Social Security Risk
By Arnold Kling
I did not take away much from the first day of Cato’s Social Security Bash. I guess my views on the subject are pretty well settled, so that for me the session served to illuminate what other folks are worried about than anything else. Unfortunately, I have to miss tomorrow’s session, where Ed Prescott talks about labor supply elasticity.
A question that keeps coming up is, “How big is the shortfall?” Basically, I think that the present value of the future gap between promised benefits and tax revenues under current law is likely to be large. The only way to make it small is to (a) apply a high discount rate and (b) start a policy to reduce the shortfall tomorrow. Starting a policy tomorrow (such as raising payroll taxes by 1 percent of payroll) allows you to accumulate revenues and earn interest on those revenues to pay off future shortfalls. (This assumes, of course, that Congress “locks up” the increased revenues.)
Here is a paradox: If the shortfall is not large, then it appears to make sense to do nothing. However, if we do nothing, then the shortfall will be large. Only if we do something soon will the shortfall be small.
Here is another paradox: The people who want to apply the highest discount rate (and who want to discount the shortfall in the latter portion of this century to zero because it is “so far off in the future”) argue that Social Security is low risk compared with personal accounts. But if it is low risk, then a low discount rate should apply.
I think that the risk issue actually is quite important. Critics portray personal accounts for young workers as an exchange of their “risk-free” social security benefits for risky stock market assets. In fact, given the magnitude of projected shortfalls, I think it is open to debate whether long-term promised Social Security benefits or stock market returns constitute the riskier asset.
For Discussion. Given the political economy involved, is there any way to estimate the risk to someone aged 35 that they will not receive Social Security benefits as large as currently promised?