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Friday, March 11, 2005

A Solution for the Crisis

Ed Welch,School of Labor and Industrial Relations Michigan State University

We need a simple, easily articulated solution to the Social Security crisis. Let there be no doubt that there is a crisis. Some people have suggested that the solvency problem is not as serious as others claim. That may be true, but the President is currently traveling around the country telling the American public that there is a serious problem. That in itself is a crisis.

Because of the nature of the crisis, it can only be resolved by a solution that is relatively simple and can be easily explained to the public. It is also essential that it be a positive approach. It is not enough to show what others are doing wrong or should not do in the future. This crisis can only be solved by a positive program of what can be done.

What should we do? While there are differences of opinion about how serious the solvency problems are, most people agree that the solvency of Social Security could be improved. We should not cut benefits. While they are high enough to prevent poverty in old age, they are currently not high enough to provide a good retirement for most workers. Furthermore, it is not necessary to reduce benefits.

President Bush has suggested that we should not increase the payroll tax rate. I agree. This is a very regressive tax and should not be increased. The President leaves open the possibility of raising the cap on earnings subject to the Social Security tax. This is a possibility, but may not be enough to “solve the problem.”

I suggest that we improve the solvency of Social Security by an increase in the tax on dividends and ‘capital gains. This would not actually be an increase in taxes, but a restoration of the tax cuts that occurred in 2003. For most investors, the tax rate on capital gains was reduced from 20% to 15%. That is a 25% reduction. In many circumstances, there was an even greater percentage reduction in the tax on dividends.

Others who post on this discussion group are in a better position than I to calculate exactly how much these taxes would have to be increased to resolve the solvency issue. I would suggest, however, that a restoration of the recent reductions, perhaps with a removal of the cap discussed above, would be enough to restore solvency. This approach has the added value of restoring somewhat the balance between taxing work and taxing the return on investments. The 2003 changes tended to shift this balance to put a greater reliance on taxes on work. As Americans, we should admire and reward individuals who work, not tax them more heavily.

Would President Bush support this approach? I doubt it very much. Would a majority in Congress support this approach? Probably not at this point in time. The question is, could the public be sold on this approach? I think they could. If the public is convinced that this is the most appropriate solution to a current crisis, then Congress may come around. The President is trying to sell the American people an approach that does not solve the problem. Surely someone should be able to sell them an approach that does solve the problem and does not involve a reduction of benefits or an increase in taxes on earned income.

Those of us who believe that privatization is not the right approach must come up with an alternative that will solve the problem, and which can be easily explained to voters. An increase in taxes (or a restoration of previous tax cuts) on dividends and capital gains might be the answer.

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