[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

                               __________

                             JUNE 24, 1997

                               __________

                             Serial 105-38

                               __________

         Printed for the use of the Committee on Ways and Means

                               ----------

                     U.S. GOVERNMENT PRINTING OFFICE
50-756 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            JOHN S. TANNER, Tennessee
J.D. HAYWORTH, Arizona               XAVIER BECERRA, California
JERRY WELLER, Illinois
KENNY HULSHOF, Missouri


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 
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                            C O N T E N T S

                               __________

                                                                   Page

Advisory of June 17, 1997, announcing the hearing................     2

                               WITNESSES

American Academy of Actuaries, Ron Gebhardtsbauer................    23
Cato Institute, Stephen Moore....................................     5
Employee Benefit Research Institute, Kelly Olsen, and Paul J. 
  Yakoboski......................................................    37
Kingson, Eric, Boston College....................................    12
National Center for Policy Analysis, John C. Goodman.............    27


     THE FUTURE OF SOCIAL SECURITY FOR THIS GENERATION AND THE NEXT

                              ----------                              


                         TUESDAY, JUNE 24, 1997

                  House of Representatives,
                       Committee on Ways and Means,
                           Subcommittee on Social Security,
                                                    Washington, DC.
    The Subcommittee met, pursuant to notice, at 9:59 a.m., in 
room B-318, Rayburn House Office Building, Hon. Jim Bunning 
(Chairman of the Subcommittee) presiding.
    [The advisory announcing the hearing follows:]

ADVISORY

FROM THE 
COMMITTEE
 ON WAYS 
AND 
MEANS

                    SUBCOMMITTEE ON SOCIAL SECURITY

                                                Contact: (202) 225-9263
FOR IMMEDIATE RELEASE

June 17, 1997

No. SS-6

             Bunning Announces Fourth Hearing in 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 fourth in a series of hearings on ``The 
Future of Social Security for this Generation and the Next.'' At this 
hearing, the Subcommittee will examine the views of Social Security 
policy experts on Social Security reform. The hearing will take place 
on Tuesday, June 24, 1997, in room B-318 Rayburn House Office Building, 
beginning at 10:00 a.m.
      
    In view of the limited time available to hear witnesses, oral 
testimony will be 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's first three hearings in the series have focused 
on the recommendations of the Advisory Council on Social Security, the 
fundamental issues to consider when evaluating options for Social 
Security reform, the findings of the 1997 Social Security Board of 
Trustees, and the views of organizations with different generational 
perspectives on Social Security reforms.
      
    A wide range of approaches have been proposed to restore Social 
Security's financial solvency. These range from maintaining the 
program's current structure to revamping the system entirely. Various 
Social Security policy experts and policy institutes or ``think tanks'' 
have led the debate on Social Security reform. Many of these experts, 
who represent a wide-range of perspectives, have been key presenters 
and organizers of forums and conferences aimed at examining reform 
proposals.
      
    In announcing the hearing, Chairman Bunning stated: ``Engaging the 
public in Social Security reform is vital. Many Social Security policy 
experts are at the cutting edge of the debate. Their views have been 
carried by the media to the American public. Extensive knowledge and 
years of experience have shaped the thoughtful views of these experts. 
The Subcommittee looks forward to considering their perspectives.''
      

FOCUS OF THE HEARING:

      
    The Subcommittee will receive the views of policy experts on Social 
Security reform. Specifically, Members would like to hear the views of 
each expert regarding: (1) the degree to which Social Security reform 
is necessary, (2) an assessment of the Advisory Council recommendations 
and other reform proposals, (3) specific recommendations for Congress 
to consider as it moves forward, and (4) how soon Congressional action 
is needed.
      

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 ASCII DOS format, 
with their address and date of hearing noted, by the close of business, 
Tuesday, July 8, 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 
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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 
be typed in single space on legal-size paper and may not exceed a total 
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    2. Copies of whole documents submitted as exhibit material will not 
be accepted for printing. Instead, exhibit material should be 
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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 
Committee, must include on his statement or submission a list of all 
clients, persons, or organizations on whose behalf the witness appears.
      
    4. A supplemental sheet must accompany each statement listing the 
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    The above restrictions and limitations apply only to material being 
submitted for printing. Statements and exhibits or supplementary 
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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 202-226-3411 TTD/TTY in advance of the event (four 
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noted above.

                                

    Chairman Bunning. The Subcommittee will come to order.
    I want to inform the panel and the participants and all of 
our guests that I must be on the floor for the debate for most-
favored-nation status for China and that Congressman Rob 
Portman is on his way here to start this hearing. I apologize, 
but I did not do the floor planning; I have little to say about 
what bills come up on the floor at what time, but I am 
committed to being on the floor to debate most-favored-nation 
status for China, and Mr. Portman will be here as soon as 
possible, and we will recess until he gets here.
    [Recess.]
    Mr. Johnson of Texas [presiding]. The hearing will come to 
order.
    Welcome. I guess you all are aware that Mr. Bunning is down 
doing the large work on the floor of the House, and Mrs. 
Kennelly I think has to leave too, fairly soon; but without 
objection, we will enter his statement in the record, and in 
the interest of our expediting affairs, we dispense with 
opening statements, normally; however, I will at this time 
recognize the Ranking Democrat Member, Mrs. Kennelly.
    [The opening statement of Mr. Bunning follows:]

Opening Statement of Hon. Jim Bunning

    This morning we begin our fourth hearing in the series 
``The Future of Social Security for this Generation and the 
Next.'' The testimony we hear today will focus on the views of 
policy experts on Social Security reform.
    Engaging the public in Social Security reform is vital. 
Various Social Security policy experts and policy institutes--
or ``think tanks'' as we all know them--have been leaders in 
the debate on Social Security reform.
    These witnesses bring to our Subcommittee a broad range of 
extensive academic resources and professional experience of 
their respective organizations and constituency groups.
    Comprehensive knowledge and years of experience have shaped 
the thoughtful views of our policy experts today. It's nearly 
impossible for Members of Congress to gather all of the facts 
on every issue that arises. For that purpose, I am very 
grateful that these witnesses, who have dedicated so much time 
and talent to further these discussions, will share their 
perspectives with the subcommittee this morning.
      

                                

    Mrs. Kennelly. Thank you, sir.
    At our last hearing, we heard from the Public Trustees of 
the Social Security Trust Fund. They urged us to act as soon as 
possible to restore the solvency of the Social Security system. 
The longer we wait, the more difficult the task will become, 
and I know our witnesses are very aware of that today.
    Many proposals have been offered to resolve the problem. 
The Social Security Advisory Council offers us three plans. The 
Council on Economic Development, the Cato Institute, and 
several Members of Congress have put forward additional 
options. These hearings have allowed us to delve deeply into 
each of these proposals. We have had the opportunity to 
question their authors and to consider the many advantages and 
disadvantages of each approach.
    Among our past witnesses was the Congressional Research 
Service, which set out a series of criteria by which any Social 
Security reform proposal ought to be judged. I intend to raise 
some of these issues here today. They include questions about 
trust fund solvency, the impact on the deficit and the debt, 
the growth of entitlements, impact on national savings, and 
risks versus returns to the individual.
    One thing is certain--there are many issues yet to be 
resolved, some of them technical, some of them philosophical, 
and many of them, if not all, are important. But I believe we 
can work together on an answer. I am optimistic that 
ultimately, we will find a solution which will assure the 
retirement security of both current and future generations.
    I look forward to hearing the witnesses today, and I 
apologize to you for what is happening. Most-favored-nation 
status for China is on the floor today, and it is a very 
contentious issue. The votes are possibly very close. Mr. 
Bunning, of course, is there now, and I am the third speaker, 
so I will have to go very shortly. But I want to tell our 
witnesses and make them very aware that the reason these 
hearings are held is to get on the record the witnesses' 
testimony; it is then distributed to Members of Congress. So be 
sure that you know today that maybe the attendance is not 
exactly what you might expect, but the fact of the matter is 
your words will go into every office and be read by every 
Member, and I want you to know that.
    Mr. Johnson of Texas. Thank you, Mrs. Kennelly.
    Thank you all for being here today. We appreciate it. For 
the two of you who have just arrived, if you have a statement 
that you wish to enter into the record, without objection, we 
will allow you to do that.
    Mr. Neal. Mr. Chairman, I simply want to acknowledge the 
presence of the scholarly gentleman from my State, Dr. Kingson, 
from one of the greatest institutions in America, Boston 
College. We eagerly await his testimony.
    I am going to follow Mrs. Kennelly on the floor, but I am 
also anxious to hear what he has to say about IRAs, since I am 
the lead Democratic sponsor of IRAs in the House. I read his 
testimony last night, and there will be some genuine room for 
disagreement on that issue.
    But we welcome a great friend of Congressman Tierny as 
well, I believe.
    Thank you, Mr. Chairman.
    Mr. Johnson of Texas. Thank you for that introduction.
    Now we will go ahead and proceed. We will allow each of you 
to make your statements, and we would request that you keep 
them as short as possible. You will be able to enter your 
entire statement in the record. Then we will ask you some 
questions.
    Stephen Moore, director of fiscal policy studies at the 
Cato Institute.

 STATEMENT OF STEPHEN MOORE, DIRECTOR, FISCAL POLICY STUDIES, 
                         CATO INSTITUTE

    Mr. Moore. Thank you, Mr. Chairman.
    First of all, let me commend the Members of this 
Subcommittee for holding a hearing on the future of Social 
Security. I commend you for your courage to talk about this 
issue in an honest and open way.
    First of all, in compliance with the truth in testimony 
provisions passed by this Congress, let me say that the Cato 
Institute does not receive one penny of government funds.
    Let me concentrate my remarks this morning on the issue of 
the rate of return of Social Security. I am not going to get 
into the issue of the financial viability of the system. I want 
to talk about whether we can do better for our workers if we 
chose another option other than Social Security.
    And let me get right to the heart of the matter. Social 
Security, especially for our young workers, the Generation X 
workers, if you will, and especially workers under the age of 
40, is a very bad deal. It is a bad deal for virtually every 
worker in virtually ever circumstance.
    If I may, if you have copies of my testimony, let me ask 
you to turn to the chart that I presented, because this really 
does get to the heart of the matter. Basically, what we have 
done--this is the chart I am referring to, just so you are 
aware--what we have done essentially at Cato is looked at the 
rate of return that a worker might get if, rather than putting 
that money into the Social Security Trust Fund, that workers 
were allowed to put that money into an individual, what we call 
a personal security account.
    Essentially what I would like you to do is concentrate for 
a moment on the panel on this chart, ``Year of Birth 1970.'' 
What this shows, if you look at the first panel--let us 
concentrate for a minute on a low-wage worker. If you see this 
little panel here that says $769, that is essentially the 
monthly benefit that a low-wage worker will receive from Social 
Security. This is someone who was born in 1970. This low-wage 
worker, by the way, is someone whom we assume is going to make 
roughly the minimum wage their entire lifetime.
    So we ask the question, OK, what happens if, rather than 
put the money into the trust fund, we allowed that worker to 
put that money into private capital markets. In terms of rate 
and return, since obviously, we are projecting into the future, 
we looked at the rate of return that you could get in the 
capital markets over the last 75 years and projected out that--
essentially, the assumption here is that you can get the same 
rate of return in the next 50 years that people have gotten in 
financial markets over the last 75 years.
    Let me just make the case that over the last 15 years or 
so, the financial markets have been much, much higher than 
actually the average over the last 75 years.
    If you buy that assumption, which I think is very 
reasonable, what you find is that if that low-wage worker were 
able to put all of that money into bonds, which would be a very 
risk-averse portfolio--no one would put all of his savings into 
bonds--but if he did, he would still get a benefit from a bond 
portfolio that would be about 50-percent higher than what that 
worker would get from Social Security.
    If that low-wage worker were to put all the money into 
stocks, which would be a much riskier portfolio, he would get a 
rate of return about three times higher from a stock portfolio 
than what they would get out of Social Security.
    Now, obviously, as the worker's income rises, the benefit 
of opting out of the system is higher. So that, for example, if 
you look at the second half of this panel, that is a high-wage 
worker; that is anyone who makes over $62,000 a year who 
essentially caps out on the amount he pays into Social 
Security. That worker could do roughly three times better if he 
invested in bonds and, incredibly, about a six times higher 
rate of return if he could put the money into stocks.
    Let me make a couple of points about this. I think these 
are very powerful numbers, and when I show these especially to 
young workers, they say, ``I want this option. I want this 
option of getting the best deal I can on the money that I am 
putting into my retirement account.''
    I think a couple of points need to be emphasized. First of 
all, it is very true that Social Security is an income 
redistribution program. There is a progressive feature to the 
benefits. And some people who are opposed to this idea say, 
well, this would not be a good deal for young, low-wage workers 
because they are going to lose the progressive feature of the 
benefit.
    And a point I want to emphasize to you is that if we were 
to allow even the lowest wage workers in our society to put 
money into private capital markets, even the lowest wage worker 
would do substantially better, even given the progressive 
feature of the benefit structure than if they stayed in Social 
Security. So, there is not a single worker in the system who is 
young today who would not do better if they could opt out and 
go to the private account system.
    Let me make one other point, and then I will pass the 
microphone over to the next speaker, and that is, realize also 
that this is essentially the worst case scenario for personal 
savings accounts, because the assumption that is made in this 
analysis is that we are going to make no changes to Social 
Security. That is, we are not going to reduce the benefits, and 
we are not going to increase the taxes. But everyone here knows 
that that is unrealistic; even the people who are advocates of 
maintaining the status quo agree that essentially we are going 
to have to do something about the tax rate and reduce future 
benefits.
    If you do that, that essentially simply makes the point 
that that worker, if he were able to--well, let me put it like 
this. If you raise the tax, if you allowed that worker to put 
that additional money into private accounts, then the deal 
would be all the better for that young worker.
    So what I am trying to say, I guess, is that all the 
conventional reforms to Social Security--raising the tax rates, 
increasing the retirement age, and lowering benefits in the 
future--only make Social Security a worse deal for our young 
workers. The only deal that makes it a good deal for young 
workers is to allow them to start to put at least some of this 
money into personal security accounts.
    Thank you.
    [The prepared statement and attachment follow:]

Statement of Stephen Moore, Director, Fiscal Policy Studies, Cato 
Institute

    Mr. Chairman, my name is Stephen Moore and I am Director of 
Fiscal Policy Studies at the Cato Institute. In keeping with 
the new truth in testimony rules, let me first say that the 
Cato Institute does not receive a single penny of government 
funds.
    Thank you for the opportunity to comment today on the 
future of Social Security. I wish to commend this Committee for 
its willingness to explore the long term prognosis for Social 
Security.
    As everyone on this Committee knows, the long term 
financial outlook for Social Security is bleak. Depending on 
how it is measured the unfunded liability of the system ranges 
from $3 trillion to $5 trillion. This is much like a second 
national debt. Yet the financial sustainability of Social 
Security could be assured with a series of conventional reforms 
that include raising payroll taxes and reducing future 
benefits. Though young people, of course, are none too 
enthusiastic about these ``pay more in, get less out'' 
solutions.
    But the major point that I wish to communicate to you this 
morning is that the case for converting Social Security into a 
system of Personal Security Accounts (PSAs) is not primarily 
based on the system's financial problems. The real economic and 
political crisis looming over Social Security relates to the 
issue of rate of return. For baby boomers and especially for 
Generation X workers, Social Security offers a low rate of 
return--even negative for many workers.
    I would ask each of you to review for a moment the attached 
charts from a recent Cato Institute study. They compare the 
rate of return for Social Security versus investment in private 
capital markets? The data was compiled for the Cato Institute 
by Bill Shipman principal of State Street Global Advisors in 
Boston. It has been reviewed by professional actuaries and 
certified as accurate.
    To derive an estimated rate of return from capital markets 
in the future, the study assumes that over the next forty to 
fifty years, workers will be able to obtain a rate of return in 
capital markets equal to the average historical rate of return 
on bonds and stocks from the past 70 years (1926-95). For 
stocks that annual historical rate of return has been 10 
percent (nominal); while for bonds the return has been 6 
percent (nominal). (Incidentally, over the past twenty years, 
the financial markets have far exceeded the historical average.
    The chart shows that a typical baby boomer born in 1950, 
will pay over his or her lifetime several hundred thousand 
dollars more in payroll taxes (plus interest and a normal rate 
of real return) than the benefits he or she receives.
    But the real losers are those in the Generation X cohort--
or those born after 1970. These young workers can expect to pay 
$2 to $5 of taxes (including the foregone normal rate of return 
on those dollars) for every dollar in benefits collected. Or to 
state the point differently: if Congress were to allow a 25 
year old working woman today to invest her payroll tax 
contributions in private capital markets, her retirement 
benefit would be two to five times higher than what Social 
Security is offering. For our young workers, these are very 
powerful numbers.
    Consider the situation of a low wage worker--someone whose 
lifetime salary is near the minimum wage. Because of the 
progressive benefit feature of Social Security, this is 
typically thought to be the worst case scenario for personal 
security accounts. It turns out that based on current law, for 
that worker Social Security promises an annual benefit of 
roughly $9,000 a year (1995 dollars). If that money were 
invested in private markets in a portfolio with half stocks and 
half bonds, the worker would receive an annual benefit upon 
retirement in the form of an annuity of almost $20,000 per 
year--or well over twice what Social Security offers. If the 
money were put entirely into stocks, the worker would have an 
annual benefit of more than $25,000--or three times what Social 
Security offers.
    Not every worker, obviously will obtain the ``average'' 
rate of return. By definition, some workers will do better, 
some will do worse. But under a PSA system, Congress could 
place reasonable restrictions on how the money were invested, 
to protect against losses. For example, Congress might restrict 
the investments to a select number of mutual funds, where a 
certain portion of the fund is invested in corporate bonds and 
treasury bonds. Hence, low-wage workers who might not know much 
about financial markets, would not choose individual stocks. 
But a critical point here is that even if these accounts were 
restricted to an unrealistically risk-averse portfolio, in this 
case 100 percent corporate bonds, the rate of return would 
still be higher than under Social Security. In fact, it is 
virtually impossible to construct an investment scenario where 
even the lowest income worker does better under Social Security 
than under a PSA.
    So here is the critical point for the members of this 
Committee to bear in mind when crafting proposals for the 
future of Social Security: even if the trust fund were entirely 
solvent--and even if every dollar of promised benefits were to 
be paid with no tax increases--the system would be a bad deal 
for our young workers.
    Now let's return to the situation of a low-wage worker. I 
have discovered in conversations with members of Congress and 
with working Americans that there is an understandable concern 
about how this will impact our lowest income workers who are 
most likely to depend exclusively on Social Security payments 
when they retire. To be viable, any PSA plan must make these 
most disadvantaged workers better off, not worse off. The chart 
presented above actually understates the advantage of Social 
Security privatization to the poor and to minorities. The 
reason that it understate the benefits of PSAs to the poor and 
minorities is that these are the workers who are most likely to 
have started their working years at an earlier age, to have 
worked more years over their career, and to die earlier after 
retirement. For precisely these reasons, even accounting for 
the progressive nature of the benefit structure, low-income and 
black workers actually pay in the most relative to the benefit 
they forego from a private system.
    Social Security offers the worst rate of return for that 
part of the population that it is supposedly most benefited 
from the system: minorities and the poor. Moreover, it is 
precisely because the poor elderly tend to have no other source 
of retirement income, that they stand to gain the most from a 
privatized system that would yield them a 30 to 50 percent 
higher monthly payment.
    I have attached for the record a recent Cato study by my 
colleague Michael Tanner that explains in greater detail why 
the poor would gain the most from PSAs.

    [The information was not available at the time of 
printing.]

    Incidentally, the Tanner study is also relevant to the 
spurious argument that workers can not be given the right to 
opt out of the system because of an ``adverse selection'' 
problem. There is no adverse selection problem associated with 
a voluntary Social Security Personal Security Account plan, 
since with very few exceptions, every worker in America would 
be financially better off investing in private capital markets 
than by staying in the current system.
    The argument is sometimes made that there are always risks 
involved in investing money privately. The stock market doesn't 
always go up in the short term--though in the long term it must 
or America will be a very poor country in the next century. 
Rates of return are not guaranteed. Stock markets crash. Bear 
in mind, however, that the historical rate of return assumed in 
this analysis takes into account the Depression-era stock 
market crash, the 1987 crash and the decade long sag in the 
market from the late 1960s to the early 1980s.
    So yes, there are investment risks associated with PSAs. 
But remember, from the point of view of the worker, there are 
also huge political risks associated with staying in the 
government-run Social Security system. There is the risk that 
benefits will be cut in the future or that the payroll tax will 
be raised.
    In fact, I would maintain that given the current financial 
plight of Social Security, it's a virtual certainty that 
Congress will enact either or both of these Social Security 
``reforms.'' Hence, the rate of return comparisons presented 
above are an unlikely ``best-case scenario'' for Social 
Security. The charts assumes that no change in promised 
benefits and no change in the payroll tax rate will occur over 
the next forty years.
    Even the staunchest opponents of privatization and the most 
vocal advocates of maintaining the structure of the current 
system agree that benefits and taxes need to be revised. Former 
Social Security Commissioner Robert Ball, a leading foe of 
privatization, advocates a slight rise in the payroll tax, an 
increase in the retirement age, and other assorted reductions 
in future benefits. Each of the proposals advocated by the 
Advisory Council suggested benefit reductions and future tax 
increases.
    It is imperative for this Committee to understand a 
critical point about the future of Social Security: any or all 
of the conventional ``fixes'' to the program will only make the 
system a worse deal for young people.
    Consider, for example, the proposal to raise gradually the 
payroll tax by two percentage points (above the current 15.3 
percent rate) and a gradual rise in the retirement age before 
collecting benefits (as is now being considered for Medicare). 
If this combination of reforms were enacted, rather than paying 
$2 to $5 of taxes for every dollar of benefit received, our 
young worker would now pay $3 to $6 of taxes for every dollar 
of benefit.
    This is why all conventional fixes, if they are not tied to 
an exit strategy that allows young workers to capture the 
returns from private markets, are a bad deal for the young. 
This also explains why the 18-30 year old demographic group is 
the most enthusiastic about a private alternative to Social 
Security. A personal security account (PSA) system is the only 
option available to Congress that improves the financial 
situation of young workers. All of the rest of the leading 
proposals make the young financially worse off.
    I believe that most of the members of this Committee would 
be in favor of moving gradually to a PSA system if there were a 
way to do so without blowing a hole in the deficit. We all 
agree that benefits to current retirees (and soon to be 
retirees) cannot and should not be cut. We must keep the 
promises that have been made to seniors.
[GRAPHIC] [TIFF OMITTED] T0756.003

    If we allow workers to place all or a portion of payroll 
tax revenue into private accounts, and we continue to pay 
benefits to the elderly, then the budget deficit will rise in 
the short term. To overcome this paradox the members of this 
Committee must keep in mind that the $3 trillion of unfunded 
Social Security liabilities are sunk costs. Sunk costs are 
sunk. The liabilities will need to be paid off regardless of 
whether Social Security is privatized or not. PSAs simply push 
those liabilities forward, making them transparent, so they are 
recognized and dealt with today, not 25 years from now. The 
budgetary impact of PSAs is the equivalent of paying off a 
future liability immediately, as companies often do to get 
unfunded pension liabilities off their books.
    Much of the problem stems from the fact that the United 
States government is about the only institution in the world 
that still uses a cash-flow accounting system. If the federal 
government ran its books--using accrual accounting--as every 
business does, all of the bookkeeping problems with Social 
Security PSAs would disappear. Tax revenues would decline, but 
so would offsetting future liabilities--because today's workers 
would no longer be accumulating rights to benefits. If any 
individual worker wished to exit from the system and stop 
paying the tax, then the financial impact on the system would 
be roughly a wash--unless that worker pays more into the system 
than he gets out of it. If the worker could be impelled to pay 
the government to get out of the system, then the impact on the 
government's balance sheet would be positive.
    And herein lies the way out of the dilemma facing Congress. 
It starts with the recognition that the financing problem of 
converting to a privatized Social Security system is a short-
term cash-flow problem, not a balance sheet problem. From a 
public policy standpoint, what Congress should be primarily 
concerned with is how to improve the federal government's 
balance sheet. It turns out that the gains are so large from 
privatization of Social Security--Martin Feldstein of the 
National Bureau of Economic Research estimates that the net 
economic benefit from Social Security privatization is $10 
trillion--that a plan could easily be devised whereby the gains 
are shared by the government and the worker--to the benefit of 
both.
    Here is one potential method of sharing the gains. What if 
we offered the following deal to every American worker? If you 
promise to forfeit any claim on Social Security benefits--even 
those you have already accumulated--we will let you invest all 
of your future payroll taxes into private markets. Since the 
rate of return is so much higher in the private markets than 
with Social Security, many workers would gladly accept this 
deal. It turns out, for example, that the age of ambivalence 
between staying in the system and continuing to pay the tax, 
versus forfeiting future benefits and putting the subsequent 
payroll tax revenues into a PSA, is roughly 40 years old--for 
an average income worker.
    For a worker just now entering the workforce, the decision 
would be clearcut. For example, take a typical female worker 
who just started working and earns a salary of $22,500, which 
will go up with the rise in average wages over her lifetime. 
When she retires Social Security will pay her a $12,500 annual 
benefit in today's dollars--assuming no change in benefits. If 
she were permitted to simply place her payroll taxes in a 
mutual fund with a 7 percent real rate of return (the average 
rate over the past fifty years), she would have a nest egg 
worth $800,000 to $1 million at retirement age. This would 
allow the worker to draw a $60,000 benefit per year until death 
(assumed at age 80). This is five times higher than what Social 
Security offers for the same level of investment.
    For workers in their 20s and 30s the rate of return is so 
much higher in private markets than under Social Security that 
most would be willing to pay in effect an exit tax for the 
right to invest payroll tax payments privately. The exit fee is 
the forfeiture of benefits already accrued. There is no adverse 
selection problem under this scheme because the government 
makes money on every worker who opts out--regardless of their 
income.
    How big are the gains to the government from this opt-out 
transition system? Bill Shipman and Marshall Carter with State 
Street Global Advisers calculate that if every worker under 40 
opted out, the reduction in the unfunded liability of Social 
Security would be on the magnitude of $1 to $1.5 trillion. 
Hence, up to one-third of the current unfunded liability would 
be eliminated through this transition plan.
    In summary, allow me to enumerate the economic advantages 
of converting out of our pay-as-you-go government-run Social 
Security system to a program of PSAs:
    (1) Privatization offers a much higher financial rate of 
return to young workers than the current system.
    (2) Privatization gives workers--rather than politicians--
control over their own retirement nest egg. The funds deposited 
in private retirement accounts, are funds that can never be 
easily taken away by the government.
    (3) A privatized system will increase worker ownership in 
American businesses and assets. This is a ``share the wealth'' 
strategy that will help create a nation of capitalists and 
raise the level of savings and investment.
    (4) Privatization is the equivalent of a tax cut for 
workers. Currently the Social Security payroll tax is treated 
by many young workers as simply a tax, not a deferred form of 
compensation. The tax reduces their take-home pay--and thus 
reduces the incentive to work. Since the privatization option 
deposits these funds into a personal account, they are now 
``owned'' by the worker.
    (5) The increased flow of funds into private capital 
markets will reduce the cost of capital, and thus increase 
capital formation, business creation, and ultimately wages and 
living standards.
    (6) By sharing the trillions of dollars of economic gains 
from the higher rate of return from private accounts, Congress 
could adopt a strategy that would improve the financial status 
of individual workers and the federal government. This 
establishes a win-win situation for the government and the 
worker.
    Thank you again for the opportunity to testify before this 
Committee.
      

                                

    Mr. Johnson of Texas. Thank you.
    Dr. Kingson, Associate Professor at Boston College, as 
enunciated by Mr. Neal. Go right ahead, sir.

STATEMENT OF ERIC KINGSON, ASSOCIATE PROFESSOR, GRADUATE SCHOOL 
  OF SOCIAL WORK, BOSTON COLLEGE, CHESTNUT HILL, MASSACHUSETTS

    Mr. Kingson. Thank you, Mr. Chairman, and thank you, Mr. 
Neal, for a nice, warm introduction from Massachusetts.
    Today, I would like to make six main points. I guess I 
should begin by making a very important point. It is an honor 
to be here, and I am very appreciative of the opportunity and 
pleased that you are taking a very careful look at the Nation's 
Social Security Program and its future.
    The six points that I would like to make today are, first, 
that there is a significant financing problem, and in my 
opinion, it should be addressed sooner rather than later. Under 
the best estimates, the most commonly accepted estimates, the 
combined Old-Age, Survivors, and Disability Insurance, OASDI, 
Trust Fund, as you are well aware, has sufficient funds to meet 
all obligations through the year 2028, and after that, the 
income is roughly three-quarters of anticipated outgo. Clearly 
there is a problem, and clearly we should address it.
    The second point is that there are no magic bullets. We 
cannot wish this problem away; neither should we pretend that 
there are pain-free solutions. Unfortunately, we are not in 
Lake Woebegone, where everything is above average. This is the 
real world, and there is going to be pain whatever we do in 
terms of addressing the Social Security problem. That means 
whether or not this Subcommittee or Congress chooses to 
privatize or not, there will need to be either substantial 
benefit reductions and/or tax increases--not impossible to do, 
but that is the reality we face. And in fact, if we choose to 
privatize, the benefit reductions or tax increases will have to 
be substantially larger to address the Social Security 
financing problem.
    Regardless of whether you oppose or favor the privatization 
of Social Security, it is important, I believe, that you 
recognize that the PSA, the personal security accounts, the 
individual security accounts, and other privatization plans 
greatly complicate addressing the financing problems of Social 
Security.
    If a portion of current Social Security contributions is 
diverted to IRA-like accounts, new revenues must be found to 
finance Social Security pensions to all current and many future 
beneficiaries. In other words, all privatization plans must 
address the transition problem, the question of how to meet 
obligations to current beneficiaries and to older workers while 
simultaneously advance funding the retirement of the young and 
many middle-aged workers. And many of these plans, as you are 
aware, would increase the Federal deficit, placing pressures on 
other Federal expenditures.
    In this respect, I think it is very important to 
acknowledge one of the Advisory Council proposals, which I 
strongly disagree with, for the honesty and forthrightness of 
the analysis behind the personal security account proposal. The 
proponents of the PSA plan do not try to hide the fact that 
their plan requires dramatic financing. They call for a 
temporary, 72-year tax increase of the equivalent of 1.5 
percent of payroll, and on top of that, $2 trillion of 
borrowing, to address the transition problem. They acknowledge 
these costs up front and, by so doing, allow us to discuss the 
transition costs openly and honestly.
    Even the more modest individual accounts plan requires much 
larger benefit cuts in the public program--about 30 percent for 
the average American worker--much larger than would otherwise 
be needed if we chose not to go a partial privatization route. 
And for those who might say, well, this plan increases national 
savings, indeed it does, but so would any plan that 
incorporates a 1.6 percent of payroll tax increase over and 
above the existing payroll tax, which is essentially what that 
plan does. We could increase national savings that way, with or 
without a Social Security reform.
    The third major point is that Social Security is a program 
that protects the entire family, and this protection is well 
worth protecting--something we could discuss later.
    The fourth point is that privatization of the Nation's 
Social Security Program would undermine the well-being of tens 
of millions of baby boomers as well as those who follow them 
into retirement. Private pension coverage has shown evidence of 
slight decline for young workers, and also, we have seen 
evidence that employment for American workers is less secure 
than it had been for earlier generations. This is precisely the 
wrong time to introduce additional risks in the personal lives 
of working Americans, the kinds of risks that would be 
introduced by privatization. It would also guarantee higher 
levels of inequality in our society--again, something that has 
been growing and not something we should seek to advance. This 
is true of even the individual account plan. Although it may 
sound relatively reasonable relative to the PSA plan or some of 
the extreme plans, it too has the potential to undermine the 
Social Security Program and the economic security of new 
retirees. It creates a political risk that those workers who do 
better in the system--and there will be some, given averages, 
who do better--will have less interest in maintaining the 
public portion.
    One other point. There are many reasonable options, none 
without pain, but there are financing options that can address 
this financing problem without pulling apart the Nation's 
commitment to a public, universal system. The Advisory Council 
on Social Security, with all its splits, agreed to a number of 
proposals that would address roughly 60 percent of the problem.
    Finally, I would simply note that there are very important 
moral values at stake here. Social Security is a mechanism that 
gives expression to community, the best expression of 
community, according to former Senator Bill Bradley. Behind all 
the discussion of ``bend points,'' ``year of exhaustion,'' 
``dependency ratios,'' and all of this technical discussion are 
millions of Americans and large questions about what we owe 
each other as a society, how we want to encourage families to 
protect themselves against basic risks we all face, and what 
mix of private and public responsibility we want.
    In other words, this is not simply a mere accounting 
exercise, as I know you are aware; this is an exercise that 
will say much about what we are as a nation, and will say much 
about how we see our role in terms of protecting all our 
neighbors and all our parents. And I think that that part of 
the discussion needs to be brought up front often so we do not 
lose sight of the moral basis of Social Security and the way 
different Americans may be affected by potential reforms.
    Thank you.
    [The prepared statement and attachments follow:]

Statement of Eric Kingson, Associate Professor, Graduate School of 
Social Work, Boston College, Chestnut Hill, Massachusetts

    Mr. Chairman and members of the Subcommittee on Social 
Security of the Ways and Means Committee, it is an honor to 
appear before you to discuss the future of the nation's 
commitment to a sound Social Security program. My name is Eric 
Kingson. I am an associate professor of social policy at the 
Boston College Graduate School of Social Work. My scholarship 
and research address the political and economic consequences of 
population aging, including Social Security, the aging of the 
Baby Boom cohorts and issues of generational justice. I have 
previously directed a study for the Gerontological Society of 
America which examined various ways of framing policy 
discussion about the aging of America, and I was an advisor to 
the 1982-3 National Commission on Social Security Reform and to 
the 1995 Bipartisan Commission on Entitlement and Tax Reform.

               The major points I wish to make today are:

     According to the best estimates, Social Security 
has a significant financing problem. Under the best estimates, 
the combined OASDI trust fund has sufficient revenues to meet 
all obligations through 2028. Thereafter, anticipated revenues 
are projected to only meet three-quarters of estimated trust 
fund obligations.\1\
---------------------------------------------------------------------------
    \1\ As the Committee knows, under intermediate assumptions as 
reported in the 1997 trustees report, the combined OASDI trust fund is 
estimated to be able to meet its commitments until 2029. However, it is 
not in actuarial balance for the 75 year period over which long-range 
estimates are made. Tax returns (payroll tax receipts and receipts from 
taxation of benefits) will be exceeded by outlays in 2012. Total 
income, including interest earnings, is expected to exceed expenditures 
through about 2018 and the combined OASDI trust fund is able to meet 
its commitments through 2029. Under the most commonly-accepted 
intermediate assumptions there is a projected 2.23 percent of payroll 
short-fall (-5.54 percent of payroll shortfall under the high cost 
assumptions and a +0.21 percent of payroll surplus under the low cost 
assumptions.) This deficit represents a roughly 14 percent shortfall 
over the 75-year estimating period; a 25% shortfall after 2028. Since 
the deficit years fall in the middle and end of the estimating period, 
the short-falls in the out years are substantially larger than 
suggested by the overall 2.23 percent of payroll estimate (i.e., -4.88 
percent of payroll from 2047-2071).
---------------------------------------------------------------------------
     The projected financing problem should be 
addressed sooner rather than later. For several years now the 
Social Security trustees have been sounding the warning bell. 
While there is no immediate crisis, there is a need to advance 
policies which will put the program back into actuarial 
balance. Now, one could argue that we could wait 10-15 years 
before acting. After all, the program is currently running 
large annual surpluses ($71 billion in 1996 alone) and under 
all plausible scenarios, shortfalls do not occur for at least 
20 years. But I believe it would be a mistake to postpone 
action on the long-term problem. Changes that may affect the 
income of future retirees should be put in place with 
sufficient lead time to allow workers to adjust their 
retirement expectations and savings behavior. Moreover, 
postponing action will undermine public confidence in the 
program and fuel cynicism about the ability of the nation to 
address its problems.\2\
---------------------------------------------------------------------------
    \2\ The ability to monitor changing economic and demographic trends 
and anticipate the implications of such changes is a strength of Social 
Security. Projections provide useful indicators of probable experience, 
even forty, fifty or seventy-five years into the future. By doing so, 
they provide a useful tool for making the mid-course corrections that 
are necessary from time to time. Because the contours of the future are 
uncertain, projections--especially long-term ones--are subject to 
error, and, not surprisingly, actual experience is almost always more 
or less favorable than forecasted. In fact, the history of the program 
tells us that continued policy and programmatic change, in response to 
shifting demographic, economic and political forces, is almost the one 
thing that can be predicted with certainty.
---------------------------------------------------------------------------
     There are no magic bullets. We cannot wish the 
problem away; neither should we pretend that there are ``pain 
free'' solutions. Whatever this Committee recommends and the 
Congress ultimately enacts--and that includes any form of 
privatization--will require either benefit reductions or tax 
increases. Privatization schemes such as the Personal Security 
Account (PSA) and Individual Account (IA) plans will require 
larger benefit reductions than would otherwise be needed in the 
public program and/or larger tax increases (or the equivalent 
of tax increases).\3\
---------------------------------------------------------------------------
    \3\ Public investment in the stock market of a portion of the 
growing trust fund accumulations such as what is proposed for 
consideration under the Maintain Benefits (MB) plan might increase rate 
of returns but it will not eliminate the need for benefit reductions 
and/or tax increases.
---------------------------------------------------------------------------
     The rhetoric of Social Security reform is creating 
serious public misunderstanding about the financing problems of 
Social Security and how best to address these problems. Some 
members of the public believe nothing needs to be done. Many 
others offer the opinion that Social Security will not be there 
for them. The ``language of Social Security reform'' often adds 
to the problem. For instance, among the public and some 
journalists, there is an often repeated belief that the 
projected exhaustion of the combined OASDI trust fund equates 
to the total inability of the program to meet its obligations. 
Yet, as members of this committee are well aware, even in the 
unlikely event that nothing were done to correct for the 
projected exhaustion of the OASDI trust fund, sufficient 
revenues are projected to meet all obligations through 2028 and 
roughly 75 percent from 2029 through 2071.\4\ Such 
exaggerations of the problem are often used by the proponents 
of radical change to provide rationale for privatizing or 
otherwise dismantling the nation's commitment to a universal 
and public Social Security program.
---------------------------------------------------------------------------
    \4\ The actuaries project sufficient funds to meet 67% of 
anticipated expenditures during the last 25-year period (2047-2071) in 
the 75-year estimating period (1997-2071).
---------------------------------------------------------------------------
     Regardless of whether you favor or oppose 
privatization proposals, you should recognize that the PSA, IA 
& other privatization plans greatly complicate the Social 
Security financing problem, making it more difficult to 
address. If a portion of current Social Security contributions 
are diverted to IRA-like private accounts, new revenues must be 
found to finance Social Security pensions to all current and 
many future beneficiaries. In other words, all privatization 
plans must address the ``transition problem''--the question of 
how to meet obligations to current beneficiaries and older 
workers while simultaneously advance-funding the retirement of 
young and many middle-aged workers. And many privatization 
schemes would also grow the federal deficit, placing additional 
pressures on federal expenditures.
    In this respect, the architects of the PSA plan should be 
complimented for having the courage to acknowledge the very 
large costs inherent in any shift towards a private scheme. 
They do not try to hide the fact that the financing of their 
plan requires a ``temporary'' 72-year ``transition tax'' of 
1.52% of payroll plus the borrowing of roughly $2 trillion 
dollars from general revenues in 2002 to 2034, to be paid back 
from 2035 to 2069. But, even so, imagine how much more 
difficult the balancing of the federal budget will be should 
the PSA plan become law. Even the more modest IA privatization 
plan would require an unnecessarily large benefit cut--roughly 
30% for an average earner \5\--in the remaining public Social 
Security program. And it would mandate, over and above the 
current payroll tax contributions, an additional 1.6 percent 
``employee contribution''--a tax by any other name--to a 
private account. In other words, there are no free lunches 
here.
---------------------------------------------------------------------------
    \5\ The benefit formula changes in the IA plan include the 3% cut 
from lengthening of the averaging period, a roughly 17 percent cut in 
future benefits for average earners--20 percent for high income and 8 
percent for low earners--and a 8 percent cut from proposed increases in 
the age of eligibility for full Social Security. (See Insurance Update, 
Volume 1, Issue 3, December 1996, page 3. Also, Advisory Council on 
Social Security (1997). Report of the 1994-1996 Advisory Council on 
Social Security, Volume I: Findings and Recommendations. Washington, 
DC: U.S. Government Printing Office, page 62.
---------------------------------------------------------------------------
     The nation's universal and public Social Security 
program protects the entire family and this protection is worth 
maintaining. Social Security provides widespread and basic 
protection to America's families and employees. It is also the 
main source of disability and survivors protections for 
America's families. For a 27 year old couple with two children 
under age 2 and with earnings equal to average wages, Social 
Security is the equivalent of a $300,000 life insurance policy; 
a $207,000 disability policy. It provides Americans with the 
equivalent of $12.1 trillion dollars in life insurance 
protection, more than the entire value ($10.8 trillion) of all 
the private life insurance protection in force. Included among 
its 44 million beneficiaries are three million children under 
18 who receive benefits each month. In Massachusetts, my home 
state, about 1,036,000 persons receive benefits--totaling $670 
million dollars a month. They include 730,000 of Massachusetts' 
retired workers and their spouses, 119,000 widows and widowers, 
106,000 disabled workers and their spouses and 71,000 children. 
And the program is of equal importance to families in every 
state (see tables 2 & 3).
     Social Security is the building block that has 
transformed old age. Social Security is the only pension 
protection available to six out of ten working persons in the 
private sector. For the middle class, it provides the 
foundation of a secure retirement, ideally to be built upon by 
other pension coverage, private savings, sound investments, 
accumulated equity in their homes and, for some, work in their 
later years. But even for those who are relatively well off, 
say the roughly 4.8 million elderly households with incomes 
between $18,732 and $31,179 in 1994, Social Security provides 
nearly half of the total income (see table 4) going to their 
homes. For the bottom 60 percent of the elderly income 
distribution--those 14.6 million households with incomes under 
$18,731 in 1994, Social Security provides over 70 percent of 
all household income (see tables 4 and 5). Indeed, absent 
Social Security, the poverty rate among the old would increase 
to roughly 50 percent (see table 6). And importantly, the 
security of beneficiaries is protected by cost-of-living 
protection which assures that benefits, once received, maintain 
their purchasing power into advanced old age--the point in time 
when elderly persons, especially widows, are often at greatest 
economic risk.
     The well-being of baby boomers and those who 
follow them into retirement will be best served by financing 
reforms that maintain the basic structure of Social Security. 
We should encourage personal savings and we should seek to 
expand employer-based pension coverage. But neither we nor the 
public should accept as an untested article of faith that a 
privatization scheme can do more to protect the vast majority 
of baby boomers. With private pension coverage showing evidence 
of a slight decline for young workers and with employment 
becoming less secure for most Americans, this is hardly the 
time to gamble on radical changes that can only result in 
increased insecurity and greater disparity in the incomes of 
Americans. As with today's elderly populations, there is 
nothing on the horizon that can assure the widespread and 
secure protection of Social Security to the vast majority of 
tomorrow's retirees.
     Privatizing the nation's public Social Security 
program would undermine the well-being of tens of millions of 
baby boomers and those who follow. As my colleague at Boston 
College, John Williamson and I have written, ``privatization 
places low- and moderate-income workers at significant 
political risk. As Social Security is currently structured low-
income workers get a better return than high wage workers on 
their contributions, a factor that keeps millions of the 
elderly out of poverty during their retirement years. But in 
separating out the interests of higher-income workers from the 
public portion of the program, privatization schemes ensure 
erosion of political support for the program's redistributive 
role--an outcome which would further increase the economic and 
social distance between rich and poor.''
    ``Middle and low income workers would face especially 
serious market risks. Long run returns on stock market 
investments have generally been quite favorable. But no 
promises can be made about what will happen to an individual's 
nest egg in the few years, months or even days before 
retirement. Low- and even many middle-income workers cannot 
afford good investment advice. They are more likely to make 
poor investment decisions, for example, investing too 
conservatively during early working years or taking 
unacceptably high risks just prior to retirement.'' \6\ ``And 
most privatized schemes do not provide inflation protection for 
retirees, yet another example of how they shift risk from 
government to the individual. The affluent are better 
positioned to tolerate such risks, but the impact on low and 
middle income retired persons could end up being devastating.'' 
And there are other risks, including the possibility that a 
future Congress might undermine the retirement savings goal by 
allowing the holders of these private accounts to draw on them 
for medical emergencies, education or other non-retirement 
purposes.
---------------------------------------------------------------------------
    \6\ It should be noted that it may be prudent for low-income people 
to invest conservatively since they would have little to fall back on.
---------------------------------------------------------------------------
    Privatization may be a bad idea for most Americans, but not 
necessarily for everyone--at least if we assume that the 
winners in the ``privatization lottery'' do not have a stake in 
promoting the well-being of the rest of society. Though trading 
off some surety of protection, [on average] the most affluent 
workers would likely do better under privatization plans--at 
least in so far as they do not experience serious declines in 
their earning capacities during middle age. But without 
question the most certain ``winners would be the banks, mutual 
funds and investment companies who stand to benefit from the 
millions of transactions and trillions in private sector 
investment that would follow even a small partial 
privatization.'' \7\
---------------------------------------------------------------------------
    \7\ See John B. Williamson and Eric R. Kingson (January 10, 1997), 
``The Pitfalls of Privatization,'' Boston Globe.
---------------------------------------------------------------------------
     Even though the IA plan may sound reasonable 
relative to the PSA and even more extreme privatization plans, 
it too has the potential to undermine the Social Security 
program and the economic security of new generations of 
retirees. Not only does it require additional benefit cuts and 
tax increases in the remaining public program, but it also 
assures that those successful investors--often the highest 
income workers and the nation's opinion leaders--would be tied 
to an expansion of the private accounts approach.
    To fund a privatization and to adjust for the expectation 
that high income people would benefit most from a 
privatization, the benefit cuts in the remaining public program 
would be considerably larger for America's best off workers. 
Such workers would inevitably compare the favorable rates of 
return they are receiving in the private plan to the shrunken 
rates they would then receive in the remaining public plan. 
Over the long run, this would likely create splits in public 
support for the remaining public Social Security program. In 
other words, in my opinion, the IA plan is the equivalent of 
``the proverbial camel's nose under the tent''--the beginning 
of a process which will destroy the nation's public Social 
Security program. And for those who point out that this 
approach would increase national savings, I would simply say, 
``Of course it does! Whenever you mandate any ``tax 
increase''--in this case a 1.6% of payroll contribution to 
private accounts--over and above existing taxes, you will 
increase national savings.''
     Important areas of agreement should not be 
overlooked. Even among the split 1994-6 Advisory Council, its 
members unanimously agreed that there is a manageable financing 
problem, and that it should be addressed sooner rather than 
later. They also unanimously agreed with maintaining some 
redistribution to low income persons, that means-testing Social 
Security is not desirable, that full COLA protection is 
critical to the financial well-being of beneficiaries and that 
any ``sacrifice in bringing the system into balance should be 
widely shared and not borne entirely by current and future 
workers and their employers.'' \8\ And they agreed that 
additional income protection is needed for aged widows--a group 
of elders at substantial economic risk. All three plans improve 
the rate of return for future beneficiaries through some form 
of investment of the growing Social Security trust fund assets 
in the private sector. All three call for increased tax 
revenues or their equivalent although the MB plan would not 
initiate a 1.6% of payroll increase (0.8% on employer and 
employee) until 2045 and the PSA plan calls for a 72-year 
increase of 1.52 beginning in 1998.
---------------------------------------------------------------------------
    \8\ See Advisory Council on Social Security (1997).
---------------------------------------------------------------------------
     Many financing reform packages can be put together 
without violating the basic commitments to the nation's public 
Social Security program. For example, Council majorities 
supported four changes that addressed 60 percent of the 
financing problem. There was strong support for extending 
coverage to all new state and local workers; reducing benefits 
by roughly three percent through a technical change in the 
benefit formula; and taxing Social Security benefits in roughly 
the same manner as income from contributory defined-benefit 
plans. And there was majority support for a proposal to 
accelerate the planned increase in the normal retirement age to 
67 in 2011 instead of 2022, and to index it to changes in life 
expectancy thereafter.\9\ Taken, together, these four changes 
address sixty percent of the projected financing problem (+1.31 
percent of taxable payroll)--arguably a pretty substantial 
down-payment on the projected shortfall for those seeking 
moderate approaches to addressing the financing problem. And 
many other options exist as well.
---------------------------------------------------------------------------
    \9\ This proposal to increase the age of eligibility for full 
benefits represents an 8 percent cut in benefits. This and other 
proposals to raise the age of eligibility for full benefits provide an 
example of the need to carefully assess the distributive implications 
of proposed benefit reductions (and/or payroll tax increases). In many 
respects this type of benefit reduction represents a fair and 
understandable way of reducing expenditures. Life expectancies, and 
hence the number of years beneficiaries receive retirement benefits, 
have increased and are expected to increase even further. Even after 
age 67 is phased in as the new normal retirement age, as planned under 
the current law, beneficiaries of the future will generally receive 
retirement benefits for more years than current beneficiaries. 
Moreover, this change, some suggest, will encourage work effort on the 
part of the old. However, others point out that there is little 
evidence that workers will substantially increase their work effort, 
even if employment opportunities are available. Of most concern, this 
change undermines the adequacy goal of Social Security, with much of 
the long-term savings to the trust fund coming disproportionately at 
the expense of future lower-income persons who may be unable to work 
due to limited employment opportunities and health problems. Among both 
proponents and opponents of retirement age changes, there is 
recognition that such changes will have potentially deleterious effects 
on some marginally-employable older workers of the future, leading many 
to suggest the need to consider ameliorative policy interventions if 
the normal retirement age is increased. For example, Congressman 
Pickle's bill (H.R.4275) proposed pairing an increase in the Social 
Security retirement age to 70 with a reduction in the SSI eligibility 
age to 62.
---------------------------------------------------------------------------
    For example, the MB plan suggests considering the gradual 
investment of up to 40 percent of OASDI trust fund assets in 
broad private market funds, a change that would indirectly 
increase rates of return to individuals while also eliminating 
about two-fifths (+0.90 ``percent of taxable payroll'') of the 
projected financing problem. Some have suggested moderate 
across the board benefit cuts or even further increases in the 
age of eligibility for full benefits. Others might treat some 
portion of fringe benefits as taxable for Social Security 
purposes \10\ or incorporate a modest increase in payroll taxes 
forty or fifty years from now. Still others would restore and 
maintain the proportion of wages covered by the payroll tax at 
the 90% level by 2000, addressing about 14% of the projected 
financing problem (+.31 percent of taxable payroll).\11\ My 
purpose is not to advocate any particular package, but to point 
out that the financing problem can be addressed without 
privatizing or otherwise altering the basic structure of the 
program.
---------------------------------------------------------------------------
    \10\ Edith Fierst, a member of the Advisory Council, notes that 
Social Security's actuaries estimate that taxing ``the cost of 
employer-provided group health and life insurance ... as though it were 
cash compensation'' would address roughly one-third of the predicted 
shortfall). (See E.U. Fierst (1997). Supplemental statement. In 
Advisory Council on Social Security (1997), pp. 135-154).
    \11\ During the 1980s as the income distribution widened (with more 
people being pushed well above average wages), the proportion of wages 
covered by the payroll tax dropped from roughly 90% to 88%. It is 
projected to drop to 85.5% ten years hence. (Alternatively, some would 
suggest giving consideration to treating 100% of employer payroll as 
taxable for Social Security purposes. This approach would address 
nearly one-half of the projected financing problem and is consistent 
with the view that the employer's contribution is part of a pool of 
funds that promotes the social goals of Social Security.)
---------------------------------------------------------------------------
     A public Social Security program is, to paraphrase 
former Senator Bill Bradley, the best expression of community 
in America today. Indeed, more is at stake in this discussion 
than the technical aspects of how to address the financing 
problems of Social Security. Behind all the discussion of 
``bend points,'' ``year of exhaustion,'' ``dependency ratios,'' 
and ``percents of taxable payroll,'' this debate is 
fundamentally about our sense of responsibility to each other; 
about the basic protection that each working American should be 
assured of for themselves and their families in old age, 
disability or on the death of a loved one; about the mix of 
public and private efforts we should encourage to assure that 
security. In other words, the disturbing tendency in media and 
public discourse to reduce Social Security discussions to mere 
accounting exercises of the financial cost of the program 
overlooks the benefits this program provides and the real 
consequences to the well-being of individuals and families of 
various possible changes. Social Security is an institution 
that has strengthened the nation's families and communities. In 
a very fundamental way it is an expression of the moral 
commitment of our nation to serve as our brothers' and sisters' 
keepers and to honor thy mothers and fathers. In the process of 
addressing long-term financing problems, it is important that 
we not lose sight of this moral dimension of the program which 
is one of the joining institutions of our society.
      

                                


                                    Table 1. Year of Trust Fund Exhaustion a
----------------------------------------------------------------------------------------------------------------
                                                                                                Projected OASDI
                  Set of Assumptions                       OASDI          DI         OASDI      Deficit as % of
                                                                                                Taxable Payroll
----------------------------------------------------------------------------------------------------------------
Alternative I (Low Cost)..............................        Never        Never        Never              +0.21
Alternative II (Best Estimate)........................         2031         2015         2029              -2.23
Alternative III (High Cost)...........................         2022         2007         2018              -5.54
----------------------------------------------------------------------------------------------------------------
 a ``Exhaustion of a trust fund means that its accumulated assets are depleted. Payroll tax and other income
  will continue to flow into the fund, however.''
 Source: 1997 Trustees Report

[GRAPHIC] [TIFF OMITTED] T0756.001

[GRAPHIC] [TIFF OMITTED] T0756.002


                  Table 4. Importance of Various Sources of Income to Elderly Households, 1994*
                                            (All members over age 65)
----------------------------------------------------------------------------------------------------------------
                                                                         Quintiles
                                         -----------------------------------------------------------------------
                                All Aged    Units
                                 Units      Under    $7,730-$12,213  $12,214-$18,731  $18,732-$31,179   $31,179
                                            $7,730        (Q2)             (Q3)             (Q4)        and over
                                             (Q1)                                                         (Q5)
----------------------------------------------------------------------------------------------------------------
Number of Units..............
(in millions)................       23.9        4.9           4.7             4.8              4.8           4.8
Percent of Total Income From:
 **
    Social Security..........       42.1       81.2          81.1            65.9             48.3          22.7
    Railroad Retirement......        0.6        0.7           1.0             0.7              1.0           0.4
    Government employee
     pension.................        8.4        0.8           2.4             5.3             10.2          10.2
    Private pension/annuity..        9.7        1.7           4.0             8.1             12.7          10.5
    Income from assets.......       17.6        2.7           5.4            10.3             14.4          24.4
    Earnings.................       18.0        0.2           2.2             6.2             10.9          28.5
    Public Cash..............
    Assistance...............        0.9       11.0           2.0             0.8              0.4           0.1
    Other....................        2.7        1.6           1.9             2.8              2.2           3.2
----------------------------------------------------------------------------------------------------------------
 *All members of households are 65 or over. Aged units are married couple living together--at least one of whom
  is 65--and non-married persons 65 or older.
 **Details may not sum to totals due to rounding error.
 Source: US Department of Health and Human Services, Social Security Administration, Office of Research and
  Statistics, Income of the Population 55 and Over (Washington, D.C: January 1996), pp. 109-113.



 Table 5. Share of Aggregate Income to Elderly Households,* 65 and over
                                 in 1994
------------------------------------------------------------------------
                                          African-
                                          American   Hispanic    White
                                          Units 65   Units 65   Units 65
                                           & Over     & Over     & Over
------------------------------------------------------------------------
Percent of Cash Income From:**
  Numbers (in millions)................       2.2        1.2       21.2
  Social Security......................      48.4       49.3       41.9
  Railroad Retirement..................       0.6        0.2        0.6
  Government Employee Pensions.........      10.6        4.6        8.2
  Private Pensions or Annuities........       7.3        6.9        9.9
  Earnings.............................      22.6       22.4       17.5
  Income from Assets...................       3.9        6.9       18.5
  Public Assistance....................       3.3        6.3        0.7
  Other................................       3.2        3.6        2.2
------------------------------------------------------------------------
* Aged units are married couple living together--at least one of whom is
  55--and non-married persons 65 or older.
** Details may not sum to totals due to rounding error.
 Source: US Department of Health and Human Services, Social Security
  Administration, Office of Research and Statistics, Income of the
  Population 55 and Over (Washington, D.C: May 1996), pp. 112.



 Table 6. Elderly Households* Below Poverty Line in 1994, With and Without Social Security Benefits, Among Households Receiving Social Security Benefit
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                               African-American  Hispanic  Elderly    White  Elderly       Women  not
                                                             All Aged Units     Elderly Units          Units              Units             Married
--------------------------------------------------------------------------------------------------------------------------------------------------------
65 and Over
Number of Units* with SS Benefits (in millions)..........               23.9                1.9                0.9               19.6                9.9
Percent**
    Below Poverty line...................................                 14                 29                 21                 10                 20
    Kept Out of Poverty by Social Security...............                 42                 39                 40                 42                 44
    Total Below Poverty Without Social Security..........                 54                 69                 61                 53                 64
85 and Over
Number of Units* with SS Benefits (in millions)..........                2.5                0.2                0.1                2.2                1.7
Percent**
    Below Poverty line...................................                 17                 30                 25                 15                 20
    Kept Out of Poverty by Social Security...............                 49                 47                 46                 50                 48
    Total Below Poverty Without Social Security..........                 66                 76                 71                 65                 68
--------------------------------------------------------------------------------------------------------------------------------------------------------
Source: US Department of Health and Human Services, Social Security Administration, Office of Research and Statistics, Income of the Population 55 and
  Over (Washington, D.C: January 1996), p. 123
* Aged units are married couple living together--at least one of whom is 55--and non-married persons 65 or older.
** Details may not sum to totals due to rounding error.



                     Table 7. Total Money Income of Elderly Households, 65 and over, in 1994
----------------------------------------------------------------------------------------------------------------
                                                                    Married Couples        Non-Married Persons
----------------------------------------------------------------------------------------------------------------
Numbers (in millions).........................................                      9.7                     14.2
Total Percent.................................................                    100.0                    100.0
Less than $10,000.............................................                      5.3                     34.4
$10,000 to $19,999............................................                     26.2                     33.0
$20,000 to $29,999............................................                     24.2                     12.3
$30,000 to $39,999............................................                     15.2                      7.2
$40,000 to $59,999............................................                     14.3                      6.9
$60,000 to $99,999............................................                      9.7                      4.4
$100,000 or more..............................................                      5.1                      1.9
Median Income.................................................                  $27,013                  $13,538
----------------------------------------------------------------------------------------------------------------
* Aged units are married couple living together--at least one of whom is 65--and non-married persons 65 or
  older.
** Details may not sum to totals due to rounding error.
 Source: US Department of Health and Human Services, Social Security Administration, Office of Research and
  Statistics, Income of the Population 55 and Over (Washington, D.C: January 1996), pp. 26, 27


      

                                

    Mr. Johnson of Texas. Thank you, sir.
    Ron Gebhardtsbauer, a senior pension fellow at the American 
Academy of Actuaries. Go right ahead, sir.

    STATEMENT OF RON GEBHARDTSBAUER, SENIOR PENSION FELLOW, 
                 AMERICAN ACADEMY OF ACTUARIES

    Mr. Gebhardtsbauer. Good morning, and thank you for 
inviting me to speak today. As you mentioned, my name is Ron 
Gebhardtsbauer, and I am the senior pension fellow at the 
American Academy of Actuaries. We are the nonpartisan public 
policy organization for actuaries in the United States, and we 
analyze legislation but do not endorse or propose legislation.
    Today I am going to speak to your four questions, namely: 
Is reform necessary and how soon do we need to act, what are 
our assessments of some of the recommendations and proposals, 
and finally, what is the next step.
    For the first question, I will just second the speakers 
ahead of me and say Social Security does have a financial 
problem, because eventually, they will not be able to pay full 
benefits. But even sooner--which answers the second question--
even sooner, the year 2008, we have some budget concerns.
    Right now, Social Security brings in more than $30 billion 
to the system that it does not pay out right away, so it helps 
the deficit. This will go on until the year 2008, and that is 
the time when the baby boom starts retiring. At that time, the 
money coming in from Social Security tax income will be less 
that what it pays out, therefore the surplus goes down. So that 
if Congress balances the budget using Social Security surplus, 
that means that in the year 2008, it will start going out of 
balance because the surplus in Social Security is going down.
    So that means we need to fix it by the year 2008, but we 
probably do not want to wait until then if Congress feels that 
it is also important to enact rules that help us plan for these 
changes, enacts rules that are less drastic and ones that we 
can phase into gradually and not have notches.
    Your third question is what is our assessment of some of 
the Advisory Council recommendations and other proposals. I 
have a prior speech that I have made, and I have given you 
copies of it--and it goes into detail, so that I can just talk 
about the larger significant advantages and disadvantages.
    All three of the Advisory Council options have the big 
advantage that they solve the Social Security problem. They put 
it into actuarial balance--and this is important--they get the 
trust fund to be stable at the end of the 75-year period, 
because if all we do is put it into actuarial balance and do 
not get those trust funds stable at the end of 75 years, then 
we will be back here in 10, 20 years, trying to fix it again.
    So the Advisory Council's number one proposal, the maintain 
benefits proposal, creates stable trust funds by increasing 
contributions in the year 2045, way in the future.
    The other two options increase the retirement age, and that 
is probably a more permanent solution because it is addressing 
the need, the fact that people are living a lot longer; and so 
as people live a lot longer, it would gradually go out of 
actuarial balance and increasing the retirement age stops that.
    But each of the Council's proposals have disadvantages. The 
maintain benefits proposal increases contributions way out 
there in the future for a future generation and does not 
require it of ourselves. Can we require them to put in more 
than we are putting in?
    In addition, it invests some of its trust funds in the 
stock market, which has the advantages of higher return and 
really saving the money outside the government, but it has 
governance concerns. Well, you could remedy that by delegating 
the responsibility of voting to the money managers, but if this 
system eventually has 5 to 10 percent of U.S. markets in it, it 
might be tempting to change those rules.
    The next option is the individual account option. Its main 
concern is that the benefits are not as good right away, and 
that is because it does not take any money from Medicare, which 
one of the other options, maintain benefits, does. In addition, 
it keeps all its trust fund money invested in Treasuries and 
not stock, so it does not have higher benefits. And the third 
reason is because it has a transition. Whenever you move toward 
a personal account, and you have a transition, somebody has got 
to pay twice or more than just for themselves, and that is what 
happens to that system--either you pay more, or your benefits 
are less.
    The third option is the personal security account option. 
It gives better benefits because they invest more money than 
the other ones in the stock market. Where do they come up with 
that money? Well, they borrow it from the U.S. Government. And 
in fact, in the first 7 years of this plan being in effect, it 
increases the deficit by over $1 trillion. So in other words, 
the transition cost there is paid for through increased 
interest rates, higher borrowing costs, higher inflation and 
higher taxes. So what it does is make Social Security a better 
deal at the expense of taxpayers and also industry.
    Also, this other option will have risks. The other options, 
the other two, if they borrow just as much money and invest in 
the stock market, could do just as well and not have risks, but 
this one is going to have more risk because it will put on the 
individual the investment risk, the inflation risk, and the 
longevity risk--they might outlive their money. And so the 
individual account method handles this by putting restrictions 
on some of those investments; you can only invest it here, and 
you have to have an annuity. But these restrictions then cause 
governance concerns, and the PSA group decided to opt for more 
risk instead of more restrictions and governance concerns.
    Finally, on the PSA option, we have to discuss the issue of 
sustainability--can that system be sustained. Can we continue 
to require people to put mandatory contribution into accounts, 
and is this $400 benefit that it pays to everybody, that is 
going to have a poor money's worth, sustainable, or could that 
be turned into welfare?
    Finally, all the proposals that we have to deal with, we 
should look outside Social Security and see what their effects 
are. What are the effects of these proposals outside the 
system--for instance, on retirement income of an individual, 
which includes personal savings and also employer benefits, 
which are the other two legs of the retirement stool. We do not 
want to heal one leg by reducing or eliminating the other legs 
and end up with a one-legged stool.
    So we may have a way to use employers, and I cannot go any 
further, but maybe we can talk about it later, how we can use 
employers.
    Finally, I want to thank the Subcommittee for having this 
hearing and educating the public on some very important and 
complex issues.
    Thank you.
    [The prepared statement follows:]

Statement of Ron Gebhardtsbauer, Senior Pension Fellow, American 
Academy of Actuaries

    Chairman Bunning, committee members, staff, and fellow 
panelists, Good Morning. My name is Ron Gebhardtsbauer and I am 
the Senior Pension Fellow at the American Academy of Actuaries. 
The Academy is the non-partisan public policy organization for 
actuaries in the United States that analyzes, but does not 
endorse or propose legislation.
    In order to save time, I have provided the subcommittee 
with copies of a more comprehensive presentation on this 
subject, so that I can focus on the four questions the 
subcommittee has asked the Academy to address regarding the 
Old-Age Survivors and Disability Insurance program, or Social 
Security.
    The subcommittee's first question concerns the degree to 
which Social Security reform is necessary. To the extent that 
this nation wants to sustain the successes of the current 
Social Security program (e.g., alleviating poverty among the 
elderly), Social Security needs to be modified sooner rather 
than later. Without changes in the law, the government's 
actuarial predictions show that only 75% of benefits will be 
payable from income after the Trust Funds are exhausted in 
2029, and as our country ages, this becomes 69%. This can be 
easily seen by looking at the demographics. Today there are 
about 3 workers for every beneficiary. In 2029, when virtually 
all the baby boom cohort will be retired, there will be about 2 
workers for every beneficiary. This projection is quite 
accurate because it is based mostly on people already born.
    There is also a U.S. budget concern which occurs much 
sooner, and this is responsive to the next question posed by 
the subcommittee, namely, ``How soon is Congressional action 
needed?'' At present, Social Security's tax income exceeds its 
outgo by $30 billion, which helps the U.S. deficit look lower 
than it actually is. This $30 billion annual surplus starts to 
decrease around the year 2008, which is exactly when the baby 
boom generation starts to retire. By 2012, Social Security's 
tax income will be less than what it pays out. Thus, if 
Congress balances the U.S. budget in 2002 using Social 
Security's surplus, then Social Security could put the U.S. 
budget out of balance in the year 2008. Therefore, if a 
balanced budget is a goal of Congress, then the Social Security 
fix should be in effect by 2008. But action is needed even 
sooner than that if Congress wants to:
     enable workers to plan ahead for the changes
     have gradual implementation (i.e., less chance of 
notches)
     include more people in the solution
     have a less drastic solution,
     restore faith in the system again.
    Congress should analyze the potential solutions carefully, 
which leads to the third question: What is the Academy's 
assessment of the Advisory Council recommendations and other 
proposals?'' The attachment goes into the details about most 
provisions, so I will just discuss the more significant ones.
    The advantages of the three Advisory Council options are 
clear. All three options solve the financial problems of Social 
Security for the upcoming 75 year period and maintain a stable 
Trust Fund at the end of that period. It is important to stress 
that second part. It is not sufficient to just put Social 
Security back in actuarial balance over the next 75 year 
period. If that is the only action Congress takes, then in 20 
years there will be another crisis. This is because, as future 
deficit years get included in the 75 year period, the system 
gets thrown out of balance a little each year. The Maintain 
Benefits group solves this by increasing contributions by 1.6% 
of covered pay starting in the year 2045. The other two 
Advisory Group options solve this by increasing the Normal 
Retirement Age to 67 by 2011 and age 70 by 2083. This produces 
a more permanent solution. Unless, the Normal Retirement Age 
increases with longevity, the system will eventually go out of 
balance.
    Each Advisory Council option also has disadvantages.
    The Maintain Benefits (MB) option requires future workers 
to contribute 1.6% of wages more into Social Security than 
current workers will ever pay. Furthermore, in order for their 
option to be in balance, the Social Security Administration 
would have to invest 40% of their surplus in passive equity 
indexes. This has advantages. For example, the additional 
savings from the MB option would really be saved if invested 
outside the government, and their long-term yields would 
improve. Indexes avoid the concern that Social Security would 
manipulate the market and proxy voting could be delegated to 
the money managers, like at PBGC and the Federal Thrift Savings 
Board, two other government agencies that have equity 
investments. However, with an estimated 5% to 10% of the 
domestic market, there are concerns that these restrictions 
could be loosened in the future. Other alternatives with less 
governance concerns (but also smaller returns) would be to 
invest in other indexes, such as those for mortgages (but that 
would entail competition with banks), municipal bonds (their 
lower returns would be supplemented by less tax expenditures), 
and corporate bonds (this would have an advantage of lower 
borrowing costs for industry).
    The Individual Account (IA) option gradually reduces OASDI 
benefits by up to 20% for middle and upper income workers in 
order to keep costs within current contribution levels. The 
reason these reductions are so much more than the MB option, is 
because their Defined Benefit portion invests only in 
Treasuries and thus, has a lower return on investment, or a 
lower money's worth, for middle and upper-income Americans. 
However, when combined with annuities from their Individual 
Accounts, their money's worth ratios generally increase up to 
those of the MB plan. Eventually, as their savings in stocks 
exceeds those of the MB plan, their money's worth ratios could 
eventually be better for many people. This demonstrates the 
point that any transition from a DB-type plan toward a DC-type 
plan will take many years and one group must pay ``twice.'' The 
Individual Account option does this by increasing contributions 
by 1.6% of covered pay.
    The Personal Security Account (PSA) option has greater 
yields and benefits for most people, because this system 
invests the most money into the stock market. It must be noted, 
however, that it does this by increasing the U.S. deficit by 
over $1 trillion in the first 7 years. It is not a revenue-
neutral bill. This could increase interest rates, borrowing 
costs, inflation, and taxes and, in fact, they pay for this 
transition cost through raising payroll taxes by 1.52% of pay. 
Another significant point is that the MB and IA options could 
achieve better yields and benefits than the PSA option if they 
also borrowed as much from the U.S. Treasury, and they would do 
it with less risk to the individual.
    The PSA option places many more risks and responsibilities 
on the individual, such as investment risks, higher 
administrative expenses, longevity risks, leakage risks, and 
inflation risks. In the IA option, the risks on the individual 
are reduced by restrictions on investments, payroll deductions 
to a government clearinghouse (similar to the Federal Thrift 
Plan), requirements for inflation-indexed annuities, and 
restrictions on withdrawals before retirement. However, these 
restrictions increase the governance concerns and create a 
greater bureaucracy, so proponents of the PSA plan opted for 
risk over restrictions.
    Another concern with the PSA option relates to the 
sustainability of this very different view of Social Security 
because of the following questions. Would Congress continue to 
mandate both low-income and high-income Americans to invest in 
their accounts, without allowing them access during difficult 
times? Would the flat $400 monthly benefit with its poor 
money's worth for middle and upper income workers succeed? 
Would a means test eventually be applied to it and thus turn it 
into welfare? Would tax avoidance occur? Under the current 
Social Security system, the more money you put in, the more 
money you get out. This would not be the case for the $400 
benefit. Experience from other countries shows that tax 
avoidance occurs when one gets nothing for the additional 
taxes.
    Finally, it is important to look outside the Social 
Security system and determine the effects of the various 
proposals on an individual's total retirement income. This 
would include employer pensions, personal savings, and possibly 
part-time work, sometimes referred to as the other legs of a 
retirement stool. Diversification can be helpful here. For 
example, when the stock market is down, traditional employer 
pension plans can be more valuable than mandatory Individual 
Accounts. When low-income individuals have small savings and 
pensions, Social Security's adequacy element is more helpful. 
Thus, Congress should be aware of the consequences if one leg 
is saved by harming the other legs, and thus end up with a one-
legged stool. For example, some fixes like means testing Social 
Security benefits and additional contribution mandates would 
reduce other legs of the stool, namely, personal savings and 
employer pensions. Congress should be careful not to eliminate 
the employer leg. Employer pension plans generally achieve 
better yields than individuals (by 150 to 250 basis points each 
year) and have been very helpful not only to individuals, but 
also to the national economy. Maybe there is a way to use 
employers. For example, if an employer has an adequate pension 
plan, then maybe the individual account mandate could be 
waived. Not much has been developed in this area, and the 
American Academy of Actuaries would be glad to discuss this 
further with the subcommittee.
    Finally, the subcommittee asked for specific 
recommendations for moving forward. Some proponents of reform 
suggest passing some provisions now, such as reducing COLAs and 
mandating coverage to all state and local government employees. 
These changes will help reduce the U.S. deficit over the next 
15 years, but will not help the financial stability of Social 
Security until after that. This may be an appropriate reform if 
the policy objective is also to reduce U.S. deficits. However, 
if Congress wants the additional savings to help the Social 
Security program and not the U.S. budget, then these provisions 
may need to be enacted in conjunction with private investment 
options. Since the concept of private investment entails a much 
different view of Social Security, we would suggest that 
Congress allow sufficient time to educate the public and 
consider all of the ramifications.
    Once again we commend the subcommittee for taking a leading 
role in educating the Congress and public on a very complex, 
but important topic.
      

                                

    Mr. Johnson of Texas. It surely is complex, for sure.
    Mr. Neal, I happen to have someone here from Dallas, Texas, 
that I am going to challenge you with. I am going to introduce 
John Goodman, of the National Center for Policy Analysis, who 
will speak next. He is from my area of the country.
    Mr. Neal. You have the gavel; you can do what you want. 
[Laughter.]
    Mr. Johnson of Texas. Thank you.
    John, go ahead.

 STATEMENT OF JOHN C. GOODMAN, PRESIDENT, NATIONAL CENTER FOR 
                        POLICY ANALYSIS

    Mr. Goodman. Thank you, Mr. Chairman and Members of the 
Subcommittee, I am honored to be here and would like to commend 
all of you for having these very important hearings. Our 
institute also receives no money from the government.
    The key to understanding elderly entitlement programs is to 
recognize that they are based on the principle of pay-as-you-go 
finance. What that means is that every dollar of payroll tax 
that is collected is spent--is spent the very minute, the very 
hour, the very day that it comes in the door. If it is not 
spent on Social Security benefits, it is spent on something 
else, but it is nonetheless spent. No money is being stashed 
away in bank vaults, no investments are being made in real 
assets. What that means is that in order to pay promised 
benefits in future years, we are going to have to collect taxes 
from future generations of workers.
    How high will those taxes have to be? Well, each year, the 
Social Security Trustees put out a report estimating what those 
taxes are going to have to be, and I have brought those numbers 
with me today.
    According to the intermediate forecast of the Social 
Security Trustees, if we move out to the year 2045, when 
today's college students will be reaching retirement age, we 
are going to need a payroll tax 50 percent higher than the one 
we have today, just to pay Social Security benefits currently 
promised into law.
    According to the pessimistic forecast of the Trustees, we 
are going to need twice the payroll tax that we need today to 
pay benefits already promised by law.
    Now, I realize we are here this morning focused on Social 
Security and not Medicare, but these two programs are funded by 
the same payroll tax, and also, the benefits have overlapping 
effects, so let me just complete the unfortunate picture for 
you.
    According to the intermediate forecast, at the time when 
today's college students retire, in order to pay Social 
Security plus both parts of Medicare, we are going to need 
almost one-third of the income of future workers. And according 
to the pessimistic forecast, in order to pay Social Security 
plus both parts of Medicare, we are going to need more than 
half of the income of future workers.
    Now, what about the trust funds? The trust funds, of 
course, hold a special kind of government bond, and all too 
often there is a tendency to treat this as though it meant 
something real. In fact, it does not. Professor Robert Eisner 
has pointed out that we could, with the stroke of a pen, double 
or triple the number of pieces of paper in these trust funds 
and that would have no economic effect whatsoever. Conversely, 
we could with the stroke of a pen simply wipe out the trust 
funds, and that would also have no economic effect whatsoever.
    The reason is that every bond, every asset held by the 
trust fund is offset by liability of the Treasury, so if you 
sum over both agencies of government, assets and liabilities 
cancel out, and you have no ability to pay any benefits.
    The bonds in the trust funds--the Trustees cannot sell them 
on Wall Street, they cannot sell them to foreign investors. The 
only thing they can do is hand them back to the Treasury, and 
the Treasury wipes out its liability, and now it is at zero 
base. The only way the Treasury can pay benefits is by going 
out and borrowing or by collecting more taxes from future 
generations of workers.
    Remember, every payroll check that is written for Social 
Security taxes is written to the U.S. Treasury, and every 
Social Security benefit check is written on the U.S. Treasury. 
The trust funds are simply a lateral accounting device with no 
real economic significance.
    For that reason, I must take issue with Dr. Kingson when he 
says in his testimony that we have sufficient revenue to pay 
benefits out to the year 2028. Not true. That treats these 
special bonds as though we could pay benefits with them, and we 
cannot. The Trustees very clearly have indicated in their 
intermediate forecast that in the year 2028, we are going to 
need twice the payroll tax we have today in order to pay 
benefits currently promised into law.
    What can be done about all of this? I think the Advisory 
Council had some interesting ideas; I think none of them goes 
far enough. If we look around the world today, there are 
governments that are behaving responsibly, that are moving 
rapidly away from pay-as-you-go finance and toward a system 
under which each generation pays its own way.
    Chile, in our hemisphere, has made the most radical change, 
and Chile has been copied south of our borders by Argentina and 
Colombia and Peru, and it is about to be copied by Mexico and 
Bolivia and Ecuador. Similar privatization schemes have been 
put into place in Hong Kong and Australia. Singapore never had 
a pay-as-you-go system; it always had a funded system. Britain 
has gone halfway toward a funded system.
    These are all countries, many of them democracies, some of 
them with cultures similar to ours, that have moved away from 
pay-as-you-go finance and have realized that in order to have a 
sound system which can pay benefits during the retirement 
years, it must be based upon the principle that each generation 
must pay its own way.
    Thank you, Mr. Chairman.
    [The prepared statement follows:]

Statement of John C. Goodman, President, National Center for Policy 
Analysis

              Social Security: The Need for Radical Reform

    The key to understanding elderly entitlements is to realize 
that they rely on pay-as-you-go financing. Every dollar of 
Social Security tax revenue is immediately spent on payments to 
beneficiaries or borrowed by the federal government in exchange 
for special bonds that go into the Social Security Trust Fund. 
No Social Security tax revenues are invested in real assets. As 
a result, in order to pay benefits in future years, the 
government must collect new taxes from succeeding generations 
of workers.
    Like our own system, the vast majority of the social 
security systems in the world today are pay-as-you-go. Not only 
do they face the same problems we face, most developed 
countries are in worse shape. Within a generation (by the year 
2020), 16 percent of the U.S. population will be elderly. But 
one out of every five people will be elderly in Denmark, 
Finland, Greece, Italy, Sweden and Switzerland. One out of four 
will be elderly in Japan. Indeed, by this measure only Ireland, 
Australia and New Zealand are in better shape than the United 
States.
    Less-developed countries with their higher birth rates and 
younger populations should be able to weather their problems 
for several more decades at least in principle. But because 
many of these countries have mismanaged their retirement 
systems, they too face imminent crises. Some have already 
acted, paving the way for others. Among the most notable 
alternatives to pay-as-you-go social security are the 
following:
     Britain allows employers and workers to opt out of 
the second tier of public social security by setting up private 
pension plans with benefits at least as generous as the 
government system.
     Chile requires workers to save for their own 
retirement by making regular deposits to private pension 
accounts, which are similar to the American equivalent of 
Individual Retirement Accounts (IRAs).
     The Chilean system has been copied to one degree 
or another in Argentina, Australia, Colombia, Hong Kong and 
Peru and will soon be implemented in Bolivia, Ecuador, El 
Salvador, and Mexico.
     Singapore requires employees and employers to 
contribute jointly to individual investment accounts, which may 
be used not only for retirement income but also to pay medical 
expenses or make the down payment on a home.
    These privatized systems are fully funded, and each 
generation provides for its own retirement. The systems avert 
the long-term financial crisis inherent in a chain-letter 
approach. They also encourage saving, which in turn generates 
higher economic growth.

                           Future Tax Burdens

    Tables I and II show how bad the future looks for the 
United States under our current system. These tables are based 
on calculations made by the Social Security Administration 
actuaries and contained in the Trustees Report on the elderly 
entitlement trust funds.\1\
---------------------------------------------------------------------------
    \1\ 1997 Annual Report of the Board of Trustees of the Federal Old-
Age and Survivors Insurance and Disability Insurance Trust Funds.
---------------------------------------------------------------------------
    Consider the year 2040, about the time when many of today's 
college students will be reaching their retirement years. 
According to the intermediate forecast, the fraction of 
employee earnings we will need that year to pay Social Security 
benefits will be almost 50 percent higher than today. We will 
need almost one-third of workers' incomes in order to pay 
Social Security plus both parts of Medicare.

                                                     Table I
                        Elderly Entitlement Spending As a Percent of Taxable Payroll \1\
                                            Intermediate Assumptions
----------------------------------------------------------------------------------------------------------------
                                                                       Social       Social        SS Plus All
                                                          Social      Security     Security    Government Health
                          Year                           Security   plus Part A   plus Total      Care for the
                                                                      Medicare   Medicare \2\     Elderly \3\
----------------------------------------------------------------------------------------------------------------
2000.................................................       11.49%       15.45%        17.07%             19.54%
2005.................................................       11.71%       16.24%        18.11%             20.95%
2010.................................................       12.15%       17.23%        19.43%             22.67%
2015.................................................       13.20%       19.02%        21.80%             25.65%
2020.................................................       14.62%       21.36%        24.13%             28.35%
2025.................................................       15.92%       23.62%        28.27%             33.89%
2030.................................................       16.78%       25.41%        30.58%             36.85%
2035.................................................       17.19%       26.47%        32.04%             36.36%
2040.................................................       17.02%       26.88%        32.65%             39.74%
2045.................................................       17.00%       27.17%        32.94%             40.16%
2050.................................................       17.16%       27.52%        33.14%             40.35%
2055.................................................       17.51%       28.05%        33.56%             40.79%
2060.................................................       17.84%       28.64%        34.19%             41.54%
2065.................................................       18.07%       29.20%        34.92%             42.50%
2070.................................................       18.26%       29.76%        35.75%             43.62%
----------------------------------------------------------------------------------------------------------------
\1\ Taxable payroll used to compute all the tax rates in this table is the tax base for the Old Age, Survivors
  and Disability Insurance program (referred to as Social Security). It consists of wages and salaries of
  workers in employment covered by Social Security up to a maximum of $65,400 in 1997 for any worker. Actual
  taxable payroll for Medicare Part A is larger than that for Social Security because there is no maximum and
  more workers are covered. See 1997 Board of Trustees Report, Table III.A.2. Spending is net of the income tax
  revenues collected on Social Security benefits. Taxation of benefits is projected to amount to 0.21 percent of
  taxable payroll under intermediate assumptions and 0.27 percent under the pessimistic assumptions in 1996,
  increasing to 0.64 percent of taxable payroll under the pessimistic assumptions by the year 2070. See Board of
  Trustees Report, Table II.F.17.
\2\ The Part B calculations are based on the Trustees' intermediate projections of the ratio of Part B to Part A
  as a percentage of gross domestic product, and assume that Part B participants will continue to pay 25 percent
  of this amount through premiums. See 1997 Report of the Board of Trustees of the Federal Supplemental Medical
  Insurance Fund, Table III.A.1.
\3\ Includes spending for the elderly under all government health programs. In 1987, per capita spending by
  people age 65 and over from Medicaid and other government health programs was 40.4 percent of Medicare
  spending. This study assumes the same relationship over the 75-year projection period. See Daniel R. Waldo
  Sally T. Sonnefeld, David R. McKusick, and Ross H. Arnett, III, ``Health Expenditures by Age, Group, 1977 and
  1987.'' Health Care Financing Review, Vol. 10, No.4, Summer 1989, Table 4.



                                                    Table II
                        Elderly Entitlement Spending As a Percent of Taxable Payroll \1\
                                             Pessimistic Assumptions
----------------------------------------------------------------------------------------------------------------
                                                                       Social       Social        SS Plus All
                                                          Social      Security     Security    Government Health
                          Year                           Security   plus Part A   plus Total      Care for the
                                                                      Medicare   Medicare \2\     Elderly \3\
----------------------------------------------------------------------------------------------------------------
2000.................................................       11.97%       16.24%         1.99%             20.66%
2005.................................................       12.97%       18.27%        20.46%             23.78%
2010.................................................       13.74%       20.14%        22.92%             27.00%
2015.................................................       15.00%       22.94%        26.74%             31.99%
2020.................................................       16.77%       26.75%        32.29%             39.31%
2025.................................................       18.52%       31.01%        38.55%             47.66%
2030.................................................       19.95%       35.03%        44.06%             55.02%
2035.................................................       20.88%       38.17%        48.44%             60.96%
2040.................................................       21.45%       40.23%        51.22%             64.73%
2045.................................................       22.11%       41.73%        52.86%             66.78%
2050.................................................       22.97%       42.94%        53.78%             67.69%
2055.................................................       24.11%       44.39%        54.99%             68.89%
2060.................................................       25.29%       46.06%        56.73%             70.87%
2065.................................................       26.34%       47.78%        58.80%             73.40%
2070.................................................       27.31%       49.47%        61.01%             76.18%
----------------------------------------------------------------------------------------------------------------
\1\ Taxable payroll used to compute all the tax rates in this table is the tax base for the Old Age, Survivors
  and Disability Insurance program (referred to as Social Security). It consists of wages and salaries of
  workers in employment covered by Social Security up to a maximum of $65,400 in 1997 for any worker. Actual
  taxable payroll for Medicare Part A is larger than that for Social Security because there is no maximum and
  more workers are covered. See 1997 Board of Trustees Report, Table III.A.2. Spending is net of the income tax
  revenues collected on Social Security benefits. Taxation of benefits is projected to amount to 0.21 percent of
  taxable payroll under intermediate assumptions and 0.27 percent under the pessimistic assumptions in 1996,
  increasing to 0.64 percent of taxable payroll under the pessimistic assumptions by the year 2070. See Board of
  Trustees Report, Table II.F.17.
\2\ The Part B calculations are based on the Trustees' intermediate projections of the ratio of Part B to Part A
  as a percentage of gross domestic product, and assume that Part B participants will continue to pay 25 percent
  of this amount through premiums. See 1997 Report of the Board of Trustees of the Federal Supplemental Medical
  Insurance Fund, Table III.A.1.
\3\ Includes spending for the elderly under all government health programs. In 1987, per capita spending by
  people age 65 and over from Medicaid and other government health programs was 40.4 percent of Medicare
  spending. This study assumes the same relationship over the 75-year projection period. See Daniel R. Waldo
  Sally T. Sonnefeld, David R. McKusick, and Ross H. Arnett, III, ``Health Expenditures by Age, Group, 1977 and
  1987.'' Health Care Financing Review, Vol. 10, No.4, Summer 1989, Table 4.


    Two things are especially worth noting about this 
projection. First, although the public focus has been almost 
exclusively on Social Security, government actuaries are 
forecasting that the burden of Medicare will be almost as large 
as the burden of Social Security. Second, future workers will 
pay a larger share of their income just to support the elderly 
than today's workers pay to fund all government services, 
including programs for the elderly and the poor, national 
defense, highways, etc.
    Nor is this the worst that can happen. Under the 
pessimistic forecast, the future Social Security tax burden 
will be almost twice its current level and the elderly will 
spend more than $2 of Medicare money each year for every $1 
they receive in Social Security checks. Workers will have to 
pay almost half of their earnings just to fund benefits already 
promised the elderly under current law. Put another way, under 
the pessimistic forecast, we have already pledged more than 
half the income of future workers without regard to any 
personal needs they workers and their families may have and 
without regard to the need to fund any other government 
program!
    With a bit more realism, things get even worse. (See 
Figures I & II.) Medicare is not the only way we pay for the 
medical bills of the elderly. We also pay through Medicaid (for 
the poor), the Veterans Administration (VA) system and other 
programs. In addition, the federal government is increasingly 
trying to shift more of the Medicare burden onto private 
employers which means, onto workers in their role as 
participants in employee benefit plans.
[GRAPHIC] [TIFF OMITTED] T0756.005

[GRAPHIC] [TIFF OMITTED] T0756.006

    No matter what pocket the funds come out of, however, the 
overall burden the elderly create for the generation of working 
age remains the same. To assess the total burden, health 
economists at the National Center for Policy Analysis have 
estimated elderly health care expenses borne through all 
government transfer programs. The results (shown in the final 
column of Tables I and II) indicate that we have effectively 
pledged 40 percent of the income of future workers under the 
intermediate assumptions and almost 65 percent of workers' 
incomes under the pessimistic assumptions.
    Clearly, we are on an unsustainable path.

                        The Cause of the Problem

    Among the reasons the future looks so bleak: (1) women are 
having fewer children; (2) people are living longer; and (3) 
state-of-the-art medical care is becoming increasingly 
expensive.
The U.S. Fertility Rate.

    In developed countries, the fertility rate must be 2.1 to 
keep the total population at its current size. That is, each 
adult man and woman must be replaced by approximately two 
children.\2\ In 1960, virtually all developed countries had 
fertility rates in excess of 2.1, and most had substantially 
higher rates. Since then, fertility rates have dropped 
dramatically almost everywhere.
---------------------------------------------------------------------------
    \2\ The additional 0.1 accounts for childhood mortality that occurs 
before females reach childbearing age.
---------------------------------------------------------------------------
    In the United States, the fertility rate is currently 1.9 
and is expected to remain below the replacement rate for the 
foreseeable future. In other countries, the situation is even 
worse. In Italy (a Catholic country!), the rate is 1.3. In 
Germany, it's 1.4. Among all developed Western countries, only 
Ireland is above the replacement rate.
    What happens to countries that are below the replacement 
rate? Eventually the population peaks and begins declining. 
Based on pessimistic assumptions, the U.S. population will peak 
about the year 2030 and decline continuously thereafter. If 
this estimate is correct, 100 years from now we will have about 
the same number of people in the United States as we have 
today. But whereas today most people are young, a century from 
now most people will be old.

Life Expectancy.

    When our Social Security system was started, life 
expectancy for a male at birth was only 59 years. Reaching the 
retirement age of 65 was viewed as an adverse contingency sort 
of like becoming disabled. Supporting the few people who would 
be so afflicted seemed easily affordable.
    Today, of course, we have a different perspective. Life 
expectancy at birth is 72.1 years for men and 78.9 years for 
women. Both men and women are more likely to reach the 
retirement age. And once there they can expect to draw benefits 
for an increasing number of years. At age 65, men can now 
expect to live to be 80, women to be 84. These numbers are 
projected to increase in future years.
    The combination of fewer children and longer life 
expectancy produces an increased projected burden for future 
workers. Whereas in 1950 we had 17 workers supporting each 
retiree, today that number is 3, and the ratio could drop as 
low as one to one in the next century. In that case each worker 
would be producing to support himself (or herself) and his 
family plus one elderly person. But the elderly person would 
not be the worker's own parent. Payroll taxes would simply be 
dumped in a common (Social Security) pool.

Medical Science.

    As people get older, they consume more health care. 
Although the elderly today constitute only 12 percent of the 
population, they account for about one-third of all health care 
spending. By the time today's college students reach their mid-
fifties, one out of five people will be old and they will 
consume two-thirds of our health care resources. Even with 
existing to technology, health care for the elderly will be 
expensive. How much more expensive will new techniques be?
    Seventy years ago, no one could have imagined the medical 
procedures that are commonplace today. Similarly, we cannot 
predict what medical science will achieve over the next 40 
years. However, we do have two advantages over forecasters in 
the past. First, we know that modern society has given medical 
researchers a blank check. Implicitly we have told them: invent 
it; show us that it improves health care; and we will buy it. 
As a result, we have virtually guaranteed that the medical 
research and development industry will work hard at making new 
discoveries that will cost us more money. Second, we have a 
fairly good idea of the direction in which medical science will 
progress.
    For example, it is virtually inevitable that scientists 
will produce a complete mapping of the genetic code. The only 
question is, when. Because many life-threatening diseases are 
related to our genetic resistance to them, an understanding of 
individual genetic makeup opens the door to the prevention of 
disease by artificial intervention. For example, Americans are 
constantly exposed to carcinogens. They occur naturally in the 
food we eat, the water we drink and the air we breathe. But 
some people, partly because of their genetic endowment, resist 
exposure better than others.\3\ Once we understand the 
mechanism of susceptibility or resistance (which probably will 
not require a complete understanding of the genetic code), we 
will be able to sharply reduce and perhaps eliminate death from 
cancer.
---------------------------------------------------------------------------
    \3\ For example, researchers now believe that more than half of all 
cases of colon and rectal cancer are directly related to a genetic 
predisposition to such cancers. See Lisa A. Cannon-Albright et al., 
``Common Inheritance of Susceptibility to Colonic Adenomatus Polyps and 
Associated Colorectal Cancers,'' New England Journal of Medicine 319, 
No. 9 (September 1, 1988), pp. 533-37.
---------------------------------------------------------------------------
    The greatest uncertainty is what the achievements of modern 
science will do to the future financial burden of income 
maintenance and health care for the elderly. For example, heart 
disease, cancer and strokes currently account for 75 percent of 
all deaths among the elderly. Moreover, these three diseases 
are responsible for 20 percent of all physician visits, 40 
percent of all hospital days and 50 percent of all days spent 
in bed. If we could eliminate all three diseases, we would also 
eliminate three major categories of health care spending. But 
it is not clear that our total financial burden would go down, 
for the elderly would live longer and collect more Social 
Security checks. They would then eventually die of some other 
possibly expensive-to-treat disease.

                        The Illusory Trust Funds

    Most countries with pay-as-you-go retirement systems don't 
even have trust funds. We would probably be wise to follow 
their example. The funds not only mislead people who think 
their taxes are actually being invested in something they 
distract attention from the real funding problem.
    Every payroll tax check sent to Washington is written to 
the U.S. Treasury. Every Social Security benefit check is 
written on the U.S. Treasury. The trust funds do not collect 
taxes; nor do they pay benefits. They are nothing more than a 
lateral accounting system totally unessential to any real 
activity.
    Technically, the trust funds hold interest-bearing U.S. 
government bonds, representing the accounting surplus of 
payroll taxes collected minus benefits paid. But these are very 
special bonds. They don't count as part of the official 
National Debt. The Social Security Trustees cannot sell them on 
Wall Street, or to any foreign investor. They can only hand 
them back to the Treasury. In this sense, these bonds are 
nothing more than IOUs the government has written to itself.
    On paper, the Social Security trust funds have enough IOUs 
to ``pay'' Social Security benefits for about 17 months on any 
given day; the Medicare trust fund can ``pay'' benefits for 
about one year. In reality, they cannot pay anything. Handing 
IOUs back to the Treasury does not increase the size of Uncle 
Sam's bank account one iota. In order for the Treasury to write 
a check, it must first tax or borrow.
    The existence of the trust funds has merely served to make 
it appear that the federal deficit is less than it really is 
each year and to mask the unsustainability of our Social 
Security system in its current form. For example, the annual 
report of the Trustees of the Social Security trust funds tends 
to focus almost exclusively on the concept of actuarial 
balance. This treats bonds in the trust funds as assets (the 
way accountants would do if they were auditing a private 
pension fund) and ignores the fact that every asset of the 
trust funds is a liability of the Treasury. For the government 
as a whole these assets and liabilities net out to zero.
    If the trust funds were simply abolished, there would be no 
effect on real economic activity. No private bondholders would 
be affected. The government would not be relieved of any of its 
existing obligations or commitments. Economist Robert Eisner 
has suggested that we abolish the trust funds or, with the 
stroke of a pen, double or triple the number of IOUs t hey 
hold. Either option would allow us to dispense with artificial 
crises and get on to the real problem: how is the Treasury 
going to pay the government's bills?

                         A Proposal for Reform

    The Advisory Council on Social Security has proposed three 
possible approaches to Social Security reform. One proposal 
would have the government invest the trust fund surplus in the 
stock market. This solution is unacceptable in a free country. 
Government investment in private sector corporations implies 
government control. The other two proposals are improvements 
over the current system, but neither goes far enough to provide 
a permanent solution.
    Let me direct your attention instead to the working model 
of social security reform in Chile, the first nation in the 
Western Hemisphere to adopt a social security system (1929) and 
the first nation in the world to completely privatize one 
(1981). Chile converted to a system of individual pension 
savings accounts, but it gave workers participating in the old 
system a choice of staying there or switching to the new 
system, and guaranteed secure pensions for those already 
retired. The change has resulted in both higher retirement 
benefits and greater economic growth for the country. Chile's 
reform is serving as the model for reform in a number of other 
countries, and it can serve us as well.
    Currently, employees must pay 10 percent of their wages to 
an individual pension savings account, and can contribute up to 
another 10 percent, all tax deductible. Individuals cannot 
direct their own investments. However, they can choose among 20 
competing private investment companies, which are somewhat 
similar to U.S. mutual funds. These strictly regulated funds 
are required to invest conservatively in a diversified 
portfolio of stocks and bonds to insure that the premiums grow 
with the growth of the Chilean economy. People dissatisfied 
with one fund can easily switch to another. The government 
guarantees a minimum pension benefit to all workers, and 
supplements the private benefits as necessary from general 
revenues to reach the minimum. Workers must also contribute to 
buy private life and disability insurance and to cover 
administrative costs, bringing the total required contribution 
to about 13 percent.
    Retirement benefits, which depend on the rate of return 
earned by the private accounts, have generally been anywhere 
from 50 to 70 percent higher under the new system. Disability 
benefits are at least twice as high and survivors' benefits at 
least 50 percent higher. Retirees can buy an annuity with an 
insurance company or make a scheduled series of periodic 
withdrawals from the account. People who have contributed more 
than 10 percent can either receive a larger annuity payment or 
retire early. Retirees pay taxes on what they receive, but 
usually at a lower rate than they would have paid while 
working.
    People who switched from the old system to the new one 
received special bonds called recognition bonds that credited 
their contributions under the old system. The bonds are indexed 
to inflation and earn interest, and are part of the 
individual's pension fund account. Chile guaranteed that no 
retiree would suffer from the reform, and financed the 
transition by selling government assets, primarily state-owned 
enterprises.
    Not only has the private pension system benefited 
participants individually, but it also has helped to fuel 
economic growth in Chile. The individual funds now total about 
half of Chile's gross domestic product, the net worth of the 
average Chilean is about four times his annual salary and real 
economic growth has averaged more than 6 percent during the 
past decade. The Chilean savings rate has grown to 26 percent.
    Chile has demonstrated by example that a nation does not 
have to remain tied to a system when radical reform is 
politically possible and economically desirable.
      

                                

    Mr. Johnson of Texas. Thank you, Mr. Goodman.
    I will give you a chance to respond, Dr. Kingson, later, if 
you want to.
    Kelly Olsen, research analyst, and Dr. Paul Yakoboski, 
research associate, both from the Employee Benefit Research 
Institute.
    Which one of you prefers to proceed?

 STATEMENT OF KELLY OLSEN, M.S.W., RESEARCH ANALYST, EMPLOYEE 
   BENEFIT RESEARCH INSTITUTE; AND PAUL J. YAKOBOSKI, PH.D., 
    SENIOR RESEARCH ASSOCIATE, EMPLOYEE  BENEFIT  RESEARCH  
                           INSTITUTE

    Ms. Olsen. Good morning. Since its founding in 1978, the 
Employee Benefit Research Institute, EBRI, has been committed 
to the accurate statistical analysis of economic security 
issues. For the past year, we have been conducting a Social 
Security Reform Analysis Project to provide policymakers, the 
media, and the public with a neutral analysis of reform 
options. Consistent with our mission, we do not lobby or 
advocate a specific policy solution.
    As Dr. Kingson mentioned, the 1997 Trustees project that 
under intermediate assumptions, the trust fund will be depleted 
by 2029. At that time, the Federal Deposit Insurance Corp., 
FICA income alone will be able to pay about 75 percent of 
promised benefits, leaving a shortfall of around 75 percent of 
obligations. However, the shortfall could be sooner and/or 
larger. One reason is because the mortality assumptions used by 
the Trustees to calculate the projection appear relatively 
optimistic in comparison with those used by other government 
entities and academics.
    For example, the high estimate used by the Census projects 
13.3 million more persons over age 85 by 2050 than the high 
estimate used by the Trustees.
    The importance of considering any projected Social Security 
shortfall as serious is underscored by the program's role in 
the income of the elderly. Because over 60 percent of the aged 
population depends on Social Security for at least one-half of 
their income, Social Security is the single most important 
income source for aged Americans.
    While disagreement and uncertainty surround the degree to 
which reform is necessary, the degree to which fundamental 
reform is desirable presents a more contentious policy issue. 
Individual, participant-directed Social Security accounts, as 
we have heard today, are central to many current reform 
proposals, and while the use of individual accounts is not a 
necessary condition for resolving the program's projected 
shortfall, a majority of the Social Security Advisory Council 
agreed that this approach is more desirable than reforms that 
would exclusively fix the system by raising taxes and/or 
cutting benefits.
    While other considerations for assessing reform options are 
discussed in our full written statement, we would like to focus 
our comments today on the increased uncertainty in benefit 
levels in an individual account system due to differences in 
individual investment choices. Clearly, if a participant's 
Social Security benefit is tied to the balance, it is important 
to ascertain how persons are likely to make investment 
decisions. Yet, because data has been limited before now, all 
who have studied Social Security outcomes under a system of 
individual accounts have assumed that each age cohort invests 
in exactly the same manner, and that is not a very realistic 
scenario.
    Through EBRI's Employee Understanding Project, we have 
gathered the largest known database of individual investment 
data from a number of private pension plans and investment 
firms, and now, Dr. Yakoboski will discuss their results and 
the implications.
    Mr. Yakoboski. Our findings to date indicate that even 
people within the same plan and of the same age groups and 
similar demographics invest their retirement in very different 
ways. Hence, while data on averages are informative, they hide 
variation in investment choices.
    For example, in one large plan that we examined, we found 
that 20 percent of participants ages 20 to 29 held absolutely 
no equity investments in their 401(k) accounts, while in the 
same plan, among the same age group, one-quarter of 
participants were heavily diversified in equities and had over 
80 percent of their assets invested in equity-based options. 
And I would also like to note that this particular plan had a 
relatively sophisticated education program.
    Our data show similar results in other plans. Therefore, it 
seems likely that similar people are going to invest individual 
Social Security account assets differently and thus receive 
different benefit levels. A fundamental for Congress then 
becomes are you comfortable with people within the same income 
level, sharing the same demographic characteristics, receiving 
different levels of Social Security benefits under a national 
retirement system.
    For some of you, the answer to this question and others 
hinges on ascertaining the likelihood that different people 
will receive vastly different benefits under a system of 
individual Social Security accounts. EBRI's policy simulation 
model that we are currently working on will present 
quantitative results on this issue.
    The new reform proposals Congress is being presented with 
add complexity to the Social Security finance debate. Our model 
is designed to provide a value-neutral scorecard for all types 
of reforms to which policymakers and the public can subject 
their own objectives and values. We look forward to presenting 
the Subcommittee and its staff with the results of our model as 
they become available in the fall.
    Thank you.
    [The joint statement follows:]

Statement of Kelly Olsen, M.S.W., Research Analyst, Employee Benefit 
Research Institute; and Paul J. Yakoboski, Ph.D., Senior Research 
Associate, Employee Benefit Research Institute

    The views expressed in this statement are solely those of 
the authors and should not be ascribed to the officers, 
trustees, or sponsors of EBRI, EBRI-ERF, or their staffs. 
Neither EBRI nor EBRI-ERF lobbies or takes positions on 
specific policy proposals. EBRI is a nonprofit, nonpartisan, 
public policy research organization.
    The 1997 Social Security Trustees report that, under 
intermediate assumptions, Social Security outgoes will exceed 
income beginning in the year 2018. However, since 1983, the 
Trustees' projections as a whole have tended to be optimistic. 
Given that the mortality assumptions currently used by the 1997 
Social Security Trustees are optimistic in comparison with 
assumptions used by other government entities and academics, 
there may be reason to believe that Social Security outgo will 
exceed income before 2018.
    The importance of considering any projected Social Security 
shortfall as serious is underscored by the program's role in 
the income of the older population. Because over 60 percent of 
the elderly depend on Social Security benefits for at least 
one-half of their income, Social Security is the single most 
important income source for aged Americans.
    While disagreement and uncertainty surrounds the degree to 
which reform is necessary, the degree to which fundamental 
reform is desirable presents a more contentious policy issue 
for Congress. Individual, participant-directed Social Security 
accounts are central to nontraditional reform approaches. Using 
individual accounts could increase program revenue by allowing 
participants to invest Social Security funds in equities, which 
have provided higher rates of return, on average, than the 
Treasury bonds in which the government currently invests Social 
Security funds.
    The following three issues surrounding individual accounts 
will prove to be critical as the reform debate ensues.
     Would individual Social Security account balances 
be paid out in the form of annuities or lump-sum distributions? 
Results from the annual Retirement Confidence Survey, co-
organized by EBRI, the American Savings Education Council, and 
Mathew Greenwald & Associates, reveal that most retirees do not 
purchase annuities. Moreover, the effectiveness of the majority 
of retirees at managing their savings throughout retirement is 
unknown.
     Would Congress allow access to individual account 
funds for purposes other than retirement? If Congress allows 
preretirement access, this decision will surely have negative 
implications for retirement income security.
     Would Congress be comfortable with people at the 
same income level and of the same demographics receiving 
different levels of Social Security benefits under a national 
retirement system? In addition, would it be acceptable for some 
individuals to end up with no individual account balance to 
supplement a reduced Social Security base benefit? EBRI 
research shows that similar people invest their Social Security 
funds differently, and are therefore likely to have different 
individual account balances at retirement. Using the data 
behind this conclusion, EBRI will explore the actual 
disparities likely to occur in a system of individual Social 
Security accounts through the EBRI-SSASIM2 policy simulation 
model, the cornerstone of EBRI's Social Security Reform 
Analysis Project.
    Congress is now and will continue to be inundated by 
multiple reform proposals coming from a range of perspectives. 
The additional uncertainty surrounding the introduction of 
individual Social Security accounts will make this round of the 
Social Security reform debate more complex than its 
predecessors. The EBRI-SSASIM2 policy simulation model is 
designed to provide a value-neutral scorecard for all types of 
reforms, to which policymakers and the public can subject their 
own objectives and values. We look forward to presenting the 
Committee and its staff with results from our model.
    We are pleased to appear before you this morning to discuss 
issues of Social Security reform. I am Kelly Olsen, a research 
analyst with the Employee Benefit Research Institute (EBRI) and 
seated beside me is Paul Yakoboski, a senior research associate 
with the Institute.
    Since its founding in 1978, EBRI has been committed to the 
accurate statistical analysis of economic security issues. 
Through our research, we strive to contribute to the 
formulation of effective and responsible health and retirement 
policies. For the past year, we have been conducting a Social 
Security Reform Analysis Project to provide policymakers, the 
media, and the public with value-neutral analysis of reform 
options. Consistent with our mission, we do not lobby or 
advocate specific policy solutions.

To What Degree Is Social Security Reform Necessary?

    The 1997 Social Security Trustees report that, under 
intermediate assumptions, Social Security outgoes will exceed 
income beginning in the year 2018. The Trustees predict that by 
2029, the combined Old Age, Survivors, and Disability Insurance 
(OASDI) trust funds will be exhausted, and FICA income alone 
will be able to pay approximately 75 percent of promised 
benefits (Chart 1). Over the next 75 years, Social Security's 
shortfall is projected to equal 2.23 percent of taxable 
payroll. 
[GRAPHIC] [TIFF OMITTED] T0756.004


    Projections under the Trustees' intermediate assumptions, 
however, are not necessarily fully reflective of the program's 
future experience. In fact, since 1983, the Trustees' 
projections as a whole have tended to be optimistic. Variation 
between projections and actual experiences has occurred in part 
because projections depend on many assumptions about the 
future. These assumptions introduce a large element of 
uncertainty. For example, the 1997 Social Security Trustees 
project the trust funds will experience anywhere from a 0.2 
percent surplus to a 5.54 percent shortfall under three 
scenarios, each of which is based on what many experts believe 
to be reasonable actuarial and economic assumptions. Several of 
these assumptions are controversial. In addition, outcomes are 
quite sensitive to the value chosen for some assumptions in 
that small differences in value can translate into vastly 
different policy projections.
    Mortality rates are one of the most controversial 
assumptions used in projecting Social Security's long-range 
financial status. In addition, projections are quite sensitive 
to different mortality values. Clearly, the longer people live, 
the more pressure will be placed on Social Security finances. 
The mortality assumptions used by the 1997 Social Security 
Trustees appear rather optimistic in comparison with mortality 
assumptions used by other government entities and academics 
(Chart 2).

                                 Chart 2
     Alternate Estimates of US Population Ages 85 and Older in 2050
           (All estimates are expressed in millions of people)
------------------------------------------------------------------------
                                                              Population
                      Estimate Source                            85+
------------------------------------------------------------------------
Census Bureau (low)........................................          9.6
Olshansky*.................................................         11.4
Trustees Report (low).............................         11.8
Trustees' Report (intermediate)............................         14.6
Trustees' Report (high) ..........................         17.8
Census Bureau (mid)........................................         18.2
Lee*.......................................................         21.4
Census Bureau (high).......................................         31.1
Vaupel*....................................................         39.0
Manton*....................................................        48.7
------------------------------------------------------------------------
 Source: Census Bureau estimates were published in February 1996.
  Research by sources marked with an asterisk (*) have been supported by
  the National Institute on Aging. Estimates marked with a diamond
  () are produced by the EBRI-SSASIM2 model; all others are
  drawn from information supplied by the National Institute on Aging.


    Should the Trustees' mortality assumptions prove optimistic 
by actual experience, the year that programmatic outgo exceeds 
income could be pushed ahead from 2018 to an earlier date. 
Likewise, the trust fund could be exhausted several years 
earlier than 2029, and FICA income exclusively might be able to 
cover fewer than 75 percent of benefits promised thereafter. 
However, only time will ultimately tell the degree to which 
Social Security reform is necessary.
    The importance of considering any projected Social Security 
shortfall as serious, however, is underscored by the program's 
role in the income of the older population. Because over 60 
percent of the elderly depend on Social Security benefits for 
at least one-half of their income, Social Security is the 
single most important income source for aged Americans. With 
the average annual benefit in 1997 at $8,940, the average 
beneficiary is maintained at just above the poverty level by 
Social Security. Although income from personal savings, 
employment-based pensions, and possibly earnings are supposed 
to supplement Social Security benefits for all retirees, these 
sources significantly supplement the Social Security benefit of 
primarily those among the uppermost income quintile. In fact, 
just 20 percent of the elderly population received a total 
income over $22,254 in 1995.

An Assessment of the Advisory Council's Recommendations and 
Other Reform Proposals

    While disagreement and uncertainty surround the degree to 
which reform is necessary, the degree to which fundamental 
reform is desirable presents a more contentious policy issue 
for Congress. Individual, participant-directed Social Security 
accounts are central to nontraditional reform approaches. While 
the use of individual accounts is not a necessary condition for 
resolving the program's projected shortfall, a majority of the 
1994(96 Social Security Advisory Council members agreed that 
this approach is more desirable than reforms that would 
exclusively fix the system by raising taxes and cutting 
benefits. Individual account reforms, which have been proposed 
by numerous other groups, are receiving a great deal of policy 
and media attention. As a result, the issues surrounding 
individual accounts have found new importance in the Social 
Security reform debate.
    One important issue associated with individual Social 
Security accounts is whether benefits would be paid out in the 
form of annuities or lump-sum distributions. By conducting the 
annual Retirement Confidence Survey, co-organized by EBRI, the 
American Savings Education Council, and Mathew Greenwald & 
Associates, we found that only 21 percent of surveyed retirees 
annuitized their IRA balances, and just 12 percent annuitized 
their distributions from other retirement plans such as 401(k) 
plans. Given that most retirees do not purchase annuities, we 
do not know how effective the majority of retirees are at 
managing their savings throughout retirement. This lack of 
knowledge raises the following questions when considering 
creating a system of individual Social Security accounts: how 
much confidence should we have in retirees' ability to manage 
balances from individual Social Security accounts if Congress 
does not require these balances to be annuitized? If 
annuitization is not required, how effective can we expect 
individual Social Security accounts to be in providing 
retirement income throughout a person's retirement years?
    Another issue central to individual Social Security 
accounts is whether Congress would allow access to individual 
account funds for purposes other than retirement. If individual 
Social Security accounts were to become the largest source of 
assets for most households, would voters demand access to their 
accounts through lump-sum distributions in times of financial 
hardship? If not, would Congress be comfortable letting people 
with large individual Social Security account balances to be 
evicted from their homes or be unable to afford critical 
medical care because they do not have access to their balances 
prior to retirement? On the other hand, if Congress allows 
preretirement access, this decision would surely have negative 
implications for retirement income security.
    While lump-sum distribution and preretirement access issues 
are critical to the assessment of individual Social Security 
accounts, we would like to focus most intensively today on one 
largely unexplored aspect of individual account reforms: the 
increased uncertainty in individual's benefits due to 
differences in their investment behavior. Clearly, if a 
participant's Social Security benefit is tied to the balance of 
his or her individual Social Security account, it is important 
to ascertain how persons are likely to make investment 
decisions. It is unfortunate that to date, realistic investment 
data have been unavailable. As a result, all researchers who 
have studied Social Security reform outcomes under a system of 
individual Social Security accounts have assumed that each age 
cohort invests in exactly the same manner in terms of asset 
allocation.
    Through EBRI's Employee Understanding Project, we have 
gathered the largest known database of individual investment 
data from a number of private pension plan sponsors and from 
investment firms. Although the Project is ongoing, preliminary 
results show that different people-even people who have similar 
demographic characteristics and participate in the same 
retirement plan-invest their money in very different ways. 
Hence, while these data are informative, they do not show much 
detail on the variation of investment preferences among 
workers. For example, we have found that within one employer's 
retirement plan, a sizeable fraction of participants do not 
invest any funds in equities, while another fraction has 
invested heavily in equities (Table 3).

                                 Table 3
  Allocation Distributions of Participant Account Balances in One Large
             Employment-Based Retirement Savings Plan, 1994
------------------------------------------------------------------------
                                          Equity Investments
  Total Participants  (as a  -------------------------------------------
         Percentage)             Zero       <20%     20%-80%      80%+
------------------------------------------------------------------------
Total.......................       25.4        7.1       47.8       19.7
Ages 20-29..................       19.8        7.4       48.5       24.3
Ages 30-39..................       20.0        6.5       51.5       22.0
Ages 40-49..................       24.9        7.5       47.5       20.2
Ages 50-59..................       31.7        6.7       45.5       16.1
Ages 60 and Older...........       55.2        8.1       31.4       5.2
------------------------------------------------------------------------
 Source: Employee Benefit Research Institute, Issue Brief Number 176,
  August 1996.


    In one large company, we found that almost 20 percent of 
participants ages 20-28 held no equity investments, while 
almost a quarter were heavily diversified in equities. 
Interestingly, the ``problem'' explaining this plan's large 
variance in investment behavior is not due to a lack of 
participant education, as this particular employer has a 
sophisticated employee investment education program. From this 
example, we can logically conclude that different people-often 
of the same socioeconomic group-are going to receive different 
returns on their individual Social Security accounts. A first 
question for Congress to consider then becomes: are you 
comfortable with people at the same income level and of the 
same demographic characteristics receiving different levels of 
Social Security benefits under a national retirement system? A 
second question: would it be acceptable for some individuals to 
end up with no individual account balance to supplement a 
reduced Social Security base benefit?

    Recommendations for Congress to Consider as it Moves 
Forward

    For some of you, the answer to these questions hinges on 
ascertaining the likelihood that different people will receive 
vastly different benefits under a system of individual Social 
Security accounts. The EBRI-SSASIM2 policy simulation model 
will soon present quantitative results on this issue. The model 
will be able to do so because of its unprecedented capabilities 
for modeling individual accounts as well as its ability to 
account for uncertainty under a range of possible economic and 
demographic scenarios, such as different mortality rates. In 
addition, the information EBRI has obtained from its Employee 
Understanding Project will be included in order to show how 
realistic individual investment patterns would affect 
disparities between individual benefit amounts under an 
individual Social Security accounts system.
    Congress is now and will continue to be inundated by 
multiple reform proposals coming from a range of perspectives. 
The additional uncertainty surrounding the introduction of 
individual Social Security accounts will make this round of the 
Social Security reform debate more complex than its 
predecessors. The EBRI-SSASIM2 policy simulation model is 
designed to provide a value-neutral scorecard for all types of 
reforms, to which policymakers and the public can subject their 
own objectives and values. We look forward to presenting the 
Committee and its staff with results from our model. Thank you.
      

                                

    Mr. Johnson of Texas. Thank you. We look forward to that.
    Dr. Kingson, do you have any remarks, quickly, like one 
sentence, sir? You are from Boston; you ought to know how to do 
that.
    Dr. Kingson. One sentence is that I cannot believe that the 
Federal Government will renege on its debt to the people of the 
United States, to be honest, in terms of Treasury bonds that we 
may be holding or in terms of obligations the Social Security 
Trust Fund has on the Treasury.
    Mr. Johnson of Texas. No, I do not think Dr. Goodman was 
referring to that. I do not think we will renege on them, 
either. What he was talking about was a big influx all at once 
of trying to call those debt instruments in order to pay for 
what is going on.
    Do you want to respond?
    Mr. Goodman. Yes. It is a pay-as-you-go system, and I think 
all the witnesses here have conceded that in principle, but 
fail, in Dr. Kingson's case, to think through the logical 
consequences of that. That means that out in the year 2028, tax 
revenue collected in 1997 is not going to pay any benefits; you 
are going to have to collect revenue in that year to pay 
benefits in that year, and the amount of revenue you are going 
to have to collect is twice the payroll tax that we have today.
    Mr. Johnson of Texas. Do you mind letting him comment?
    Mr. Kingson. I would just add, without going into the 
numerical issues there, the general point is that each 
generation of workers must pay for nonworking people, whether 
the claims on the resource are held publicly or privately, 
whether it is held through Social Security or through some 
private accounts. It is an inescapable law of economics--we 
will have to meet the obligations to our older persons, in this 
case, ourselves. And one way or another, whether it is through 
a public system or a private system, the questions that come up 
really relate very significantly to the distributional issues 
that were just raised in the last testimony--how we are going 
to do it and how much uncertainty we want to introduce in the 
future.
    Mr. Johnson of Texas. That is a big question. I would just 
like to ask you quickly, you indicated that if privatization 
occurred, taxes would be higher, and the deficit would be 
higher. Does that have to happen necessarily, and wouldn't that 
happen if we kept the system as it is today?
    Mr. Kingson. It will have to happen if we keep the system 
as it is today, to some degree. We either have to reduce 
benefits or raise taxes or do both to a substantial extent. It 
depends on how we define the ``substantial.'' We have a roughly 
25-percent shortfall after 2028, and we ought to deal with that 
much sooner, as one of the other presenters--as I think all the 
presenters have suggested.
    The question again, sir?
    Mr. Johnson of Texas. Taxes higher, deficit higher.
    Mr. Kingson. Yes. The privatization proposals require 
additional benefit cuts in the public program or additional tax 
increases. The PSA is a good example of that. The personal 
security account includes large borrowing from general revenues 
to fund the transition period, plus it includes--and I say this 
with some humor--a temporary, 72-year tax increase of 1.5 
percent--1.52. They have put it up front. They have not tried 
to hide it. They still believe very honestly that it is good 
policy and something for you to think about.
    Mr. Johnson of Texas. Thank you.
    Mr. Portman.
    Mr. Portman. Thank you, Mr. Chairman. I enjoyed the dialog, 
and I appreciate all the testimony today.
    I have some concerns over the statement that all 
obligations will be met until 2028, also. I think it creates 
among my constituents and the public at large a sense of 
security that, really, a bunch of politicians are now talking 
about Social Security and some academics, but if it is not a 
problem until 2028, why are we worried about it. So I think it 
is important that we flesh out what this really means, and Dr. 
Goodman got into it a bit.
    The way I see it is that once those obligations are due, 
when the baby boomer generation--my generation, our 
generation--begins to retire, we will have these Treasury bonds 
which I agree, the Government is not going to renege on, but 
the Government is going to have to go out and borrow money or 
raise taxes in order to make good on that obligation.
    So I just wish that somehow, we could refocus this debate 
not on 2028, and some people use the later dates, 2034, 2040, 
and so on, to sort of push aside this debate. I think the 
crisis is upon us, and I think that is something that there is 
a consensus at this table for, and if we do not start using 
numbers that have a more immediate sense, particularly as we go 
into the new millennium, even the year 2001 seems a long way 
away right now, but as we approach that time, I think we have 
got to focus on the 2008 and the 2010 and the 2012 timeframe.
    Do you have any disagreement with me with regard to the 
impact when the baby boomers begin to retire? I think it is 
like an EEE bond or something--I do not think the Government is 
going to renege--but where is the money?
    Mr. Kingson. I do not disagree that we should address this 
problem soon, and for a number of reasons. We need to give 
workers an opportunity to adjust their retirement expectations 
to the extent there may be benefit reductions--modest ones.
    The longer we wait, the more difficult it becomes to 
address. Right now, we are dealing with a real problem, one for 
which there is a range of reasonable solutions. The recent 
Advisory Council, while they disagreed, I think they 
fundamentally agreed on extending coverage for State and local 
workers; fundamentally agreed on further taxation of Social 
Security benefits, on a slight benefit cut of about 3 percent 
for all future beneficiaries; and while there was not a strong 
agreement, there was an agreement on raising the age of 
eligibility.
    If you just start with that----
    Mr. Portman. You say it is about 60 percent of the problem.
    Mr. Kingson [continuing]. You deal with 60 percent of the 
problem. And then you have a range of choices. Some might want 
to raise the eligibility age further. Some might want to cut 
benefits through some other mechanism. Some might want to put a 
tax increase in, somewhere in the far future, to deal with the 
outyears, along with raising the age of eligibility. But you 
can have a serious discussion.
    When we have a discussion that creates the sense of an 
impossible task, I think it often serves an agenda to privatize 
Social Security--a genuine agenda--but an agenda that is 
interested in radically departing from what we have. I think we 
ought to look at it on its own merits, because that 
privatization approach can be very undermining in other ways.
    Mr. Portman. I do think, though, that we have to have 
people believing that this is in fact a crisis that is upon us, 
and if we do not act now, the adjustment will be all the more 
severe. And I think all of us can stipulate as to your comments 
earlier as to the importance of the program. You talked about 
60 percent of the people requiring more than 50 percent of 
their income. So stipulating that, let us assume motives are 
pure.
    Dr. Goodman, with regard to your comments, I think you do 
lay out, really, a frightening prospect. You, then, do not talk 
about how we bridge that gap in terms of the transition period. 
Could you briefly give me your thoughts on the transition? How 
would you get from here to there?
    Mr. Goodman. Oh, there are a number of ways of getting from 
here to there, and I would be happy with any of them, because 
they are all better than the alternative. The alternative is an 
unsustainable path which leads us to a very, very scary future.
    I would like to just give one human example of what the 
future looks like.
    Mr. Portman. Yes, please.
    Mr. Goodman. A college student who leaves college today and 
enters the labor market earning the average wage can expect to 
pay at least a quarter million dollars in taxes over his work 
life and probably a lot more than that. But when he reaches 
retirement age, after paying all of those taxes, will he be 
able to collect any benefits? Not unless future generations of 
workers not even yet born are willing to fork over half their 
income.
    Are they going to be willing to do that? Well, I do not 
think anyone today has any assurance that they will. So what I 
would do is go the whole way with Social Security and Medicare, 
go to a private system. We are going to have to increase debt 
in the short run, but it is worth it, because we have to make 
the transition to a fully funded system.
    Mr. Portman. OK. Let me just make one final comment, 
because my time is running out.
    Dr. Gebhardtsbauer mentioned earlier the issue of the 
three-legged stool, and you started getting into private 
employers and their role. You were then cutoff, as I am about 
to be. But I think something that is very important that we 
need to link here is the role that the private employer and 
what employees currently contribute to this in terms of 
401(k)s, profit-sharing plan, the new simple plan, and so on. 
Do you think there is a need or a possibility of more of a link 
into the future with the private sector?
    Mr. Gebhardtsbauer. That is right. Employer plans, as we 
know, have been very advantageous for both individuals and the 
Nation because of this huge pool of money that has been 
invested very efficiently, often getting much better returns 
than individuals themselves would get.
    One idea, for instance, is that if you have an individual 
account and either employers or employees must put their money 
into that individual account, they will have to find that money 
somewhere, so they will take it out of their employer plan, or 
they will take it out of their 401(k) plan and lose the match. 
So, we maybe do not want that to happen.
    Mr. Portman. Right.
    Mr. Gebhardtsbauer. Maybe there is a way to say that if 
your employer already has a pension plan, maybe we will waive 
the requirement for an individual account if this employer plan 
is just as good.
    Mr. Portman. Thank you.
    I thank the Chairman.
    Mr. Johnson of Texas. Thank you, Mr. Portman.
    Mr. Neal.
    Mr. Neal. Thank you, Mr. Chairman.
    Sessions like this are instructive in attempting to 
address, I think, one of the most critical aspects of the 
Social Security debate, which is building consensus for any 
change. And clearly, on our side, there is going to be a 
reluctance if not resistance and intransigence to any sort of 
privatization of the Social Security system. We deem that to be 
one of the great social accomplishments in the history of this 
Republic.
    At the same time, we acknowledge, I think, that there are 
going to have to be changes in the Social Security system. And 
we have used the word ``transition'' this morning during the 
testimony, and at the same time, part of our job here, I think, 
is to encourage greater savings among the American people for 
retirement.
    Alan Greenspan comes to Capitol Hill, and we oftentimes 
treat what he says to be gospel as it relates to interest 
rates, but we miss one of the broader arguments that he has 
made, and that argument simply, as he offers it, is that the 
most fundamental economic problem the Nation confronts is our 
low national savings rate.
    And we have pushed hard--150 Members of the House have 
signed a bill that is offered by Mr. Thomas from California and 
myself, that deals with the issue of using the individual 
retirement account as kind of a bridge, not to subtract from 
the Social Security system--certainly, we are not making the 
argument to go down the road to privatization--but we are 
arguing that the rich are going to save anyway. Why not provide 
a vehicle for the middle class and for lower income groups who 
wish to set aside some savings for retirement?
    I would be curious as to the reaction--I did see Dr. 
Kingson's testimony, and he has some suspicions about IRAs and 
the application of IRAs--but I would be curious as to what the 
panelists might have to say about the use of the individual 
retirement account.
    Mr. Moore. Well, it is no great mystery why we have a low 
savings rate in this country. We severely push savings via the 
Tax Code. This is one of the reasons I believe we ought to move 
toward a flat tax proposal that exempts savings from taxation, 
which is sort of a super-IRA, which essentially treats all 
savings in the form of tax-deferred savings.
    I think that the evidence is very strong from what happened 
in the eighties when we instituted IRAs that savings went up 
for people who took advantage of them. They are a very popular 
savings tool for middle-income Americans.
    I think we made a mistake in 1986 when we restricted IRAs, 
and so I would urge Congress to expand them, as it looks like 
you are going to do to some extent in this tax bill.
    Let me just make one more point, though. I know that you 
are not a fan of the personal security accounts, but I would 
just mention that countries that have moved from pay-as-you-go 
systems to personal savings accounts have dramatically 
increased their savings rate. In Chile, for example, their 
savings rate went from about 10 percent to 26 percent. Now, I 
am not saying that the whole reason for that increase in 
savings was due to PSAs, but I think it created--one of the 
things you do when you allow people to put money into these 
individual accounts is that you create a kind of culture of 
savings; and quite frankly, that culture does not exist today 
in the United States.
    Mr. Neal. Doesn't that subtract from the idea of community, 
universality?
    Mr. Moore. Well, I think the point about the PSAs that 
liberals should keep in mind, people who want to protect the 
poor and so forth, is that you will be doing better for your 
lowest income workers in your district if you allow them to put 
money into these personal savings accounts.
    Let me make one last point about this that you might want 
to think about in terms of whether you would favor this or not, 
and that is you can do this kind of plan and still preserve--
and I think this is an essential feature--you have got to 
preserve some kind of safety net mechanism where, when a person 
retires, if he does not have enough money in that personal 
savings account, you basically tax other people's accounts so 
that that person retires with a minimum benefit level. And you 
can do that very easily because the advantages to all the other 
workers are so high.
    Mr. Kingson. I am not sure where to begin. First, let me 
make one comment on Chile, because it is so often referred to, 
and maybe even make a comment on academics.
    Unfortunately, one of the occupational hazards of being an 
academic is that you do look at all sides, so that when it 
comes to testimony, we become two-handed academics--on the one 
hand, on the other hand. I am going to do a little bit of that.
    In terms of Chile, what is often not looked at is the fact 
that when this system was put into effect during a military 
dictatorship and with a budget surplus in general government 
revenues and with a radically failed Social Security Program, 
it was put into effect with an 18-percent mandated wage 
increase. That might be very popular--if we wanted to put in a 
mandated wage increase, who knows--maybe that would work.
    Another thing that is often not mentioned by those claiming 
that ``all'' younger workers would benefit, is that the stock 
market collapsed in 1929, and the real value of stocks I 
believe did not come back to the 1929 level until 1954. That is 
a long time if you are depending on the stock market for your 
retirement security or if economic security is to be depended 
upon primarily through private savings.
    Now, as for the question of private savings, of course we 
should encourage it, and here is the other arm. The 
encouragement of IRAs is not unreasonable. What I worry about 
with IRAs, however, is the transfer of savings from one 
mechanism to another. Another thing I worry about is an 
exclusive, IRA-like system, where we do not have a public 
sector to do what it is designed to do--provide a floor of 
protection under the middle class and a base to encourage 
savings on top of that and a floor of protection under those 
who are not so fortunate to be middle class.
    Another thing I would worry about with IRAs is the 
increased risk that people face and the unequal outcomes that 
would come from it.
    Mr. Neal. My time has expired.
    Mr. Johnson of Texas. Can I just follow up for a moment? 
You said a lot about reduced rate for younger workers, and I 
wonder how we can improve public confidence in a program 
through a transition period and/or if we leave it like it is, 
how we provide a better return for younger workers in view of 
what you have been saying?
    Yes, Dr. Kingson.
    Mr. Kingson. First, I would start by saying that we need to 
look at the fundamental purpose of a social insurance program 
as opposed to a private savings program. The basic purpose of 
this program is to provide broadscale protection to the 
American public. To then come back and assess it in terms of 
rate of return, in my opinion, is the wrong calculus--not that 
it is unimportant, but rate of return does not take into 
account the inflation protection; it does not necessarily take 
into account the survivors' benefits worth $300,000 for a young 
family; it does not take into account disability protections 
often. But mostly, it does not take into account the issue of 
risk. It also does not take into account that the purpose of 
this program early on, again, and now, is to provide widespread 
protection. If the goal were to provide only a fair rate of 
return, then we would have given previous retirees far smaller 
benefits when they began.
    Ida Fuller was the first Social Security beneficiary in 
1940. Ida lived until the midseventies and collected some 
$21,000. If rates of return were our main concern, what we 
would have said to Ida is: You are only going to get back maybe 
$500, because you only contributed from 1935 to 1940, or 
something like that. That would not have made much sense if 
your goal is to protect older workers. So we blanketed in the 
older worker. To then come back and say that rates of return 
are declining is assessing it from a very different 
perspective.
    Mr. Johnson of Texas. Mr. Moore, do you have a comment?
    Mr. Moore. I just want to respond to this issue of risk 
with personal security accounts. That is, it is, of course, 
true--there is risk if you invest in private markets, but we 
ought to realize also that, especially for young workers, there 
is what I call huge political risk with Social Security. Young 
workers who are 22 or 23 years old are taking a large risk that 
this program will be in existence in 50 years.
    It is not well known among a lot of Americans and even a 
lot of Members of Congress that no individual American worker 
has a legal right to Social Security, even though I have 
already paid in $150,000 of taxes from the time I started 
working, if tomorrow, Congress had the votes to abolish the 
program, I would have no legal right to those benefits.
    Now, on the contrary, however, if you allow me to put that 
money into a personal security account where I have my name on 
it, and I have ownership in that account, Congress cannot come 
and take that money from me.
    So what you are essentially doing by moving to PSAs, I 
believe, is transferring from a financial risk--and Mr. Kingson 
is right, there is financial risk when you put your money into 
private capital markets, but you are transferring that to what 
I think is a much higher risk, and that is the political risk 
that you are going to raise the tax, lower the benefit, 
increase people's retirement age, and make the system an even 
worse deal than it already is.
    Mr. Johnson of Texas. Dr. Goodman, would you like to have a 
quick response?
    Mr. Goodman. I want to say something about investments in 
the stock market and the risk to the employee. If we wanted to 
for political reasons, we could say that for this generation, 
the generation that goes through the transition, the Federal 
Government will guarantee each and every worker who goes into a 
private system that he will not be worse off than if he had 
stayed in the public system. If we do it the way that Chile did 
it, we can make that guarantee to every worker, and we will 
virtually have to pay out no money from the Treasury; in other 
words, it's a very safe guarantee to make.
    Mr. Johnson of Texas. But Dr. Kingson made a good point, I 
think, when he indicated that was a dictatorship when they did 
that. How can we do that in a democracy?
    Mr. Goodman. That is a cheap shot; that is a really cheap 
shot. It is true, it is true--it was a dictatorship, but 
Australia is not a dictatorship, and they did the same thing.
    Mr. Johnson of Texas. True.
    Mr. Goodman. Hong Kong I guess has a dictatorship, and they 
did it, too.
    Mr. Johnson of Texas. Did Australia do it in exactly the 
same way as Chile?
    Mr. Goodman. Pretty much--now, they did not go from a pay-
as-you-go system to a funded system. They started from a 
welfare system and went to a funded system. But all over Latin 
America, democracies are doing this--Argentina has done it, 
Colombia has done it, Peru has done it. Countries that have 
said they are now in the process of doing it are Mexico, 
Bolivia, and Ecuador, so it is very doable. It can be done in 
democracies, you do not need dictators, and it is very popular.
    This is an extremely popular program in Chile. You can 
approach Chilean workers on the street, and they are carrying a 
little passbook, and they can pull it out and show you how much 
they have--four or five times or more of their annual wage. 
Most American workers cannot do that.
    Mr. Johnson of Texas. No.
    Mr. Kingson. May I just put a point of information in on 
that? Having spent some time on a sabbatical studying their 
retirement policies in Australia, the Australian Government did 
make changes in the old age system. It has a means-tested 
system, but it is a very high means test, somewhat akin in fact 
to the Concord Coalition's idea, which I would also disagree 
with, but it has not developed a Chilean-style system at all. 
What it has developed is an expansion of the occupational 
savings by mandating additional pension savings.
    The reason I am doing this is that what I find disturbing--
we can all look at a problem if we know what the facts are, but 
it is hard to talk if we all come up with our own facts.
    In reading through some of the testimony today, one of the 
things that troubles me are fairly inappropriate suggestions 
regarding the great benefit of these programs to low-income 
workers, with wild assumptions. In Mr. Goodman's case, there is 
the discussion that low-income minority persons lose out in 
Social Security, and the assumptions are not really presented--
the problems I see--and I would like to submit this for the 
record--are that, one, it does not really take into account the 
large benefit reduction--the large benefit tilt--that favors 
low-income persons. Indeed, minority persons and low-income 
persons have shorter life expectancies, therefore, at 
retirement would probably get smaller benefits. But for other 
reasons, in our society, on average, they have lower wages and 
therefore get a higher rate of return in the program; they have 
higher participation in the disability programs, higher 
participation in survivors.
    For example, among children under age 18 who are Social 
Security beneficiaries, there are roughly 3 million 
beneficiaries, 1 million of whom are nonwhite. Roughly 725,000 
are African-Americans. Among disabled workers, 4.2 million 
disabled workers, about 1 million are nonwhite.
    But we get only half of the story. The same thing, from my 
point of view as I read through the testimony of Mr. Moore. We 
are told that a typical female worker who just started working 
and earns about $22,500--and that goes up over average wages--
would have a nest egg of about $800,000 to $1 million at 
retirement age, and this would produce roughly $60,000 a year 
until death, assuming she died at age 80. Well, this worker 
would be assumed to live 21 years at age 65, not just 13 years, 
as in the example. What would that changing this 13-year 
assumption do to the projected stream of benefits?
    The assumptions need to be made explicit behind some of 
these projections that are being put out.
    Mr. Johnson of Texas. I think that is why we are having 
this hearing, to try to get some of this sorted out. I need to 
have some more questions answered, but Mr. Gebhardtsbauer, if 
you have one quick statement to make, please go ahead.
    Mr. Gebhardtsbauer. Yes. I just wanted to mention one more 
thing about Chile, and that is that whenever you switch over to 
this new system, you are going to have transition costs. And 
Chile had a fair amount of surplus at that time--not enough, 
but more surplus--we have deficits right now.
    Our current system right now actually has $9 trillion in 
unfunded liabilities; it is not the $3 trillion that you 
sometimes see in reports. That is only on an ongoing 
assumption. The closed group assumptions, which is what you 
need to really transition, is a $9 trillion unfunded liability, 
and we do not have----
    Mr. Johnson of Texas. Right. That makes our national debt 
right around $13 trillion.
    Mr. Gebhardtsbauer. Yes. That is like the whole stock 
market, almost. But if you have some surplus, that would give 
you a good start--maybe you would not need the whole $9 
trillion. But some of the techniques that are used in some of 
the proposals are to take advantage of better returns in the 
future so that you can get a benefit instead of being paid off 
your portion that is unfunded.
    So there are different ways to go, and I just wanted to 
point that out about Chile.
    Mr. Johnson of Texas. Thank you.
    Mr. Hulsof.
    Mr. Hulsof. Thank you, Mr. Chairman.
    I wanted to ask Dr. Goodman particularly--we have been 
talking about this Chilean system--correct me if I am wrong, 
but at that time, the Chilean people had very little confidence 
in their system, and they were ready for this major reform or 
transition. I think Dr. Kingson quoted Senator Bradley in his 
testimony, that the American people believe in the concept of 
Social Security.
    Do you think we can, as a matter of public confidence, 
ready the American people for such a radical overhaul of our 
Social Security system?
    Mr. Goodman. Absolutely. In all of these countries, you 
need leadership; you need leadership to make a change. That is 
very important. In the United States right now, people are not 
all that confident about the Social Security system. Polls at 
least among young people show that a higher percentage think 
they are going to see a UFO than think they are going to 
receive Social Security benefits. So there is a great deal of 
distrust of the system among young people, and properly so. And 
they may not know exactly what the facts are, but I think their 
instincts are correct.
    Now, with respect to the minority population, let me 
address that, because Dr. Kingson brought it up. The life 
expectancy of a black male at birth today is about 65 years. 
When that black male reaches age 65, the Social Security 
retirement age at that time will be 67. So we have a system 
that, at least on paper, has the average black male paying 
taxes all his work life and dying 2 years before he receives 
any benefits. And that is the system that Dr. Kingson says is 
so great for the minority population. True enough, he may have 
a slightly higher probability of getting disability benefits, 
but as a retirement system, that is lousy for minorities.
    I think that if that message were more broadly understood, 
you would find a lot of support in the United States for moving 
toward a system where, if you die early, you still have 
something you can leave to your heirs.
    Mr. Hulsof. Mr. Gebhardtsbauer, I noticed you nodding in 
assent through some of the question and then the answer, and I 
also understand that you have participated in a number of 
townhall meetings. Is that correct?
    Mr. Gebhardtsbauer. That is correct.
    Mr. Hulsof. In our townhall meetings, we get questions, and 
I have been trying to just lay the groundwork without really 
prodding or pushing the members of the townhall meetings or 
those who are in attendance in any direction.
    What has been your experience as far as educating the 
public on what options they have available to them?
    Mr. Gebhardtsbauer. Actually, I could not quite finish the 
last part of my speech, but it said what is the next step. And 
I would say that because using private investments is such a 
big change over the current method--it has lots of advantages, 
but we need to do a lot of education, and I commend your 
leadership in doing it. I guess it sounds like you have also 
done that in your areas.
    It definitely brings up a lot of positive and negative 
feelings from especially seniors, who actually would be less 
affected; people who are more likely to be in Generation X, who 
believe that nothing is going to be left there for them are 
more likely to be interested in switching. And I guess the 
question also is how much are we going to switch; are we going 
to completely go to a system that is totally based on personal 
accounts? That would be more radical and harder to convince 
people of. Or, maybe we can just go partially.
    And then the question also, whenever you go to using 
private investments, is you are either going to have the 
concern of governance issues if you have the government 
investing the money, and you also then have the risk issues if 
the individuals are doing it.
    Mr. Hulsof. Mr. Moore, let me ask you--and I think I 
actually fall somewhere between the baby boom generation and 
Generation X; I am probably a lost individual----
    Mr. Moore. What year were you born?
    Mr. Hulsof. Well, I would prefer to keep that private. 
[Laughter.]
    Mr. Hulsof. 1958, actually.
    Mr. Christensen. Trust me, you are not Generation X.
    Mr. Moore. I was born in 1960, so we are both about the 
same age.
    Mr. Hulsof. OK. Well, looking at the audience, I would 
suggest that probably two-thirds identify more closely with 
Generation X. And certainly, going back and doing the 
graduation speeches and talking to those folks who are going to 
be joining the work force soon, you mentioned that we in 
Congress could place reasonable restrictions on how money is to 
be invested or what-have-you to protect against losses. How do 
you think that would work, or what do you think the public 
reaction would be to us legislating those protections?
    Mr. Moore. Well, the libertarian in me would say that 
people would be able to invest it however they want, but I do 
not think that that is very politically realistic. I think the 
most realistic kind of proposal for Congress to think about is 
something that would essentially set up--I do not think you can 
allow individual workers to self-direct their money currently 
because of the problem that the folks from the Employee Benefit 
Research Institute were saying, that some people still do not 
have a good sense of how to invest. And hopefully, by the way, 
that is something that will change over the next generation.
    What I would like to see is some plan where the individual 
worker would be able to choose between, say, one of 20 mutual 
funds--a fidelity fund, a Merrill Lynch fund, and so forth, so 
you are not picking stocks, you are essentially picking a fund. 
That is something that is fairly easy for workers to do. And 
you could set various restrictions in Congress about what kind 
of portfolio would be in that mutual fund. For example, maybe 
one-third of that fund would have to be invested in Treasury 
bills, one-third in corporate bonds, one-third in stocks, so 
that you essentially do diversify the portfolio and do protect 
against some of the risks that Dr. Kingson was quite 
importantly mentioning, that if you put all your money in 
stocks, you do face a risk of losing your money. So you would 
want to have a diversified portfolio that reduces risk, and if 
you do that, I think you can protect workers from the downside 
risks that Dr. Kingson was talking about.
    Mr. Hulsof. My time has expired.
    Thank you, Mr. Chairman.
    Mr. Johnson of Texas. Thank you.
    Mr. Becerra.
    Mr. Becerra. Thank you, Mr. Chairman.
    Let me talk about the Chilean model, or let me return to 
the Chilean model, and try to get a better sense of how much we 
can overlay the Chilean model upon the United States.
    The Chilean model, as I understand it, was one where, prior 
to its establishment, there really was no coherent, embedded 
retirement system in place for the country of Chile. Is that 
correct? No?
    Mr. Goodman. What was happening in Chile, and what has 
happened in a lot of Latin American countries is that they 
start out with a Social Security system that looks very much 
like ours and then, because of the political pressures, they 
start getting separate funds, so you have a separate fund for 
the firemen and another one for the police officers, and then 
you get different benefits, and politics eventually just 
destroys the whole system.
    So if you looked at it on paper, you would say it was a bit 
of a mess, but nonetheless most people were participating in 
some sort of pension system.
    Mr. Becerra. And that is perhaps what I mean. I do not 
think anyone would call our system a mess. We do know we need 
to make some changes, but we could go on until the year 2080 
and know that at least we are going to give folks three-
quarters of what they might otherwise expect.
    Mr. Goodman. No, that is wrong. That is not right, that is 
not right. You cannot in the year 2080 give people three-
quarters of what they have been promised unless you double and 
triple the current tax rate.
    Mr. Becerra. I thought we had enough funding available to 
take us to about the year 2028, 2029.
    Mr. Goodman. No. That was a debate we had earlier, and 
maybe you were not here. Dr. Kingson said that based upon 
government bonds in the Social Security Trust Fund, but then I 
pointed out that every asset of the fund is a liability of the 
Treasury, so that when the trust fund hands that bond back to 
the Treasury, it simply cancels out; you do not have any money, 
you cannot pay any benefits. The only way you can pay a benefit 
is to borrow or tax.
    Mr. Becerra. Give me a sense, Dr. Goodman, of how long you 
think we could go with the current system if we were to not 
make any major adjustments to it.
    Mr. Goodman. Well, what is in my testimony is right out of 
the Trustees' Report on how high the tax rates are going to 
have to be, and around the year 2030, we are going to have 
twice the payroll tax we have today, a 30-percent payroll tax 
to pay Social Security, plus both parts of Medicare.
    Mr. Becerra. If I could just get from you the response to 
the question: How far could we go with our current system if we 
did not do any major tinkering to it?
    Mr. Goodman. Well, we are going to run out of money very 
quickly.
    Mr. Becerra. Define ``quickly.''
    Mr. Goodman. In just a couple of years.
    Mr. Becerra. In a couple of years?
    Mr. Goodman. Yes.
    Mr. Becerra. Do you mean by the year 1999, we will not have 
money in the Social Security account to pay it?
    Mr. Goodman. Within the next 5 years, we are going to have 
to do something. We are going to have to raise taxes, or cut 
benefits. We are going to have to do something.
    Mr. Becerra. And if we do not do anything, what happens?
    Mr. Goodman. Then the Treasury cannot send out the checks.
    Mr. Johnson of Texas. Ms. Olsen, do you all have answers to 
his questions?
    Ms. Olsen. Well, in terms of the Chilean system----
    Mr. Johnson of Texas. No, no. His question was when are we 
running out of money, I believe.
    Mr. Becerra. If we do not tinker with the system----
    Mr. Johnson of Texas. Is that true?
    Mr. Becerra. Yes. If we do not tinker with the system, how 
long will the money be there; how long will we last in 
providing some form of retirement benefits under Social 
Security?
    Ms. Olsen. Well, as long as there is FICA income coming 
into the system, there will be benefits paid out.
    Mr. Becerra. OK.
    Ms. Olsen. The only way to get rid of Social Security is to 
eliminate FICA taxes altogether.
    Mr. Becerra. Given the actuarial projections, how long 
could we go providing people with the benefits that they are 
expecting at 100 percent of what they are expecting?
    Mr. Gebhardtsbauer. Maybe I can help here. The reason why 
you are probably coming at it from different angles is because 
Mr. Goodman is talking about Social Security including 
Medicare. When you include Medicare, assuming Medicare is not 
fixed, then you run out of money much faster. But if you assume 
Medicare is fixed----
    Mr. Becerra. As far as I know, Social Security is a fund 
separate from the Medicare; is it not?
    Mr. Gebhardtsbauer. Right. And if you look at just Social 
Security, then, yes----
    Mr. Becerra. I think this is a hearing on Social Security.
    Mr. Gebhardtsbauer [continuing.] Seventy-five percent of 
benefits can be paid around the year 2030, and by the time you 
get out to the year 2070, about 69 percent is payable, and that 
is in the Trustees' Report that just came out.
    Mr. Becerra. OK. Dr. Goodman, do you disagree with that 
statement by Mr. Gebhardtsbauer--just a quick ``yes'' or ``no'' 
will be fine.
    Mr. Goodman. No.
    Mr. Becerra. OK, then, let me move on.
    Mr. Goodman. We are going to be able to borrow one trust 
fund from another, but all trust funds combined will not be 
able to pay benefits in the year 2000.
    Mr. Becerra. If I could move on, please--and I will 
probably give you a chance to answer the questions, but I want 
to make sure I do not see that green light turn yellow and then 
red.
    If Mr. Gebhardtsbauer is correct that we will have moneys 
to provide benefits up until a certain time--2028, 2030--and 
then it starts to reduce until we get to about 2070 or so, we 
do have some time to come up with some solutions.
    My understanding is that the Chilean model, while there 
were various programs to provide retirement benefits, I gather 
that no one 20 years ago could tell you that they would want to 
invest in any model that Chile had at that time. Things may be 
different now, and I think that that is a tribute to the 
success of the Chilean people and their economy, but I doubt 
until recently that anyone felt any level of comfort that the 
Chilean model would be one we could use.
    Given that, we have a stable system that can take us some 
distance in, and then, hopefully, we will adjust it. But I 
believe most folks would say that politically and economically, 
we are at a stable point where we can make decisions, 
understanding we are not going to run out of benefits right 
now, and we are going to have to make some decisions, correct--
but why would you want to compare yourself to a model that, 
until recently, was totally unstable?
    Mr. Goodman. Let me just say that in terms of the 
population statistics, all Latin American countries are in 
better shape then we are--they are younger, they have growing 
populations. Therefore, if they had our system, their payroll 
tax would be much less than ours----
    Mr. Becerra. So isn't it the case that they do not have to 
worry so much about the baby boom generation as we do.
    Mr. Goodman. That is right, that is right, but because of 
political pressures and other reasons, they screwed up their 
systems, and----
    Mr. Becerra. If I could ask my question, if you want to 
continue to discuss or engage in a dialog--then, why would we 
want to compare ourselves with Chile when they are not 
experiencing what we are experiencing, and that is the baby 
boom generation coming home to roost? And if you have to deal 
with that, how are you going to deal with going private, or 
partially private, if you have a system that you are already 
saying in the next several years will have to start looking for 
additional funds if it wants to provide for the future 
generations? What is the proposal if we go private to provide 
the services and benefits for those currently on the rolls? 
Would we tax those who are still working, or would we reduce 
the benefits of those who would be eligible for Social 
Security?
    Mr. Goodman. I think we have to guarantee benefits to those 
who are currently retired. Now, what we did----
    Mr. Becerra. Would you tax those who are paying, who are 
working and paying into Social Security? If you are going to 
provide the same level of benefits, and you are going to 
provide some form of private----
    Mr. Goodman. We have to tax and borrow to maintain the same 
level of benefits during the transition period.
    Mr. Becerra. Whom would you tax?
    Mr. Goodman. The public.
    Mr. Becerra. OK, ``the public,'' meaning generally, or 
those who are working, or those who are making a certain amount 
of income? Everyone gets taxed?
    Mr. Goodman. What I would do is what Chile did. I would 
issue recognition bonds and pay them off over a period of time. 
The natural growth of the economy is going to generate--the 
higher rate of growth, as Martin Feldstein pointed out--is 
going to generate more money, making it possible over a period 
of time to pay off those bonds.
    Mr. Becerra. I understand that, and that is what we heard 
in the eighties before the deficits ballooned, but----
    Mr. Johnson of Texas. Mr. Becerra, I turned the lights off 
for you and gave you a little extra time. Can you wind it down?
    Mr. Becerra. Mr. Johnson, you have been quite gracious. I 
will go back to that if there is a second round of questioning, 
and I thank the Chair.
    Mr. Johnson of Texas. Thank you, sir.
    Mr. Christensen.
    Mr. Christensen. Thank you, Mr. Chairman.
    I wanted to get Mr. Gebhardtsbauer's position on the 
Consumer Price Index, CPI. Earlier this year, we debated a 
little bit on both the House and Senate side on whether or not 
we were going to make the CPI part of the whole discussion. I 
wanted to get your position from an actuarial standpoint on the 
CPI and how it affects the Social Security system.
    Mr. Gebhardtsbauer. OK. The Boskin Commission came out and 
said that the CPI could be overstated by 1.1 percent, and if in 
fact, then, Congress were to reduce the COLA by 1.1 percent, 
that would solve about two-thirds of the Social Security 
financial problem right there--increase the retirement age to 
70, combine those two, and the whole thing is solved.
    But there is a concern that maybe, if you subtract 1.1 out 
of the CPI, then you are oversubtracting. Right now, when 
people get the COLA, their buying power is actually increasing 
every year in retirement, at least the benefit from Social 
Security, because it is overstating the CPI.
    The problem with subtracting a full 1.1 is that that might 
slightly understate it so that each year, the buying power 
would go down. So it does not affect you much for 1 year or 2 
years, but the very elderly in their nineties and hundreds 
would be the ones who would be affected the most in that 
situation. So I guess that is why Congress has tried to find 
out what is the right cost-of-living inflation index that we 
need to apply to this benefit.
    Mr. Christensen. Another question I have--I guess Mr. Moore 
is gone now, but he was talking about the percentage of 
investment that the Government might be able to control in 
terms of having 20 mutual funds chosen.
    Dr. Goodman, have you looked at any ideas as far as Cato's 
plan on how they would go about selection of those 20 
companies, how they would decide which funds to pick? Also, if 
they were to proceed to this, would this be a concern for the 
markets to have that much government influence in the markets? 
I am a big supporter of not burying our heads in the sand and 
just saying we do not have a problem; I think we need to fix 
this problem, and we need to move toward a system like Senator 
Kerry from Nebraska has been talking about. He has been the 
lonely voice out in the woods for some time now, and on many 
things I disagree with Senator Kerrey, but I think he has been 
very good on these entitlement areas and working hard to try to 
bring some sense into this area.
    What about the government being involved in the private 
markets? How would that affect----
    Mr. Goodman. I think we have got to be very clear about 
what we want to achieve, and what we are talking about is 
forced savings. We are talking about requiring people to put, 
say, 10 percent of their income every year into a savings 
account. Now, why are we doing that? Because we want them at 
retirement age to have a reasonable income during their 
retirement years. If you let them go off and play the futures 
market and make really risky gambles, many of them will have 
nothing at the time they have reached their retirement years, 
and then you have lost the rationale for the whole program.
    So what Chile did--and I think it is a good model to 
follow, and I think this is what Cato has in mind--was they 
said, look, we want to put very few government restrictions on 
the pension funds, but you have got to have a diversified 
portfolio, and you have got to abide by certain other financial 
regulations. The government does not tell them what stocks or 
bonds to buy. They have perfect freedom to do that. But they do 
have to have a diversified portfolio, and the reason is because 
over time, that portfolio will keep pace with the economy, so 
that when an individual retires, he will have a pension that 
reflects the growth of the economy, which was the reason for 
the whole thing in the first place.
    Mr. Christensen. Dr. Gebhardtsbauer.
    Mr. Gebhardtsbauer. I am sorry--what was the specific 
question?
    Mr. Christensen. Your position on the government being in 
the markets.
    Mr. Gebhardtsbauer. Well, right now, there are a couple of 
agencies, the Pension Benefit Guaranty Corp., PBGC, and the 
Federal Thrift Plan, that actually are investing in the 
markets. The PBGC, actually, when it takes over a pension plan, 
keeps those assets from, say, Pan Am or Eastern--I used to be 
the Chief Actuary at the PBGC. They keep the assets, but they 
do not vote them. They give that to their investment managers.
    In the Federal Thrift Plan, I guess there was the concern--
I was also the Chief Actuary at OPM when we created the Federal 
Thrift Plan----
    Mr. Christensen. Is there anything you haven't done? 
[Laughter.]
    Mr. Gebhardtsbauer. I still have lots to do--wait for my 
Social Security benefit.
    In the Federal Thrift Plan, they invest in a stock index, 
and that way, the government is not picking and choosing what 
stock to do, so that eliminates the concern that the government 
could be favoring one industry or another or going into social 
investments.
    There is also the concern about voting, so in the Federal 
Thrift Plan, too, they delegate that also to the individual 
investment managers.
    I guess the concern is what happens if someday, Congress in 
fact would have lots more money than the Federal Thrift Plan 
has. I think they only have, like, $25 billion right now, and 
the Social Security trust funds could easily get to $1 
trillion. So, what would happen if the Government had $1 
trillion? Would they change the rules and start favoring one 
group over another?
    Mr. Kingson. If I could just add to that, sir----
    Mr. Christensen. I am just about out of time. I would just 
close by saying, Mr. Chairman, that the number one topic when I 
am talking to high school classes and seniors is the fact that 
they are not going to see their money. When I ask how many 
people are working, almost all the seniors are working, and 25 
percent of their money is going into a deep, dark, black hole 
that they do not ever expect to see. I think it is unfortunate 
that we have people back here who are not willing to expand 
their thinking and look into ideas that will protect the system 
for the long term and not just the political term.
    I encourage us to keep holding these kinds of hearings, and 
I applaud your efforts and thank Mr. Bunning as well.
    Mr. Johnson of Texas. I think these hearings are very 
beneficial.
    A quick comment, Dr. Kingson.
    Mr. Kingson. Yes. One thing that I think is important to 
note is that in shifting to a private mechanism, one shifts the 
risk--under two of the Advisory Council plans, we shift risk 
onto individuals. There was a third plan discussed which takes 
advantage of possible higher rates of return--I would even say 
probable higher rates of return--but which does not shift the 
risk onto individuals. Under the maintain benefits plan, they 
suggested looking at partially investing some portion of the 
trust fund.
    I think the other thing that is awfully important to 
recognize--it was just mentioned about high school students not 
having faith, or others--I think there is great public 
misunderstanding of the Social Security discussion. A lot of 
people think that the exhaustion of the trust funds in 2028, 
2029, means that there is no money in them once that time takes 
place. And as we know, that is not so. It means we only have 
three-quarters of the funds, which is not great; we need to do 
something about it. But this lack of understanding, or lack of 
understanding affects public opinion. When young people are 
asked, one, they may not think it is going to be there; two, 
they might not really think they have to pay twice if you shift 
to a private plan--once for the promises that are made and once 
for themselves. So that a lot of the discussion around public 
understanding and public opinion I think needs to be brought 
out carefully, as has been done today in this kind of forum.
    Mr. Johnson of Texas. Yes. I think the transition is 
important to each of us, but Mr. Gebhardtsbauer, you indicated 
the CPI would solve the whole problem. Let me ask you a 
different question: Why do you think we should use the CPI, 
because I frankly think it is artificial.
    Mr. Gebhardtsbauer. The American Academy of Actuaries does 
not endorse or propose legislation.
    Mr. Johnson of Texas. Does or does not?
    Mr. Gebhardtsbauer. Does not. So we cannot take a stand on 
something like that.
    Mr. Johnson of Texas. OK. Well, there have been too many 
estimates on what it is. You said one-plus, and we are in as 
low as three-tenths or four-tenths of 1 percent. So nobody 
knows. As Dr. Kingson says, we do not have the facts on that 
issue yet, I do not believe.
    Mr. Goodman. I just do not agree.
    Mr. Johnson of Texas. You do not. You think we should use 
the CPI?
    Mr. Goodman. I do not agree with the comment that an 
adjustment in the CPI can solve three-fourths of our problems. 
Once again, that is going back to this accounting that treats 
the bonds and the trust funds as though they are something you 
could pay benefits with, which they are not.
    All that reducing the price index is doing, is just cutting 
benefits, so if you are willing to cut benefits enough, then, 
yes, you can solve the problem. But I do not think most of us 
think that is the right way to do it.
    Mr. Johnson of Texas. I hear you; I think we all agree on 
that.
    One more line of questions, Mr. Becerra.
    Mr. Becerra. Actually, I would like to follow up on the 
questions you were asking on the CPI.
    Mr. Johnson of Texas. Go ahead.
    Mr. Becerra. Have we come up with a better system to try to 
gauge the rate of inflation? I think everyone would agree that 
the CPI was never intended to be our gauge of inflation, but 
has become so. Have we figured out what combination of 
variables best gives us a read on what the real inflation rate 
is?
    Mr. Goodman. Well, what I would do is what I understand the 
Treasury is moving toward anyway, and that is to issue an 
indexed bond--and this guy will know more about it than I 
will--but I understand it is the GNP, Gross National Product, 
deflator that is used to gauge the rate of inflation for the 
country as a whole. And I would be inclined to say, well, look, 
if that is good enough for the country as a whole, let it be 
good enough for retirees.
    Mr. Johnson of Texas. Mr. Gebhardtsbauer, a comment?
    Mr. Gebhardtsbauer. Since you brought it up, I do want to 
congratulate the Government on having those indexed bonds, 
because someday, we will hopefully be able to buy an annuity 
that will go up with inflation. So that is something that will 
help the private sector, actually, meet some of these needs.
    But back to your concern on the CPI, I guess what the 
Bureau of Labor Statistics has come up with is--they have made 
some changes already, and I think it has already reduced the 
CPI a little bit--maybe 0.2 percent--and it looks like within 
another couple of years, they are going to implement something 
that will reduce it by another 0.3 percent, so in total 0.5. 
That is gradually getting there, but of course, it would not be 
used until 1999, so we do not get that over the next few years.
    Mr. Becerra. Dr. Kingson.
    Mr. Kingson. Thank you, sir.
    I think it is very important that Congress move cautiously 
in this area for just the reasons that were mentioned, that we 
do not have all the facts, and there are lots of variants. We 
know that nobody wants to provide a cost-of-living adjustment 
that is in excess of what the change in the annual rate of 
inflation is, but neither do we want to do the reverse, because 
then we would have a national policy which guarantees that the 
longer you live, the less you have to spend. And where we have 
our greatest problems in terms of the economics of older people 
is in advanced old age, especially among aged widows, which is 
one reason why there was a virtual consensus among the Advisory 
Council to do something that would increase the benefits of 
aged widows, essentially, by providing somewhat higher widow/
widower benefits in the program while cutting spouse benefits 
some. It was a relatively no-cost change. You take a bit from a 
group that has a relatively low poverty rate, married elders, 
and you add it to a group which is a greater risk, those women 
who live longer, primarily, single women who live longer.
    And I think the caution of the Bureau of Labor Statistics 
is very appropriate, and I think it is important that there not 
be a political decision made to move on a national index base, 
even though I could see some great advantages, because as the 
gentleman to my left said, if the CPI overstates by half a 
percent, we address one-third of the financing problem without 
political--without a lot of fight.
    Mr. Becerra. Thank you.
    Thank you, Mr. Chairman.
    Mr. Johnson of Texas. Thank you all for being here today. 
We appreciate your participation.
    Before we conclude, I would like to advise the witnesses 
that the Chairman may be sending you additional questions to 
answer for the record, if you would help us in that vein. I am 
sure there are more questions that will come to mind concerning 
the effects that your reform proposals would have on the Social 
Security system.
    [Questions were submitted to the panel from Chairman 
Bunning. The responses follow:]

          Questions submitted by Chairman Bunning to Mr. Moore

    1. You emphasize that all conventional fixes (like raising 
payroll taxes or raising the normal retirement age) for Social 
Security are a ``bad deal'' for young people, since these 
changes only worsen their rate of return. You believe these 
changes must be tied to an exit strategy that allows young 
workers to capture the returns from a private market.
    To solve the transition problem, you mention that, 
according to Martin Feldstein of the National Bureau of 
Economic Research, the net economic benefit from Social 
Security privatization is $10 trillion, and that a plan could 
be devised whereby the gains are shared by the government and 
the worker to the benefit of both. As you know, we need to be 
very careful about two issues, one being the Trust Fund balance 
over the long run and the other ensuring that the government's 
overall deficit is reduced or at least left unaffected by any 
proposed changes. I'm interested in knowing more details as to 
the justification of the net economic benefit from Social 
Security privatization.
    2. You propose offering a deal to every American worker 
where they promise to forfeit any claim on their Social 
Security benefits--even those they have already accumulated--in 
order to invest all of their future payroll taxes into private 
markets. You estimate that under this approach, up to \1/3\ of 
the current unfunded liability would be eliminated through this 
transition plan. Would you provide further details as to how 
this would work? Do you really believe younger workers would 
walk away from what they have contributed?
    In your proposal, there appears to be no tier 1 basic 
safety net benefit, as proposed in the Personal Security 
Accounts plan offered by certain members of the Advisory Board. 
Do you see no need for a safety net?
    Under your proposal, do workers have the freedom at 
retirement to use the proceeds of their personal savings 
account anyway they choose? What happens if they spend it all 
quickly or live much longer than they may have expected?
    3. As individuals build up balances in their individual 
accounts, won't there be pressure on the Congress to authorize 
early withdrawals, since after all, the accounts really do 
belong to the individual?
    4. How do you respond to the allegation that some investors 
will not do as well in terms of returns on their personal 
savings accounts and will be forced to turn to means-tested 
income support such as SSI, thus driving up the cost of these 
taxpayer-supported programs?
    5. Of what importance are cost-of-living adjustments and 
should they be preserved?
    6. What are your views regarding adjusting the Consumer 
Price Index as an option to consider as part of Social Security 
reform?
    7. How do we restore younger worker confidence in Social 
Security?
    8. What are your views on the Advisory Council's 
recommendation to study the investing of up to 40% of the Trust 
Funds? How would the market be affected by such a large 
infusion of money?
    What percentage of private industry would the government 
own? Shouldn't the government stay out of private industry? How 
would this be done?
    Wouldn't the government wind up taking an active role in 
the direction of the companies whose assets it owns? Might this 
role for government have a depressing effect on stock yields 
and therefore on the yields for seniors?
    Since the government would control the investment of the 
Trust Funds, how do you avoid the risk that the government 
might ultimately influence the selection of stocks for 
political purposes unrelated to the best interests of the 
workers contributing to the plan?
    9. Could you suggest a way that employers and employees 
together could opt to replace a personal savings account or 
individual account with an employer plan that would spread the 
risk more and yield a higher return?
    10. In light of the fact that the Trustees' long-range 
``intermediate'' projections made in 1983 now appear to have 
been optimistic, if one were to ask you to design a package of 
reforms today, would you use the ``intermediate'' assumptions 
or the ``high cost'' assumptions? Said another way, should we 
build a financing cushion in the next set of changes we make to 
Social Security in the event the most recent intermediate 
forecast proves to be optimistic?
    11. Given that entitlement spending overall has been 
projected by the Congressional Budget Office and others to grow 
dramatically as a percent of GDP in the future (when the baby 
boomers are in retirement), do you think it would be wise to 
build tax increases into any Social Security reform plan?
    12. Do you think the public wants, or is expecting, at 
least some market investment to underpin the Social Security 
system in the future, whether it is through personal accounts 
or collectively through the Trust Funds?
    13. While the Advisory Council was not able to agree on 
everything, they did agree that any sacrifices in bringing the 
system into balance should be widely shared and not borne 
entirely by current and future workers and their employers. The 
council's suggestion was to apply appropriate income taxation 
to Social Security benefits. Do you believe the burden should 
be shared by all? 
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                      The responses of Dr. Kingson

    1. You argue that privatization places low-and moderate-
income workers at significant political risk and that 
privatization ``schemes'' ensure erosion of political support 
for Social Security's redistributive role. How do you respond 
to Mr. Moore's comment that low-income workers will do better 
in a privatized system?
    Mr. Moore overlooks important aspects of the Social 
Security program. Moreover, I find many of the assertions in 
Mr. Moore's testimony confusing and hard to fully assess. Some 
of the assumptions behind his analysis are not spelled out and 
others seem questionable.
    In his testimony Mr. Moore gives the example of a ``typical 
female worker who just started working and earns a salary of 
$22,500, which goes up with average wages over her lifetime. 
When she retires,'' he states that ``Social Security will pay 
her a $12,500 \1\ annual benefit in today's dollars--assuming 
no change in benefits. If she were permitted to simply place 
her payroll taxes \2\ in a mutual fund with a 7 percent real 
rate of return ..., she would have a nest egg worth $800,000 to 
$1 million at retirement age.\3\ This would allow the worker to 
draw a $60,000 benefit per year until death (assumed at age 
80).''\4\ According to Mr. Moore, ``This is five times higher 
than what Social Security offers for the same level of 
investment.''
---------------------------------------------------------------------------
    \1\ This is in inflation-adjusted dollars. Additionally, the 
purchasing power of her benefit would be protected by the COLA. 
Assuming this worker was 20 years old in 1997 and reaches age 65 in 
2042, by my rough estimates her yearly benefit in current 2042 dollars 
would be $62,500. Her life expectancy on reaching age 65 under 
intermediate assumptions used in the 1997 Trustees report is estimated 
AT 21 years.
    \2\ From his statement it is not clear whether Mr. Moore is 
counting only her FICA contribution or that of her employer and 
employee. Neither is it clear whether he is counting only the portion 
of the FICA that is dedicated to disability and survivors insurance 
contributions, or for HI.
    \3\ Again, from the testimony it is not clear whether he is talking 
about nominal (current) or inflation-adjusted (constant) dollars. If 
the former, then it is greatly over-stating the real value of the 
``nest-egg and the yearly benefit. Also, it's not clear whether he is 
assuming COLA protection under his plan. If not, then $80,000 a year 
shrinks substantially in purchasing power over time.
    \4\ This seems like a peculiar assumption given that the life 
expectancy for women reaching age 65 in 2040 is 20.9 years (in 2045 
21.1 years) under intermediate assumptions in the 1997 Trustees Report. 
A 21 year life expectancy would reduce the value of the estimated 
benefit by a significant amount as would cost-of-living protection.
---------------------------------------------------------------------------
     I do not understand why Mr. Moore would assume 
death at age 80 when average life expectancy for a woman 
reaching age 67 in 2044 is about 20 years? What would happen to 
his estimates if you assumed 20 years of remaining life instead 
of 13?
     It is not clear whether the assumed yearly benefit 
includes cost-of-living protection. I do not think it does. 
What would happen to the estimate if it did?
     It is not clear whether these calculations include 
adjust for the value of disability, retirement and health 
benefits? Similarly, no mention is made of the possibility of a 
lower real rate of return (e.g., 5% instead of 7%).
     How might different interest rates change the 
projected ``nest-egg.'' And even if the average rate of return 
is 7%, plainly some would do better and some would do worse. In 
the real world, might this present significant problems?
    In short, I do not think Mr. Moore has presented 
information that supports his assertion that lower-and 
moderate-income persons would to well to trade-off the 
certainty of protection under the current system for the 
possibilities he suggests may exist under his proposed system. 
Below, please find an estimate of benefits payable under the 
existing system.

                          Estimated Benefits Payable to Workers Reaching age 65 in 2045
----------------------------------------------------------------------------------------------------------------
                    Year reaching 65                      Current dollars     Constant 1997      % of Earnings
----------------------------------------------------------------------------------------------------------------
Retiring at age 65
  Low Earner...........................................            $44,060             $8,510               49.4
  Average Earner.......................................            $72,740            $14,049               36.7
  High Earner..........................................            $96,112            $18,563               30.3
Reaching age 67 in 2047
  Low Earner...........................................            $54,903             $9,899               56.5
  Average Earner.......................................            $90,888            $16,387               42.1
  High Earner..........................................           $119,532            $21,552               34.6
----------------------------------------------------------------------------------------------------------------
 Source: 1997 Trustees Report


    2. Of what importance are cost-of-living adjustments and 
should they be preserved?
    Cost-of-living adjustments are an important feature of the 
Social Security program. They assure that benefits, once 
received, will maintain their purchasing power no matter how 
long the beneficiary lives. Without COLA protection, OASDI 
could not achieve its goal of providing widespread protection 
against loss of income due to retirement, disability or 
survivorship. In effect, without full-COLA protection, we would 
have a national policy which systematically reduced the value 
of benefits, the longer someone lived.
    3. What are your views regarding adjusting the Consumer 
Price Index as an option to consider as part of Social Security 
reform?
    If the CPI still overstates inflation, then further 
technical adjustments will be forthcoming as an outcome of the 
Bureau of Labor Statistics' review of this index. I do not 
believe that BLS should be politically mandated to make 
specific changes, as this would undermine the integrity of its 
data gathering functions and its statistics. (For additional 
comment, please see the discussion that followed the statements 
of the witnesses.)
    In the context of a Social Security financing reform 
package, it is not unreasonable to consider a one-time 
reduction (e.g., a ``delay'') in the COLA as done as part of 
the 1983 Amendments. Should Congress choose to implement such a 
change, then I believe it would be important to simultaneously 
implement a one-time increase in SSI benefits to offset the 
effects of this COLA cut on some of the most economically at-
risk beneficiaries.
    4. How do we restore younger worker confidence in Social 
Security?
    Educate the public about the value of the existing program, 
the extent of the projected financing problem and the policy 
choices. Discourage sensational rhetoric. Address the projected 
financing problem. (For additional comment, please see the 
discussion that followed the statements of the witnesses.)
    5. What are your views on the Advisory Council's 
recommendation to study the investing of up to 40% of the Trust 
Funds. How would the market be affected by such a large 
infusion of money?
    What percentage of private industry would the government 
own? Shouldn't the government stay out of private industry? How 
would this be done?
    Wouldn't the government wind up taking an active role in 
the direction of the companies whose assets it owns? Might this 
role for government have a depressing effect on stock yields 
and therefore on the yields for seniors?
    Since the government would control the investment of the 
Trust Funds, how do you avoid the risk that the government 
might ultimately influence the selection of stocks for 
political purposes unrelated to the best interests of the 
workers contributing to the plan?
    In the context of the current financing problem, I believe 
serious consideration should be given to this option. Yes, 
there are risks that the government might seek to 
inappropriately influence the private sector through its 
ownership of stocks, but as the proponents of this plan have 
suggested there are also safeguards that could be implemented 
to substantially reduce--if not entirely eliminate such a risk. 
I am reminded of the political events leading up to the 
enactment of the 1983 Social Security reforms which included 
the provision to treat up to 50% of Social Security benefits as 
taxable income. Congress had previously gone on record--
unanimously or nearly unanimously I believe--as opposing 
taxation of benefits. But in the context of the hard choices 
before the Congress, taxation of benefits emerged as an 
important--arguably the key--element of the compromise. It was 
simply less painful than many of the other options under 
consideration.
    6. Could you suggest a way that employers and employees 
together could opt to replace a personal savings account or 
individual account with an employer plan that would spread the 
risk more and yield a higher return?
    No.
    7. In light of the fact that the Trustees' long-range 
``intermediate'' projections made in 1983 now appear to have 
been optimistic, if one were to ask you to design a package of 
reforms today, would you use the ``intermediate'' assumptions 
or the ``high cost'' assumptions? Said another way, should we 
build a financing cushion in the next set of changes we make to 
Social Security in the event the most recent intermediate 
forecast proves to be optimistic?
    Use of the intermediate assumptions is perfectly 
appropriate for addressing the projected long-term financing 
problem. For a projected long-term financing problem, I would 
not consider the use of the pessimistic assumptions to be any 
more appropriate than the use of the optimistic assumptions. 
This said, I think the financing reforms should also seek to 
implement reforms that would not leave a structural deficit 
after the 75-year estimating period.
    8. Given that entitlement spending overall has been 
projected by the Congressional Budget Office and others to grow 
dramatically as a percent of GDP in the future (when the baby 
boomers are in retirement), do you think it would be wise to 
build tax increases into any Social Security reform plan?
    Just as I would give serious consideration to benefit cuts, 
I would also give serious consideration to some modest tax 
increase 25, 40 or 60 years in the future. I would also give 
consideration to adjustments in the maximum taxable ceiling or 
to the treatment of some tax-exempt fringe benefits as taxable 
for Social Security purposes.
    9. Do you think the public wants, or is expecting, at least 
some market investment to underpin the Social Security system 
in the future, whether it is through personal accounts or 
collectively through the Trust Funds?
    I do not know the answer to this question. I do believe, 
however, that the public may need more information to develop 
an informed opinion on this issue.
    10. While the Advisory Council was not able to agree on 
everything, they did agree that any sacrifices in bringing the 
system into balance should be widely shared and not borne 
entirely by current and future workers and their employers. The 
council's suggestion was to apply appropriate income taxation 
to Social Security benefits. Do you believe the burden should 
be shared by all?
    Yes, but, as members of your Committee well know, when it 
comes to burden sharing often there are as many different views 
of what is ``fair'' as there are people in a room.
      

                                

                  The responses of Mr. Gebhardtsbauer

    1. In your testimony, you emphasized that it's not enough 
for Congress to just put Social Security back in actuarial 
balance over the next 75 year period, we must also maintain a 
stable Trust Fund at the end of that period to be sure we 
aren't dealing with this problem 20 years down the road (mostly 
due to the fact that individuals keep living longer.) The 
Maintain Benefits group solves this problem by increasing 
contributions by 1.6% of covered pay beginning in 2045. The 
other two Advisory Council proposals solve this by increasing 
the normal retirement age to 67 by 2011 and to age 70 by 2083. 
What are the disadvantages you see in raising the normal 
retirement age?
    As you suggest, there are advantages and disadvantages to 
any solution for putting Social Security in actuarial balance. 
The following are some disadvantages to raising the Normal 
Retirement Age (NRA).

Same as a benefit decrease:

    Increasing the NRA by one year is the same as decreasing 
benefits by 7% (except it has the advantage of not decreasing 
disability benefits). For example, if the NRA is increased from 
age 67 to age 70, the benefit of someone who wants to retire at 
age 65 is reduced by almost 21%. This disadvantage (benefit 
decreases could adversely affect beneficiaries) can also be 
seen as an advantage (it corrects for the hidden benefit 
increase due to longer lifespans). Note that the age 70 normal 
retirement age is not reached until 2083 in the Individual 
Account (IA) and Personal Security Account (PSA) plans. Thus, 
the benefit decreases suggested are quite gradual (in order to 
reduce the effects of a notch).

Benefits at 62 might not be adequate:

    If the current benefit structure was designed to provide 
the appropriate minimal benefit, then this decreased benefit 
will not be adequate. This is of particular concern at the 
youngest eligibility age 62. When the NRA reaches age 70, the 
age 62 benefit will be 55% of the NRA benefit, and thus, 
probably inadequate. In order to avoid this problem, the 
earliest retirement age of 62 could be increased to age 65 
gradually. However, this would be a disadvantage for those who 
wanted to retire earlier, but would now be ineligible for a 
retirement benefit (unless they could qualify for disability 
retirement).

Working until age 70:

    Just because Americans are living longer, does not mean the 
population is healthier or can work longer. However, recent 
studies are showing that the elderly are healthier. Employing 
them would increase national productivity. In addition, many 
people worked beyond 65 in the past, before Social Security was 
available.

Employer concerns:

    Social Security does not exist in a vacuum. Private sector 
retirement systems will be affected. Employers who do not want 
an aging workforce may need to increase benefits for their 
pension plans in order to make up for the decrease in Social 
Security benefits (caused by the increased NRA). Aging 
workforces can also lead to increased unemployment, health, and 
disability costs for employers. On the other hand, it appears 
that large numbers of retirements of healthy baby-boom workers 
starting in 2008 may prompt employers to rethink their 
retirement strategies. Employers may not want their workers to 
retire in such large numbers. Retirement plans can encourage 
this strategy if retirement ages are increased in tandem with 
Social Security. This could reduce employer pension costs also.

Some citizens not affected:

    The retirement age change in the IA and PSA options affect 
covered workers who reach age 62 on or after 2005 (i.e., those 
born in 1943 and later) and not those born earlier. Age 67 
would apply to those born in 1949 (1960 and later under current 
law). Thus, this change affects baby boomers and younger 
workers, but not the retired or near-retired. This can be seen 
as a disadvantage (older workers and retirees are not sharing 
in this particular solution) or as an advantage (no sudden 
changes for those near or in retirement who can not change 
their plans easily). A summary of the IA and PSA retirement age 
changes are enclosed.
    2. You mentioned that experience from other countries shows 
that tax avoidance occurs when one gets nothing for additional 
taxes. Would you provide more detail as to which other 
countries have this experience and what actually happened?
    A paper presented by Joyce Manchester (Visiting Fellow-
World Bank) at the 1997 Pension Research Council at Wharton 
names countries where under-reporting of taxable income occurs 
when people get little additional benefit from paying 
additional contributions. In her speech she also cited Italy as 
an example. She stated that people under-report income when:
     Benefits are not linked to contributions
     Benefits are only based on the last 5 years of 
income
     Low returns on contributions make the value of the 
additional benefits worth much less than the amount 
contributed.
    Even in the United States, many self-employed women with 
lower wages than their husbands under-report their income, 
since they get little or no improvement in their Social 
Security benefits if they do report their income (see pages 13 
and 14).
    3. Of what importance are cost-of-living adjustments and 
should they be preserved?
    If COLA's are eliminated, the effects will be most felt by 
the very elderly of the future. For example, if inflation is 4% 
over the next 30 years, someone age 95 then will have fallen 
behind by 4% for each of the next 30 years. Thus, their 
purchasing power at age 95 will be only 31% (=1/1.04-30) of 
what it was at age 65. This is quite a concern, since:
     Employer pensions often don't have COLA's,
     Medical and long-term-care expenses are higher in 
the last couple years of life, and
     Poverty rates are higher at the most elderly ages, 
especially among women, who are more likely to be widows living 
alone. (See attached chart on poverty rates.) Poverty rates 
assume it costs widows about 75% of the amount before widowed 
to maintain the same standard of living.
    Social Security's loss of purchasing power was a concern 
for Congress before COLA's were automatic, so they occasionally 
passed ad hoc COLA's which ended up being more expensive than 
CPI increases would have been. Automatic COLA's were introduced 
as a way to reduce costs. Thus, eliminating them could also 
increase outlays.
    4. What are your views regarding adjusting the Consumer 
Price Index as an option to consider as part of Social Security 
reform?
    The American Academy of Actuaries does not endorse legislative 
proposals, but rather provides analysis of advantages and 
disadvantages. Therefore, while we do not recommend arbitrarily 
reducing the COLA, we do note that the Chief Actuary of Social Security 
has estimated that subtracting 1.1% from the CPI (and no other changes) 
would lower Social Security's long-range actuarial deficit by about 
two-thirds.\1\ Coupled with an increase in the normal retirement age to 
70, it would solve Social Security's current long-range actuarial 
deficit.
---------------------------------------------------------------------------
    \1\ If the 1.1% decrease is done through BLS corrections to the 
CPI, the savings is not as great, because nominal wages and interest 
rates may also come down.
---------------------------------------------------------------------------
    However, if the COLA is reduced by 1.1%, the problems noted in the 
last question will arise if this reduction sets a COLA that is lower 
than the actual increases in the cost-of-living. The purchasing power 
of retirees will fall behind each year. Thus, the very elderly of the 
future will be hurt the most. Currently, changes in the CPI, being 
reputedly higher than the actual increases in costs-of-living, helps 
the very elderly the most.
    Finally, the Bureau of Labor Statistics has made changes to the CPI 
that are expected to reduce the annual COLAs by 0.2% and suggests that 
it might make further changes that would lower the annual COLAs by 
another 0.3% in 1999. If Congress lowered the 1998 COLA by 0.3%, it 
would reduce outlays by 0.3% in 1998, with reduced outlays in future 
years gradually reducing to zero over current retirees' lives.
    5. How do we restore younger workers' confidence in Social 
Security?
    Robert Friedland of the National Academy of Social Insurance made a 
presentation before the 1994-1996 Advisory Council entitled ``Public 
Confidence in Social Security.'' In it, he discussed their focus 
groups, supplemented by Gallup polls in 1994. They found that most 
people get their lack of confidence in Social Security from experts and 
media saying Social Security has financial problems. Young people 
``wanted someone with authority to walk in the room and say'' Social 
Security will be fixed. (See page 295 of Volume II.) Thus, fixing 
Social Security's financial problems would probably help restore the 
people's confidence in the system. The presentation also suggested that 
annual benefit statements might help those people that do not trust the 
government or its ability to manage (page 297). Private sector pension 
plans must furnish benefits statements upon a participant's request.
    6. I'd like to know your views on the Advisory Council's 
recommendation to study the investing of up to 40% of the Trust Funds. 
How would the market be affected by such a large infusion of money?
    What percentage of private industry would the government own? 
Shouldn't the government stay out of private industry? How would this 
be done?
    Wouldn't the government wind up taking an active role in the 
direction of the companies whose assets it owns? Might this role for 
government have a depressing effect on stock yields and therefore on 
the yields for seniors?
    Since the government would control the investment of the Trust 
Funds, how do you avoid the risk that the government might ultimately 
influence the selection of stocks for political purposes unrelated to 
the best interests of the workers contributing to the plan?

Effects on U.S.:

    Most studies suggest that investing Social Security funds in 
private markets would probably drive up stock prices, and consequently 
lower their returns in the future. (The initial appreciation in stock 
prices would be a windfall for those already in the stock market.) 
Unless amounts invested in the private sector are found from reduced 
U.S. expenditures or additional contributions, the U.S. Treasury would 
have to find another source for its borrowing. In order to attract more 
funds, the U.S. Treasury would have to offer higher interest rates. 
This would increase the deficit and eventually taxes. Thus, Social 
Security becomes a better deal to covered workers at the expense of 
U.S. taxpayers.

Other Consequences:

    If lower market yields result, it would also affect pension plans 
and others that are heavily invested in the stock market. Funds in 
Defined Contribution plans would yield smaller benefits and Defined 
Benefit contributions would have to increase in order to fund the same 
benefits. Corporations might have higher borrowing costs to compete 
with the U.S. Treasury for funds. Higher corporate bond yields then 
might offset the lower equity yields in pension plans that had them.

Investment Risk:

    The Social Security Funds would be subject to market volatility 
risk. Since they are closer to pay-as-you-go than advance-funded 
pension plans, this risk should be analyzed carefully, to see how much 
funds can safely be invested in equities. On the other hand, Social 
Security does not allow lump sums (which some pension plans do offer) 
and contributions each year will greatly offset the amount needed for 
distribution each year. This would reduce the risk that large amounts 
of funds would need to be withdrawn when stock prices are down. 
However, when the baby boomers start to retire (from 2008 to 2030), the 
stock market might fall dramatically when retirement funds are pulled 
out to pay benefits to the large baby boomer cohort. This could lower 
equity returns dramatically.

Governance Concerns:

    The above comments also apply to the IA and PSA options. However, 
the Maintain Benefits (MB) option also has the governance concern that 
you mentioned because the government holds the equity funds (while it 
avoids placing the many serious risks on individuals of a more 
privatized system). It is very difficult to determine what percent of 
the market would be held by the government. Thomas Stanton's 
presentation to the Advisory Council (pages 423 of Volume II) compares 
equity amounts in 2020 with total corporate equities in 1994 by 
deflating the equities at 5.5% per year. Under his method, the MB 
equities in 2020 of $3.2 trillion (as projected on page 196 of Volume 
I) would deflate to $0.8 trillion in 1994 or 13% of corporate equities. 
He states that this amount would probably be manageable by current 
equity managers. However, the Advisory Council projected stocks to 
yield 11% annually. If the size of the stock market were to increase 
commensurate with this assumption, the above 13% would be much lower. 
Finally, we note that stocks in the IA and PSA options will eventually 
far exceed amounts in the MB option (but they of course are held by 
individuals, not Social Security). One way to decrease these 
percentages is to allow investments in corporate bonds, mortgages, and 
mutual funds. This could cut the above percentage in half, since these 
additional markets are just as big as the domestic equity market. 
Foreign markets could further reduce these percentages. These other 
investments would have their governance concerns too, however.
    Two agencies in the federal government (the Federal Thrift Savings 
Plan and the Pension Benefit Guaranty Corporation) reduce the 
governance concern by delegating voting rights to the investment 
managers. The PBGC has done this successfully for over 20 years. In 
addition, the Federal TSP only invests in indexes. This reduces the 
concern that they could manipulate companies with their huge amounts of 
money. In addition, they are by law fiduciaries investing money in the 
sole interest of their beneficiaries. This keeps investment managers 
from having other reasons for investment decisions. However, laws can 
be changed by a future Congress. For example, Florida's legislature 
just mandated the state retirement fund to eliminate investments in 
tobacco.
    7. Could you suggest a way that employers and employees together 
could opt to replace a personal savings account or individual account 
with an employer plan that would spread the risk more and yield a 
higher return?
    If reform legislation mandates additional employee contributions to 
individual accounts, it may harm their employer retirement benefits and 
personal savings. Many lower-paid employees could take their 
contribution from their 401(k) deferrals and lose the employer match. 
Higher-paid employees would then be prohibited from making their full 
contribution to the 401(k) plan, due to non-discrimination rules. If 
the mandate is for additional employer contributions, then employers 
may reduce contributions to their pension plans.
    Papers from the World Bank laud the fact that retirement income in 
the U.S. comes from more than one source (i.e., the 3-legged retirement 
stool). Diversification of the sources of retirement income is very 
important. However, if the Social Security leg is strengthened by 
harming the other legs (private pensions and personal savings), the 
result could be an unbalanced retirement stool.
    There are ways to preserve the employer pension leg. For example, 
if a mandatory contribution is required, employer pension plans could 
be one of the options for the mandate. The government might require 
some special rules for the pension plan to qualify, such as:
     A minimum benefit or contribution,
     A minimum vesting schedule, or
     A minimum cash-balance-type benefit in a Defined Benefit 
plan, that is vested within the first year.
    Employer plans (including Defined Benefit plans) with 401(k) 
features could qualify as an option for all employees that made a 
minimum contribution. Section 414(h) pickup plans could be expanded to 
all employer types and also qualify as an option. The private and 
public pension sectors already exist for over 80 million employees and 
would be able to handle the imposition of reform legislation much 
easier than if the mandate is placed on each individual. Congress may 
want to consider this option if it decides to go forward with mandatory 
individual accounts.
    In addition, simplification of pension laws is still needed to 
encourage more plans. Most small employers still do not have pension 
plans (therefore it would be difficult for small employers to find the 
money for any IA mandatory contribution). The tax advantage of employer 
pension plans (over other investment possibilities, such as savings 
accounts, IRAs, and stocks eligible for capital gains treatment) is 
also necessary to preserve them. Some forms of tax restructuring would 
remove the tax advantages of employer-sponsored pension plans. We have 
attached a report which discusses how this could negatively affect 
individuals, employers, and the nation.
    8. In light of the fact that the Trustees' long-range 
``intermediate'' projections made in 1983 now appear to have been 
optimistic, if one were to ask you to design a package of reforms 
today, would you use the ``intermediate'' assumptions or the ``high 
cost'' assumptions? Said another way, should we build a financing 
cushion in the next set of changes we make to Social Security in the 
event the most recent intermediate forecast proves to be optimistic?
    The Academy uses the intermediate assumptions for its monograph and 
issue briefs (also enclosed). Social Security's 1990 Technical Panel 
assumptions were practically all implemented. In addition, the 1994-
1996 Advisory Council, reflecting some outside criticism, suggested 
assuming longer lifespans and higher fertility rates. However, their 
suggested assumptions approximately offset each other. As stated in the 
Advisory Council report, they find the assumptions reasonable in the 
aggregate.
    In addition, as discussed in our testimony, it is not sufficient to 
just put the Social Security system in actuarial balance. The 
legislation must also create a stable fund balance at the end of the 
75-year period. For example, the IA and PSA options create a stable 
fund balance by increasing the Normal Retirement Age.
    9. Given that the entitlement spending overall has been projected 
by the Congressional Budget Office and others to grow dramatically as a 
percent of GDP in the future (when the baby boomers are in retirement), 
do you think it would be wise to build tax increases into any Social 
Security plan?
    Whether or not to increase taxes (and how much) is a policy 
decision for Congress. If the solution is entirely on the tax side, and 
benefits are not reduced, the 1997 Trustee Reports of Social Security 
and Medicare Programs show that taxes would have to double from 7.38% 
of GDP today to 15.08% of GDP in 2071. This is about 40% of taxable 
payroll in 2071.

------------------------------------------------------------------------
                                        1997      2071      % Increase
------------------------------------------------------------------------
OASDI...............................     4.65%     6.68%             44%
HI..................................      1.76      4.98            183%
SMI.................................      0.97      3.42            253%
                                     -----------------------------------
    Total...........................     7.38%    15.08%            104%
------------------------------------------------------------------------


    Congress should consider how much they will need to increase taxes 
for Medicare (if any), before they decide to increase taxes for Social 
Security. It may greatly affect the thinking on this issue.
    10. Do you think the public wants, or is expecting, at least some 
market investment to underpin the Social Security system in the future, 
whether it is through personal accounts or collectively through the 
Trust Funds?
    As a result my participation in Social Security symposiums 
sponsored around the country by members of Congress, I have heard many 
attendees say who they think should invest the stocks. In general, 
these conversations have revealed that younger people, men, and higher-
paid people may be more likely to be in favor of individual accounts, 
while older people, women, and the lower-paid may be more likely to not 
favor them. It is interesting to note that this latter category is also 
the same group that invests in a more conservative basis in their IRAs 
and 401(k)s. This is probably due to the fact that they have less 
future earning power to offset any possible investment losses that 
could occur.
    11. While the Advisory Council was not able to agree on everything, 
they did agree that any sacrifices in bringing the system into balance 
should be widely shared and not borne entirely by current and future 
workers and their employers. The council's suggestion was to apply 
appropriate income taxation to Social Security benefits. Do you believe 
the burden should be shared by all?
    The Academy does not take policy positions. However, we do note 
that taxing Social Security benefits like pension benefits by 
eliminating the thresholds would be a big simplification for retirees 
calculating their taxes. One might be concerned that very low-income 
retirees would then be stuck with a large tax increase.
    However, as pointed out in the Advisory Council report, 30% would 
still not be taxed. For example, exemptions and deductions for an 
elderly couple are $13,400 (=$2,550 x 2 + $8,300). This could easily be 
more than their Social Security benefit, so it would not be taxed 
anyway. In addition, middle income people will not be affected as much 
due to the progressive nature of our tax system. However, pension tax 
law also requires a determination of the portion paid by the employer. 
This portion is taxed at distribution. We note that determining the 
portion of Social Security benefits not taxed yet would be a detailed 
calculation and difficult for retirees to verify. Thus, Congress might 
stay with the 85% imputation rule that already exists. This 85% is 
quite accurate for workers at the wage base and above. For middle and 
low-income people, however, the untaxed portion is closer to 90 or 95%. 
Thus, a more exact calculation would increase their taxes. Thus, the 
imputation is simpler and it has the added advantage of not affecting 
middle and low-income people more than higher income people.
    In response to your question about whether current retirees should 
share in the solution, we note that further taxation and COLA 
reductions are two ways in which current retirees could be affected. 
Many current retirees have received or will receive more from Social 
Security than they contributed. They have had a good return on their 
contributions. On the other hand, they are also responsible for 
preserving our democracy in the 1940's, caring for their parents in 
earlier years before some were fully covered by Social Security, and 
creating a very productive nation in the 1950's. They may have paid in 
other non-financial ways.
    We want to thank you again for holding the hearing and inviting us 
to testify. We are more than happy to answer further questions or meet 
with you to discuss these and other items at any time.
      

                                

                      The responses of Dr. Goodman

    1. Of what importance are cost-of-living adjustments and 
should they be preserved?
    Cost-of-living adjustments are not included in most private 
pension plans. Workers who pay the taxes that provide the 
Social Security COLAs do not uniformly receive COLAs 
themselves, so the beneficiaries are doing better than the 
people paying for the benefits. It would be politically 
difficult to remove COLAs from Social Security, however. As 
long as we continue the current pay-as-you-go system, COLAs 
probably should be measured more accurately than they are now. 
I must point out that under the fully funded system of 
individual accounts that I proposed in my testimony, COLAs 
would be a moot point.
    2. What are your views regarding adjusting the Consumer 
Price Index as an option to consider as part of Social Security 
reform?
    As mentioned in answer 1, COLAs should more accurately 
reflect the increase in the cost of living. But this could cut 
two ways. The Boskin report appears to be substantially 
correct, but it has been suggested that there should be a 
separate CPI for the elderly since their spending differs from 
the nonelderly--and the finding might be that the COLA for the 
elderly should be increased. In any event, I am concerned that 
a quick fix based on refiguring the COLA may forestall 
fundamental reform of the system.
    3. How do we restore younger worker confidence in Social 
Security?
    With so much discussion of increasing the eligibility age 
and reducing benefits, younger workers are right to lack 
confidence in Social Security as currently constituted. In my 
view, a system of individual accounts similar to the Chilean 
system would restore the confidence of workers of all ages and 
contribute greatly to American economic growth.
    4. What are your views on the Advisory Council's 
recommendation to study the investing of up to 40% of the Trust 
Funds. How would the market be affected by such a large 
infusion of money?
    What percentage of private industry would the government 
own? Shouldn't the government stay out of private industry? How 
would this be done?
    Wouldn't the government wind up taking an active role in 
the direction of the companies whose assets it owns? Might this 
role for government have a depressing effect on stock yields 
and therefore on the yields for seniors?
    Since the government would control the investment of the 
Trust Funds, how do you avoid the risk that the government 
might ultimately influence the selection of stocks for 
political purposes unrelated to the best interests of the 
workers contributing to the plan?
    Government's investing a portion of the Trust Funds is a 
terrible idea. First, our current Trust Fund surpluses are used 
to finance deficit spending and conceal the true deficit, and 
there is no reason to believe any return from such an 
investment would not be used in the same way. Second, such an 
investment would in effect move American industry toward 
nationalization at a time when the rest of the world is moving 
to privatize state-owned businesses. Third, the temptation to 
politicize a government-managed fund is too great to resist. We 
could be sure of political interference at every turn, 
particularly with the huge amounts involved. One estimate is 
that the Trust Funds would grow to be about 45 percent of the 
capital stock in the U.S., exclusive of owner-occupied housing 
and unincorporated businesses.
    Let me refer here again to the Chilean system. In Chile, 
workers can invest their funds in one of about 20 pension fund 
administrators (called in Spanish AFPs), private entities 
authorized and supervised by the government. Individuals can 
move their accounts from one AFP to another, so the AFPs 
compete for business on the basis of investment returns and 
management costs. The AFPs are closely restricted in the types 
of investments they can make. At the end of 1990, the AFPs had 
invested 44.1 percent of their funds in government bonds, 17.4 
percent in bank time deposits, 16.1 percent in mortgage bonds, 
11.3 percent in common stocks and 11.1 percent in corporate 
bonds.
    5. Could you suggest a way that employers and employees 
together could opt to replace a personal savings account or 
individual account with an employer plan that would spread the 
risk more and yield a higher return?
    No. I think it would be more desirable to move away from 
employer-based retirement systems. A retirement system 
permitting more portability, such as one permitting larger 
contributions by employees and employers to IRAs and SEPs, or 
to similar retirement instruments, would produce a system more 
in keeping with the needs of today's workers and retirees. It 
is simple enough, with diversification, to spread the risk and 
gain a higher return with these instruments.
    6. In light of the fact that the Trustees' long-range 
``intermediate'' projections made in 1983 now appear to have 
been optimistic, if one were to ask you to design a package of 
reforms today, would you use the ``intermediate'' assumptions 
or the ``high cost'' assumptions? Said another way, should we 
build a financing cushion in the next set of changes we make to 
Social Security in the event the most recent intermediate 
forecast proves to be optimistic?
    We did build a cushion in 1983--and the government has been 
spending it. The next set of changes we make to Social Security 
should be complete reform with a transition to a system of 
fully funded individual accounts and a provision for transition 
from the current system.
    7. Given that entitlement spending overall has been 
projected by the Congressional Budget Office and others to grow 
dramatically as a percent of GDP in the future (when the baby 
boomers are in retirement), do you think it would be wise to 
build tax increases into any Social Security reform plan?
    No.
    8. Do you think the public wants, or is expecting, at least 
some market investment to underpin the Social Security system 
in the future, whether it is through personal accounts or 
collectively through the Trust Funds?
    I don't know.
    9. While the Advisory Council was not able to agree on 
everything, they did agree that any sacrifices in bringing the 
system into balance should be widely shared and not borne 
entirely by current and future workers and their employers. The 
council's suggestion was to apply appropriate income taxation 
to Social Security benefits. Do you believe the burden should 
be shared by all?
    Yes, but not necessarily through the income tax. However, 
we need to be concentrating on reform rather than simply 
bringing the current system into balance.
      

                                

              The responses of Ms. Olsen and Mr. Yakoboski

    Question 1: One of the technical panels of the Advisory 
Council covered the issue of ``assumptions and methods,'' and I 
believe one of the conclusions of this panel was that the 
``intermediate'' projections of the Social Security Trustees 
provide a reasonable evaluation of the financial status. It is 
very confusing for the public to begin to understand the 
problems facing Social Security in the long run, when every day 
it seems we are seeing another estimate in the press or in some 
news story that Social Security will go bust in a different 
year. These years seem to range from just past 2000 to 2050? No 
wonder the public is confused and skeptical about the program's 
future. You point out some disagreement with some of the 
Trustees' assumptions. What can we do to inform the public of 
the right numbers and what are the right numbers for us to use 
as we address future Social Security reform?
    Response to Question 1: The Chairman's uncertainty about 
which projections to use is very appropriate when approaching a 
range of differing reasonable projections about the future of 
the program. In fact, in order to be most flexible and 
sensible, policy decisions at this juncture must reflect the 
uncertainty surrounding the extent and timing of Social 
Security's financial issues. Quite simply, no one knows the 
``right'' numbers. However, there are definitely numbers based 
on more reasonable and less reasonable assumptions. The 
trustees issue three sets of assumptions, and the conservative 
approach to education would be to always provide the range the 
differing assumptions produce. This would tell the public, for 
example, that benefits could exceed taxes as early at 2005 or 
as late as 2020.
    EBRI does not have reason to believe that the range of 
Trustees' assumptions are unreasonable, but the range should be 
shown, as the intermediate assumptions are just that, one set 
of assumptions. Our point is that since the Census Bureau and 
private researchers almost invariably assume higher life 
expectancy among the elderly than the Trustees' intermediate 
assumption, the Trustees' intermediate projections may be 
somewhat optimistic. However, as the Chairman is aware, 
recognizing uncertainty does not warrant inaction, as most 
reasonable estimates predict that program outgo will exceed 
program income sometime during the first half of the next 
century. Instead of focusing on ascertaining a specific 
shortfall date, a more constructive course of action at this 
juncture for the Congress and the public is careful 
consideration of the appropriate national response. At the 
heart of the Social Security debate are philosophical 
considerations about the appropriate role of government, 
business, and households in meeting the challenges of an aging 
society that must be addressed before the Congress considers 
actuarial arguments about the specific date of insolvency and 
specific technical solutions to program shortfalls. The series 
of hearings on ``The Future of Social Security for this 
Generation and the Next'' pointed out many of these fundamental 
political and social choices that will have to be made when 
(and if) a shortfall occurs. We hope that your colleagues on 
other relevant committees will follow your lead in pursuit of 
such discourse.
    Question 2: In your testimony you discussed research which 
showed that only 21 percent of those retirees interviewed 
annuitized their IRA balances and just 12 percent annuitized 
their distributions from other retirement savings plans. How 
can we determine how effective the majority of retirees are at 
managing their retirement savings throughout retirement?
    Response to Question 2: Retiring with large lump-sum 
distributions from retirement plans is a very recent 
phenomenon, with most beneficiaries still in retirement. As of 
yet, there is unfortunately a dearth of data on these 
individuals. We do know, however, that effective self-
annuitization requires significant thought. It is accomplished 
by dividing the account balance each year by one's life 
expectancy at that point in time and limiting annual 
consumption to the amount determined by the calculation. This 
step must be repeated each year, and the annual amount will 
vary from year to year depending on investment income and 
changing life expectancies. The extent to which it is 
reasonable to believe people will effectively manage their 
retirement savings is therefore directly proportionate to the 
percentage of the retired population than can be expected to 
self-annuitize.
    EBRI has undertaken an annual retirement confidence survey 
for each of the past six years. The findings suggest that 
individuals are not well prepared for the challenge. Most have 
lived for a working lifetime with a regular paycheck -the 
equivalent of an annuity. Research by others shows that most 
live paycheck to paycheck, and many borrow to cover temporary 
shortfalls. In addition, personal bankruptcies are higher than 
ever, as is personal debt. Financial literacy, according to 
industry and independent surveys, is low. The Health and 
Retirement Survey (sponsored by the National Institute on 
Aging) finds that most respondents don't have a good 
understanding of their own life expectancy prospects, and have 
low net worth besides. All available evidence suggests that the 
majority of retirees are not effective at managing their 
retirement savings throughout retirement.
    Question 3: Of what importance are cost-of-living 
adjustments, and should they be preserved?
    Response to Question 3: Because more than 60 percent of the 
elderly rely on Social Security benefits for over one-half 
their income, few dispute the importance of preserving cost-of-
living adjustments that protect the elderly from the erosion of 
income that is caused by inflation. EBRI has not conducted 
research on the accuracy of the current consumer price index 
(generated by the Bureau of Labor Statistics (BLS) and used to 
make cost-of-living adjustments for Social Security 
beneficiaries). EBRI is not in a position to provide guidance 
on the extent to which the current cost-of-living adjustment 
reflects economic reality for retirees.
    Question 4: What are your views regarding the Consumer 
Price Index as an option to consider as part of Social Security 
reform?
    Response to Question 4: Congress must first decide what 
they want Social Security to provide in the future. If the 
objective continues to be a floor income for the lowest income 
workers on retirement, maintained throughout retirement, then 
an inflation adjustment is necessary to maintain value. 
Different objectives would of course lead to different answers. 
The Consumer Price Index per se should be an accurate measure, 
and BLS should be required to do the work to assure that it is.
    Question 5: How do we restore younger workers' confidence 
in Social Security?
    Response to Question 5: We suspect that restoring the 
program to long-term actuarial solvency would greatly 
contribute to restoring younger workers' confidence in the 
system, although we are not aware of any empirical survey data 
that address this question specifically. There is strong 
evidence in the surveys that the young do not understand the 
program, how it works, or its objectives. Much has been written 
over the past 20 years about ``money's worth'' from Social 
Security, concluding that the young will ``do poorly.'' This 
analysis assumes that the program is intended to function in a 
way that provides a ``payback,'' which cannot be the case with 
any insurance program for every participant. There will always 
be winners and losers. Few talk about this fact. Few talk about 
the degree to which Social Security supports an individual's 
parents or grandparents, and the money the individual would 
likely have to provide to them in the absence of Social 
Security. Few talk about survivors benefits, or disability 
benefits, or the fact that if you lose everything else, there 
is still the Social Security annuity for you or your surviving 
spouse and children. Instead, the focus is simply on the 
``fact'' that the government will make good on the promise, so 
don't worry. This misses the fact that the young don't 
understand what the promises are or why they should value them.
    Question 6, Part A: What are your views on the Advisory 
Council's recommendation to study the investing of up to 40 
percent of the trust funds? How would the market be affected by 
such a large infusion of money?
    Response to Question 6, Part A: There are few things that 
are not worthy of study. Clearly any such move should occur 
only after full study and careful consideration of all possible 
consequences. A recent study by Brett Hammond and Mark 
Warshawsky on this topic appears in a forthcoming Benefits 
Quarterly journal. They conclude that, under most scenarios, 
the market would not be overwhelmed by such an approach. We do 
not know of other studies on this issue, and the impact of 
trust fund investment in equities is an area that economists 
are just beginning to study.
    Question 6, Part B: What percentage of private industry 
would the government own? Shouldn't the government stay out of 
private industry? How would this be done? Wouldn't the 
government wind up taking an active role in the direction of 
the companies whose assets it owns? Might this role for 
government have a depressing effect on stock yields and 
therefore on the yields for seniors? Since the government would 
control the trust funds, how do you avoid the risk that the 
government might influence the selection of stocks for 
political purposes unrelated to the best interests of the 
workers contributing to the plan?
    Response to Question 6, Part B: Mark Warshawsky and Brett 
Hammond found that ``projections based on historical trends in 
the growth of the stock market as well as of the indexed 
portion of the mutual fund industry suggest that, in the case 
of a centrally managed Social Security investment strategy, the 
portion of all equities owned through the Social Security 
program would be relatively small [between 1.1 and 27.5 
percent]'' (forthcoming, Benefits Quarterly, 1997).
    The other issues you raise have been cited as reasons by 
organizations that are uncomfortable with the recommendation. 
The history of public pension fund involvement in corporate 
governance is often cited, along with past discussion of 
``economically targeted investments,'' as precedents for what 
might occur. History would suggest that movement into equities 
might or might not lead to such outcomes, but there would be no 
guarantees. Whereas not moving to equities would assure that 
these things did not happen. Congress will have to decide 
whether the move to equities is of sufficient value to the fund 
to merit taking on other risks, EBRI can provide background on 
what other nations have done, the history of ``social 
investment'' discussions in the pension area, and attitudes, 
but does not take a position for or against the investment 
issue per se. Our goal is an informed decision, whatever it is.
    Question 7: Could you suggest a way that employers and 
employees together could opt to replace a personal savings 
account or individual account with an employer plan that would 
spread the risk more and yield a higher return?
    Response to Question 7: This is what Social Security 
presently does for all workers, regardless of hours worked. 
Larger employers have joined with workers to sponsor plans at 
work that allow savings (401(k), 403(b), 457). Most small firms 
have found these plans too expensive to administer and too 
complex-even employer payroll deduction to IRAs. There have 
been proposals in the past to create an account within Social 
Security to which individuals would contribute that could be 
placed in savings bonds. Contributions would ``flow'' with 
payroll tax contributions. While we do not have a pro or con 
position on this proposal, it is one that Congress might study 
as a means of meeting the objective implied in your question.
    Question 8: In light of the fact that the Trustees' long-
range ``intermediate'' projections made in 1983 now appear to 
have been optimistic, if one were to ask you to design a 
package of reforms today, would you use the ``intermediate'' 
assumptions or the ``high cost'' assumptions? Said another way, 
should we build a financing cushion in the next set of changes 
we make to Social Security in the event the most recent 
intermediate forecast proves to be optimistic?
    Response to Question 8: As noted above, given the 
difficulty of taking action on Social Security, conservative 
assumptions are probably good to use. In fact, Congress 
requires private pension sponsors to use very conservative 
assumptions in order to assure that promises are kept. A 
financial reserve is not the only way to deal with this, 
however; Congress could also consider automatic adjustments in 
the COLA, in retirement age or in the benefit formula, 
depending on which assumptions are wrong. For example, a COLA 
cap would protect against being wrong on inflation. A 
``indexation'' of retirement age would protect against being 
wrong on life expectancy. Again, EBRI does not support or 
oppose any of these approaches, but study of all options would 
be desirable. However, such automatic adjustments that can be 
communicated in advance and are known to be out of the hands of 
politicians, might well serve to increase confidence in Social 
Security
    Question 9: Given that entitlement spending overall has 
been projected by the Congressional Budget Office and others to 
grow dramatically as a percentage of GDP in the future (when 
the Baby Boomers are in retirement), do you think it would be 
wise to build tax increases into any Social Security reform 
plan?
    Response to Question 9: Objectives are what matter, and 
public understanding. Congress must move in a way that rebuilds 
public confidence in the future of whatever program is put in 
place. This may or may not be able to be done with tax 
increases as part of the package. Question 10: Do you think the 
public wants, or is expecting, at least some market investment 
to underpin the Social Security system in the future, whether 
it is through personal accounts or collectively through the 
trust funds?
    Response to Question 10: No.
    Question 11: While the Advisory Council was not able to 
agree on everything, they did agree that any sacrifices in 
bringing the system into balance should be widely shared and 
not borne exclusively by current workers and their employers. 
The council's suggestion was to apply appropriate income 
taxation to Social Security benefits. Do you believe the burden 
should be shared by all?
    Response to Question 11: EBRI is dedicated to soundly 
conceived and administered public and private benefit programs. 
A part of sound design is equity of treatment, understanding of 
the program by payers and beneficiaries, and a feeling of fair 
treatment by those same groups. Part of maintaining support for 
an insurance program is a belief by all that they are being 
fairly treated. This would suggest that burden sharing would be 
advisable, but it may not be achievable.
      

                                

    Mr. Johnson of Texas. In closing, again, I thank you. We 
appreciate hearing your views, your specific recommendations, 
and we commend you for your differing opinions. Thank you for 
this debate.
    The Subcommittee now stands adjourned.
    [Whereupon, at 11:33 a.m., the hearing was adjourned.]

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