Privatizing Social Security is Bad, Particularly
for Women
by Dr. Catherine Hill
Dollars and Sense magazine, November/December
2000
You've probably heard the rumor that Social Security won't
be there for you when you retire. And you've also probably heard
that presidential candidate George Bush promised to "save"
Social Security by allowing individuals to divert 2% of their
wages (or earnings) into individual accounts. Stocks generally
have higher returns than government bonds, so setting up individual
accounts that take advantage of these higher returns should mean
more money when you retire. Right? Wrong. In fact, privatizing
Social Security will mean less income in retirement for almost
all American workers, and it will be particularly damaging for
women.
SOCIAL SECURITY - THE BASICS
WHY THERE ISN'T A SOLVENCY CRISIS
Every year the Social Security Trustees forecast the long-term
revenues and expenditures for the program over the next 75 years,
based on demographic and economic assumptions. In the early 1980s,
the Trustees forecasted a financial shortfall (misreported in
the press as a "crisis"). In response, Congress increased
the payroll tax rate slightly and increased the retirement age
(eligibility for full Social Security benefits) from 65 to 67.
These changes generated billions of dollars in surpluses for Social
Security, which were placed in the Social Security Trust Fund
(currently valued at a little more than $896 billion). The Trust
Fund earns interest, and both principal and interest can be used
to supplement payroll tax revenue during the peak Baby Boom retirement
years. In 1991, the Trustees decided to use more pessimistic assumptions
about future economic growth, resulting in the prediction that
Social Security would not be able to pay full benefits after 2034.
Strong economic performance in the last few years has resulted
in a lengthening of the projected solvency to 2037. If the economy
does not slow down as much as predicted, and payroll tax revenues
continue to grow at a healthy rate, Social Security has no long-term
solvency problem. In any case, if the economy does slow down,
the Social Security program is well-positioned to continue paying
full benefits for at least another thirty-seven years. After 2037,
Social Security can provide three-quarters of promised benefits,
and with small policy changes, Social Security can continue to
pay full benefits indefinitely.
WHO WANTS YOU TO BELIEVE THERE IS A CRISIS AND WHY
Privatizing Social Security would be the largest undertaking
in the history of the U.S. financial-services industry.
It could also be the most profitable, and Wall Street knows
it. For nearly two decades, Wall Street and its conservative think
tanks have been cultivating the public's fear that Social Security
is "going bankrupt." As Jesse Jackson and other progressive
leaders have noted, financial firms such as Morgan Stanley, Quick
& Reilly, Inc., and State Street Boston Corporation have given
millions of dollars to conservative groups like the Cato Institute
to push privatizing Social Security. However, with the facts so
squarely mounted against them, the movement appeared to lose momentum,
and for a while, it looked like the campaign to privatize Social
Security had run its course. Activists breathed a sigh of relief
and went about tackling other issues. However, this summer, privatizers
got a second wind when Presidential candidate George Bush pledged
to "partially privatize" Social Security by diverting
2% of the payroll tax (a little less than a sixth of the program's
revenue) into individual accounts. The fight is on and the privatizers
have come out swinging.
WHY PRIVATIZATING SOCIAL SECURITY IS A BAD IDEA
There are four major hidden flaws of privatizing Social Security:
the enormous transition from a "pay as you go" to a
pre-funded system, the costs associated with purchasing equivalent
life and disability coverage (or maintaining the current disability
and life insurance program in the context of a 16% cut in revenue),
market risk, and higher administrative costs.
* Transition Costs.
Privatizers face a costly transition period lasting 40-70 years.
If pre-funded individual accounts were to be adopted, the generations
living through the transition would have to pay for two systems
at once, saving for their own retirement while paying for the
Social Security benefits of their parents and grandparents.
* Replacing Disability and Life Insurance.
A sleight of hand used by many privatizers is to compare "returns"
from Social Security-a social insurance and retirement program-to
returns from private savings that provide only retirement benefits.
Social Security taxes pay for disability and life insurance as
well as retirement benefits. The program provides life and disability
insurance to American workers and their families at an estimated
value of a $230,000 disability policy and a $354,000 life-insurance
Since 1935, Social Security has been America's most successful
social program, currently providing income to 48 million retired
and disabled Americans and their families. More than three fifths
of retired households depend on Social Security for more than
half of their income. For 25% of older women living alone, it
is their only source of income. Without Social Security, half
of elderly people in the United States would be poor (meaning
that an elderly couple would have an income under $ 10,000 annually
and an elderly individual would have less than $8,000 to live
on).
A payroll tax supplies the revenue for Social Security. The
tax is currently 12.4% on wages up to $72,600 and is split between
employers and employees (6.2% each) with self-employed people
paying the full tax themselves. (Workers also pay 1.45% of wages
or earnings for Medicare.) Note that, because most of the payroll
revenues are immediately used to pay benefits, diverting "only"
2% of wages means a one-sixth reduction in the money available
to pay benefits.
Social Security benefits are available to all workers and
their families regardless of income. For this reason, Social Security
has historically enjoyed a stronger base of political support
than programs that provide benefits only to those who can document
poverty, such as Supplemental Security Income (SSI). The average
monthly check for a retired worker is $825 with a maximum benefit
of $1,373 for a worker with a consistently high salary over a
full career (35 years). While no one gets rich from Social Security,
it is an important source of income for almost all retired and
disabled Americans' policy for a typical worker. Privatizers argue
that individuals can purchase disability and life insurance from
private insurance firms. However, evidence from other countries'
experiments with privatization suggests that insurance similar
to Social Security would be costly. For people with pre-existing
conditions, private disability and life insurance may not be available
at any price.
* Overly Optimistic Returns on Stocks.
Another problem with privatization is the assumption that the
stock market will perform as well in the coming decades as it
has in the recent past-a risky assumption. In fact, many economists
believe that the stock market may be at a peak, and many stocks
may be overvalued. Privatizers can't have it both ways-either
the economy will be strong and the solvency problem projected
for the current system won't materialize, or the economy will
slow and the rate of return on stocks will drop, lowering the
balances of individual accounts. Even if the stock market does
well on average, individual accounts mean that there would be
winners and losers. People who have greater knowledge and more
money to invest will get higher returns than others. For low earners,
who have less to invest and are less able to take risks, attaining
average rates of return is unlikely. People who are unlucky or
unwise could end up losing most or all of their money, placing
additional burdens on SSI and other government programs that provide
some safety net to poor people.
* Administrative Costs.
Another problem with the privatizers' arithmetic is the failure
to account for administrative costs. It costs a lot more to administer
150 million individual accounts than a single centralized system
like Social Security. Experts conservatively estimate that it
would cost about $25-$50 per participant per year to administer
on top of the current system, which costs about $16 per person.
Even small increases in management costs that are assessed monthly
or annually can result in a large loss of value over one's lifetime.
For example, if the costs of operating a system of individual
accounts were 1% of account balances each year (a conservative
estimate of the administrative costs of a 401 (k) plan), these
costs would consume approximately 20% of funds in personal accounts
over a 40-year career, in addition to (not instead of) the current
costs for administering Social Security. For lower income workers
who have smaller accounts, administrative costs would absorb a
greater percentage of their total value.
WHY PRIVATIZING SOCIAL SECURITY IS A PARTICULARLY BAD IDEA
FOR WOMEN
Social Security is important for women because older women
enter retirement with fewer economic resources than men. For example,
in 1998, older women had a higher poverty rate (12.8%) than older
men (7.2%). Women of color are particularly at risk for poverty
in their old age. Overall, there is a substantial gender gap in
all sources of retirement income including Social Security, pensions,
savings, and post-retirement employment. The greatest disparity
lies in accumulated pension wealth and savings, with Social Security
credits partially compensating for this gap.
Furthermore, the Social Security system is progressive. Those
with lower incomes have a higher proportion of their earnings
replaced, which is valuable for women since they tend to earn
less than men do. Income inequality would be further exacerbated
in a privatized system because women investors, who have fewer
resources, would get a lower yield on their investment as they
would (appropriately) avoid risk.
Another important component of Social Security for women is
the spousal benefit available to wives (or husbands) or widows
(or widowers) who earned significantly less than their spouses.
A married person is eligible for the larger of either 100% of
his or her own retired worker benefit or 50% of his or her spouse's
retired worker benefit. Women (or men) divorced after ten years
of marriage can claim spousal benefits, even if their former partner
remarries. Women make up the vast majority of recipients using
the spousal benefit provision. In 1997, 13% of women beneficiaries
claimed spousal benefits compared with 2% of men. While the spousal
benefit is an imperfect acknowledgement of unpaid care-giving,
it is preferable to a system of individual accounts which allocates
no monetary reward for child-rearing or elder care.
Social Security's "gender neutral" benefits mean
that women don't have to pay more to compensate for their longer
life expectancies-another advantage that would be lost in privatization.
The fact that Social Security provides an inflation adjusted
benefit guaranteed for life is particularly important to older
women (who live on average three years longer than men).
Another aspect of Social Security that is especially valuable
to women is the life and disability insurance, which includes
benefits to spouses caring for children under 16 if the worker
retires, becomes disabled, or dies. As women provide the bulk
of care-giving in our society (for the elderly and disabled as
well as for children), any shortcomings in disability and life
insurance caused by privatization would have a special adverse
impact on women.
SOCIAL SECURlTY CAN DO BETTER
Having looked at the serious drawbacks of privatizing Social
Security, we can return to the real issues facing Social Security.
Certainly, it is true that people are living longer and that prudent
financial planning dictates that the government should maintain
adequate reserves. To the extent there are long-term solvency
concerns, there are a number of ways to increase revenue into
Social Security. For example, the cap on the earnings subject
to the payroll tax could be lifted, meaning that everyone-even
those who make six or seven figures-would pay the same payroll
tax rate. Another (no doubt unpopular) approach would be to allow
all Social Security benefits to be taxed as income and use these
revenues for benefits. Investing a portion of the Trust Fund in
higher-yield public or private securities is another option. This
recommendation differs from proposals that privatize Social Security
through individual accounts because investments would be made
by a central, independent organization, sharing risk across the
entire system and holding down administrative costs. Moreover,
only a small portion of the Social Security fund reserves would
be dedicated to this alternative investment strategy, thus limiting
the system's overall exposure to risk.
It is also true that Americans, especially low- and moderate-income
Americans, don't save enough for retirement. Even with generous
tax deferment for pensions, it is increasingly clear that private
pension plans will never cover the entire workforce. More than
two decades after the Employee Retirement Income Security Act
(ERISA), more than half of American workers are not covered by
a pension plan. The economic situation for older women is particularly
bleak. Among the elderly, women are only about half as likely
as men to receive income from private pensions (including income
from a spouse's pension), and those who do receive pension benefits
that are only about half as large as men's benefits. For example,
in 1996, pension income for women averaged $3,679, compared with
$6,442 for men.
Differences in access to pensions represent a significant
gap in federal resources. Because pension funds' earnings are
not taxed, because employer contributions to pensions are considered
tax-deductible business expenses, and because employees are not
taxed until they retire (and begin drawing a pension), there is
a significant tax advantage for pension holders. For example,
in 1999, the Office of Management and Budget estimated that the
federal government lost $84 billion in tax revenue. Thus, unequal
access to pensions means that these tax favors are also unequally
distributed.
There are a number of ways to give low- and moderate income
families access to the tax benefits associated with pensions (now
disproportionately enjoyed by their wealthier counterparts). Vice
President Gore's recent proposal for Retirement Savings Plus accounts
would be a step in the right direction. This program would help
middle income and even low-income families save for retirement
by matching private savings with government money. Lower income
families would get the most help (families making less than $30,000
would receive $3 for every dollar they save), but middle- and
upper- income families would also benefit (families making $100,000
would receive one dollar for every $3 saved). The accounts would
be limited to $2,000 annually and savings would grow tax-free
until withdrawal, like an individual retirement account or a 40l(k)
plan. But remember, these "individual accounts" should
come on top of, rather than as a partial substitute for, guaranteed
Social Security benefits.
Last, but not least, progressives should begin fighting to
improve Social Security benefits. The safety net for the poorest
elderly and disabled people is dropping lower and lower as means-tested
programs, such as SSI, fail to keep pace with a growing economy.
Under constant pressure to protect Social Security from Wall Street's
wrecking ball, advocacy groups and politicians have shied away
from increasing benefits for anyone. However, there is ample evidence
that such improvements are needed-particularly for disabled people
and older women not living with men, who are at high risk for
poverty. Again, Gore's proposals to increase benefits for widows
and people who took time out of the labor force (or worked part-time)
to care for children are another step in the right direction.
Now is a time of great prosperity, and we can afford to begin
mending the safety net so frayed over the past two decades-perhaps,
even raise it!
Catherine Hill is o Study Director of the Institute for Women's
Policy Research (IWPR} - www.iwpr.org.
Economics
watch
Index
of Website
Home
Page