Forget everything you know about Washington, D.C. The city – long regarded as the hub of idle talk – is springing into action. President George W. Bush and Congress are tackling a host of issues left unresolved by the previous administration. Even Social Security, which sat on the back burner for years, is in line for an overdue overhaul.
President Bush's promise to form a Presidential Social Security Commission next spring indicates that he is ready to reform Social Security. An even more important signal that reform is possible, is the fact that Bush promised to give the commission the mandate to focus their reform recommendation on a plan using personal retirement accounts. Commissions can be useful tools at fleshing out problems and considering and constructing possible solutions. But this commission does not need to just rehash what's wrong with Social Security. We already know what the problems are. What we need are detailed answers.
We know that Social Security is in trouble for largely one reason: demographics. The way the program is currently structured today's benefits are paid with payroll taxes collected from today's workers. Likewise, when today's workers retire, they will depend on their children and grand children to pay their benefits.
Simple enough. But the problem is the number of beneficiaries is growing faster than the number of new workers – because people are living longer and are having fewer children. For instance, there were 42 workers for each retiree in 1940; today there are only about three for every one retiree. By the time today's college students retire, it will narrow to only two workers per retiree. Payroll taxes at current rates won't bring in nearly enough money to keep Social Security in its current form afloat.
The clock is ticking. Each year from 2015 on, Social Security will pay more in benefits than it will collect in payroll taxes. By 2039, the government will be faced with a lose-lose choice: raise payroll taxes by half or slash benefits by a third.
Bush argues that there is another way. Personal retirement accounts – a proposal put forth during Campaign 2000 by President Bush — offers a way out of the quagmire that doesn't involve hiking taxes or skimping on benefits. The idea is simple. Young workers would be allowed to save for their own retirement by keeping a portion of their payroll taxes in a personal account. The account would, over time, earn a higher rate of return than the current system. For instance, today's college students can expect a 1 percent or smaller return from Social Security – assuming their taxes and benefits are not altered to save the system.
However, a simple portfolio of stocks and bonds will earn at least a 5.5 percent annual return (after inflation). The additional interest, compounded over a 40 to 45 year holding period, really adds up – and that's what makes personal retirement accounts work. Even U.S. Savings Bonds, which are designed specifically for retirement savings will guarantee even low-income investors twice as much earnings as Social Security, which without reform looks less and less like a guaranteed thing.
Clearly, Social Security's problems are not just a temporary short fall in funds; they stem from the program's inability to keep pace with national demographic trends – a problem that will only get worse unless addressed. Gimmicks like a "lockbox" or the idea by some in Congress to pay down debt and transfer the savings to Social Security would likely have emerged as "solutions" if Bush had not pledged to focus the commission's energies on coming up with the details for a personal accounts-based system. And that's very good news because anything less would merely be a quick fix that ignores Social Security's structural shortfalls. Pouring cash into a failing enterprise is no alternative for real, structural, long-term reform.
Let's hope that if the commission is able to fulfill Bush's mandate by coming up with a detailed personal account proposal, partisan concerns won't prevent Congress from acting on it.