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Saturday, August 6, 2005

A Slow Death

Walter Shur, New York Life Insurance Company (Retired)

One of the reasons the Bush Social Security plan is dying is that the public instinctively knows it is not being told the truth. Here is a prime example:

The President Giveth And The President Taketh Away.

The “giveth” part is the Voluntary Personal Account, the centerpiece of the President’s Social Security plan.  In a speech to the National Association of Realtors in May, he said, “The other thing that's important about this account -- you see, when I said -- when I said we're going to replace IOUs in a file cabinet with real assets, that means this is your money, see, this is your account. Government can't take it away.”  Chuck Blahous, Special Assistant to the president for Economic Policy, in an answer to an on-line question, said, “Workers should be allowed to put some of their payroll taxes in savings accounts which they would own and control, and which would allow them to use the benefits of compound interest to generate income for their retirement.”

To understand the “taketh away” part, consider a worker with medium earnings (defined as $36,600 in 2005) who voluntarily elects a private account, and who retires in the year 2075. Under current law, that worker would receive an annual Social Security benefit equal to 36% of earnings. Under the progressive indexing provision of the President’s plan, which applies to every worker, whether or not he or she elects a private account, that benefit would be reduced to 26% of earnings. As a condition for electing the private account, the benefit would be further reduced to a little less than 10% of earnings. In other  words, by electing the private account, the worker agrees to an annual traditional Social Security benefit reduction equal to approximately 16% of earnings. (Figures from “An Analysis Of  Using ‘Progressive Price Indexing’ To Set Social Security Benefits,” by Jason Furman, Center on Budget and Policy Priorities.)

Peter Orszag of the Brookings Institution, in testimony last February before the House Committee on the Budget, explained the 16% of earnings “taketh away” part as follows: “Under the Administration’s plan, payroll taxes deposited into an individual worker’s account are essentially a loan from government to the worker. The Administration’s proposal is the equivalent of a loan that mortgages future Social Security benefits: Workers opting to divert payroll taxes into an account today would pay back those funds, with interest, through reductions in Social Security benefits at retirement.” Put another way, the private accounts part of the President’s program simply allows the worker to borrow a portion of the payroll taxes paid to the government.

The interest rate used to determine the amount of the loan repayment is set at 3% above the inflation rate. For example, if the Consumer Price Index increased 2.7% in a given year, the outstanding loan would be charged interest at a rate of 5.7%. The only way a worker can increase his or her benefit by electing a private account is if the rate of return earned on the account is greater than the interest rate being charged on the loan. If the rate of return earned on the account is less than that interest rate, the worker will suffer a further reduction in benefits.

If an insurance company described the private account portion of the President’s plan with phrases like “this is your money,” “this is your account,” “Government can't take it away,” and “accounts which they would own and control,” with no mention of the loan repayment required, the company would have violated every disclosure law on the books. 

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