With the recent fixation on the debt and deficit in America, politicians and policymakers have recently turned to discussing the solvency of the country’s Social Security program. When looking at the program’s future, there is no question that reform will need to be proposed to continue providing 100% of benefits.
According to the latest report by the Congressional Budget Office (CBO), Social Security will become insolvent (not bankrupt) in 2033. In 2012, Social Security accounted for 5% of the country’s GDP with spending exceeding dedicated revenues. This is projected to continue over the next 10 years as the Baby Boomers continue to retire. With these changes, it is projected that Social Security will soon make up 6% of GDP.
Reform is needed to ensure that Social Security can return to a 75-year solvency track record. To do so, Congress will need to pass reform that helps eliminate the actuarial deficit for the program. A balanced approach that looks to both sides to give-and-take is absolutely necessary in today’s highly partisan atmosphere.
Setting aside all discussions about the legitimacy of the program or some pundits’ claims that Social Security is the country’s greatest Ponzi scheme, let’s take a look at two specific recommendations that have been discussed over the past few months: chained CPI and raising the cap.
Chained CPI has been gaining momentum across both political parties, with Obama supporting the idea as part of a “grand bargain” of spending cuts and revenue increases. The proposal essentially replaces the current consumer price index for calculating Social Security benefits with a new calculation that accounts for inflation and increases in the cost of living through better capturing of consumer behavior.
AARP and other progressives have come out swinging at any mention of switching to chained CPI, claiming that it would be a “draconian cut to benefits for people on a fixed income.” However, there is also a financial benefit to this switch that has not received as much attention – higher tax revenues. Recent CBO projections show an additional $124 billion over 10 years if chained CPI is introduced to replace the current CPI calculation.
While chained CPI would result in a savings as percent of taxable payroll, Republicans would also need to compromise on tax increases to maintain any effort of a balanced approach. This can be achieved by gradually restoring the cap to 90% of earnings. To do this, politicians can look to increase the base by 2% per year above the growth in average wages.
For example, the maximum taxable base in 2012 is $110,100. This would go up $2,202 (2% of $110,100) beyond the automatic increase. Therefore, deductions from earnings for the highest-paid 6% of workers would continue for a few days longer, and as such, their benefits would be somewhat higher. However, for the 94% of covered workers with earnings below the maximum taxable cap, there would be no change at all. In 2004, this strategy was recommended by Robert M. Ball, former commissioner of Social Security and the longest-serving head of the Social Security Administration. This long-term strategy would bring the taxable maximum back to the 90% level over 35 years.
While the taxable earnings base has risen at the same rate as average wages in the economy since 1982, increasing earnings inequality has decreased the percentage of covered taxable earnings from 90% in 1982 to a projected 83% in 2014.
With a little compromise in terms of spending cuts and tax increases, Social Security can move back towards long-term solvency. And Millennials can start to feel reassured that the program will be there for them.