Monday, January 6, 2014

Common Ground on Social Security COLAs?

Is there common ground on Social Security COLAs?


Social Security benefits are adjusted for inflation each year.  President Obama is on record for supporting changes to the way the Social Security COLA is calculated.  I suspect that the proposal to modify the current Social Security COLA will receive strong consideration by Congress after the 2014 midterm elections.   

This post has my comments on both the economics and politics of proposals to adjust Social Security benefits:

Comments:

Impact on Beneficiaries:

Under current law, the Social Security benefit is linked to the traditional CPI.  President Obama is supportive of a change that would link the Social Security COLA to a chained CPI.  On average, the growth in the chained CPI is around 0.2 percentage points lower than the growth in the traditional CPI.  It is of course possible that the percentage point difference between the traditional and chained CPI would be higher in a high-inflation environment.

Estimates in my math blog reveal that the difference in benefits due to the adjustment in the CPI could be around 4 percentage points in a low-inflation environment and around 14 percentage points in a high-inflation environment.

http://dailymathproblem.blogspot.com/2013/04/how-important-is-social-security-cola.html 


Impact on budget in short term and long term:

Social Security has a major impact on both the current government budget and the future debt to GDP ratio for the nation.

In fiscal year 2013 Social Security accounted for $808 billion in expenditures, around 25% of federal expenditures. It is the single largest federal program.

In calendar year 2010 outlays from Social Security exceeded revenues.   This is the first time outlays have exceeded revenues since the Social Security reform law of 1983.


The size of the this program makes it an important consideration in annual budget talks.  

Impact of future cuts on Social Security:

Under current rules, Social Security benefits are paid solely by Social Security taxes and assets in the trust fund.  However, according to the actuaries at the Social Security Administration the trust fund will be unable to pay full benefits starting at around 2037.

http://www.ssa.gov/policy/docs/ssb/v70n3/v70n3p111.html

“As a result of changes to Social Security enacted in 1983, benefits are now expected to be payable in full on a timely basis until 2037, when the trust fund reserves are projected to become exhausted.1 At the point where the reserves are used up, continuing taxes are expected to be enough to pay 76 percent of scheduled benefits. Thus, the Congress will need to make changes to the scheduled benefits and revenue sources for the program in the future. The Social Security Board of Trustees project that changes equivalent to an immediate reduction (bold added by me) in benefits of about 13 percent, or an immediate increase in the combined payroll tax rate from 12.4 percent to 14.4 percent, or some combination of these changes, would be sufficient to allow full payment of the scheduled benefits for the next 75 years.”

Would an adjustment to the Social Security Administration substantially delay the future benefit cuts?

I have not seen any work on the number of years an adjustment in the Social Security COLA would delay the future benefit cuts.  I believe the short answer is that COLA adjustments by themselves would result in a relatively small delay in future forced reductions in Social Security benefits.   

The reason the delay in benefit cuts is likely to be small is that much of the impact of the COLA adjustment occurs after 2037. Note that the Social Security projections on extending the life of the Trust Fund to 75 years is based on a scenario that assumes an immediate reduction in benefits.   The COLA adjustment does not result in an immediate benefit reduction.

One year after the adjustment to the COLA the estimated impact on all Social Security beneficiaries is only 0.2 percentage points.  As noted above, 20 years above the impact in a low-inflation scenario for those who have lived 20 years in retirement will be around 4 percentage points.  It will take around 38 years for the maximum annual impact of the COLA adjustment to be realized.

The long run solution to the Social Security problem will involve benefit cuts, revenue increases dedicated to Social Security, and shifts of revenue from the general fund to Social Security.  Population aging will inevitably lead to an increase debt to GDP ratio.  

The proposed COLA is a substantial decrease in benefits which does not preclude other cuts in the future. In fact future benefit reductions would still be mandatory once trust fund assets expired.  Moreover, the proposed benefit reduction is not linked to a commitment for needed revenue increases of any kind.

The Retirement Crisis:

It is increasingly obvious that the current approach to saving for retirement is not working for a large number of workers.

This interview with Teresa Ghilarducci provides some evidence on this point.

http://www.pbs.org/wgbh/pages/frontline/business-economy-financial-crisis/retirement-gamble/teresa-ghilarducci-why-the-401k-is-a-failed-experiment/

Research by the Employee Benefit Research Institute found that between 4% and 14% additional baby boom workers had their retirement become at risk due to the 2008/2009 crash.


Future crashes would also lead to an increase in workers with retirement at risk.

The COLA adjustment would also increase the percent of workers, both current and future, who would end up with inadequate retirement savings.

Senator Warren from Massachusetts appears to be one of the few politician who has grasped both the severity of the current retirement crisis and the impact of the proposed COLA adjustment on the adequacy of retirement savings.  Below is a link to a recent speech where Elizabeth Warren proposes to expand Social Security.


An expansion of Social Security is not likely to occur.  However, liberals can and should insist on substantial improvements in the nation’s retirement system, which must coincide with and offset future cuts to Social Security.

Politics:  

President Obama broached the issue of changes to the Social Security COLA during the fiscal cliff negotiations.  My first post at this blog was about President Obama’s COLA adjustment proposal offered during the fiscal cliff debate.  It was my first post at this blog.



A new crisis over the debt limit is likely to occur after the November election.  Many in the House and the Senate will only have a few more months to serve, either because of  a planned or unplanned retirement.  Given the possibility of a debt default and the lame duck status of many in the House and Senate it is likely there will be considerable support for a COLA adjustment after the 2014 elections. 

Conclusion:

President Obama has placed liberals at disadvantage by endorsing the COLA cut without firm concessions on future revenues and restrictions on future future cuts. Most in the Republican party oppose the use of any additional revenue to offset Social Security imbalances.  In my view, the long run solution to the Social Security problem will involve benefit cuts, revenue increases dedicated to Social Security, and shifts of revenue from the general fund to Social Security.  Moreover, even if a comprehensive Social Security reform plan is implemented sooner rather than later it is likely that population aging will still lead to a substantial increase in the debt to GDP ratio over the next few decades.


The passage of a COLA adjustment does not prevent future cuts to Social Security, which will be automatically triggered when the trust fund is depleted.  A case can be made for adjusting the Social Security COLA but only if this change is made in conjunction with other changes that guarantee the survival of Social Security and improve the current retirement system.



No comments:

Post a Comment