Current Plans to Privatize Social Security: Bad in the Best Case Scenario

Senator McCain told the Wall Street Journal in March that he supported the privatization of social security.  When the Journal pointed out that this contradicted McCain’s campaign website, he promised that the website would change to accord to his view on the subject.  Months later, not only has McCain failed to clarify his position, he has reversed it again.  In an interview on Live with Regis and Kelly, McCain insisted that his plan was not privatization, but “partnership”.  Now, Republicans seem to have settled on a Goldilocks solution: transition to private accounts without using the social security trust fund to help fund them (Scroll to Retirement Nest Egg).

A little bit of explanation and history is in order.  Social Security currently pays out benefits to retirees from a trust fund whose coffers are filled by payroll taxes.  To ensure the security of the trust fund itself the only investment option is U.S. government securities.  Since there are far more people in the work force than there are in retirement, the social security trust fund has expanded in the past decade.  This fund pays for both present and future expenses.  Also, while social security payments are pegged to earnings over a person’s lifetime, the funds provided are not directly linked—your earnings impact what you will receive in retirement but don’t directly pay for it.  Republicans have proposed a system of private accounts (similar to Chile’s National Pension system) where individuals would invest for their own retirement and be given the option to invest in instruments other than government securities.  Republicans argue that this will allow for a higher average return (compared to the roughly 2% annual return on treasury bonds). 

Let’s pretend for a minute that this is a good thing.  Let’s pretend that there will be no problems with risk, no problems with corruption, and no problems with repudiating the original goals of social security.  Let’s also pretend that moving to a system of private accounts will fix the primary insolvency problem with social security: people are getting older, the benefit structure stays the same (Private accounts do not, in fact, fix this problem).  So we have, for the sake of argument, assumed that private accounts are an unalloyed good.  What’s the problem then?  The problem is how to fund them.  Right now we have an implicit debt to every American and an explicit debt to every American over the age of 20.  We have promised them a specific level of retirement pay when they exit the workforce.  If we transition to private accounts, that promise doesn’t go away.  But if we use current revenues to pay for those promised benefits we can’t force people to invest their earnings in private accounts without raising their payroll deduction.

It isn’t a simple problem.  One solution is to just raise the payroll deduction (currently split between employer and employee at about 12.4%) to roughly 20% (assuming that about 10% of earnings would be saved in a private account).  For obviously reasons this is not appetizing to Republicans.  While we refer to FICA as a deduction, if it looks like a tax, walks like a tax and quacks like a tax, it is probably a duck—err…tax.  While a deduction to pay for private accounts isn’t a tax (strictly speaking) like FICA, it still would come off the top on payroll checks.  On top of the current deductions, this would seem to be too much.  Another solution is to spend down the Social Security Trust Fund to pay for our current obligations (the promised benefits to those in the work for and those in retirement now) while shifting the deductions to private accounts.  This (in essence) was George Bush’s plan in 2005.  A third option that few people seriously endorse is defaulting on current social security obligations and shifting over to private accounts—one more palatable version of this idea is simply reducing benefits rather than eliminating them.  But any transition to private accounts will be a mix of these three ideas.  This presents a problem as each of these three ideas is very unpopular for its own reasons. 

What to do if you are running for office on a platform of privatization?  George Bush pushed a plan in 2004-2005 to privatize social security.  He faced Senator McCain in the 2000 Republican primaries; McCain ran on a platform supporting private accounts (From McCain2000 press releases, excerpted at McCain’s issues page on, a non-partisan watchdog site).  Now in 2008, campaign promises are made looking to privatize social security (Campaign Website, scroll down to Reforming Entitlement Programs For The 21st Century).  The language has changed from supplanting current obligations to “supplementing” them.  One vocal proponent of private accounts, John McCain, has also has refused to raise taxes to support this obligation—this claim does not mesh with his voting record, but let’s take him at his word.  We know that the money problem for private accounts comes from paying out current benefits while new workers pay in to their own accounts (Don’t be fooled by the “optional” claim, if you had a choice between paying your money into the social security trust fund and never seeing it again and paying it into your own retirement, you would probably choose the private option every time).  We know that there are three basic ways to deal with that money problem.  Proponents of private accounts have now hemmed themselves in to moving to private accounts but have publicly refused to lower benefits, raise deductions or spend down the trust fund.  The result is either an untruth or an unfunded mandate.  

Remember, that is the best case scenario.  This assumes that privatization of social security would run without a hitch.  Even with the best possible outcomes, any candidate’s plan for social security privatization must include painful tradeoffs for current and future beneficiaries.  There is no free lunch.  Plans that offer a transition to a private account system without acknowledging the costs mislead the American public.  

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