
benefits as a spouse and some as a worker--has grown
substantially.
The proportion of women getting benefits just as retired
workers has actually decreased a little bit since the sixties
as the proportion receiving dually entitled benefits has grown.
Mrs. Kennelly. And if you are a couple with no children and
you have both worked through your entire relationship, often
from young people to your retirement, and you are a couple, the
husband working, the wife never working, and she is getting
more, this is the thing we are going to have to wrestle with.
Should we address that particular situation?
Ms. Ross. We did some work last year on this issue of
equity in Social Security. When the Social Security system was
designed, in the thirties, the model family was the male worker
and his wife at home. Because those who designed the system had
concerns about income adequacy, as well as fairness, there was
a set of dependents' benefits that were added. These are the
kind of changes that made Social Security a social insurance
system.
Over time, as more women have entered the labor market, so
they are also eligible for workers' benefits. This has created
some tension and led some women to question how come they have
to pay Social Security tax? They go to work, pay Social
Security taxes and end up with a benefit that is not any larger
than their neighbor's, who stayed home.
Mrs. Kennelly. That is what I hear all the time.
Ms. Ross. So as the demographics are changing, the model on
which Social Security was based, may need to be reexamined. In
any case, there is certainly a tension that has developed
between the fairness and adequacy goals that were built in at
the beginning.
Mrs. Kennelly. In your work did you see any concern that as
you look at some of these proposals, they are more like a
defined contribution plan than a defined benefit plan? Does
that concern you, that individuals will have their own personal
savings account and your widow might end up with a real problem
here?
Ms. Ross. Well, having more of your retirement income in
some sort of a equities-market-related account exacerbates the
problems we talked about before, such as the greater longevity
of women. If they decide to buy a life annuity, it has to last
longer than for a man and therefore, it will cost more.
Mrs. Kennelly. Some of the reform plans are not even
requiring annuities.
Ms. Ross. But then if the annuity is not mandatory and a
female retiree decides she wants to purchase it privately,
because she wants to make sure she doesn't outlive her income,
she will get a lower monthly benefit, because an insurance
company or an annuity provider will take account of the fact
that she has a longer life expectancy. In other words, not
everybody uses unisex tables to decide on the amount of an
annuity----
Mrs. Kennelly. The way some of these plans are written, she
might never have anything, if you really get down to it. You
are in the market now and you have a plan and your husband is
putting into it, and we have all the problems we have had with
pensions, about signing away rights and all the rest.
I am glad you are here because we are feeling our way and
there are a lot of unanswered questions that we have to answer.
It is going to take a lot of work and we will be talking.
Thank you very much.
Chairman Bunning. Ken.
Mr. Hulshof. Thank you, Mr. Chairman.
Ms. Ross, you mentioned the four disparate factors--level
of earnings, longevity. Personally, I can tell you that I would
be interested in legislation that would reduce the disparity in
longevity, but I am not quite sure----
Ms. Ross. I hope you would want to increase the life
expectancy of men and not the other way around.
Mr. Hulshof. And I am not sure this Subcommittee has
jurisdiction over that matter.
My wife, Ms. Ross, is a professional. I am proud of the
career that she is pursuing. She shares my conservative
philosophies except when it comes to investments. Boy, what a
roller-coaster ride. She takes care of those investments.
You mentioned briefly education--do you think that there is
a role for investor education that might help narrow these
future differences in men's and women's investment patterns?
Ms. Ross. There has been a limited amount of study that
suggests that education can make some difference, but we plan
to take a more thorough look at the role of investor education.
Mr. Hulshof. I appreciate, the study that Messrs. Hinz,
McCarthy and Turner did regarding this pattern, and let me put
you on the spot a little bit if you are not intimately familiar
with that study.
Did they just look more at an historical perspective? As
the chairman was asking you questions, going back well into the
forties, or do they anticipate or, in the study, did they see
perhaps a more aggressive investment strategy, as women become
more mobile and pursuing more vigorous careers?
Ms. Ross. Their study was based on fairly recent data from
the thrift savings plan. So it does not have that historical
perspective or a projection.
Mr. Hulshof. OK. That is all. Thanks.
Chairman Bunning. Mr. Collins, do you care to question?
Mr. Collins. Mr. Chairman, I regret that I missed Miss
Ross's testimony. I am just picking up on bits and pieces in
reviewing some of the comments.
But, the pattern that I sense that you are referring to is
the proposals would create a possible further discrepancy in
earnings, but will that change? We are talking about the past
but we are also talking about the future, too. Is that going to
change in the future with the fact that more women now are
beginning to enter into professional fields and are earning
more income and investments change and differ from what they
have been in the past?
Will not just the system itself and society make a change
within itself?
Ms. Ross. I think you know we have already been seeing that
kind of change occur as women are becoming more active in the
workforce, and the change has been to the point now where about
75 percent of women are active in the labor force. However,
there are still many more women than men that have many years
with zero earnings, and the expectation is that will continue.
So things should get better in the future for women
relative to men, with regard to their labor force participation
and their earnings, but it is doubtful that the differences
will be eliminated. Certainly, they will not be eliminated
quickly because the averaging period for Social Security
benefits is 35 years. So it will take a while before changes
that are going on now for young women in their twenties and
thirties are actually reflected in greater parity on retirement
income.
So it still seems is something to pay particular attention
to as the Congress assesses the Social Security reform options.
Mr. Collins. I think that is true. Of course, a lot of this
just did not happen overnight. For some families, employment is
a matter of choice as to whether or not they work. But for many
more really it is not a choice of whether or not to work; it is
a matter of fact that they need the additional income to help
with their lifestyle, to maintain a lifestyle and meet the
needs of their family.
And a lot of that has been caused by actions of government
over the years that have now taken about 40 percent of the
family income, or closer to 50 percent when you get all
taxation involved, in income. So a family has to work half a
year just to meet the tax obligations of their earnings. That
forces a lot of women to work who would have rather had the
choice of staying home.
I do not know if there is an answer. I understand that you
did not have a proposal, per se, to address this problem,
because I do not know if there is a proposal out there that
will address that problem, whether it is a matter of choice in
the marketplace and some decisions in many other areas that the
Congress will be making over the next years to change the
policy of taxation and such that will, in itself, drive change.
Ms. Ross. I think the primary message we were trying to
convey in our testimony today was that at the current time and
for quite some time into the future, there will be differences
between men and women in terms of things that relate to their
Social Security benefits. And, as you are thinking about
restructuring the system, along with all of the other things
you have to keep in mind, it seems appropriate to consider how
a particular set of rules affects different groups, such as men
and women differently. As long as Social Security continues to
have a social insurance dimension, the different impact on low-
and high-income workers also will need to be considered.
Mr. Collins. And I agree, you do not want to look at and
adopt proposals that will create an even further discrepancy,
even unintentionally.
Thank you, Mr. Chairman.
Chairman Bunning. I have one last question and I do not
know if you have the answer. How many people receiving Social
Security depend on that payment as their main source of income?
Ms. Ross. Sixty percent of them depend on Social Security
for more than half of their income.
Chairman Bunning. Sixty percent rely on the Social Security
benefit payment for more than half their income. Thank you.
Thank you for your testimony.
We will take a break. We will be right back. We have a vote
on the floor. If the next panel would move up to the table, we
would appreciate that, and we will be back as soon as we can.
We are in recess.
[Recess.]
Chairman Bunning. If the panel would please be seated, we
will get back to our testimony.
We conclude with a panel of individual experts: Dr. Stuart
Butler, vice president of Domestic Policy Studies at the
Heritage Foundation; Dr. Jerry Mashaw from Yale University's
Institute of Social and Policy Studies where he is a Sterling
Professor of Law and Professor of Management; C. Eugene
Steuerle, a senior fellow at the Urban Institute; and an old,
familiar face, Dr. Robert Myers, former Chief Actuary and
Deputy Commissioner at the Social Security Administration and
former Executive Director of the National Commission on Social
Security Reform.
Dr. Butler, go right ahead.

STATEMENT OF STUART BUTLER, PH.D., VICE PRESIDENT, DOMESTIC
POLICY STUDIES, HERITAGE FOUNDATION

Mr. Butler. Mr. Chairman, most of the focus up till now in
the hearings has been on the larger macroeconomic issues, such
as savings rates. I want to focus a little bit more on the
aspects of any framework of evaluation with regard to workers
and future beneficiaries as individuals, or how they would see
these different reform. In other words, I will preserve a kind
of consumer's checklist that you might want to apply to rival
proposals. I touch on a number of them in my testimony and I
just want to focus on three in the short time I have.
The first is: ``Does the proposal significantly improve the
rate of return on the contributions made by today's workers?''
If you net out from the contributions that workers make the
spousal benefits, the disability benefits and so on, and just
focus on the contributions towards retirement income, a male
worker of average wages born after 1951 will actually lose
money in real terms with regard to their payments. And when you
look at certain categories of individuals, like minority
workers, it is even worse than that.
So when one is looking at different proposals, one of the
criterion has got to be how does it affect the rate of return.
When you look at things like raising the retirement age, for
example, or increasing payroll taxes, clearly that is going to
reduce the rate of return.
The second criterion I think it is important to apply from
the consumer's point of view is: ``Would the proposal actually
provide workers with a clear statement of what the actual
returns are in the alternative proposals and the existing
system?'' This is a very real concern to people. When you are
looking at, say, a wife who is considering going back into the
workforce and has an option to do that in order to partly help
fund their retirement through Social Security. Maybe the other
option is to stay at home and have the husband work more
overtime and put some money into a savings plan for the wife.
The comparisons are very real that have to be taken into
account.
But today the SSA benefit statements, as you well know from
the GAO reports, are very ineffective in providing that kind of
information and also are very unclear.
So it seems to me that one of the important steps that
should be in any reform is a much clearer statement so that
people can make real decisions about their retirement, by
actually knowing the effective rate of return that they would
get on their current Social Security benefits and
contributions.
The third criterion I think that should be in play is:
``Does the reform provide alternatives to an annuity-type
retirement income system?'' An annuity is not always the best
retirement vehicle for individuals. It is different for
different individuals, as you well know. People who have a low
life expectancy in general are not going to find an annuity the
most attractive way of savings. If people want to have a nest
egg for their spouse, to supplement spousal benefits, or for
their children, some kind of savings plan, as opposed to an
annuity. For somebody with a low life expectancy it makes a lot
of sense. There are various other reasons why an annuity would
not be attractive.
So when one is looking at alternative reforms, the extent
to which they allow alternatives to an annuity-based system is
very important and should be clear and should be one criterion.
The last criterion I will just mention, which is
particularly applicable to any kind of opt-out approach or
personal savings account approach, is the extent to which the
reform provides a down side risk protection, an issue which has
been raised, by previous witnesses. You can have people losing
their shirt in a bull market and it is very important to look
carefully at what kinds of risk protections are placed in any
proposal that allows people to opt out of the current system.
There are many ways in which one might do this: Certain
requirements on the portfolio itself to spread risk. Possibly a
requirement that a private plan actually guarantees the same
rates of return, or at least includes an annuity equivalent to
Social Security today, would be one way to go, or is structured
similarly to Social Security today. In the United Kingdom,
which is a partly privatized system, that is one of the
requirements on their plans.
So I think it is very important, when you look at these
issues, to consider the consumer, the worker himself, and the
way he or she would see the alternatives. This must be taken
into account, besides the bigger issues associated with the
trust fund and the savings rate.
[The prepared statement and attachments follow:]

Statement of Stuart Butler, Ph.D., Vice President, Domestic Policy
Studies, Heritage Foundation

My name is Stuart Butler. I am Vice President of Domestic
and Economic Policy Studies at The Heritage Foundation. The
views I express in this testimony are my own, and should not be
construed as representing any official position of The Heritage
Foundation.
I appreciate the opportunity to testify on a framework for
evaluating Social Security reform proposals. While others no
doubt will address this by focusing on the larger macroeconomic
or public finance issues associated with reform, I will focus
my testimony on the issues that would directly effect workers
and future beneficiaries. The main reason we are able to
discuss reform of the Social Security system today--even
radical reform--is because an increasing proportion of younger
workers has come to believe that Social Security is no longer a
retirement income security system for them. These Americans are
concerned that any reform of the Social Security system should
result in a better and more secure retirement income system.
Thus quite apart from the macroeconomic issues involved in the
Social Security debate, any reform must address directly the
individual retirement needs of working Americans.
With this in mind, I would urge the subcommittee and
Congress to include the following criteria in a framework for
evaluating reforms.

(1) Does the proposal significantly improve the rate of return on a
worker's contributions to the retirement system?

Today's Social Security system provides very poor returns
to most workers for the investment they make in payroll taxes.
The younger a worker is, generally the lower will be the rate
of return. The attached charts have been assembled using the
Social Security Administration's benefits software. The
calculations compare the typical inflation-adjusted retirement
income for these workers with the estimated share of the
employer and employee payroll taxes dedicated to pension
benefits. As the chart for male workers of average earnings (as
defined by the Social Security Administration) indicates, the
rate of return is low for workers of any age, but for workers
born after 1951 it is actually negative. The current SSA
average wage is $24,799. Thus in real terms the Social Security
system for these latter workers actually reduces the real value
of the money put aside for retirement. For low income male
workers the picture is only slightly better, as it is for
female workers in general, but all young workers face very low
or negative returns on their mandatory savings.
For a reform to win support among younger workers it must
improve the rate of return. That criterion necessarily raises a
problem for at least three categories of reform: raising the
retirement age; reducing or taxing more heavily expected
benefits, and raising payroll taxes. Each of these would have
the effect of reducing the rate of return.
As an example, consider what the rate of return would be
for a typical worker if the retirement age today were raised
immediately to 70 rather than 65. This would increase the
period during which payroll taxes were paid, for current
workers, and reduce the period during which benefits were
received, thereby reducing the rate of return. As the
accompanying chart shows, for the average worker (i.e.
``combined'' male and female) earning the SSA average wage,
this step would mean that workers born between 1937 and 1975
(the current ``break even'' point for all average workers)
would face negative returns rather than positive returns. For a
worker born in 1956, for instance, the rate of return would
fall from about 0.5 percent to about minus 1.5 percent.

(2) Would Social Security under the proposal provide workers with a
clear statement of the return on contributions?

When President Roosevelt launched the Social Security
system, he emphasized that it should be seen as but one leg of
a three-legged stool, the other two legs being individual
savings for retirement and employment-based pension plans. With
these three legs to the retirement pension stool, couples could
plan how best to allocate their savings to strike the proper
balance between using their earnings to fund expenses during
their working life and setting aside money to help fund their
retirement years.
Today there is a rich variety of savings tools for
retirement, complementing Social Security. Not only are there
many savings vehicles, such as Individual Retirement Accounts,
401 (k) plans, and many employer-sponsored pension plans, but
the methods of providing income vary, including annuities,
whole life insurance programs, and lump-sum savings plans.
To determine the array of retirement plans that make most
sense to a couple or individual, one of the crucial pieces of
information needed is an estimate of the rate of return from
contributions to a retirement plan. Thus for Americans to judge
if and how they should supplement their expected Social
Security benefits, they need a clear indication of the return
they can expect from their contributions to Social Security.
Even more important, in the context of evaluating proposed
Social Security reforms, they must have a clear idea how a
reform might affect the rate of return on the various
contributions they make, in payroll taxes, IRA contributions,
etc. Without this, Americans will be unable to determine
whether a reform will or will not enhance their retirement
security.
At the end of last year, the Chairman of this subcommittee
received a report from the General Accounting Office indicating
that the estimated benefit statements currently provided by the
Social Security Administration, though well-received, were
difficult for Americans to understand.\1\ The GAO recommended a
number of changes to make the Personal Earnings and Benefit
Estimate Statement (PEBES)--soon to be distributed to all
workers--easier to navigate and understand. One crucial element
in any statement, however, must be an estimate of the rate of
return on Social Security contributions. This is particularly
important in any reform that includes an ``opt-out'' provision.
Reforms that would allow workers to divert some of their Social
Security taxes into a private retirement plan must permit
workers to make some comparison between Social Security and
private alternatives--otherwise decisions will tend to be made
on the basis of guesses and prevailing wisdom rather than real,
individualized information.
---------------------------------------------------------------------------
\1\ SSA Benefit Statements GAO/HEHS-97-19, December 1996.
---------------------------------------------------------------------------
Even before any general reform of Social Security, Congress
should take action to improve the PEBES statements that will
over the next few years be mailed to over 100 million Americans
annually. In addition to the improvements in presentation
recommended by the GAO, Congress should require the SSA to
include a real rate of return estimate. Legislation to require
this is currently being prepared by Senator Rod Grams (R-MN). I
would urge the subcommittee to examine that legislation.

(3) Does the proposal allow workers, especially those with lower life
expectancies, to choose an alternative to an annuity system?

Payroll tax contributions to Social Security are based on
wage and salary earnings, but the total retirement payout from
Social Security depends on life expectancy. This is the
characteristic feature of an annuity, which is the central
retirement income product contained in Social Security (Social
Security does, of course, also transfer wealth through social
insurance, and provides benefits other than retirement income).
Any financial planner would point out to a prospective
client, however, that an annuity (or at least complete
dependence on an annuity) is not necessarily the most prudent
way to assure retirement security. This is particularly the
case for an individual with a low expectancy compared with
others of the same age and income. In those cases it might make
far more sense to set aside most contributions into a
traditional savings plan, perhaps supplemented with life
insurance and a modest annuity. In this way the individual
would have a potentially large sum with which to enjoy what
would likely be a relatively short retirement, or a larger
estate to pass onto his or her heirs.
The ``annuity-only'' nature of Social Security denies
workers the flexibility to improve the security of their
retirement years by choosing to place some of their payroll tax
contributions into some vehicle other than an annuity. This is
a serious shortcoming of Social Security today for some whole
classes of Americans with shorter life expectancies, such as
African-American males (who encounter among the lowest rates of
return from the current system).
Moreover, for many low-income workers, Social Security
constitutes virtually he only method of ``saving'' for
retirement available to them, since after Social Security taxes
they have insufficient discretionary income to permit
significant savings. Thus a system which essentially diverts
earnings into an annuity system also depletes the potential for
private savings.
One criterion that should be applied to the evaluation of
any reform plan is whether it corrects this inherent problem.
This might be accomplished within he current structure by
introducing a range of products and permitting individuals to
make choices at various points during their working life. Opt-
out proposals would accomplish the objective by allowing
workers to dedicate part of their payroll taxes to a non-
annuity retirement plan if they wished. Proposals that only
change the tax and benefit amounts would not deal with this
concern.

(4) Does an ``opt out'' or ``privatization'' proposal include downside
risk protection?

A number of reform proposals would allow workers to devote
some portion of their current payroll taxes, or require them to
devote a supplementary payroll tax, into a private retirement
plan.
Given the estimated rate of returns for today's younger
workers under Social Security, the typical likely returns from
even the most conservative private savings or investment
vehicles would be far higher. However, these private returns
are subject to two significant forms of risk. The first is the
inherent risk associated with any specific investment in the
private economy -even when stocks are rising rapidly,
individual investors in particular stocks may be losing their
shirts. The second is the risk associated with the financial
stability of any intermediary institution controlling an
investor's funds.
These are not risks associated with the current Social
Security system. However, if the government were to invest a
portion of Social Security payroll tax receipts in the stock
market, workers would face the risk that these funds might be
badly invested--perhaps forcing future benefits reductions.
Moreover, since benefits are effectively set by Congress, not
by returns from the market, there is a ``political'' risk
inherent in Social Security.
One criterion for evaluating reform proposals should be the
degree to which the proposal includes downside risk protection,
if at all. This is particularly an issue with opt-out
proposals. One way a degree of protection could be included
would be a requirement that at least some portion of
contributions to be retained in a government-sponsored
``safety-net'' pension. An alternative, or supplement, to this
would be some requirements on the investments that could be
made under the private option, such as a rule that some portion
be invested in Treasury bills or other relatively safe
vehicles. There could even be a rule that a private plan must
provide a structure and level of benefits at least comparable
to the existing Social Security program. The British partly-
privatized system, for instance, requires private plans to
assure at least comparable benefits. A rule might even require
a private plan to include an annuity identical to the estimated
benefits from Social Security if the worker had chosen to
remain entirely in that system.
The solvency risk associated with private plans could still
remain even with these requirements. Thus Congress also should
evaluate the steps contained in a proposal to protect workers
and beneficiaries from the insolvency of financial
intermediaries handling their funds. These steps might include
solvency requirements for each intermediary, a requirement that
an intermediary acquire secondary insurance to spread the risk,
or a government insurance backstop.

(5) Does an ``opt out'' or ``privatization'' proposal protect workers
from fraudulent, misleading or unsound plans?

Another concern about privatization proposals is that
workers might make unwise decisions because of misleading
(intentional or unintentional) or fraudulent marketing. This is
a common concern raised whenever Americans are allowed to make
important choices, and often is exaggerated. Nevertheless,
experience suggests that there are significant dangers to avoid
and proposals should indicate how they address them. For
example, the aggressive marketing of supplementary health
insurance (``Medigap'') policies to seniors some years ago
resulted in many elderly Americans buying several plans with
overlapping coverage. And in the early years of Britain's
Social Security opt-out program, there were sufficiently
widespread cases of misrepresentation that Parliament took
action.
Proposals might include a variety of ways to reduce the
concern to acceptable levels. Standardized marketing
requirements is one common approach. These rules would require
plans to present certain information in a standardized way, so
that comparisons can easily be made.

(6) Does the proposal protect existing beneficiaries?

While the focus of most reform proposals is on future
beneficiaries, just as important--especially from a political
point of view--is how a reform would affect Americans who are
already retired or may be so close to retirement that they
could do little to accommodate to the change before retiring.
These Americans are concerned in two general ways.
First, would the proposed reform protect and improve the
condition of the trust fund from which their benefits are paid?
The pay-as-you-go nature of the current system makes this issue
particularly acute. Increases in the payroll tax would add
revenues and thus raise the level of protection, although this
would also reduce the rate of return and have other disturbing
side-effects. Opt-out proposals would reduce the revenue
available to pay current beneficiaries, even though these
proposals would reduce the long-term liabilities of the Social
Security system. This latter group of proposals needs to be
examined to see if the revenues are sufficient during the
transitional period, before liabilities fall.
Second, what assurance does the proposal give retirees that
future benefits are secure? Current beneficiaries
understandably are concerned about the level and certainly of
their future benefits. A criterion for evaluation should be the
degree to which the proposal guarantees a specific real level
of benefits, either as the total benefit or as a minimum. For
example, some reformers propose converting the existing stream
of Social Security benefits into a form of Treasury bond with
an indexed interest payout, so that Congress could not change
future benefits.

Technical Note

The annual rate of return to Social Security is computed by
estimating the lifetime OASI taxes which the average individual
can expect to pay and the lifetime OAS benefits which they can
expect to collect. Each individual is assumed to earn the
average annual age in each year between age 20 and retirement.
They are then assumed to collect the corresponding OAS benefit
in each year between their retirement and the year in which
their life expectancy ends.
The annual rate of return is calculated as for a private
investment plan. OAS taxes are treated as negative cash flows
(i.e. as initial investments) and OAS benefits are treated as
positive cash flows (i.e. the return these investments). The
rate of return is the value of the annual compound interest
rate on the individual's ``initial investments'' through their
working lifetime which will enable them to receive a sum
equivalent to that which they can expect to receive in social
security benefits. For example a 1 percent rate of return means
that an individual will receive back from Social Security an
amount equivalent to that which they would have received had
they invested their OAS taxes and earned a compound annual rate
of 1 percent. A rate of return of minus 1 percent means that
the individual will receive back from the OAS program an amount
equivalent to that which they would have received had they
invested their taxes and say the value of their investment
shrink at a compound rate of 1% per annum. The rates of return
calculated refer to the ``real'' (or post-inflation) rate of
return and are estimated on the basis of inflation-adjusted
1994 dollars.
For the years 1931-94, historical data on wages and OAS tax
schedules from the Social Security Administration's 1996
``Annual Statistical Supplement to the Social Security
Bulletin'' are used to calculate OAS tax payments for the
typical individual. For the post-1994 period, the mid-range
estimates from the 1996 Annual Report of the Board of Trustees
of the OASI, DI and SMI Trust Funds (which represent the Social
Security Administration's ``best guess'' about future economic
and demographic conditions) are used to project future wages,
inflation rates, taxes and life expectancy. The Social Security
Administration's own PEBES computer program, which is identical
to that in use in SSA field offices, is used to calculate the
annual value of OAS retirement benefits. The future OAS tax
schedule is assumed to be equal to that mandated by current
law.

[GRAPHIC] [TIFF OMITTED] T7633.006

[GRAPHIC] [TIFF OMITTED] T7633.007

Chairman Bunning. Dr. Mashaw.

STATEMENT OF JERRY L. MASHAW, PH.D., STERLING PROFESSOR OF LAW,
PROFESSOR OF PUBLIC MANAGEMENT; AND PROFESSOR AT INSTITUTE OF
SOCIAL AND POLICY STUDIES, YALE UNIVERSITY

Mr. Mashaw. Thank you, Mr. Chairman. Let me very briefly
talk about a couple of major points that I think ought to be
considered as we think about the future of Social Security.
I think what we ought to think about primarily is the
important values that Social Security currently serves. The
first is income security for workers against loss of wage
support by death, disability or insufficient wealth to finance
a decent retirement. The second is fairness in the distribution
of benefits and burdens in the overall retirement system, by
which I mean not only Social Security but also the tax
expenditures that go into 401(k) plans, IRAs, mortgage
deductions and the like.
I think the current Social Security system gets fairly high
scores in relation to both of these values. It pools risks of
having relatively low lifetime earnings. We know that it
reduces poverty enormously among the elderly. The average wage
earner actually has a relatively low wage by the standards of
most people sitting in this room. And one third of those paying
FICA taxes have earnings that are $9,000 in 1993 dollars.
So we are talking about protecting a lot of people who
cannot easily bear market risk on their own. Those market risks
include not just being a low-wage earner over your lifetime but
also the market risk of what happens to your savings in an up-
and-down stock market.
Finally, the Social Security system has substantially
higher ratios of payments for lower contributors, offsetting
major benefits to higher wage earners elsewhere.
The proposals to shift the program into a more private-like
market format, do not score very well in relation to these
basic values. They reduce the redistribution that goes on in
the system and, to that extent, they have very serious effects
on low-wage workers or those who might become disabled before
retirement. And second, market risk bearing by low-wage workers
is not a very good idea. They are not able to bear those risks.
The basic idea in privatizing accounts is to attempt to get
the security of mandated savings and, at the same time, the
gains from prudent investment in market accounts. The problem
is that we may not get those values. What we may get is the
insecurity of market risk bearing, combined with resentment of
government regulation of what people can do with something
which is supposed to be their own account.
I am reminded of the story of George Bernard Shaw, who was
approached by an actress who suggested that they get married
because with her good looks and his brains, they would have
wonderful children. He suggested to her, ``Madam, it is just
possible that they would get your brains and my looks.'' That
is the sort of possibility we should be concerned about with
mandated private accounts.
Maintaining a publicly owned and administered system does
not affect ``the moneys worth'' of pensions to individuals.
This is not rocket science. It depends on the amount invested,
the interest rate, and the time at which something is invested,
and the expenses of administering the program. A publicly
financed and publicly managed can be designed to program have
exactly the same returns to retirees as a private one.
We have already talked this morning about the uncertainties
inherent in the net national savings issue. There are certain
things, I think, that are relatively predictable. Some
investment in the equities market, in a public account or in a
private account--it does not matter--will have some positive
impact on net national savings. If everything else stays the
same, smaller amounts of taxes will have to be levied to pay
benefits. Some portion of those taxes not collected will be
consumed; some will be saved. There this will be some small
increase in net national savings.
Beyond that, I think we cannot say anything because the
behavioral effects are too unpredictable.
Let's illustrate this point by recounting a story. Martin
Feldstein, a very distinguished economist, is also well known
for predicting very large dissavings effects from the Social
Security system. Mr. Feldstein premises that funding on the
belief that workers looking at the possibility of getting this
income stream limit the amount of savings they engage in.
I am told that Professor Marty Feldstein, when he was being
confirmed to be chairman of the Council of Economic Advisors,
had to fill out the usual forms. When filling out his financial
forms, he failed to include a large financial asset, his TIAA-
CREF retirement fund.
If Martin Feldstein can forget about his TIAA-CREF
retirement fund when listing his net assets, one wonders how
much workers think about either their Social Security benefits
or the value of their IRAs. I would not predict anything on the
basis of what we know about what workers think. Thank you.
[The prepared statement follows:]

Statement of Jerry L. Mashaw, Ph.D., Sterling Professor of Law,
Professor of Public Management; and Professor at Institute of Social
and Policy Studies, Yale University

Projections of the Social Security system's capacity to
meet future pension obligations suggest two things: First,
there is no crisis. The system is fully financed for the next
three decades. Second, changes are necessary to assure
financial soundness of the system into the indefinite future.
But, if actions are taken relatively quickly, modest
adjustments in tax rates and benefit levels are all that are
necessary. The Trustees' ``best estimate'' of the long-term
``deficit'' pegs it at 2.19% of payroll.
A collection of modest changes, agreed to by most members
of the 1994-96 Advisory Council on Social Security (ACSS),
reduce this projected long-term deficit by half. Expressed as a
% of payroll, these changes produce the following effects:
extend coverage to newly hired State and local
employees (.22%);
CPI corrections already made by the BLS (.31%);
increase the benefit computation period from 35 to
38 years (.28%); and
tax benefits like other defined-benefit pensions
(.31%).
The remaining gap could be closed by a small FICA tax
increase (.55% each on employers and employees).
While these adjustments are not noncontroversial, they are
clearly doable. This leads to an obvious question about the
current debate concerning Social Security pensions. Why are
many people, including some of the ACSS members, suggesting
significant changes in the form of Social Security pensions?
And, what do they and others mean when they suggest that Social
Security should somehow be ``privatized''?
As Congress considers how to adjust the Social Security
program, it is critical to understand what visions of Social
Security's future underlie various proposals and why those
proposals are being offered. To simplify matters I will confine
my remarks to the three proposals recently advanced by the
ACSS.

Varieties of Privatization

The current Social Security system is a ``public system''
in virtually every relevant sense. Public decisions determine
the level of taxation and the benefit structure as well as how
reserve funds are invested. Reserves are invested only in
public bonds (designated Treasury securities). Risks are
publicly borne through universal pooling arrangements.
Ownership of funds prior to payment of retirement benefits is
in public hands, and the relationship of contributors and
beneficiaries to the pension system is governed largely by
public law.
Privatizing Social Security pensions could, therefore, mean
a number of very different things. We might be asking whether
the funding of the Social Security system should include the
investment of Social Security reserves in private markets. We
might be asking, in addition, whether some portion of mandatory
retirement accounts should be individually owned and held at
individual market risk. We might be asking further whether
mandated individual accounts should devolve investment decision
making onto individuals both during the accumulation period and
at the time of distribution.
These are in effect the three very different questions
asked and answered by the proposals of the 1996-97 Advisory
Council on Social Security. It is crucial to recognize that the
ACSS proposals differ because they address different issues,
not because the members disagreed about what method would solve
the long-term finance question. All the proposals solve the
projected, long-term fiscal issues facing the Social Security
system. They are in that sense, fiscally equivalent. The
interesting distinctions among the proposals lie along three
very different dimensions--their political premises, their
effects on workers' retirement security and their effects on
the distributional fairness of our overall retirement security
policies.

Policy Bases for Partial Privatization

The proposal to invest a portion of Social Security
reserves in private equity markets (the so-called ``Maintain
Benefits'' or ``MB'' plan) begins with a political judgment
that something very like the current system is desirable.
Social Security now contains a complex compromise between
pension adequacy (the provision of a base line pension that
provides a reasonable base of income security for the average
worker) and equity (the provision of income security that is
tied to prior contributions). The MB proposal makes virtually
no change in this balance and retains a public promise of a
specified level of support in retirement. The tentative
proposal in the MB plan to invest Social Security reserves
partially in the equities market is addressed to the limited
and straightforward question of how best to finance the current
system over time. It seeks to establish fiscal balance, without
any tax increases for nearly four decades, by harnessing the
returns on a portion of the Social Security Trust Fund's
reserves to the overall productivity of the American economy.
The proposal to create individual retirement accounts asks
and answers two rather different questions. On one view it asks
only a strategic question of how contributions to Social
Security retirement income can be increased in a fashion that
is politically acceptable. From this standpoint the
``Individual Account'' (IA) proposal is committed to the
current system, but believes that its preservation is best
accomplished by an immediate tax increase disguised as an
individually owned retirement account. Because the amount of
the increased contributions are small, and only that increase
is included in the individual account, the alteration of the
current system could be viewed as modest.
On another, and I believe more persuasive, view, the
individual account model makes important political breaks with
past arrangements. We have, after all, never before included
mandated savings in our retirement security system. The
individual account proposal, therefore, seems to imply a belief
(1) that the government should promote retirement security by
regulating the level of private savings for retirement, (2)
that a greater portion of retirement income should be directly
tied to individuals' levels of prior contributions, and (3)
that a substantial portion of workers' Social Security pensions
(ultimately about 30% for an ``average'' worker) should be at
market risk in an ``individually owned'' account.
The Private Security Account (PSA) proposal put forward by
another sub group of the 1994-96 Advisory Council carries some
purposes of the IA proposal much further. By placing roughly
one-half of current Social Security pension contributions (5%
of payroll) in private accounts, the PSA plan would make a
major shift from pooled to individually borne market risk and
simultaneously eliminate much of the redistribution that is
currently built into the Social Security benefit formula. Given
its extremely low guaranteed public pension (410 1996 dollars
per month) the PSA proposal shifts dramatically away from a
public-insurance model guaranteeing adequacy in favor of a
private-investment model emphasizing returns proportional to
contributions.
In addition, the PSA plan has a semi-strong commitment to
individual choice. While the level of personal savings for
retirement is mandated, its investment form and the form of
ultimate distributions are left to PSA owners.
Given this analysis it probably makes sense to think of
only the IA and PSA proposals as ``privatization''
alternatives. The MB proposal maintains the current public
commitment to defined benefit levels and to public management
of all critical aspects of the system. Its only innovation is
in investment policy for public funds, and that innovation is
only tentatively supported.

Evaluating Alternatives: Non-Issues

The critical question for the Congress is how best to think
about these alternatives as it looks at possible changes in the
Social Security system. While it is surely true that the devil
is in the details when considering long-lived and complex
systems, I would urge that Congress not be distracted by
technical projections of the ultimate value of these proposals
to individual beneficiaries (the ``money's worth'' debate) or
by general claims about savings rates or economic growth.
Neither of these matters turn on whether the system remains
public or shifts to partial private ownership.

``Moneysworth''

The value of the system to the average beneficiary (or some
subclasses of beneficiaries) is a function of a small number of
variables: the amount saved, the rate of return on savings net
of administrative cost, and the length of the accumulation
period. Under similar assumptions concerning these variables
returns are completely independent of whether the system is
structured as a system of public accounts or a system of
private accounts. The only possible qualification is that it is
quite difficult to make the administrative costs of private
accounts as low as the administrative costs of the current
Social Security system, even with some investment of public
funds in private markets. Hence, if similar amounts are put
aside at similar gross rates of return for equivalent periods,
a system of public rather than private investment is likely to
have a slight edge in total returns.
Very different moneysworth projections for different groups
can be produced by engaging in within-system transfers. And the
returns to all workers can be changed by using other tax
sources instead of, or in addition to, the payroll tax. But
again these changes are quite independent of the legal form in
which accounts are held, public or private.

National Savings

Shifting from public accounts to private accounts also has
no effect on net national saving. A stylized example will
illustrate this point. Assume that annual government spending
is currently 100 and that the government's revenue sources are
simple: it obtains 90 from general taxation and 10 borrowing
from the Social Security trust funds (which are all held in the
form of Treasury securities). Net private saving elsewhere in
the economy is five. Because the surplus in the Social Security
trust funds are exactly offset by the borrowing of those funds
by the national government, there is zero net public saving.
The net national savings rate--public and private savings
combined--is therefore five.
Assume now that, in accordance with the proposal to invest
Social Security surpluses partially in private equities, next
year the Social Security system invests five in the private
equities market. The national savings accounts will now look
like this: Private savings are 5; Social Security savings
initially are still 10 (although five will now be held in
equities rather than Treasury bonds); and government savings
still equal -10, unless taxing and spending rates elsewhere
have changed. The only difference is that now 5 of the 10
previously borrowed from Social Security reserves must be
borrowed elsewhere. Net national savings remain five.
The theory is that over time Social Security surpluses will
increase by the amount of increased earnings on equity
investments. This will allow taxes to go down, or not to go up,
and some of those taxes not paid by workers will be saved. Net
national savings thus go up by some amount assuming that
government does not have to pay higher interest rates to borrow
non-Social Security funds and increase taxation to pay the
higher interest.
Transferring these same investments into private accounts
has exactly the same effects. Because legal title has shifted
we would now say that ``private saving'' is 10 and Social
Security saving (reserves) is 5. But if general governmental
saving remains -10, net national saving is still 5. The
difference between public investment in private markets and
private investment in private markets is in the accounting, not
the economics. One could get new net national savings from
mandating private savings only if the mandated savings (1) were
not a substitute for saving that was already occurring
elsewhere, and (2) not offset by reductions in prior levels of
individual savings.
Put slightly differently, any changes in net national
savings created by any of the Advisory Council's three plans
would result from increased advance funding of Social Security
obligations, changes in investment vehicles or higher
contribution rates (taxes). None can be attributed to a
difference between holding reserves in public or private
accounts.
Moreover, the increase in national savings predicted for
any of these approaches is premised on controversial economic
assumptions. The public-accounts approach assumes that higher
interest rates for constant levels of government borrowing, or
increased government spending equal to the higher returns on
Social Security reserves, will not eat up the gains from
partial investment of reserves in equities. The private-
accounts approach assumes, in addition, that new IAs or PSAs
funded by contributions equal to 1.6% or 5% of payroll will not
be offset by reductions in savings elsewhere (IRAs, 401k plans,
etc.). The PSA proposal also assumes that massive government
borrowing to fund the transition to the PSA system (equal to
40% of the existing national debt) will not increase the cost
of government borrowing. All approaches assume that substantial
additions of capital to equities markets will not affect
historic average returns in these markets. These assumptions
could hold true. But, then again, they may not. It would
certainly be surprising if all of them were accurate
predictions, rather than merely convenient assumptions.

The Real Questions

Given these uncertainties, the real questions for the
Congress when comparing the proposals now on the table concern
which system best protects the American worker and responds
best to our overall notions of fairness in distribution.
Neither consideration favors ``privatization'' that goes beyond
investment of a portion of Social Security reserves in private
markets.
The basic purpose of the Social Security pension system is
to insulate Americans' retirement income from some aspects of
market risk. These risks are of two quite different sorts. The
first type is the risk of turning out to be a low wage earner
over the course of one's working life, or of having that
working life cut short by disability or death. Should any of
these possibilities materialize, the worker will have much less
capacity to save for retirement or provide for dependents. The
Social Security system's redistributional formula for benefits
ensures that in these eventualities dependents are protected
and retirement income will not turn out to be too awful. The
effects of the current Social Security system in drastically
reducing poverty for beneficiaries attest to the system's
success in accomplishing these goals.
The other type of market risk is the variability of returns
to investments in private markets. This includes differences in
returns given investment choices and the temporal risks that
are inherent in the choice of a retirement age when that choice
is not entirely voluntary. A cursory look at the short and
long-term variation in mutual fund returns and at the erratic
short-term behavior of the stock markets makes plain that
neither of these risks is trivial.
Why would workers want to bear any of these risks
individually if that could be avoided? In a rapidly changing
economy most people feel an increasing loss of control over
their long-term economic circumstances as wage earners. In the
face of these large and perhaps increasing risks, pooling the
risk of turning out to have had a relatively poor, lifetime
earnings history seems prudent.
In addition, workers' other savings are virtually all at
market risk. Why would workers want to trade a guaranteed
public pension return for variable returns in the private
market which, on average, will not dominate public pension
returns (assuming, of course, investment of resources in
instruments having similar yields). Because of overoptimism
some workers might want to make this choice. But because on
average workers simply cannot do better than average--this is
not Lake Wobegon--there seems no reason for public policy to
provide this option.
Substantial privatization of retirement account ownership
would also drastically reduce the adequacy of disability
insurance and survivors insurance benefits. For example, under
the PSA proposal, average-wage workers disabled at age 50 would
lose 25% of the replacement value of their current disability
insurance. Low wage workers would lose proportionately more.
Most workers would find it impossible to replace this insurance
in private markets.
Privatization also carries with it substantial political
risks to retirement security. IA and PSA accounts have been
analogized to IRAs or 401k plans. But, as proposed by the ACSS
Report, they are quite different. Unlike IRAs or 401k plans,
IAs and PSAs are mandatory and yet unavailable for any purpose
other than retirement. This is necessary if these arrangements
are to hope to fulfill--even on average--the retirement income
security purposes of Social Security pensions. But are these
constraints sustainable over time? Can Congress year after year
deny constituents access to their own private accounts for all
manner of worthy purposes--obtaining life-saving medical care,
preventing loss of the family home, avoiding the termination of
childrens' college education, and so on? I, for one, am
doubtful.
Finally, in terms of overall fairness, taking substantial
portions of redistribution out of the Social Security system
through the establishment of individually owned accounts moves
in precisely the wrong direction. Because current income tax
subsidies to retirement savings and the mortgage interest
deduction enormously favor higher wage and higher wealth
individuals, I can see no argument for restructuring the Social
Security system to favor those individuals as well. A greater
move toward tying returns to contributions within the Social
Security system would be justified only if it were coupled with
proposals to reduce or eliminate the tax expenditures that
support the retirement savings of higher wage individuals under
present law. These latter sorts of changes are highly unlikely.
In short, from the perspective of the income security of
individual workers or from the perspective of the overall
fairness of the retirement security system, individual
ownership or individual ownership and management of Social
Security accounts is unattractive.
Should We ``Privatize'' At All? I should add a final word
on the desirability of investing Social Security funds in
private equities markets. This proposal is preferable to
maintaining a straightforward pay-as-you-go system in which tax
rates are raised only as they become necessary to finance
current payments. A pure pay-as-you-go system will put large
burdens on future workers and/or reduce the value of Social
Security pensions for all workers.
However, a complete pay-as-you-go approach is not the only
one available to us. As we have seen, a combination of modest
changes and an immediate small tax increase (1.1%) would do the
job as well. Indeed, the tax increase would be smaller than
those proposed by either the IA (1.6%) or the PSA (1.5%), and
dramatically lower than that included in a privatization
proposal recently put forward by the Committee on Economic
Development (3.0%).
For this and other reasons I believe it was wise for the
plurality of the Advisory Council to suggest merely that
investment in private securities be studied. Not only are there
important institutional questions to be considered, the
secondary and tertiary effects of this approach on other
investments, the total cost of Treasury borrowing, and the
like, are not now well understood.

Chairman Bunning. Eugene Steuerle.

STATEMENT OF C. EUGENE STEUERLE, SENIOR FELLOW, URBAN INSTITUTE

Mr. Steuerle. Thank you, Mr. Chairman.
In the near future, this Subcommittee will inevitably be
required to vote on major legislation to reform Social
Security, and I would like to join others in applauding your
current effort to prepare for this task by developing a
framework to guide your deliberations. Only with a framework
can one assess how to balance many competing objectives and
goals, many of which are valid but compete with each other.
I suggest that your framework include the following: An
historical perspective on the problems that force Social
Security on the table; a set of principles, some process
guidelines, and a more comprehensive measurement system that
emphasizes the lifetime value of benefits and taxes or the
insurance policy, essentially, that you are providing to
individuals. Let me deal very, very briefly with each of these
in order.
From an historical standpoint, in the early fifties
expenditures on retirement, disability and health occupied less
than 10 percent of Federal expenditures. Today they comprise
almost 50 percent, and the number is continually rising. When
the baby boomers begin to retire in the first third of the next
century, the Federal Government could devote almost all its
revenues to retirement and health, to the exclusion of
everything else.
Now, this Nation, I believe, is committed to taking care of
its most disadvantaged citizens, as well as trying to ensure a
basic retirement living for our elderly. The current,
unsustainable growth rate in retirement and health
expenditures, however, in my view is helping to support
disinvestment in our Nation and in our children's future.
Social Security and other government programs for the
elderly and near elderly have several related problems. The one
I would emphasize most is the huge decline in the use of our
human capability and capital, but there is also some reason to
believe that Social Security may reduce societal savings. These
programs also are very inflexible, do a poor job of taking care
of the very old elderly, as opposed to the young elderly, and
they treat second earners in families unfairly.
All these reasons, I believe, give great weight to the
notion that we should begin reform now, rather than later.
Now, it is the automatic growth in cost of the program, not
so much the cost today, that leads to many of these problems. I
would like to emphasize the three primary sources of growth in
Social Security.
First, annual benefits are scheduled to grow forever, in
real terms, for each succeeding generation of cohorts. Second,
we live longer and retire earlier. Most of us now can expect to
live approximately one-third of our adult lives in retirement,
on Social Security.
And, by the way, Mr. Chairman, you asked earlier about the
percentage of people who were primarily relying upon Social
Security. Those numbers you were given did not take into
account Medicare. The percentage would be probably in excess of
80 percent if we asked how many people were primarily reliant
upon Social Security and Medicare for their well being in old
age.
Now, there is a third source of pressure which is not under
our control, and that is changes in birth rates and demographic
patterns. This is a nontrivial change. The reduction in work
force that is scheduled is equivalent, in order of magnitude,
to an increase in the unemployment rate of about 10 percentage
points. That is the type of demographic shift that we are going
to incur soon, and very quickly, when the baby boomers retire.
Dealing with these problems, I believe, can best be done by
reference to some basic principles and to some very important
process guidelines. And again, let me mention a few very
briefly.
I believe, like many, that the basic purpose of a
governmental system of elderly support is to help those in
their last years of life maintain an income level above poverty
and to ensure that they receive some basic level of health
services. But as much as possible, any government system should
distort work, saving and other individual behavior as little as
possible.
Therefore, the first principle in some ways is always going
to conflict with the second one, and there is going to be
certainly conflicts and disagreements among Members as to how
to deal with them. Nonetheless, once the redistributive
function has been accomplished, then government should be
guided as much as possible by the principle of efficiency in
allocating its resources.
There are a couple of budget principles, and I will not go
through all of them again, as they are in my testimony. Among
them I argue that future generations of voters should have the
right to vote over how to spend money and that too much
automatic growth in any problem--Social Security, Medicare,
any--basically takes this right of voting away and violates
budgetary principles.
I have also mentioned a couple of process guidelines,
including the issue of dealing with Social Security and
Medicare reform all in the same boat. To give you only one
example why this is important, if you try to increase, the
premium that individuals have to pay for Medicare, one way to
compensate is to increase moderately the cash benefit given to
low-income Social Security beneficiaries. If you separate the
two programs, you cannot make these types of adjustments.
And finally, as my last point, I would like to recommend
very strongly to this Subcommittee, when it thinks about
measuring what is going on in Social Security, that it look at
the lifetime value of the policy and not simply at the annual
benefit. Remember that Social Security benefits are now
scheduled for an individual to last about 18 years and, for a
couple, to last about 25 years. That is a long time.
Even a low annual benefit, for many, many years of
retirement support, can lead to the type of situation that we
have today, where the lifetime value of a policy in Social
Security for a couple is worth about $\1/4\ million, and
Medicare is worth almost $\1/4\ million more, so that we are
promising about a $\1/2\ million of benefits to couples
retiring today, and that number is going up towards $\3/4\
million in the future.
I would very much encourage you to look at lifetime values
when you are thinking about how to do your reform.
Thank you.
[The prepared statement and attachment follow:]

Statement of C. Eugene Steuerle, Senior Fellow, Urban Institute

Any opinions expresed herein are solely the author's and
should not be attributed to The Urban Institute, its officers
or funders.
Mr. Chairman and members of the Subcommittee:
In the near future this subcommittee inevitably will be
required to vote on major legislation to reform Social
Security. I applaud your current effort to prepare for this
task by developing a framework to guide your deliberations. Too
many policy debates begin with proposed solutions even before
the problems have been fully defined. Only with a framework can
one assess how to balance competing objectives and goals and
gain some sense of how different pieces fit together.
I suggest that your framework include the following
elements: a nonpartisan, historical perspective of the problems
that force Social Security on the table today; a set of
principles that should undergird both current and future Social
Security policy; some process guidelines; and a comprehensive
measurement system that emphasizes the lifetime value of
benefits and taxes under Social Security and other programs for
the elderly and near-elderly. I don't mean to imply that this
framework will lead to unanimous consensus over what should be
done. It can, however, lay out in clearer fashion the benefits
and costs of various actions and remove from consideration
options that fail to address basic problems or that
unnecessarily violate fundamental principles.

The Social Security ``Problem'' in Historical Context

Defining Social Security as a problem in some ways is like
defining a cancer cure as a problem. Unlike crime rates,
educational test scores, or children begetting children, most
of our budgetary problems in the fields of health and
retirement come from gains to society--not from a deterioration
of conditions which may require new resources to redress. This
should warn us that Social Security's budgetary ``problem''
derives more from an excessive set of promises than from new
and unexpected needs.
As has been made quite clear by the trustees of the various
Social Security trust funds, the promises of benefits within
the Old Age, Survivors, and Disability Insurance (OASDI) are
significantly in excess of the payroll taxes and other income
sources available to the trust funds. You have received
testimony on these issues and I will not dwell on them here.
The problems posed by Social Security, however, extend far
beyond mere adequacy of trust fund balances. In the early
1950s, expenditures on retirement, disability, and health
occupied less than 10 percent of federal expenditures. Today
they comprise almost 50 percent, and the number is continually
rising. Social Security by itself is now over one-quarter of
all federal expenditures other than interest on the debt. When
the baby boomers begin to retire in the first third of the next
century, the federal government could devote almost all its
revenues to retirement and health to the exclusion of almost
everything else.
This Nation, I believe, is committed to taking care of its
most disadvantaged citizens, as well as trying to ensure a
basic retirement living for our elderly. Nonetheless, needs
compete for limited resources. We must choose wisely which
additional dollars of resources can best be used to meet which
additional needs. The current unsustainable growth rate in
retirement and health expenditures, in my view, is helping to
support a disinvestment in our nation's and our children's
future. Our current budget, through rules that often operate
automatically, effectively allocates larger shares toward
retirement and health and smaller shares toward educating our
youth, helping children who now have the highest poverty rates
in the population, preventing crime, restoring promise and
order in some of our central cities, or simply allowing
individuals to keep more of their tax dollars. I don't mean to
imply that making other budget choices is easy. We are on a
path, however, that almost no one would choose, not even as a
compromise.
Social Security and other government programs for the
elderly and near-elderly have several related problems that go
beyond their impact on the federal budget:
(1) First, they schedule and set in place a huge decline in
the use of our human capability and capital. By encouraging
longer and longer retirement periods relative to life spans--
the very early withdrawal from the workforce of a large number
of extraordinarily talented people--they reduce enormously the
productive capacity of the nation.
(2) Second, our federal government increasingly favors
consumption. Each year, it devotes larger budget shares toward
higher levels of consumption and more years out of the
workforce, rather than other longer-term objectives.
(3) Third, Social Security and other programs for the near-
elderly and elderly, despite substantial resources, are very
inflexible: they do a poor job taking care of the elderly poor,
typically those who are very old, and they create a large
number of inequities for second earners in families.
(4) Finally, there is good reason to believe that Social
Security may reduce societal saving by (a) reducing the
workforce and, thereby, leaving less societal income from which
to save; (b) making large transfers from younger savers to
older consumers; and (c) displacing some personal saving that
would be made for retirement, although the claims in this last
case are often exaggerated.
Although resolving these problems requires some difficult
and fundamental decisions to be made in the near future, it
does not mean that these decisions need to have a large impact
on the elderly. With adequate forethought and preparation,
reform can still mean that almost all future retirees receive
greater or equal lifetime benefits than those who retired
before them. Benefits generally can be maintained; it is the
growth in benefits foreordained in current law that must be
slowed.

The Basic Sources of Budgetary Pressures

There are a variety of reasons for the past and future
growth in the cost of Social Security. Three dominate. First,
annual benefits are scheduled to grow forever in real terms for
each succeeding cohort of retirees. Second, we live longer and
retire earlier, and most of us can now expect to spend
approximately one-third of our adult lives in retirement,
during which period we will be primarily dependent upon younger
taxpayers for our income and health care support. Without
increasing early and normal retirement ages in Social Security,
the fraction of our lives during which we would receive
government support would rise even more. Third, changes in
birth rates and related demographic patterns now mean that just
around the corner there will be a reduction in the workforce
that is equivalent in its economic impact to an increase in the
unemployment rate of over 10 percentage points.
This last source of pressure is unavoidable. No matter how
we define ``old age''--for example, by a given life
expectancy--the proportion of the population that is closer to
death will soon rise dramatically, with most of the change
occurring during about a twenty year period when the baby
boomers become ``old.'' Needs of the ``old'' will increase
during this period and require adjustments in federal outlays.
The two other sources of pressure, however, could be placed
more under control. Growth in real benefits per person can be
pared, as can the number of years of promised support. After
taking into account earlier retirement, remember that the
typical annuity for an individual now lasts about 18 years and
for a couple about 25 years. Some combination of these changes
alone could bring the Social Security system into budgetary
balance.
The simple fact is that future cohorts of individuals in
their 60s and even early 70s will not be ``old'' by traditional
standards of having short expected life spans. As a whole,
moreover, this age group is already among the richest and most
capable of all age groups, while our societal standard--both
public and private--is to treat them as unproductive and create
incentives to move them out of the workforce.
The pressure put on younger workers is already significant,
with about $1 in $5 of their cash earnings already being
transferred to support federal programs for the elderly and
near elderly, some additional amount going to state and local
programs for the elderly and near-elderly, and the effective
federal tax rate projected almost to double in coming decades
due to a scheduled drop in number of workers to retirees and
the lack of control over health costs.

First Principles

Dealing with these various issues and problems can be done
best, I believe, by reference to basic principles and then
making appropriate trade-offs among them.
Principles of Social Security
The first set of principles relates to the fairness and
efficiency of Social Security itself:
(1) Addressing Fundamental Needs. The basis purpose of a
governmental system of elderly support is to help those in
their last years of life to maintain more than poverty level
income and insure that they receive a basic level of health
services. Social Security's success here has been remarkable
and should not be abandoned wantonly.
(2) Equal Treatment of Equals. All law should promote equal
justice--in the case of Social Security, avoid any arbitrary or
capricious difference in taxes or benefits among those who are
more or less equally situated.
(3) Efficiency. As much as is reasonable, the system should
not distort work, saving, or other individual behavior.
(4) Individual Equity. Individuals have the right to
receive a fair return on their transactions.
The first principle almost inevitably requires some
redistribution in society--from young to old and from rich to
poor--and hence conflicts with the third and fourth principles.
Alternative reform proposals place different emphasis on
different principles. Nonetheless, once the redistributive
function has been accomplished, the government should be guided
as much as possible by the latter principles in allocating its
resources.
In a society providing minimum levels of benefits to
individuals, moreover, each individual carries some
responsibility to avoid relying upon others. If you and I have
equal lifetime incomes, but you save and I spend during our
earning years, then in a simple welfare system you would end up
paying for my retirement, as well as your own. Social
insurance, therefore, carries along with it obligations to pay
as well as rights to receive.

Principles of Budget Policy

A second set of principles applies more broadly to budget
policy, which seeks over time to allocate scarce resources to
the greatest needs and demands of society:
(5) Ownership of Government. Future voters and generations
have a right to some ownership of government and to a say in
how to allocate the additional tax resources that accompany
economic growth.
(6) A Level Budget Playing Field. Different items in a
budget should not arbitrarily be divided into those that grow
rapidly with only minority support and those that decline
unless they can obtain the backing of a supermajority. (By
minority support, I refer to the ability of a majority of one
in either house or a President by himself to block changes
favored by a majority; by supermajority, I refer to the need to
obtain a majority in both houses of Congress and Presidential
approval.)
(7) A Comprehensive Budgetary Perspective. To promote both
equity and efficiency, when different programs have related
goals, they need to be considered as a whole.
These latter issues are often ignored when budgetary
decisions are taken one at a time or put into strict
compartments. In the United States today, as well as much of
the industrial world, programs for health and retirement have
begun to dominate other budget items and are scheduled
automatically to absorb more than all of the revenue growth
that accompanies an expanding economy. The uneven playing field
of the budget--the so-called entitlement problem--means that
over the long-run items such as education and the environment
receive smaller shares of funding so as to support significant
growth in expenditures for retirement and health. Put another
way, our government resources are increasingly and
automatically devoted to consumption in old age relative to
education of our youth, greater crime prevention, a fixing up
of our central cities, and simply getting our youth off the
streets after school and during summers.
Good budget policy, therefore, tries to avoid excessive
promises even if rising incomes in theory make such promises
affordable. Ownership of government is reserved for each future
generation not simply as a matter of right or of justice, but
because we are humble enough to admit that we do not know today
all the circumstances that will arise tomorrow. Perhaps
programs for the elderly should be even larger than anyone
contemplates, maybe taxes will have to be devoted instead to
problems not even anticipated. To lock into law benefit and tax
increases for the future that can only be overturned by a
future supermajority, however, borders on being an act of
distrust in democracy itself.
Any set of proposals for Social Security reform should be
assessed by reference to this type of set of fundamental
principles.

Process Guidelines

In addition to basic principles, it is important that any
reform effort begin with some process guidelines. Let me
suggest three that are important for Social Security.
First, Social Security reform must bring long-run revenues
and expenditures into line and not depend upon perpetual, long-
term, deficit financing within Social Security itself. We
cannot consider our problems solved if we merely reach 75-year
balance of receipts and expenditures, a traditional Social
Security goal. Such a balance implies that after a few years of
surplus in the current period, due largely to the relatively
small birth cohort now retiring, Social Security can run
perpetual deficits that will be financed by the general
taxpayer, who pays for the interest or redemption of principal
of moneys attributed to the trust funds. This is foolhardy.
Long-run expenditures and sources of funds must also be brought
into line.
Second, reform of programs for the elderly, as much as
possible, ought to be considered as an integral whole. There
are very important interactions among Social Security,
Supplemental Security Income (SSI), and Medicare, among others.
For example, if Social Security and Medicare were considered
together, I believe that we would be less likely to continue
the trend toward increasing Medicare benefits relative to cash
benefits. Some worthwhile trade-offs would become more
apparent, such as increasing cash benefits for some poor
elderly in exchange for more tightly controlled Medicare
expenditures. As another example, transfers to the poor through
SSI or Social Security should be integrated.
Third, reform ought to center on long-run structural, not
short-term cash flow, problems. To achieve this goal, reform
should begin as soon as possible. When the baby boomers begin
retiring, the fiscal impact of paying off the many new unfunded
promises made to them hits with a bang. The longer we continue
to delay dealing with Social Security's problems, the more
likely legislation will be centered on cash flow fixes, rather
than long-term reforms. For instance, increasing tax rates or
cutting back on cost-of-living adjustments can add quickly to
trust fund balances. Raising the retirement age, reducing the
rate of growth of unfunded benefits for each new cohort of
retirees, or gradually building up private funds and saving, on
the other hand, occur only gradually over time. One reason for
gradual implementation of the latter reforms is to avoid large
differences in benefits between new retirees from one year to
the next. While the cash flow revisions add quickly to trust
fund balances, they often fail to deal with the issue of how
Social Security should be structurally designed for the long-
term.
Finally, any accounting system should be complete. It
should account not only for what is happening to Social
Security, but to the government budget as a whole, and to
private individuals as taxpayers, recipients, and savers. As
one example, it is important to beware of magic money that
derives from incomplete accounting. Attempts to let government
borrow at a 2 percent real interest rate and then encourage
government accounts or private accounts that supposedly grow at
a stock market rate of, say, 6 percent are misleading, if not
dangerous. Orange County writ large. If government can win by
arbitrage, then someone else is losing. If one really believes
that all government has to do is to arbitrage some money to
solve its long-term problems, then let's simply increase
government borrowing even more and then invest that money, or
force private savers to put money aside, in the stock market!
Magic money is being used by some to argue that hard choices
don't have to be made. That is, it is tempting to promise
continued huge increases in the elderly and near elderly's
share of the national pie simply by having their money grow
faster than the economy--that is, faster than income and
consumption of everyone else. Not only is magic money often
involved, but even if available it doesn't solve many of the
longer term problems associated with the waste of our human
capital or capabilities.

Measuring Lifetime Benefits and Taxes

Social Security reform discussions often start with too
narrow a focus--the value of annual benefits for particular
sets of beneficiaries. While this measure is adequate for some
purposes, a more comprehensive way of viewing Social Security
requires looking beyond annual costs toward the value of
expected lifetime benefits--the amount of money it would take
for households to buy a private insurance policy that provided
equivalent benefits.
With a lifetime perspective, it is easier to view many of
the trade-offs comprehensively. For example, recent debates
over cost of living adjustments have focused on their impact on
annual benefits. If one wants to reduce lifetime benefits by 10
percent, however, it may be better to cut back on benefits of
the young elderly than on the old elderly, who are most
affected by cost of living adjustments.
Lifetime benefits allow one to consider more directly the
choice made between higher annual benefits and more years of
support. For a couple retiring at age 62 today, annuity
payments can be expected to last for one-quarter of a century
on average. That is, because Social Security operates like an
insurance policy with a right of survivorship, the longer
living of the two partners will on average receive 25 years
worth of Social Security benefits. For any lifetime benefit
package, reducing years of expected support allows one to
maintain higher annual benefits.
The combination of real growth in annual benefits, combined
with more years of retirement support, has led over time to a
significant increase in lifetime benefits. For an average-
income one-earner couple retiring at age 65 in 1960, for
instance, total Social Security cash benefits were worth about
$99,000 (in 1993 dollars). Today those benefits cost about
$223,000. In another 25 years, the Social Security pensions of
new retired couples with average incomes will have a value of
about $313,000 (see Table 1). Remember again that one reason
these lifetime costs are this high is that benefits are
scheduled to last for more than two decades.
Until recently, almost all recipients--whether rich or
poor--received more in benefits than they paid in taxes and the
interest they could have earned on those taxes. Those who were
richer, moreover, consistently received transfers (benefits in
excess of taxes) as large, if not larger, than those who were
poorer. To take an example, low-income couples retiring in 1980
paid into the system about $27,000 in taxes and got back
$150,000--a net transfer of $123,000. High-income couples
retiring in that year paid in about $83,000 in taxes, but got
back $316,000--a net transfer of $233,000. Only now and in the
future will that situation gradually begin to reverse itself--
and even then low-income households will sometimes receive
fewer net OASI transfers than those with higher incomes.
When Social Security and Medicare benefits are added
together, an average-income couple retiring today is promised
benefits not far from 1/2 million dollars--growing toward
$800,000 by the year 2030. For some high-income couples
retiring in the future, the value of benefits will approach 1
million dollars.

Conclusion

I have suggested that a framework for reform should give
considerable attention to historical context, principles,
process, and use of comprehensive measures. While a good
framework will not provide any final answers, it will help
focus attention on the main issues at hand and help keep poorly
designed options off the table. If the subcommittee can achieve
those objectives, it will have advanced the Social Security
debate by several stages and have made it much easier to
develop a system that serves the needs of citizens in the next
century.

Table 1
Annual and Lifetime Social Security and Medicare Benefits Average Wage One Earner Couple
1993 dollars
----------------------------------------------------------------------------------------------------------------
Annual Benefits Lifetime Benefits Assuming Survival
--------------------------------------------------------------------------- To Age 65
-------------------------------------
Year Cohort Turns 65 Social Security Medicare Social Security Medicare
----------------------------------------------------------------------------------------------------------------
1995................................ $14,600 $9,600 $237,000 $232,000
2030................................ $20,800 $26,400 $324,000 $497,000
----------------------------------------------------------------------------------------------------------------
Notes: Data are discounted to present value at age 65 using a 2 percent real interest rate. Table assumes
arrival to age 65 and retirement at the OASI Normal Retirement Age.
Source: C. Eugene Steuerle and John Bakija, Retooling Social Security for the 21st Century: Right and Wrong
Approaches to Reform, 1994. Projections based on intermediate assumptions of the 1993 Social Security Board of
Trustees reports, adjusted by the authors for the estimated impact of 1993 enactments.

Chairman Bunning. Thank you. Dr. Myers.

STATEMENT OF ROBERT J. MYERS, LL.D., SILVER SPRING, MARYLAND;
(FORMER CHIEF ACTUARY AND FORMER DEPUTY COMMISSIONER, SOCIAL
SECURITY ADMINISTRATION; AND FORMER EXECUTIVE DIRECTOR,
NATIONAL COMMISSION ON SOCIAL SECURITY REFORM)

Mr. Myers. Thank you, Mr. Chairman. I shall first discuss
the current financial status of the Social Security program as
it is shown in the 1996 trustees report. The 1997 trustees
report was due April 1, but it has not been filed yet. Next, I
will talk about what I consider to be the underlying principles
of the Social Security program. Then, I will describe certain
widespread misconceptions about it. Finally, I will give my
solution to the financing problem that is very likely. My
solution has some of the points of the Advisory Council
proposals but also differs and, in combination, it is quite
different.
As to the long-range financial status, at the end of last
year, the trust funds had a balance of $567 billion. The excess
of annual income over outgo in the next few years will be as
high as $60 billion up to over $100 billion, and eventually the
trust funds will peak at about $3 trillion in 2019 and then
will decrease until being exhausted in the year 2029, according
to the intermediate estimate. I emphasize, according to the
intermediate estimate, because that is not a certainty.
The long-range situation is that there is an actuarial
imbalance of about 2.2 percent of payroll for the 75-year
period. That is a significant figure, but it is not an
overwhelming one.
The situation under the low-cost estimate, which is a valid
estimate, is much more favorable. In fact, there is no
financing problem at all under the low-cost estimate, not only
in the 75-year period, but for all time to come.
One reason the low-cost estimate has a certain validity
these days is because of the possible changes in the CPI that
have been mentioned. If we have a 1.1 percentage less increase
in the CPI each year, two-thirds of the long-range problem
would be solved, and the other one-third could be solved very
easily by relatively minor changes.
As to the underlying principles of the program, it is
compulsory and has almost universal coverage. It provides a
basic economic floor of protection with benefits heavily
weighted for the lower paid people, to take care of the social
adequacy aspects. It should be emphasized that the program is
an economic maintenance program, and not an investment program.
Therefore, in my view, moneys' worth analyses or rate-of-
return analyses on the taxes paid are interesting, but not
really relevant or applicable. This is somewhat similar,
although not as extreme, as school taxes, where the person who
has a big mansion pays many times the school taxes that
somebody who has a modest home does, and even though they have
the same number of children, and thus they each have the same
benefits, one pays much more than the other. Or, in fact, going
even further, people who never have children pay school taxes,
and they get no benefits from them, other than the very broad
national benefit that it is desirable to have an educated
population.
There are certain widespread misconceptions about the
Social Security program. The first is that the system is
certain to be bankrupt soon. As I indicated, this is not at all
certain. Making actuarial estimates for long-range periods of
time is not a precise science, and it is quite possible,
particularly if the CPI is reformed, that this problem will be
greatly deferred.
The second misconception is that there are unbearable costs
over the long run. I don't think that this is true, because any
problem can be solved relatively easily by either small
decreases in benefits and/or increases in contribution rates.
Another misconception is that the trust fund investments
are worthless IOUs. People state this and say that the money
has been spent. Well, in the same way, the money has been spent
for any government bonds or any bonds that are sold by
corporations. Some persons say that the interest is not usable.
Actually, it can be demonstrated that the interest is used
every month.
It is said by some that Social Security is a poor
investment for any purpose. As I have said, that is not the
purpose of Social Security, to be an investment program.
The final misinterpretation is that Chile has the perfect
Social Security system because it is privatized, and we should
do the same. People do not realize the differences between here
and Chile. Chile is financing the huge transition costs through
the fact that they have budget surpluses. We have budget
deficits, and you cannot finance anything with a budget
deficit.
My solution is the time-tested procedure of reducing
benefit costs--by raising the retirement age. I would go up,
not to 67 as under present law, but rather as far as age 70,
very slowly and gradually, by the year 2037. I would increase
tax rates by 0.3 percent each on the employer and the employee
in 2015, 2020, 2025, and 2030. And if this were done, there
would also not be the problem at the end of the valuation
period of benefit costs thereafter greatly exceeding tax
income.
I would also reduce the tax rate that goes to Social
Security in the next 10 or 15 years and transfer that money to
Medicare's Hospital Insurance Trust Fund, because I think the
Social Security trust funds are building up too rapidly.
Finally, I would establish a new, separate, compulsory
individual account program on top of the reformed Social
Security program, to be invested at the choice of the person in
the private sector, but I would exclude very low-paid persons,
for administrative cost reasons, because the administrative
expenses would eat up so much of the contribution.
Thank you, Mr. Chairman.
[The prepared statement follows:]

Statement of Robert J. Myers, LL.D., Silver Spring, Maryland; (Former
Chief Actuary and Former Deputy Commissioner, Social Security
Administration; and Former Executive Director, National Commission on
Social Security Reform)

Mr. Chairman and Members of the Subcommittee: My name is
Robert J. Myers.
I served in various actuarial capacities with the Social
Security Administration and its predecessor agencies during
1934-70, being Chief Actuary for the last 23 of those years. In
1981-82, I was Deputy Commissioner of Social Security, and in
1982-83, I was Executive Director of the National Commission on
Social Security Reform (Greenspan Commission). In 1994, I was a
member of the Commission on the Social Security ``Notch''
issue.
In this testimony, I will first analyze the current
financial status of the Social Security program (Old-Age,
Survivors, and Disability Insurance, or OASDI), and I will then
describe its basic underlying principles. Next, I will discuss
some of the misconceptions of these principles, which
misconceptions lead some persons to recommending that the
program should be radically changed by either wholly or
partially privatizing it. I shall not analyze or criticize
these various proposals, but I will briefly give my views as to
what changes should desirably be made.

Current Financial Status of the OASDI Program

At the beginning of this year, the assets of the OASDI
Trust Funds amounted to $567 billion. Virtually all was
invested in federal obligations that are part of the National
Debt, redeemable at par on demand (plus accrued interest). The
interest rate on these securities when they are issued, as set
by law, is the average market interest rate on all federal
bonds having a maturity date of at least 4 years in the future.
The rate on such securities issued in 1996 varied from 5.875%
to 7.0%.
Under the intermediate-cost estimate in the 1996 Trustees
Report, the trust-fund balance will grow steadily--by as much
as $125 billion per year in the early 2000s--reaching a peak of
$2.9 trillion in 2018 and 2019. Thereafter, if present law is
not changed (which, I believe that it most certainly will), the
balance will decrease and become exhausted in 2029.
Another way to look at the financial status of OASDI is to
consider the estimated actuarial imbalance over the next 75
years. According to the intermediate-cost estimate, this is
2.2% of payroll, meaning that the employer and employee tax
rate would each have to be immediately increased by 1.1
percentage points in order that outgo would be fully financed
by income over the next 75 years. An increase of such small
magnitude would hardly be ``unbearable'' to preserve what is
generally considered such a valuable program. The drawback
would be that extremely large fund balances would be built up
in the next four decades and then torn down, which would create
almost untenable problems during both periods.
Such a financing problem would not occur under the low-cost
estimate, but would, of course, be worse under the high-cost
estimate. The assumptions used in the low-cost estimate are
reasonable, although it is not likely that the actual
experience will follow all of them. Fiscal prudence dictates
that remedial action should be taken soon, although any changes
should be made first effective many years hence, when it is
clear that there really is a long-range problem; if it turns
out that there really is no problem, then the changes can be
repealed or lessened.
The future outlook as to one assumption is currently very
favorable--namely, the annual increase in the Consumer Price
Index. Many persons believe that this is overstated and that,
accordingly, the CPI should be drastically revised. One
widespread view is that such overstatement is about 1.1
percentage points per year. If such is the case for this one
factor, the long-range deficit under the intermediate-cost
estimate would be reduced by two-thirds, and the point of
exhaustion of the fund balance would be deferred until the
2050s. Any program changes needed to close the gap would be
relatively small.

Underlying Principles of the OASDI Program

Over the years, the OASDI program has generally been
considered to have the basic purpose of being an income
maintenance program that provides a basic economic floor of
protection in the event of disability and old-age retirement or
in the event of death of the breadwinner. It is intended to be
almost completely financed by contributions (taxes) from
workers and employers and from a portion of the income taxes
that are levied on Social Security benefits. It is not intended
that the benefits of each worker are to be completely financed
by her or his own contributions and those on her or his behalf
by the employer. Rather, it may properly be said that the
worker contributes toward her or his own benefits, but does not
actuarially ``purchase'' them.
Although the employer contributions are, in the aggregate,
part of employee remuneration, they are not individually
assignable as a property right to each employee. Rather, they
should be viewed as pooled for the program's general purposes--
to meet the cost of the benefits for high-cost groups, such as
those who were near retirement age when the program began, low-
earning workers, and workers with qualifying family members.
This practice is generally followed in benefit plans of private
employers. One such example is when an employer adopts a
maternity-benefits plan for the female workers, instead of
giving all workers a wage increase; the male workers have not
been inequitably treated, even though they will receive no
benefits.
On the other hand, OASDI is not intended to be an
investment program, under which all covered individuals get
their money's worth in protection, no more and no less. To put
it another way, each person does not get the same--presumably,
high--internal rate of return on her or his taxes.
Similarly, school taxes should not be considered as an
investment program (except, broadly, from the standpoint of the
nation as a whole). The owner of an expensive house pays many
times the school taxes as the owner of a modest one with the
same family composition, but yet receives only the same
education-benefit protection. Also, the person who never has
children obviously does not get her or his money's worth. Nor
can people cease paying school taxes when all their children
become adults.
Those who retired in the early years of operation of OASDI
received large ``actuarial bargains'' because their total taxes
were relatively small, but they frequently supported their aged
parents, because they did not qualify for Social Security
benefits. On the other hand, current workers, who pay
relatively high OASDI contributions, rarely do so.

Misconceptions of the Underlying Principles of OASDI

In recent years, several misconceptions about the
underlying principles of the OASDI program have emerged. These
have resulted in greatly reduced confidence as to its long-term
viability, as well as growing demands for its dilution (or even
elimination) through so-called privatization.

(1) ``Certain to become bankrupt soon.''

As discussed previously, the intermediate-cost estimate
shows that the trust-fund balance will peak in 2019 and become
exhausted in 2029. Some individuals note that payroll-tax
income will fall short of meeting outgo in 2012 and
subsequently; this is not of significance, because interest
income is also available, both before and after 2012. All these
points in time are cited as evidence of certain near-future
bankruptcy.

(2) ``Unbearable cost over the long range.''

Some persons assert that the cost of OASDI will ultimately
(in 50-75 years) be as much as 40-55 percent of payroll--and
thus obviously unbearable. Such a cost includes the employer
payroll tax and the cost of the Hospital Insurance program
(and, sometimes, the cost of the Supplementary Medical
Insurance program expressed as a percentage of taxable payroll,
even though it is not financed in that way), and is based on
the high-cost estimate. Under this basis, there quite naturally
would be a huge long-range actuarial imbalance; this would
undoubtedly be rectified well in advance by changes in benefits
and financing.
Further, some critics assert that very large budget
deficits and increases in the National Debt will result. They
do not note that, in the past, the OASDI program, due to its
self-supporting nature, has not contributed at all to the
general budget deficits (and, if anything, has hidden them) or
the increase in the National Debt. As long as this principle is
maintained by appropriate changes in the benefit structure and
the financing, the OASDIprogram never will have such an effect.

(3) ``The trust-fund investments are worthless IOUs.''

Some persons assert that the government securities in the
trust funds are valueless, because they are nonmarketable
``IOUs,'' and that, moreover, the government ``has already
spent the money on many different things.'' Just as bonds
issued by a private company or a deposit in a savings bank, the
money involved--although having been spent, for the purpose
that the bond was issued or in the way that the bank lends its
deposits--represents a valid interest-bearing debt. The
characteristic of being redeemable at any time--the same as the
Series E government bonds widely sold to the general public--
is, at times, more advantageous than being marketable (and, at
other times, the reverse).

(4) ``The interest on the trust-fund investments is not
usable.''

Critics often say that the interest on the trust-fund
securities is never usable. They assert that, during the next
decade or so, when the income from payroll taxes exceeds outgo,
the interest is not used, but rather is merely put into more
``worthless IOUs.'' Further, after that time, they argue that
new taxes or borrowing will be needed to pay such interest.
However, they do not consider that, if the trust funds had not
had the money available to purchase these securities, then the
general public would have done so--and the same interest
payments would have been made.
Because the Treasury checks for the periodic interest
payments are mingled with the payroll taxes paid by employers,
it is usually impossible to determine which of these two
sources of income are used to meet outgo and which are left
over to purchase government securities. One instance, however,
is quite clear. Like any good money manager, the trust funds
invest daily any excess of income over outgo. Then, at the
beginning of each month when about $30 billion of cash is
needed to pay benefits, existing investments are redeemed.
However, somewhat less than $30 billion of securities is
redeemed, because the accrued interest on the redemptions makes
up the difference.

(5) ``Chile has the perfect social security program.''

Many critics of the OASDI program who propose cutting it
back by partially privatizing it (or even eliminating it by
full privatization) assert that Chile has been a great success
in its replacement of a floundering traditional social
insurance system in the early 1980s by a fully privatized
program. The new Chilean program has been reasonably
successful, but it was not the only solution that could have
been adopted, and it is by no means ``perfect.''
Furthermore, conditions in Chile were relatively quite
different than in other countries, so that what worked out well
there would not necessarily do so elsewhere. Chile had large
budget surpluses that were used to finance the emerging
transition costs (prior-service credits) and the generous
minimum-benefit provisions; such financing may be a serious
problem over the long range. On the other hand, other countries
generally have budget deficits and so cannot follow this course
of action. Chilean government bonds are price-indexed and, in
the past, bore double-digit coupon rates. So, it is not
surprising that the pension companies, with about 40 percent of
their assets so invested (and with their holdings in private
bonds and bank deposits necessarily having to be competitive as
to investment returns), have shown very successful investment
experience.
Still further, coverage compliance is poor (although
greatly improved over the old system). The administrative
expenses of the retirement-benefits portion of the system are
relatively high--about 13 percent of contribution income (as
compared with less than 1 percent for OASDI).

(6) ``OASDI is a Ponzi, chain-letter, or pyramid scheme.''

Some critics of the OASDI program assert that it is a hoax
and lie, because it is a Ponzi, chain-letter, or pyramid
scheme, which of its very nature will inevitably ultimately
collapse. Under those three types of plans, operations can
continue over long periods only if there is a continuing
geometrically-increasing number of contributors each year--an
impossibility, of course.
The OASDI program is quite different. All that it requires
for long-range financial stability is that the ratio of
contributors (active workers) to beneficiaries will ultimately
stabilize at a reasonable level. That result will be achieved,
almost certainly, under normal demographic conditions. At
worst, it can be accomplished through appropriate deferred,
gradual increases in the ``full benefits'' retirement age (now
65 and scheduled to rise to 67 in 2027), so as to recognize
increasing longevity over time.

(7) ``OASDI is a poor investment for many persons.''

Many individuals--particularly young, high-paid ones--
complain that OASDI is a poor investment and that, even if the
program is viable over the long range, they do not get their
``money's-worth'' in benefits from the payroll taxes paid by
them and their employers. This represents a gross
misunderstanding of the basic purpose of the program, as
discussed earlier.
If people are allowed to opt out of OASDI and make their
own investments to take care of their retirement, it is true
that many would be successful--although others would not. Due
to the ``actuarial law'' of anti-selection, the relative cost
of the program for those remaining in it would rise, and there
would be increased public-assistance costs with respect to
those who opted out and failed to make good investments. Such
costs would have to be met by society as a whole and would
largely fall on those who believed that they had
``successfully'' opted out to their own financial advantage.

My Solution to Financing Problem of OASDI

I would solve the problem by the traditional, time-tested
way of combining, more or less equally, benefit-cost reductions
and tax-revenue increases--all done in a deferred, gradual
manner, although enacted into law now.
The ``full-benefits retirement age'' should be increased to
70 in 2037, and the employer and employee tax rates should be
raised by 0.3 percent each in 2015 and then again in 2020,
2025, and 2030, making a total increase of 1.2 percent each.
Although in some quarters, a proposal to increase taxes is
virtually equivalent to blasphemy and advocating economic
collapse, I do not believe that such small intermittent
increases (even if the employer passes them on to workers
through lower periodic wage increases) would be harmful under
the likely future circumstances of slow, continuous growth in
real wages that will almost certainly occur over the long run.
This package of changes would definitely restore the long-range
actuarial balance of the OASDI program, under the intermediate-
cost estimate.
If the correction in the method of computing the CPI were
as large as some experts recommend, the changes could be much
less, possibly confined only to raising the full-benefits
retirement age (and then not to as great an extent).
Also, I believe that the OASDI-Hospital Insurance taxes for
1997-2009 should be reallocated so that the total OASDI taxes
are reduced by reducing employer and employee rates by 0.6
percent each, and those amounts are then transferred to the HI
Trust Fund. This has a double advantage--(1) the excessive
growth of the OASDI Trust Funds is reduced, and yet the fund
balances are ample and (2) the HI Trust Fund will be in a
satisfactory cash-flow position for at least a decade, and
there will be sufficient time to work out a long-range
solution. At the same time, the total taxes paid by employers
and workers will remain unchanged, and there will be no effect
on the general budget deficit or the National Debt.
Finally, I favor the adoption of a compulsory individual-
savings-account plan to supplement a reformed, fiscally sound
OASDI program. This would involve an additional employee
contribution rate of, say, 2 percent. Such amount would be
directed, at each individual's choice, to an appropriate,
government-regulated private organization, such as a mutual
fund, insurance company, or bank. The only exception would be
that persons with low total earnings (say, under $5,000 per
quarter) would be exempt, by having the contributions refunded,
because the small amounts involved could not be handled in a
cost-effective manner.

Chairman Bunning. Thank you all for your testimony. I want
to ask one basic question of all of you and then I will ask
some individual questions.
Of the four of you here, how many think that we should
address sooner, rather than later, what is considered a problem
with Social Security's long-term solvency? Dr. Myers actually
does not believe that we have a problem.
Mr. Myers. No, I say we may not have a problem.
Chairman Bunning. I know. Let the other three handle this
one and we will get back to you.
Mr. Myers. Excuse me, Mr. Chairman. I would be in favor of
addressing it now, with the action to be deferred until later.
Chairman Bunning. OK. Go ahead, Dr. Butler.
Mr. Butler. I think it is clear that we should be
addressing it now. Much of my work, besides this area, is on
Medicare, where I think we are seeing the results of not
addressing a problem very early. We now have very limited
solutions, which are very unattractive for Congress.
I think clearly the more rapidly we deal with this, the
better. We also have a baby boom generation that is of an age
now where it might contemplate some structural reforms. I
suspect, when that baby boom generation starts getting 60 to
65, your options for making reforms will become dramatically
lower. So the sooner, the better.
Chairman Bunning. Dr. Mashaw.
Mr. Mashaw. I agree with Stuart. I think we should act
soon. I think that the political difficulty is there is no
current crisis.
Chairman Bunning. We understand that. That is always the
way we act in the Congress.
Mr. Mashaw. And in the absence of a crisis it is difficult.
Stimulating a crisis in order to get action may produce action
which one does not want to take.
Chairman Bunning. No, we do not want to stimulate the
problem. It is enough of a problem as it is.
Mr. Steuerle. Mr. Bunning, I think sooner is clearly the
right answer, but let me indicate that one of the reasons is a
technical one having to do with drafting.
Let's suppose you really want to achieve a long-term
solution, such as increasing the retirement age. The only way
really to do that is to do it gradually over time, increase the
retirement age 1 or 2 months per year every year, so that
gradually we implement a higher retirement age.
If you wait until something like 2010, we cannot go to
people and says, ``Whoops, we are out of balance by 25 percent;
we are going to increase the retirement age. For people who
retire today, the retirement age it is going to be 65; for
people who retire tomorrow, it is going to be 70.'' It just
does not make sense.
Chairman Bunning. We have a window of opportunity within
the next, I would say, 7 or 8 years to do this properly.
One of the things that I question you all about is that
people under 40 have more confidence that there are UFOs than
they do that Social Security will be available for them when
they come to retirement age.
How do you overcome that without a fix that assures them
their benefits will be there? They don't feel they own any part
of their contributions to Social Security right now. Any of you
may answer.
Mr. Butler. I have no position on UFOs or the feasibility
of them exactly but--
Chairman Bunning. I don't, either.
Mr. Butler. I think there is both a concern and an
opportunity in what you say. The current concern is, of course,
a lack of knowledge about what the situation really is. I think
that is one important reason for getting better information,
including rate of return information, for those individuals so
that they can actually see the picture.
I think there is an opportunity in the sense that we could
consider some changes now in the system that would not have an
effect on beneficiaries for many years. This would be quite
acceptable to young people who do not think they are going to
get much anyway out of the system. So they are very inclined to
look at changes in the system that might, in fact, reduce what
they do not think they are going to get anyway, and therefore
you have a political opportunity there.
Chairman Bunning. But still and all, they are paying their
FICA tax, so they would like to see some of their contributions
where they can put their hands on it, rather than the
Government doing it.
Mr. Butler. Oh, I agree.
Chairman Bunning. You have to overcome that.
Mr. Butler. Yes, indeed, and I agree we should try to
accomplish their objective. But I think that in the time being,
they think largely of FICA tax as another tax that just goes to
the Government.
Chairman Bunning. That's 15 percent off the top.
Mr. Butler. Yes, I know. It is a heavy tax.
Chairman Bunning. Roughly 7.5 from employer and 7.5 from
employee.
Mr. Butler. But to the extent that people feel that way----
Chairman Bunning. Their employer could give them another
7.5 percent.
Mr. Butler. But to the extent they feel that way, I think
it means that it opens up options for making changes that would
be acceptable to them, even under----
Chairman Bunning. If we do it sooner, rather than later.
Mr. Butler. Exactly.
Mr. Mashaw. Just two points. I think first of all, one
should look not only at public opinion polls here but also at
behavior. When younger workers are told that their retirement
benefits are being figured by taking into account the
expectation that they will be paid Social Security benefits,
they are not telling their employers that they have to put more
into their retirement savings plan, because the Social Security
is not going to be there. So there is some divergence between
behavior and reported opinion.
And second, it seems to me that one has to also consider,
when one is thinking about public opinion about the security of
the funds, what is going to happen to the funds if they are in
private accounts, as against public accounts? We may have one
problem now. Retirement funds are in public accounts and the
Government can do what it wants with them. That may make people
insecure.
The alternative problem is to say to people that the funds
are theirs, they own it. But they cannot do anything with it
except hold it till retirement. What if they need life-saving
medical treatment; they need money to keep their kids in
school; they need money in order not to default on their home
mortgage, and so on. The Congress has responded to those sorts
of claims with respect to IRAs recently. It is very hard to see
that similar diversions could be resisted over time in private
retirement accounts. So we have a retirement security problem
there, as well.
Chairman Bunning. OK.
Mr. Steuerle. Mr. Chairman, I talk to a lot of groups
around the country and actually, I find that not only are most
young people willing to reform Social Security but I think most
old people are also. I think they recognize it is a problem.
They do not trust necessarily the people who are going to make
the decisions all the time, but they recognize there is a
problem and if they thought that reform was really being done
in an impartial way, they would accept it.
I think one of the biggest problems for young people, as I
tried to mention, is that as long as you have this automatic
growth in the budget that is so great--this is more of a budget
issue than just purely a Social Security issue or a Medicare
issue--as long as so much growth is automatic and all the
revenues that government gets every year are spent because they
are due to legislation we enacted in the past, I think younger
voters and generations feel like they do not own government,
that they have no real say over it.
I know a number of Members of Congress who resigned on that
basis, that ``we'' are not deciding anything, because
everything is decided already by this automatic growth, and we
are just basically in there trying to constantly cut the
deficit and cut back on the promises.
The system as a whole has to be brought to the point where
it is clear that the promises can be met. We might debate about
what those promises should be and how we might change them over
time, but if we get to a system where it is clear that the
promises that are made can be met, I think young people would
be much more likely to trust in government than they do today.
Chairman Bunning. Dr. Myers.
Mr. Myers. Mr. Chairman, as to restoring confidence of
young people that there will be some system, I think the answer
to that is the question you raised previously. Reform the
system now, even though the changes might be deferred off into
the future, and if people are told that according to the best
professional judgment, the system is viable and will be there,
I think that confidence will be restored.
I believe that young people do feel that way, that only 25
percent or so believe that the system will be there. I can
understand why they think that. I think they are wrong. But as
to the UFO question, I think really it is the old story: Ask a
silly question and you get a silly answer.
Chairman Bunning. OK. Go ahead.
Mr. Christensen. On that, I will tell you, Mr. Myers, you
have not been in high schools recently, then, because the best
thing that I have had the opportunity to do is travel to high
schools. We talk about it with the seniors, juniors and
sophomores, and I ask how many of them work and nearly every
hand goes up. The number one issue that we talk about is Social
Security.
If you haven't done this, I would encourage you to spend
less time in Washington and spend more time going to the high
schools and talking to the kids that are out there, that are
frustrated and fed up with what is going on and totally lacking
in any kind of feeling of ability to change the system.
Most of them are seeing 35 to 40 percent of their biweekly
money just going in taxes and they know they are not going to
see any money returned. It is very frustrating.
And then to hear you talk about, well, we ought to frankly
raise the tax another 0.3 percent on both the employer and the
employee, that is no solution at all. I see that as a total
absence of any kind of positive answer to the solution.
I would like to hear the other three gentlemen's position
on Dr. Myers' statement that says that we should not look at
this as an investment and that this is purely a social issue.
Mr. Butler. I think it is a mix of both and should be seen
as such. And just to take the analogy of Dr. Myers' about
school taxes, people are concerned about school taxes and
education in two ways. If they have children, they are
concerned about the education of those children who belong to
them. But also, if they do not have children, they are looking
at education in general in the United States and what that
means in terms of our productivity and our situation. They are
concerned about whether their taxes are, in fact, paying for
good education.
We need to be looking at Social Security in roughly the
same way. It is a mixture of a system which is intended to
transfer income and wealth--that is fine--and it is one to
allow people to get income retirement security. And both of
those have to be looked at.
The concern for so many people today, such as younger
workers, and particularly male minority workers, is that while
there may be redistribution, sometimes it is not even in their
interest and second, that when they are looking at getting
retirement income, the taxes are such that they do not have
other discretionary income to put aside to supplement Social
Security, and that is a real concern for those individuals.
So we have to do both with Social Security. Social Security
is both an income redistribution guaranteed income system but
also a means of people to save and to put money aside for their
retirement. And the problem today is that that second element
is failing a lot of people.
Mr. Christensen. Dr. Butler, you and I have talked about
this before, about trying to get information to these young
people. One way is looking at through the Internet so that they
can pull up information to find out exactly where they stand,
as an 18-year-old or a 17-year-old, in terms of when they are
65, how much is built up in their account, just seeing the kind
of return. Dr. Myers does not believe that the rate of return
matters. How do you feel about this issue?
Mr. Butler. Well, I think that, as I said in my statement,
that there ought to be a rate of return estimate for people to
take into account. I am not saying it is the only factor that
should be taken into account, but people ought to know that so
that when they make decisions about their workforce
participation, or the degree to which they are working, or
whether their spouse enters the workforce, they at least have
the information about what rate of return is available to them,
to compare with alternatives.
And that, I believe, should be the case with any opt-out
personal savings approach in this country. The same requirement
should be placed on those plans, too, so that people can make
comparisons. I think it is almost self evident that we should
be doing this.
Mr. Christensen. Dr. Mashaw.
Mr. Mashaw. Stuart and I do not disagree about this. It is
a very complicated system. To look at either its tax and
redistribution aspects or its pure investment aspects
separately, it seems to me, makes no sense. How you communicate
to people what the mix is and how they ought to think about
this is a much more difficult problem.
I think looking at it in either way individually simply
misleads people about what this system is about. It is ensuring
against many things, including not having your parents live
with you in old age and not having to live with your children
in old age and not having to pay increased taxes for those
people who have been improvident and do not save for their old
age.
So it is a very complicated thing to get across.
Mr. Christensen. And not to be totally negative toward you,
Mr. Myers, but I do agree with you on some of the points about
the retirement age. We are living longer. We need to look at
that. I would applaud your efforts in that area.
Mr. Myers. Thank you. Mr. Christensen, I might say that I
have not talked to high school students. I do get outside the
beltway, and I frequently talk to college students. Immodestly,
I might say that I can generally convince them that the system
is going to be there if it is modified in reasonable ways.
When I talk about raising the retirement age and they say,
``Oh, but look, we are going to have to work until 70 and you
guys could quit at 65,'' I point out, ``Look at the lifetime
aspect of it, that you will probably live longer at 70 than
people do today at 65.'' Then they see that point.
So if you educate the younger people, have discussions with
them, place all the facts before them, I think that they may
come to a different conclusion.
Mr. Christensen. And I know that you have spent a lot of
time in this area, Dr. Myers, and I do appreciate your work.
I guess I am out of time.
Chairman Bunning. Mac.
Mr. Collins. Thank you, Mr. Chairman.
Mr. Christensen makes a very good point about talking to
young people. That is one of the main things that comes up when
I speak to a young group, whether it be high school or college,
whether it be in Georgia or they are visiting here in
Washington. And it is hard to convince them that Social
Security is an investment. It is a mandatory deduction from
their paychecks. They have no choice as to whether it comes
out. They have no choice as to where it goes and they have no
choice as to whether someone else uses or borrows those funds
to keep a government running that is running at a deficit.
So it is not a bright future as far as trying to convince
people that this is an investment process, because they do not
see it that way.
And another interesting thing is when you ask the same
question that Mr. Christensen talked about--``How many of you
young people work?''--a lot of those high school students will
raise their hand. You ask them what was their reaction to the
first paycheck they drew, they just kind of draw up and frown
and they say, ``Well, the first thing I did was go ask Momma,
is this right? This is not fair. Look what they took out of my
check. I earned this much and I only get this much. Something's
not right about this system.''
So it is a very difficult challenge, and I do my best to
convince them that it is going to be there because, as I tell
them, as I told the President when he was in Georgia 2 years
ago about this same time, that Social Security is my old age
pension. I am going to say it again, Mr. President. Social
Security is my old age pension because I turned down the
congressional pension. My small business does not have a
pension. I have an IRA and Social Security is my old age
pension. His response was, ``I find your background very
interesting.'' Well, I wanted to say, ``I find yours very
interesting, too,'' but I did not go that far.
But there is a statement to be made there. Social Security
is all of our old age pension because it is mandatory. It is
not an investment. It is a mandatory deduction from our
paychecks. It is very hard to convince these young people that
it is going to be there. It is very hard to convince seniors
today that it is not going to be reduced and not going to be
cut.
My question to you: What is your opinion on CPI? Mr. Myers.
Mr. Myers. I usually have a very strong opinion on almost
any subject dealing with Social Security, but as to the CPI, I
am rather ambivalent because the CPI, unfortunately, is not a
very precise thing. What is the proper CPI for one group of
people may not be for another group. For people over 65, a
certain market basket might be right. For young survivors,
another might be. It is just not a very precise matter.
I think that the CPI as it is now probably overstates
inflation, but I would not want to venture a guess whether it
ought to be 1.1 or not. But I do look at the other side of the
coin--that if the overstatement were 1.1 percent, it would
certainly help the long-range financing of the program when it
was corrected.
Mr. Collins. That is good, in a much less lengthy answer.
Mr. Steuerle. CPI is an interesting issue, among other
reasons, because its principal long-run effect, if you cut back
on the CPI, is to increase income tax rates. That is because
the income tax is CPI adjusted, whereas Social Security
actually has a wage index that is not affected by changes in
the CPI.
The initial level of benefits in Social Security is not
changed at all by changing the CPI. When you cut back on the
CPI, you mainly affect the oldest of the elderly, cut back on
their benefits.
Mr. Collins. Mr. Mashaw.
Mr. Steuerle. Bottom line, as a technical matter, however,
what Congress could do is cut back on the CPI by a modest
amount, fully fund the BLS and count on them to do----
Mr. Collins. Quickly, Mr. Mashaw, and then I want to get to
Mr. Butler and then I have an opinion.
Mr. Mashaw. I have exactly the same belief, that there is a
correct CPI, as that I will be abducted by a UFO. [Laughter.]
Mr. Collins. Mr. Butler.
Mr. Butler. I believe that if we say to retirees, we will
adjust your benefits according to your actual cost of living,
that should be as accurate as we can possibly do. Therefore, I
think we should be looking at ways to make that more accurate.
I do not think anybody would dispute the fact that if we
people were saying the CPI is too low and that benefits should
be adjusted upwards to take that into account, there is no
question in my mind that Congress would be acting right now to
adjust benefits.
Mr. Collins. The point is that people do not know what CPI
means. This goes back to Mr. Myers. When you try to discuss CPI
with seniors, the only thing they know is that every year their
checks are adjusted to the cost of living, the increase in what
it costs to buy products at the grocery store. They do know,
too, that those products increase because they got an increase.
But it confuses people when you talk about CPI and that is
the reason that I think we ought to stay with the terminology
``the cost of living increase.'' And if there is going to be an
adjustment, put everybody in the starting gate at the same time
and address it according to the cost of living. Forget this
language of CPI. It confuses people. They do not know what you
are talking about, and they are afraid you are trying to
hoodwink them.
Thank you, Mr. Chairman.
Chairman Bunning. Thanks, Mac.
Congress has never adjusted the CPI, ever. The Bureau of
Labor Statistics in the administration has always adjusted the
CPI. So you are telling us, in your opinion, that Congress
should address the CPI? Is that your personal opinion? Or do
you think that it should be handled by the administration?
Mr. Steuerle. I think, in terms of the CPI index, it has to
be done by a technical staff. Part of the problem with the CPI
is it is not a cost of living index, which everyone throughout
the spectrum admits, from people who don't want to adjust to
people who do want to adjust.
What Congress can do, as I think Mr. Collins suggested, if
they want to--I don't think you can go very far because nobody
knows what the right number--is to set a reasonable cost of
living adjustment as the CPI minus 0.02 or 0.03. I do not think
you can cut to the full extent which some people are asking
because some of the adjustments they are asking BLS to do, and
you----
Chairman Bunning. No one in the Congress knows what is
included in the CPI, and everything that determines the CPI, so
we would be acting in complete ignorance if we tried to adjust
it.
We had a group of supposed experts on the Boskin Commission
telling us that 1.1 percent would be their suggestion. We had
the Chairman of the Federal Reserve telling us it is anywhere
between 0.5 percent and 1.5 percent, and he has a lot more
statistical data than anybody in the Congress.
But the fact of the matter is that CPI issues should not be
a consideration in what we are doing here, in trying to look at
the long-range solvency of Social Security. The Bureau of Labor
Statistics takes into consideration those things that effect
the CPI.
Let me just get back to Dr. Butler for a second. I was
pleased to see your comments regarding the personal income and
benefit statements. I think that is a very big educational
tool, as you do. I am going to give you an example, because my
father used to track this when he was alive.
When he retired in 1970, he came to me and said, ``Jim, I
have put $3,200 into the Social Security system.'' Each year he
tracked what he got back. When he died in 1992, he had received
over $210,000 in return. Now, that is someone who started
contributing at the beginning of the Social Security system,
not after 1951.
So it is more of an educational tool. The sooner SSA can
distribute--not on the Internet--but written statements to
those who are about to receive or who already receive their
benefits, the sooner they realize how much they've paid into
the Social Security system and how much they are or will
receive back.
People need to realize that Social Security was not
designed as an investment insurance program, but it is a pay-
as-you-go system. It is unlikely that an investment of $3,200
could have grown to $210,000 in a lifetime, because of the
small increments that my father paid in.
So I happen to agree that if we could get that statement
into every Social Security recipient's hands, it would be an
important educational tool.
It would be beneficial if we could update the statement
annually for those people that are currently paying into the
system. People do not know that 15 percent goes in off the top
from the employer and the employee. That is a substantial
amount, even if you are in a very low income bracket. And the
sooner we can get that information out to the general public,
especially those young people who John Christensen talked
about, the better off we are going to be.
Is there anything else that any of you would like to bring
forth? We have your written testimony.
Mr. Mashaw. Could I comment on your last statement, Mr.
Chairman?
Chairman Bunning. Surely.
Mr. Mashaw. I think it is very important to get the
information out. I think it is very important to get full
disclosure out. That is, I think those statements ought also to
reveal that Social Security is providing more survivors
insurance, life insurance, than is written by private companies
in the United States. I think, if we can estimate it, that the
current value of the disability insurance that is being
provided, also, ought to be there, so that people can really
get a good idea of what is in this package and----
Chairman Bunning. Well, the total, overall package.
Mr. Mashaw. Yes, and its elements.
Chairman Bunning. Anyone else?
Mr. Myers. Mr. Chairman, I would like to mention one thing
of possible historical interest in connection with Dave Koitz'
excellent testimony, to amplify on it a little--namely the
situation in 1983 when the Greenspan Commission made its
recommendations.
At least the technical people knew at that time that there
was going to be this big buildup in the trust funds temporarily
and then a reduction and eventual exhaustion. It was hoped that
it would not occur nearly as early as 2029. We also knew that,
at the end of the valuation period, there was this gap.
But, with the crisis that there really was at that time it
was essential to get the various people with different
political views to agree on a compromise package that would
assure the safety of the system for at least the next 10 years
and would do something about the long-range problem. So, there
just wasn't time to bring up these relatively minor points,
which could readily be dealt with later when there was more
time, when there was this great difficulty of getting a
consensus, which was done, and which the Congress then enacted.
Chairman Bunning. Thank you all for being here. Thank you
for your testimony.
The hearing is adjourned.
[Whereupon, at 12:13 p.m., the hearing was adjourned.]
[Submissions for the record follow:]

Statement of Steven Cord, Center for the Study of Economics

[GRAPHIC] [TIFF OMITTED] T7633.001

[GRAPHIC] [TIFF OMITTED] T7633.002

[GRAPHIC] [TIFF OMITTED] T7633.003

Statement of Kelly A. Olsen, Employee Benefit Research Institute

It is a pleasure to submit material for the printed record
of the hearing held by the Committee on Ways and Means,
Subcommittee on Social Security, on March 6, 1997 entitled,
``The Future of Social Security for this Generation and the
Next.'' My name is Kelly Olsen, and I am a research analyst at
the Employee Benefit Research Institute (EBRI). On behalf of
Dallas Salisbury, President and CEO of EBRI, I would like to
inform you of the pioneering effort that EBRI is making through
its Social Security Reform Evaluation Project to ensure that
the future of Social Security is based on the type of accurate,
complete information required for sound policy decision-making.

The EBRI Social Security Reform Evaluation Project

Both because of the complexity of Social Security and the
emotion evoked by widespread consensus that the program is in
need of reform, the availability of clear, objective,
nonpartisan analysis of policy alternatives is essential. The
desire to provide this type of analysis as well as the tools
for further analysis is the impetus behind the Employee Benefit
Research Institute's Social Security Reform Evaluation Project.
At the heart of this effort lies the development of the EBRI-
SSASIM2 Policy Simulation Model, the type of model
(``stochastic'') recommended for development by a majority of
Council members in the 1994 1996 Social Security Advisory
Council report.\1\
---------------------------------------------------------------------------
\1\ Advisory Council on Social Security, Report of the 1994-96
Advisory Council on Social Security, Vol. 1 (Washington, DC, 1997), p.
22.
---------------------------------------------------------------------------
Although the EBRI-SSASIM2 Policy Simulation Model is
central to the overall project, EBRI's educational efforts go
beyond the sole provision of quantitative tools and analysis.
As evidenced in the January 1997 EBRI Special Report, ``Keeping
Track of Social Security Reforms,'' which profiles seven
popular reform plans, EBRI is committed to helping policymakers
and the public compare and understand the current reform
proposals. In addition, the March 1997 EBRI Issue Brief, ``A
Framework for Analyzing and Comparing Social Security
Policies,'' explores eleven areas of consideration under which
current law and proposed reforms must be examined to ensure
fair, objective, and comprehensive analysis and comparison
among policy alternatives. These recent publications build on
over a decade of previous EBRI research on Social Security
issues.

The Need for the EBRI-SSASIM2 Policy Simulation Model

There are several reasons why the availability of a model
like EBRI-SSASIM2 the only one of its kind is especially
critical to the quality of this round of Social Security
debate. First, while policy simulation modeling has a long
tradition in the Social Security policy analysis community,
most current models are designed to analyze the nonstructural
reforms that have dominated past debate (e.g., raising taxes,
cutting benefits). As a result, most current models are not
well suited to analyzing more fundamental Social Security
reforms, such as the implementation of individual accounts or
the shift of trust fund assets into equities. In addition, the
EBRI-SSASIM2 model will allow for more realistic modeling than
was previously available of the range of outcomes that could
result under the current system, if it remains unchanged. This
will provide a better understanding of the current system as a
baseline by which to compare reforms.

Capabilities of the Model

EBRI-SSASIM2 began as the SSASIM model, which was created
under contract with the 1994 96 Social Security Advisory
Council to analyze the effect of a partial switch of trust fund
investments into equities. Since then, EBRI has contracted to
expand the model's capabilities. One of the added analytic
capabilities is the ability to analyze the effects of
implementing individual savings accounts either to augment or
replace the current Social Security system. For this purpose,
assumptions about rates of return on equities and individual
investment behaviors are necessary. Unlike other models, which
often ``hard wire'' their assumptions, EBRI-SSASIM2 allows the
user to select his or her own assumptions about equity returns
and investment behaviors, as well as assumptions about several
other variables such as tax rates, the cost-of-living formula,
and mortality and birth rates. In addition, the user can model
varying mixes of individual accounts and the traditional
defined benefit Social Security system in order to assess
outcomes under a partially ``privatized'' system.
A second added capacity is EBRI-SSASIM2's ability to
``permit policy analysis to be conducted in a way that more
realistically incorporates uncertainty into its measures of
long-term financial viability.'' \2\ Because Social Security
models project policy outcomes based on uncertain events and
circumstances such as stock market performance in 20 years, or
birth rates in 40 years it is important that such uncertainty
be reflected in modeling results. This uncertainty is not
expressed in the traditional high, low, and intermediate point
estimates used by the Social Security Administration (SSA) and
can only be expressed with the use of ``stochastic'' modeling
techniques. While the SSA's traditional techniques can report
outcome estimates under pessimistic, optimistic, and
intermediate scenarios, such results do not give an indication
of which scenario is actually most likely to occur. In
addition, unlike stochastic methods, traditional point
estimates cannot express the range of likely outcomes. For
example, a point estimate under intermediate assumptions might,
report a 6 percent real rate of return on equities over the
next 75 years. In contrast, stochastic modeling might show that
under the same assumptions, there is an 80 percent chance that
equities will range from 5-7 percent real return in the next 75
years.
---------------------------------------------------------------------------
\2\ Ibid.
---------------------------------------------------------------------------
A third added capability of the EBRI-SSASIM2 model over the
original SSASIM model is the ability to analyze Social
Security's macroeconomic effects. As a program that covers 141
million workers and holds over half a trillion dollars in
reserves, Social Security is a significant force in the U.S.
economy. For example, a change in normal retirement age could
impact the labor market; a change in trust fund investment
could affect financial markets; and the addition of individual
savings accounts could increase personal savings rates and
thereby spur economic growth by providing more investment
capital. The interaction of multiple outcome variables can
produce primary and secondary economic feedback effects effects
of which the policy community might not be aware or be able
only to speculate about without a macroeconomic feedback model
pertaining specifically to Social Security policy. For this
reason, EBRI-SSASIM2 includes savings, investment, and
productivity growth linkages that permit analysis of the extent
to which Social Security policy affects national saving,
capital accumulation, and hence, productivity growth.
With model completion scheduled for the summer of 1997,
EBRI-SSASIM2 will be able to generate several outcome
variables. Model results of reform options \3\ and the current
system will include the following benefit and cost measures:
---------------------------------------------------------------------------
\3\ The first actual reform plans to be modeled will be the three
Advisory Council plans.
---------------------------------------------------------------------------
Lifetime Program Benefits: Actuarial present value
of lifetime program benefits (adjusted for inflation and
mortality).
Benefit-Contribution Ratio: Actuarial present
value of lifetime program benefits divided by the actuarial
present value of lifetime payroll contributions.
Net Benefits: Difference between actuarial present
value of lifetime program benefits and the actuarial present
value of lifetime payroll contributions.
Net Benefits as a Percentage of Earnings: Net
benefits minus contributions, divided by the actuarial present
value of lifetime earnings.
Internal Rate of Return: Internal rate of return
on benefits given contributions.
Average Benefit: Average annual real benefit over
retirement years.
Replacement Rate: Percentage of final year of
preretirement earnings that is replaced by the average benefit
for a continuously employed person earning average wages.
Low Benefit Avoidance: Percentage of beneficiaries
expected to have retirement benefits above a low-benefit
threshold.
Real Per Capita Gross Domestic Product (GDP):
Inflation-adjusted value of the GDP.
Average Cost Expressed as a Percentage of Taxable
Payroll
Actuarial Balance Expressed as a Percentage of
Taxable Payroll
EBRI-SSASIM2 will allow these benefits and cost measures to
be reported in aggregate for entire age cohorts and for
individuals with different demographic characteristics within
these cohorts by using realistic age-earnings profiles. In
addition, users of the EBRI-SSASIM2 Policy Simulation Model
will be able to create their own ``stylized'' individuals by
defining age, earnings, asset allocation, and annuitization
behavior in order to generate programmatic outcome data for
specific groups.

EBRI's Role in the Social Security Reform Debate: Provider of
Nonpartisan Education and Research

In short, EBRI-SSASIM2 will generate aggregate and
individualized quantitative analysis about the current system
and proposed reforms, using the most up-to-date technology in
policy simulation, as recommended by the 1994 96 Social
Security Advisory Council. Designed to allow the user to employ
his or her own assumptions and beliefs in the model, and to
model various structural policy alternatives, EBRI-SSASIM2 is
nonpartisan in design and is the centerpiece of EBRI's overall
effort to provide nonpartisan guidance and information. Social
Security is an issue whose complexity and importance exposes it
to the risk of misunderstanding and demagoguery. As a neutral
voice in the whirlwind of advocates for one side of reform or
another, EBRI is providing tools and analysis for informed
policy decision-making.

Kentucky Teachers'
Retirement System
March 18, 1997

The Honorable Jim Bunning, Chairman
Subcommittee on Social Security
Committee on Way and Means
U.S. House of Representatives
1102 Longworth House Office Building
Washington, D.C. 20515

Re: March 6, 1997

Dear Mr. Bunning:

I am writing to express the strong opposition of the Teachers'
Retirement System to any attempts to mandate Social Security coverage
for Kentucky's public school teachers. My statements speak solely on
behalf of the 58,000 members of the retirement system. I represent no
individuals or groups beyond the members of the Teachers' Retirement
System.
The issue of mandatory Social Security coverage for teachers and
other state and local public employees, as you are well aware, has been
proposed on several occasions during the past 20 years.
The Kentucky General Assembly enacted legislation in 1938
establishing the Teachers' Retirement System (TRS). This legislation
was a direct result of the federal government prohibiting public
employees from participating in the Social Security System. After
almost 60 years of operation, the TRS is proud to have a defined
benefit plan operating on an actuarially sound basis as attested to by
the annual valuation conducted by the System's actuary.
The TRS is an ``actuarial reserve, joint contributory'' plan. The
member and state contributions plus earned interest are placed in
reserve to meet the annuity obligations of the members. If member
benefits are improved, the contribution rate is increased to finance
the improvement. This is an important difference from Social Security
that has operated on a ``pay as you go'' basis.
Unlike Social Security, many state retirement programs have
constitutional or statutory provisions that guarantee promised benefit
coverage. Kentucky has a statutory provision that constitutes an
inviolable contract which prevents the reduction or impairment of
member benefits. Eligibility requirements or benefits for members are
not altered and the members are well aware that they and their
survivors will not have promised benefits withdrawn by future
legislation.
The 1977 federal legislation which became effective in the early
1980s, known as the Social Security Offset Provision, is a good example
of promised benefits being withdrawn. A reduction in benefits for
eligible spouses may well have been justified, but the offset provision
should not have been applied to Social Security participants who had
earned the spouse protection prior to the enactment of the law.
Certainly, there is no inviolable contract for Social Security
participants.
Kentucky teachers contribute 9.855% of their salary toward
retirement and the state provides 13.105% of each employee's salary. To
add Social Security on top of these amounts would not be fiscally
possible. The net result would be to reduce benefits under a very sound
plan in order to accommodate Social Security. Kentucky very clearly
does not want to water down its benefits for its career teachers. It is
the one benefit that teachers are very proud of and grateful for when
their careers are completed. Even if the proposal would only include
new hires, it would only be a very few years before the costs would
escalate drastically related to mandatory coverage.
State and local governments would have to assume the additional
financial burden for mandatory coverage along with the employees.
Mandatory coverage amounts to nothing more than a new tax being imposed
on state and local governments and the employees of those subdivisions
who have provided fiscally sound retirement plans over the years.
Public retirement systems, including the Teachers' Retirement System,
have built their reputations on providing promised benefits at
reasonable costs to the membership. The package of benefits provided by
these systems, including the Teachers' Retirement System, surpass the
benefits provided under Social Security in almost all cases.
Funds now provided by the retirement system for investment capital
could well be impaired. Enactment of mandatory Social Security coverage
would certainly reduce the available funds for capital improvement. The
Kentucky Teachers' Retirement System has assets of over $8 billion and
if members are required to pay for Social Security, a reduction will
have to be made in the retirement contributions of the members. The
funds diverted to Social Security will not likely be used for capital
investment in the private sector.
On behalf of the Board of Trustees of the Kentucky Teachers'
Retirement System, I ask you and each member of your subcommittee to
reject the idea of mandatory Social Security coverage.

Sincerely,
Pat N. Miller
Executive Secretary

Statement of Laurence J. Kotlikoff, Professor of Economics, Boston
University; and Jeffrey D. Sachs, Professor of Economics, Harvard
University

Introduction

Chairman Bunning and other distinguished members of the
Subcommittee on Social Security of the Committee on Ways and
Means,
The U.S. Social Security System is in urgent need of
reform. It has a massive long-term deficit that cannot be
covered without major payroll tax hikes or significant benefit
cuts. The system is also inefficient, inequitable,
uninformative, and outmoded.
The Personal Security System would redress these problems
by replacing the OAI portion of Social Security with a system
of individual accounts and by establishing a dedicated stream
of revenues to pay off the current system's unfunded liability.
Unlike most other plans being put forward, this plan has a
real means of financing the transition, protects non working
spouses, protects survivors, delivers true progressivity, and
ensures the annuitization of personal security account balances
in old age.
The Personal Security System, is being endorsed by a
growing number of academic economists including three Nobel
Laureates in Economics: Robert Lucas of the University of
Chicago, Merton Miller of the University of Chicago, and
Douglas North of Stanford University.
The Personal Security System has seven elements:
Social Security's Old Age Insurance (OAI) payroll
tax is eliminated and replaced with equivalent contributions to
PSS accounts.
Workers' PSS contributions are shared 50-50 with
their spouses.
The government matches PSS contributions on a
progressive basis.
PSS balances are invested in a regulated,
supervised, and diversified manner.
Current retirees and current workers receive their
full accrued Social Security Retirement benefits.
A Federal retail sales tax finances Social
Security retirement benefits during the transition and the PSS
contribution match.
At age 65, PSS balances are annuitized on a
cohort-specific and inflation-protected basis.
Simulations of this approach to social security reform show
substantial long-run improvements in U.S. living standards.
These gains reflect the partial alleviation of the enormous
fiscal burden facing future generations arising from current
entitlement programs. Precise analysis of any social security
reform requires the use of the Social Security Administration's
extensive data bases. For this reason, we strongly urge
Congress to instruct the Social Security Administration to
provide a detailed analysis of this proposal.

Scope of the Proposal

Only the OAI payroll tax (about 70 percent of total OASDI
contributions) is eliminated. Contributions made to and
benefits received from the DI (Disability Insurance) and SI
(Survivors Insurance) portions of the Social Security System
are completely unchanged.

Earnings Sharing

To protect non-working spouses as well as spouses who are
secondary earners, total PSS contributions made by married
couples are split 50-50 between the husband and wife before
being deposited in their own PSS accounts.

Government Matching of PSS Contributions

The federal government would match PSS contributions of
low-income contributors on a progressive basis. It would also
make PSS contributions through age 65 on behalf of disabled
workers.

Tax Treatment of PSS Accounts

PSS contributions are subject to the same tax treatment as
current 401k accounts. Contributions are deductible and
withdraws are taxable.

Survivor Provisions of PSS Accounts

Through age 65, survivor provisions governing PSS balances
are identical to those governing 401k accounts.

Investment of PSS Account Balances

Workers and their spouses invest their PSS contributions in
regulated, supervised, and diversified investments. For
example, these investments might be restricted to inflation-
indexed, exchange-rate hedged, high-grade domestic and
international government and corporate zero-coupon bonds which
come due when the worker reaches age 65. Alternatively, the
portfolio rules could specify particular equity and debt shares
that might vary by age, but which preclude trying to ``time the
market.''

Annuitization of PSS Account Balances

PSS balances can not be withdrawn prior to age 65. At age
65, PSS balances are pooled with those of other cohort members.
The federal government purchases, on a competitive fee-bidding
process, single-life, real annuities for each cohort member in
proportion to his or her age 65 PSS account balance.

Payment of Social Security Retirement Benefits to Current Retirees

Current recipients of Social Security retirement benefits
continue to receive their full inflation-indexed benefits.

Payment of Accrued Social Security Retirement Benefits to Current
Workers

When they reach retirement, workers receive the full amount
of Social Security retirement benefits that they had accrued as
of the time of the reform. These benefits are calculated by
filling in zeros in the OAI earnings records of all Social
Security participants for years after the transition begins.
Since new workers joining the workforce will have only zeros
entered in their OAI earnings histories, new workers will
receive no OAI benefits in retirement. This ensures that over a
transition period aggregate Social Security retirement benefits
will decline to zero.

Financing the Transition

During the transition, Social Security retirement benefits
will be financed by a federal retail sales tax. The tax would
be collected by the states. The PSS sales tax would also
finance the government's PSS contribution match. Over time, the
PSS tax rate would decline as the amount of Social Security
retirement benefits decline. Provisional calculations suggest
that the sales tax would begin below 10 percent and would
decline to a permanent level of roughly 2 percent within 40
years.

Advantages of the Reform

The Personal Security System would improve benefit-tax
linkage, enhance survivor protection, equalize treatment of
one-and two-earner couples, offset the ongoing transfer of
resources from the young to the old, provide better divorce
protection to non working spouses, make the system's
progressivity apparent, resolve Social Security's long-term
funding problem, and ensure Americans an adequate level of
retirement income.

Macroeconomic Effects

Simulation studies suggest that this reform will, over
time, increase the economy's capital stock by roughly one third
and its output by roughly 10 percent.

Impact on the Poor

Social Security's cost of living adjustment insulates its
beneficiaries from the potential increase in consumer prices
associated with the introduction of the PSS retail sales tax.
Hence, the current poor elderly will experience no higher
fiscal burden. Moreover, simulation analyses show that poor
members of current middle aged generations, poor members of
current young generations, and poor members of future
generations have the most to gain from privatizing social
security.

Intergenerational Equity

The PSS proposal asks current Americans, old and young
alike, to contribute to paying off Social Security's unfunded
retirement benefit liability. Since it insulates the current
poor elderly, only rich and middle class elderly face a higher
fiscal burden. Asking them to pay their share of Social
Security's unfunded liability is intergenerationally equitable
particularly given the massive and growing Medicare-financing
burden facing future generations.

Comparision with Other Reform Proposals

Unlike many other social security reform proposals, the
Personal Security System would substantially alleviate the
long-run fiscal crisis facing future generations. It would also
improve economic efficiency by linking retirement income to
retirement saving without sacrificing secondary earners and the
poor.

The Challenge Facing the Congress

All major social security reform proposals as well as the
current system need to be compared on a systematic basis with
respect to intergenerational burdens, fiscal sustainability,
economic efficiency, and intragenerational equity. Congress
should instruct the Social Security Administration to perform
this analysis in consultation with the Congressional Budget
Office and other agencies of the U.S. government.

Statement of National Silver Haired Congress

Mr. Chairman: The National Silver Haired Congress (NSHC)
commends you and the Members of this Subcommittee for
conducting this important hearing on the future of Social
Security. We are pleased to share with you information on a
resolution which was adopted at our Inaugural Session, February
8-14, 1997 in Washington, D.C., dealing with Social Security,
its present and its future. This was, in fact, the top
resolution of our Conference, modeling the outcome of the 1995
White House Conference on Aging which adopted a comprehensive
Social Security resolution and it was the top vote getter of
the 45 resolutions.
This resolution was adopted overwhelmingly by nearly 300
Silver Senators and Silver Representatives from 43 states,
including Nelda Barnett from Owensboro, KY and Edna Hawkins
from Bowling Green, KY.
Its main points include:
Exclude Social Security from any Federal balanced
budget amendment or law.
Ensure Social Security trust funds and
contributions shall not be diverted into individual private
accounts.
See that Social Security shall not be means
tested.
Maintain a COLA computed by the Bureau of Labor
Statistics to be distributed in January of each year, to
include military, railroad and civil service.
Mandate income from married couples shall be
divided in order to establish equal and separate accounts.
Eliminate restrictions on earnings after
retirement for Social Security purposes.
Create and support a strong program to inform the
public about Social Security.
Assure that all new state and local government
employees hired after 1997 must be brought under the Social
Security system resulting in increased payroll taxes for the
system.
The NSHC hopes that our resolution contributes to the
discussion and subsequent actions taken to address Social
Security. We also especially commend you on approaching this
issue from an intergenerational approach.
By means of background, the NSHC is a non-partisan, non-
profit organization comprised of registered voters over 60
years of age from across the nation. For further information
about the history of the NSHC, please see the attached
information sheet.

Statement of OPPOSE

My name is Robert J. Scott. I am Secretary/Treasurer of
OPPOSE. OPPOSE is a Colorado Corporation formed by teachers,
fire fighters, police officers, and other state and local
government employees who have elected not to join the Social
Security-Medicare system. The purpose of our organization is to
assure the continued financial integrity of our members'
retirement and health insurance plans by resisting efforts to
mandate Social Security or Medicare coverage of public
employees. Our members are found in Alaska, California,
Colorado, Connecticut, Illinois, Kentucky, Louisiana,
Massachusetts, Minnesota, Nevada, Ohio, and Texas. With respect
to the issue of mandatory Social Security and Medicare
coverage, the interests of OPPOSE are identical to those of the
approximately five million public employees throughout the
nation who remain outside the Social Security system.

Background

For many years after the Social Security system was
created, state and local government employees were not allowed
to participate in the system; Beginning in the 1950s, state and
local government employers could elect to have their employees
covered. Governments which elected in were also permitted to
opt out again, after notification of the intent to do so, and
the expiration of a two year waiting period.
This was the law for about three decades, until, in 1983,
there was a major revision of the Social Security and Medicare
laws, triggered primarily by a concern about the long term
solvency of these two trust funds. Congress decided not to
require state and local employees who were outside the system
to be covered, but did end the opt out for public employees who
had chosen to be covered. An ``anti-windfall'' rule was
adopted, to ensure that public employees who were covered by
Social Security and by a public plan did not receive excess
credit for Social Security purposes.
In 1986, as part of the Consolidated Omnibus Budget
Reconciliation Act of 1985 (``COBRA''), Congress determined to
require participation in the Medicare system on a ``new Hires''
basis, but chose to leave public employee retirement plans in
place, and did not change the law with respect to Social
Security.
In 1990, Congress enacted a law requiring that all public
employees not covered by a state or local retirement plan
meeting specified standards must be covered by Social Security.
That law, adopted as part of the Omnibus Budget Reconciliation
Act of 1990 (the ``1990 Act''), ensures that all public
employees will be covered either under Social Security or under
a public retirement plan which provides comparable benefits.
Today, about one-third of all state and local government
employees, about five million people, are outside the Social
Security system because they are covered by public retirement
plans.

Background of this Hearing

There is no serious question about the soundness of the
Social Security system over the next twenty to twenty-five
years. The most current estimates are that income from Old-Age,
Survivors and Disability Insurance (``OASDI'') taxes will
exceed OASDI expenditures until the year 2012. After that year,
OASDI taxes, plus reasonable interest earnings on those taxes
will exceed OASDI payments through the year 2019. OASDI Trust
Fund reserves will continue to fund benefits through the year
2029. After that time, Social Security, viewed in isolation
from all other federal programs, is projected to be in deficit.
Reasonable people differ about the date after which serious
trouble really begins for the Social Security system. Although
nominally established like a funded pension system, in
practice, Socail Security Trust Fund surpluses are used to
reduce operating deficits in other parts of the federal budget.
There is an obligation for the Treasury to repay these
``borrowings'' from Social Security, but the federal government
will not be able to repay these borrowings when the time comes,
except by creating surpluses in other parts of its budget, or
by printing money.
In this sense, at least, it does not matter very much if
the Social Security Trust Fund is in a state of surplus. When
Social Security outlays begin to exceed Social Security
revenues, an additional burden will be placed on an already
strained federal budget, as Social Security becomes a net
importer of general federal revenues. On the other hand, if
general federal revenues are in a healthy posture (admittedly
an unlikely prospect), a Social Security deficit could, in
theory, be little more than an accounting inconvenience.
This is not to suggest that the worrisome mid-term Social
Security projections do not matter. These projections are
important because they indicate that we are currently promising
to future Social Security recipients substantially more than we
will comfortably be able to pay.
As a result of these concerns, Social Security reform has
been the subject of numerous bills and hearings, as well as
several major study commissions, over the last several years.
In 1994, the Bipartisan Commission on Entitlement and Tax
Reform (also known as ``the Kerrey-Danforth Commission'')
studied the problem of projected short falls in the Social
Security and Medicare Trust Funds, as well as other mid-term
and long-term deficit problems. The Commission was unable to
agree on a set of recommendations, but did valuable work in
assessing the dimensions of the problem. In an interim report
published in August, 1994, the Commission projected that with
no changes in law, by 2010 entitlement spending and interest on
the national debt would consume almost the entire federal
revenues; by 2020, entitlement spending alone would almost
equal the federal revenue stream; by 2030, there would not be
enough revenue to service the federal entitlement obligations,
even if no money were used for other purposes, including
payment of interest on the national debt.
In 1995 and 1996, the Advisory Council on Social Security
examined the mid-term and long-term solvency of Social Security
and the Social Security Trust Fund. Once again, there was no
majority on the Council for any set of recommendations. Three
different alternative proposals were put forth by different
groups of members. These hearings were held, in part, to review
the Report of the Advisory Council on Social Security, and to
consider those sets of recommendations, as well as other
possible alternatives to reform the Social Security System.

Mandatory Social Security Coverage Is Wrong And Should Not Be Adopted

I. Public employees are able to decide for themselves what is
in their own best interest.

Of the arguments advanced for mandatory coverage, by far
the most arrogant is that Social Security coverage would
benefit the people affected. For example, a majority of the
Advisory Council on Social Security (``the Council'') suggest
that ``workers would generally gain'' from Social Security
coverage (Council report, p. 20, three members dissenting).
It is insulting to suggest that Advisory Council members,
or other Washington officials, care more about, or better
understand what is best for, public employees, than do the
employees themselves, or their (largely elected) plan trustees.
Analyses done by public plan fiduciaries indicate that
public employees of almost any description (in terms of salary,
length or service, etc.) do better under their public plan than
they would do under Social Security. For example, the Public
Employee Retirement Association (``PERA'') of Colorado produced
a study (assuming retirement in 1994 at age 62) showing that an
employee working ten years with a highest average salary of
$15,000 per year, would receive a Social Security benefit equal
to 21.6 percent of pay; the PERA employee would receive a
benefit of 22 percent. For short term employees with higher
average rates of pay, Social Security benefits are
proportionally much lower. For example, a ten year employee
with an average rate of pay of $60,000 per year would get a
benefit of 10.9 percent under Social Security; his PERA benefit
would be 22 percent.
Longer term employees at all rates of pay do
proportionately much better under PERA. A fifteen year employee
earning a high average salary of $15,000 would receive 26.1
percent of pay under Social Security--33 percent under PERA. A
twenty year $15,000 per year employee would receive 29.5
percent of pay under Social Security--fifty percent of pay
under PERA. At 30 years of service, this hypothetical,
relatively low pay ($15,000 per year) employee would receive
36.3 percent of pay under Social Security, but 65 percent of
pay under PERA. At forty years of service, the respective
numbers are 39.1 percent of pay for Social Security, 80 percent
for PERA.
Employees at higher rates of pay do even better. For
instance, a thirty year employee with high average pay of
$45,000 per year, receives a benefit of 22.5 percent from
Social Security, but 65 percent from PERA.
To restate what is demonstrated by this analysis, those
employees who are relatively disadvantaged, i.e., relatively
low pay and relatively short term service, DO BETTER UNDER PERA
THAN THEY DO UNDER SOCIAL SECURITY. Those employees with higher
rates of pay do much better.
PERA of Colorado is a good plan. But analyses of other
public plans suggest that these plans also provide benefits for
their employees that are generally better than Social Security
benefits.
The point, however, is not to prove that public plans are
better than Social Security. The point is that government
employees and their fiduciaries are quite capable of comparing
their plans with Social Security and deciding for themselves
what is better for them.
The Council argues at pages 19-20 of its report that ``over
the course of a lifetime, it is impossible to tell who will and
who will not need [Social Security] coverage.'' The Council
suggests that Social Security may be superior to state or local
plans because of the inflation proof aspect of Social Security,
or because of the spousal benefit.
Although Social Security does have some desirable features,
State and local plans are often superior in terms of their
ancillary provisions. For instance, state and local plans
provide 100 percent immediate vesting in employee
contributions. PERA of Colorado members are fully vested for a
future retirement benefit percent after five years of service.
By contrast, Social Security provides no retirement benefits
until the employee has ten years of service.
Public plan benefits are generally guaranteed by state law,
often by state Constitution. Social Security benefits and taxes
may be changed by Act of Congress, and probably will be changed
in ways making the system less desirable for participants in
order to solve the funding problems of the system.
Public plans are funded, often fully funded. Social
Security is not.
Social Security is highly portable, but so are public plan
benefits. Not only are benefits generally fully transferable
within the same state system, but many public plans have a buy
in feature. For instance, credits earned in a Colorado plan may
be used to buy in Illinois plan benefits if a teacher moves to
Illinois.
Public plans may have lower retirement ages than Social
Security, and generally do not penalize a retired employee who
continues to work. Social Security reduces retirement benefits
based upon an ``earnings'' test.
Although state and local plans are not required to provide
survivor and disability benefits, most major plans do. These
benefits are sometimes superior to the benefits provided under
Social Security.
Social Security benefits are protected against inflation,
although the correct amount of the inflation adjustment (CPI)
is now the subject of serious debate. State and local plans
often, though not always, have an inflation protection feature,
either directly, or through increases in benefits provided by
the legislature, and made possible by good plan management. In
any event, the basic benefit provided by state and local plans
is often so superior to the Social Security benefit, that
Social Security's inflation protection merely serves to reduce
this difference.
It may well be the case that some workers or their families
will turn out to better off under Social Security than under a
weak state or local public plan. But what about the
overwhelming majority of workers who will be far better off
under their public plan? Does the interest of this vast
majority count for nothing?
Even if it were once the case that some government workers
might have been better off under Social Security than under
their government plan, Congress has addressed this issue. In
1990 (as discussed above), Congress enacted a law requiring
that all public employees not covered by a state or local
retirement plan meeting specified standards must be covered by
Social Security. That provision of the 1990 Act ensures that
all public employees will be covered either under Social
Security or under a public retirement plan which provides
comparable benefits.
Regulations issued under that law require that the state or
local plan must provide a minimum benefit, generally equivalent
to the benefit provided by Social Security. Special
protections, having the general effect of increasing
portability, are provided for certain categories of workers,
such as temporary, seasonal, and part-time workers. Still other
regulations protect workers from losing benefits.
If government workers want to participate in the Social
Security system they can, by arranging for their government
employer to contract into the system. But the decision should
be made by the people affected--state and local government
employees.

II. Mandatory Social Security coverage of middle class public
employees now outside of the Social Security system will not
improve the fiscal soundness of the system.

For the next fifteen years, the retirement portion of the
OASDI Trust Fund is in good shape. As discussed above,
responsible analysts believe there is reason for concern about
the out years, although there is some disagreement as to
exactly when the really serious problems will begin.
Most people agree that it would be wise to take action in
the near future to bring the OASDI Trust Fund into long term
balance. The sooner we take action, the less painful the
corrective measures will have to be. Politically, however, this
means a trade off of short term pain for long term gain--always
a difficult proposition.
In order to understand what we need to do to correct our
long term problem, it is necessary to understand why we are in
our present fix. The primary reason is that we are trying to do
two contradictory things with OASDI taxes.
Current OASDI taxes are higher than they need to be to fund
current OASDI benefits. The theory is that we are building up a
trust fund to pay future benefits.
But the theory does not correspond with what we are
actually doing with the OASDI revenues. These revenues are
being used to pay the current operating expenses of the United
States government.
Of course, the OASDI Trust Fund receives promises to pay
from the federal government, but these promises are are secured
only by the future taxing power of the government. This means
that at some point in the future, when the ratio of taxes to
benefits is less favorable than it is today, there will be no
assets to draw down in order to make up the difference.
Mandatory Social Security coverage for government employees
will not solve these problems. In the short run, taxes from the
newly covered government workers would exceed benefits paid to
those workers. But OASDI does not have a short term problem.
Short term excess revenues cannot help solve a mid-term or long
term problem unless those revenues are saved and invested. But
OASDI has a mid-term and long-term problem precisely because
excess revenues taken in today are not being saved and invested
to pay the accruing liabilities attributable to those revenues.
Fifteen, twenty, and twenty-five years out, the newly
covered government employees would be entitled to the same
benefits as all other covered workers. If the cost of providing
benefits exceeds the funding necessary to provide those
benefits (as appears to be the case today), adding more people
to the system will make matters worse, not better. If the tax
revenues from the newly covered government workers are not
saved, mandatory coverage of public employees will result in a
situation where the eventual gap between current OASDI taxes
and current OASDI obligations will be far worse than it
otherwise would have been.
There are other reasons why mandatory Social Security
coverage will not help to solve the financing problems of the
Social Security system. The Bipartisan Commission on
Entitlement and Tax Reform worked long and hard analyzing
various options to ease the entitlement and deficit problems
which our nation will confront in the next century. The
Commission was not able to reach a consensus on recommended
action. Co-Chairmen Danforth and Kerrey did present a package
of options, one of which was mandatory Social Security. It was
estimated that mandatory Social Security would only achieve
about 1.8 percent of the Commission's entitlements objective
(about ten percent of its Social Security objective). (The
Advisory Council on Social Security had a similar estimate with
regard to Social Security needs.)
This 1.8 percent estimate, however, is almost surely
inflated. Under present law, annuities from public pension
plans are fully taxable to the extent that those benefits
exceed the beneficiary's own after tax contributions to his or
her retirement plan. Social Security benefits are not taxable
to most recipients, and most retired public employees would
fall below the income threshold for taxation of Social Security
benefits. The resulting loss to the general revenue fund may
easily offset any very modest gain made by the Social Security
Trust Fund.
Moreover, to the extent that mandatory coverage imposed new
burdens on the states, states would be forced to raise taxes or
reduce services to offset their increased obligations. New
state taxes would be deductible, thereby further reducing
general fund revenues.
Finally, estimates of gains to the Social Security Trust
Fund from mandatory coverage must be predicated on the
assumption that other changes in law are made which have the
general effect of reducing the current highly favorable pay
back ratio which most Social Security beneficiaries receive. It
is obvious that if Social Security loses money on a per
participant basis, adding more participants will not help.

III. Mandatory Social Security coverage would not be fair.

The Advisory Council on Social Security argues, at page 19
of its report (three members dissenting), that ``all Americans
have an obligation to participate [in Social Security], since
an effective Social Security program helps to reduce public
costs for relief and assistance, which, in turn, means lower
general taxes.''
One of several confusions in this argument is the failure
of the Council to notice that public retirement plans also
reduce public costs for relief and assistance in precisely the
same way that Social Security achieves this effect. Employees
covered by public plans are not candidates for welfare, SSI, or
other forms of public assistance.
For most public employees, their rights in their retirement
plan represent a substantial part of their life time savings.
In 1989, the median American household had a net worth of
approximately $42,000, much of this tied up in their equity in
their home. Forty-two thousand dollars is not a large cushion.
For middle income public employees, the security provided by
their public retirement plan makes possible a comfortable,
reasonably secure life.
There is also no exposure to the federal government, or the
taxpayers who support that government, in connection with
public plans, because public plans are not insured by the
Pension Benefit Guaranty Corporation.
There is every reason to believe that mandatory Social
Security coverage would impair retirement security for millions
of public employees. State and local government plans work well
for employees because public fund assets are invested in the
economy, and returns on those investments allow the employees
to receive substantially greater benefits than would be
possible under a pay-as-go-approach. Although some people would
argue that the Social Security Trust Fund is also invested,
these monies are invested solely in government accounts, and
the benefits are secured only by the future taxing power of the
United States government.
Mandatory Social Security, even on a new hires basis, would
undercut the ability of state and local governments to maintain
their plans. Some government employers might attempt to
maintain a two tier system divided along the lines of existing
employees (remaining in their public plan) and new hires
(covered by Social Security and a supplemental public plan, or,
possibly, no plan), but cost and administrative considerations
would almost certainly defeat this effort within a short time.
In any event, a supplemental state plan, on top of Social
Security, would almost certainly be far less generous than
existing plans, because the out flow of cash to Social Security
would not be invested.
This undercutting of existing plans would be nothing less
than a breach of faith, because many public employees accept
less than competitive wages in part because they know that the
public retirement plan will take care of them later.
CBO has recognized this point in its report entitled
``Reducing Entitlement Spending'' (page 18) where, in the
context of discussing the inappropriateness of lumping federal
pensions in with other entitlement programs, the report states:
``Supporters of federal workers and retirees point out that
these programs were integral parts of the employment contract
between the federal government and its employees and therefore
constitute earned benefits. Cutting them would probably hurt
the government's reputation as an employer. Annual surveys
comparing government and private-sector wages indicate that
federal workers may be accepting lower cash wages in exchange
for better retirement benefits in deciding to work for the
government. In essence, these workers pay for their more
generous retirement benefits by accepting lower wages during
their working years. Moreover, as some observers maintain,
cutting benefits promised to current workers may prompt
forward-looking workers to demand higher compensation now to
offset the increased uncertainty of their deferred benefits.''
(Footnote omitted.)
For whatever reasons, state and local government employees
were kept out of the Social Security System for many years.
These once excluded employees have built up their own systems,
which work well for the overwhelming majority.
By contrast, for many years the Social Security System has
been managed improvidently. The federal government has allowed
retirees to reap where they have not sown, by drawing out of
Social Security far more in benefits than their contributions
and ``earnings'' on those contributions could support. Worse,
the federal government has used the contributions of Social
Security participants to pay current operating expenses rather
than truly investing the money.
Now the Social Security System is in a hole. This is
certainly sad news. But it is hardly ``fair'' to ask public
employees to pay. Public employees did not create this problem.
If we were writing on a clean slate, with full knowledge of
the consequences of operating Social Security like a lottery
where everybody wins, until this is no longer possible, the
nation would almost chose to adopt an approach much closer to
the public pension plan system than to Social Security. Having
gone down the wrong path for many years, it will be very
difficult to now create a system of invested individual
accounts, which is fair to young workers, without undermining
the expectations of retired and soon to be retired Social
Security participants, who would not have time to adjust to a
new system.
There is, however, no reason to make things even worse than
already are, by taking many millions of public employees out of
their existing plans, which work, and adding them to the stock
pile of unfunded federal liabilities.
At page 20 of its report, the Advisory Council puts forth,
as one argument for mandatory coverage, that a high proportion
of state and local government workers will receive Social
Security benefits because of non-government work which they
perform, or through their spouses. The Council report fails to
acknowledge that State and local government employees do not
receive any unfair advantage by remaining outside of the Social
Security system for most, or part, of their career. In 1983, as
part of the overall Social Security reforms enacted in that
year, Congress adopted an anti-windfall rule, which has the
general effect of reducing any Social Security benefit that the
employee might otherwise be entitled to in accordance with a
formula based on the period of time during which the employee
was not covered by Social Security. This adjustment is made
because Social Security is bottom weighted---that is, Social
Security tends to provide relatively high benefits for workers
who have relatively low average career earnings. Another rule
which is applicable to non-covered government workers, known as
the spousal offset rule, reduces the spousal benefit which
would otherwise be payable to these workers.

IV. Mandatory Social Security coverage has the effect of an
unfunded mandate.

The effects of mandatory coverage on state and local
governments would be serious. Those governmental entities which
are now the most hard-pressed, such as large cities which have
significant low income populations, would be the most severely
affected.
The eventual cost to governments, when mandatory coverage
is fully phased in, would be staggering. California, for
example, would have annual costs of almost $2.3 billion. Ohio
would be burdened with over 1 billion in additional cost, and
Texas, Illinois, Colorado, Massachusetts, and Louisiana would
have annual costs in the hundreds of millions. Even states like
Washington, Florida, Georgia, and Connecticut, Michigan,
Minnesota, and Missouri, which are not always thought as states
having a high rate of non-covered employees, would face costs
near, or exceeding, $100 million per year. On a new hires
basis, the initial cost of mandatory coverage would be less,
but even under this approach more than a dozen states would
face first year costs in excess of $10 million.
As recently as March 12, 1997, bi-partisan representatives
of the National Governors' Association testified before a joint
session of the House and Senate Budget Committees, urging
Congress not to enact federal tax cuts which would force state
or local tax hikes. Mandatory coverage would be one degree
worse, a federal tax hike which would also force state and
local tax hikes.

V. Mandatory Social Security coverage is a new, regressive tax.

Mandatory Social Security coverage would be a new highly
regressive tax, and would certainly be viewed that way by the
middle class people who would pay it. Nationwide, the average
earnings of a full time state or local public employee are
approximately $31,850. The Social Security tax on this amount
(6.2 percent) would be almost $2,000. An Illinois teacher would
pay more for Social Security than for clothing or health care,
and the Social Security tax, over $2,500 for an average teacher
in this state, would equal almost half of his or her food
budget. Currently the average Illinois teacher just about
breaks even between salary and expenses.
Most public employees fall in the second and third
quintiles of income. These are families whose average income
ranges from about $20,000 per year to about $32,000 per year.
Studies based upon CBO data and prepared by the U.S. House of
Representatives Ways and Means Committee staff indicate that
many of these families actually lost ground during the period
1977 through 1989, or, at best, have progressed only minimally.
For example, the second quintile, those between the 20th and
40th percentiles in terms of average family income, actually
lost about 1.7 percent in after-tax income, measured in
constant dollars, during this thirteen year period. Those in
the third quintile, between the 40th and 60th percentiles,
fared somewhat better, but still realized income growth of less
than a half a percent per year, uncomponded, throughout this
period. Federal income tax rates, as a percentage of pretax
income, actually increased slightly for the fourth income
quintile group. (For the third quintile income group federal
tax rates were essentially unchanged.). People at this level of
income should not be called upon to pay additional taxes.

State Teachers Retirement
System of Ohio
March 13, 1997

Mr. A. L. Singleton, Chief of Staff
U. S. House of Representatives
Committee on Ways and Means
1102 Longworth House Office Bldg.
Washington, D.C. 20515

Dear Mr. Singleton:

These comments are being submitted for the printed record of the
Social Security Subcommittee of Ways andMeans hearing on ``The Future
of Social Security for this Generation and the Next'' on behalf of the
Ohio StateTeachers Retirement Board and the 300,000 active and retired
members of our system.
Having carefully studied the January 6, 1997 report of the Advisory
Council on Social Security, we strongly believethat mandatory coverage
for all public employees will be a mistake and should not be a part of
a reform packagethat claims to restore the financial solvency of the
Social Security Trust Fund.
We urge your determined opposition to any proposal that would
mandate Social Security coverage for new hiresor for any other
configuration that could evolve requiring mandatory participation.
Ohio has a long history, predating Social Security, of providing
retirement and disability security and familyincome protection to state
and local public employees. When Social Security was initiated in the
mid-1930s, Ohiopublic employees were not permitted to participate.
Later, when states were given the option of joining SocialSecurity,
Ohio voted to remain independent. Ohio public servants were already
well-served. The Ohio publicretirement systems were and are stable and
working well.
Mandatory Social Security coverage would hurt, not help, Ohio
public employees. All Ohio public employees arecovered by a public
retirement system. Unlike Social Security in which current workers are
supporting retirees, theOhio STRS is reserve-funded. Ohio teachers fund
their own future benefits. Today STRS is 81 percent funded. On a
comparable basis, federal Social Security is funded at 5 percent or
less. STRS is not dependent on governmentappropriations but is funded
entirely by member and employer contributions and earnings from
investments. Interest earnings provide 62 percent of the annual income
today. Additionally, investments made by STRS andsystems like STRS
throughout the nation make a powerful contribution to this country's
economic strength andcontinued growth.
It would be a mistake to believe that those public employees who
remained in public pension funds would not beadversely affected by
mandatory coverage for new hires. Faced with the added cost of Social
Security, it is almostcertain that Ohio would be forced to change
existing public pension plans by adjusting benefits downward andperhaps
even dropping retiree health care. The pool of money available to
invest in our country's industrial baseand technological research would
shrink over time as it was siphoned off to pay member benefits. From a
publicpolicy perspective, it makes no sense to harm a system that is
working well in an effort to temporarily fix SocialSecurity's problems.
Furthermore, the enactment of mandatory coverage would produce an
apparent unfundedmandate of immense proportions for Ohio taxpayers.
We appreciate the opportunity to comment on this important issue
and would be pleased to provide furtherinformation if that would be
helpful to you. Thank you for your consideration.

Sincerely,
Herbert L. Dyer
Executive Director}}}}}}}}}}}}}}}}}}}}}