Newt Gingrich - Social Security
Summary
Congressman Gingrich has been a vocal supporter of the need to reform social security for several years. In 2007, he authored a book that stated that social security would have to be rethought to address increasing life expectancies. He advocated for a system where workers could invest up to 50% of their money into their own accounts. If the personal account pays more than the Social Security benefits it replaces, the taxpayer would get to keep the gain. If the account is insufficient to pay for all the benefits it replaces, the government pays the difference.
In late November of 2011 Speaker Gingrich introduced his plan to reform Social Security, Welfare, and Health Care. He called it the "Unleashing Growth and Innovation to Leave Behind the Welfare State" plan. The plan is expansive, specific, and would completely change Social Security.
The text of Speaker Gingrich's plan has three main points. First, it points out the unsustainability of the current social security system. The second portions discuss alternatives. This includes the plans proposed by Congressman Paul Ryan and Congressman John Sununu and the plan proposed by Congressman McCotter. It also discusses successes using private accounts here in the US and in Chile. The final section addresses Congressman Gingrich's specific plan.
Both the plan introduced by Paul-Sununu and the McCotter plan transition social security to Chilean model. All citizens (over a certain age for the McCotter plan) are allowed to fully transition to a plan where their money for social security is held in a private account, managed by a government approved private agency and invested according to set parameters and the desires of the individual. Each person can contribute more than the minimum, determine their own retirement age, and pass their money to their children when they pass away. In this manner, the system is litle more than a forced retirement account. The main difference is that everyone will still be able to remain on the old style system if that is their desire and the government would guarantee a certain amount of income from these private accounts as in the Chilean model.
The main difference in the two plans Congressman Gingrich supports is in how they allocate funds. Once a person opts for a private account, the Paul-Sununu plan allocates people's tax funds directly to accounts for them and uses taxes from the general revenue fund to pay for those already on social security. The McCotter plan funds the individual accounts with general revenue funds equivalent to the amount they are saving and then continues using the social security tax to continue paying for the system. Speaker Gingirch does not specifically endorse either model.
In proposing his plan, Congressman Gingrich outlines mechanisms to move from a taxing system that pays out benefits immediately to one that creates savings accounts. He acknowledges that younger people will need to be taxed an additional amount to pay for those already in the social security system. He states that the American people should not look at this as a tax, but rather a down payment on higher future returns and being free from the system.
Congressman Gingrich states in his plan several times that people in private accounts can contribute less and get a better rate of return on that money. His plan would have each person contribute the standard 6.2% payroll tax to their private accounts. He proposes that once the country is transitioned to a private account system, a substitute for social security survivor's insurance and social security disability insurance could be substituted with a 2.3% tax on the employer side. He then states that a 2.9% payroll tax could be used for old age medical insurance to eventually replace Medicare. He cites the final payroll rate of 11.4% for an equivalent private account social security system and medicare system as compared to the current 15.3% rate.
Real Change
In 2007, Congressman Gingrich wrote a book entitled Real Change. In that book, he discusses the option of going to a social security system which incorporates a partial private account system.
We will have to rethink Social Security because of our new ability to live longer. Everyone knows Social Security is going bankrupt. By 2017 Social Security will start running cash deficits. The trust funds run out in 2042.
Suppose that workers were free to save and invest, in their own personal accounts, up to roughly 50% of what they currently pay in payroll taxes. Employers would contribute the same amount to their workers' personal accounts out of the payroll taxes they currently pay on behalf of their employees. This plan was proposed in a bill by Rep. Paul Ryan (R-WI) and Sen. John Sununu (R-NH). Lower income workers would be allowed to invest a slightly higher percentage of what they currently pay in payroll taxes, and higher-income workers a little less.
If a personal account pays more than the Social Security benefits it replaces, [the taxpayer] gets to keep the gain. If the account is insufficient to pay for all the benefits it replaces, the government pays the difference.
Fox News Sunday
In May of 2010, Congressman Gingrich appeared on Fox News Sunday and spoke about the need to migrate the social security system to one based on personal contributions.
WALLACE: You also talk about replacing entitlements like Social Security.
GINGRICH: I think that you have to migrate to a system that is Social Security based on personal contributions. And I think that if you're a young person today and you do the math, you are much better off to have a Social Security system where you control your money. You put it in. It builds up for your entire working life. When you retire, you get the money.
WALLACE: Would you really have wanted that when the stock market dropped by 50 percent over the course of the last couple of months?
GINGRICH: Well, if you're — if you had been putting it in your whole lifetime, the amount it would build up over the last 30 years, you'd still be way ahead compared to a transfer system.
Remember, when Social Security paid its first check, there were 42 taxpayers for every recipient. When my grandchildren, who are eight and 10, get to be Social Security recipients, there may well be two taxpayers for every recipient. You can't sustain that.
The whole lesson of Greece, of Spain, of the crisis in Europe, the lesson of Sacramento, the lesson of Albany — we can't sustain having government as the fourth bubble where we are spending more than we can possibly maintain
Greta Appearance
In August of 2010, Congressman Gingrich appeared on the Greta van Susteran Show and spoke about immigration and social security. He stated that he would support a system that allowed people to pay fewer taxes later in life in exchange for not taking social security.
Greta Van Susteran: In terms of social security, not what do you want to do with it, but what do you think is going to happen to it
Congressman Gingrich: Well, I think that we're gonna find a compromise situation of telling the truth to all Americans and having a national conversation about it. The fact is that social security was designed with most Americans died before they lived long enough to collect social security.
The first year that we paid social security checks, there were 42 workers paying taxes for every person getting a social security check. That's clearly not going to be true for my children and grand children. So, we've got to find a new model, which is a defined contribution for young people, a transition for people who are over 50 years of age, and some model that probably does not require you to retire. I think that you're going to find that more and more people voluntarily stay active, and maybe we should look seriously at changing the law so that above a certain age you pay a much smaller tax if you continue to work to actually encourage people to stay active and be productive in a way that will be better than having them draw social security.
TEA Party Debate
In September of 2011, Congressman Gingrich appeared in the TEA Party debate in Tamp Bay, Florida. He stated that politicians should not have the right to threaten seniors with taking away their retirement. He stated that there would be no change in social security benefits for those already in the system, and that young people should be able to opt out of the system.
BLITZER: Speaker Gingrich, would you raise the retirement age for Social Security recipients?
GINGRICH: No, not necessarily, but let me start with -- I'm not particularly worried about Governor Perry and Governor Romney frightening the American people when President Obama scares them every single day.
(APPLAUSE)
GINGRICH: This is eating into my time.
Let me just say to all of you --
BLITZER: Let me just pinpoint the question. What would you do to fix Social Security?
GINGRICH: OK. But can I also expand for a second? Because that was not a rhetorical joke.
President Obama twice said recently he couldn't guarantee delivering the checks to Social Security recipients. Now, why should young people who are 16 to 25 years old have politicians have the power for the rest of their life to threaten to take away their Social Security?
(APPLAUSE)
GINGRICH: Now, I just want to make two simple points about Social Security and how you save it.
The first is, you get back to a full employment economy, and at four percent unemployment you have such a huge increase in funding, that you change every single out year (ph) of projection in a positive way.
The second is you say precisely as several folks here have said it, if you are younger -- everybody who is older and wants to be totally protected, fine, no change. So don't let anybody lie to you, starting with the president. No change. But if you're younger and you would like a personal account, you would control instead of the politicians. And you know you'll have more money at the end of your lifetime if you control it than the politicians.
Why shouldn't you have the right to choose?
CNN National Security Debate
On November 22, 2011 Congressman Gingrich participated in the national security debate on CNN. When asked about long term deficit spending and entitlement reform, Speaker Gingirich outlined his plan for social security.
ALEX BRILL: My name is Alex Brill and I'm a research fellow in the economics department at the American Enterprise Institute. Even if the super committee hadn't failed, the savings that they would have proposed would have been a drop in the bucket relative to the $11 trillion deficit our country may face in the subsequent decade. In the decades after that, without entitlement reform, we'll borrow even more.
To strengthen our economy, to strengthen our country, what entitlement reform proposals would you make to address our long-term structural deficit?
BLITZER: Good question.
Speaker Gingrich?
GINGRICH: It's a great question and it raises the -- the core issue of really large scale change.
Yesterday in Manchester, I outlined a Social Security reform plan based on Chile and based on Galveston, Texas. In Chile, people who have now have the right to a personal Social Security savings account, for 30 years, the government of Chile has promised that if you don't have as much savings as you would get from Social Security, the government would make up the difference.
In 30 years time, they've paid zero dollars, even after '07 and '08 and '09, people slid from three times as much to one-and-a-half times as much, but they didn't go below the Social Security amount. The result is in Chile, for example, 72 percent -- they have 72 percent of the GDP in savings. It has -- it has increased the economy, increased the growth of jobs, increased the amount of wealth and it dramatically solves Social Security without a payment cut and without having to hurt anybody.
So I think you can have a series of entitlement reforms that, frankly, make most of this problem go away without going through the kind of austerity and pain that this city likes.
Michigan Economic Debate
In November of 2011, Congressman Gingrich participated in the Michigan economic debate. He discussed his views on social security.
GINGRICH: You deal with Social Security as a free-standing issue. And the fact is, if you allow younger Americans to have the choice to go to a Galveston or Chilean-style personal Social Security savings account, the long-term effect on Social Security is scored by the Social Security actuary as absolutely stabilizing the system and taking care of it.
The key is there is $2.4 trillion in Social Security which should be off budget, and no president of the United States should ever again say because of some political fight in Washington, I may not be able to send you your check. That money is sitting there. That money is available. And the country ought to pay the debt it owes the people who put the money in there.
Unleashing Growth and Innovation to Leave Behind the Welfare State
On November 21, 2011 Speaker Gingrich released his plan for social security, welfare reform, and health care. He called this plan the "Unleashing Growth and Innovation to Leave Behind the Welfare State" plan. The portion of that plan that deals with social security is shown below.
Step 1: New American Prosperity through Social Security Personal Accounts
Where We Are Today
Just over a decade following Social Security’s creation in 1935, the largest population boom in American history commenced without warning. The first of the Baby Boomers, who were born between 1946 and 1964, will reach the official eligibility age for Medicare next year, and for Social Security in 2013.
For years, economists in the federal government have maintained that Social Security would not be able to sustain the influx of new retirees without jarring, job-killing payroll tax increases.
The system is already beginning to show cracks. In 2010, Social Security costs outnumbered revenues for the first time since 1983, when Ronald Reagan made bold reforms to sustain the program. The official projections are bleak: the government’s “intermediate assumption” scenario finds that deficits will be a fact of life until 2037, when the trust fund will be completely drained. Following this, all benefits will have to be paid from revenues, which will require a massive tax hike–likely doubling the current 15.3% combined Medicare and Social Security rate to almost 30%.
Under the official worst-case scenario, the trust funds will be bankrupt by 2029, and the payroll tax rate might have to be tripled to over 40% in order to meet benefits of future retirees.
The fundamentals of Social Security have operated virtually unchanged fornearly 80 years. The model has remained completely isolated from the benefits of the free market, with no innovation or investment to speak of. It is simply a “tax and redistribution system: the federal government collects payroll tax revenues from current-day workers, and immediately uses the revenues to pay benefits to current-day retirees.
The system ran surpluses between 1983 and 2010, but even then, about 90% of revenues were immediately paid out within a year to retirees. The surpluses went directly into the Social Security Trust Fund. But do not let the name mislead you: these funds were not secure. The Social Security surpluses were “lent” to other parts of the federal government, and in return for internal, federal “IOUs” for the Trust Fund. In theory, these IOUs must be repaid when more money is needed to pay benefits. In practice, the only way that the federal government would be able to honor the IOUs would be to either slash spending or raise taxes. Therefore, these IOUs are rightly considered liabilities of the federal government, counted as part of the Gross Federal Debt subject to the debt limit.
This pay-as-you go system is the most inefficient way to guarantee security to future generations of retirees. The returns are low, inadequate, and well below historical market performance, which translates into lower benefits. Even if young workers manage to realize all of their promised Social Security benefits upon retirement, the best they can hope for is a real rate of return of around 1-1.5%.
For many future retirees, the future rate of return will actually be negative if nothing is done to reform the system. Imagine putting money into a bank account, but instead of receiving interest, you have to continuously pay to keep your money safe there.
This is the stark reality of the current state and trajectory of Social Security.
A Vision for Saving Social Security
There is a better way, proven to work in the real world. Workers could be empowered with the option to save and invest what they and their employers would otherwise pay into Social Security into personal savings accounts. Studies show that at standard, long term, market investment returns, for an average income, two-earner couple, over a career the accounts would accumulate to several hundred thousand dollars, even close to a million dollars or more, depending on exactly how much of their taxes are paid into the accounts. Even lower income workers could accumulate close to half a million over their careers.
Those accumulated funds would pay all workers of all income levels much higher benefits than Social Security even promises, let alone what it could pay. Retirees would each be free to choose to leave any portion of these funds to their families at death.
Another virtue of these personal savings accounts is that with workers financing their own benefits through their own savings and investment, they can be free to voluntarily choose their own retirement age. Moreover, they would have market incentives to choose on their own to delay their own retirement ages as long as possible, because the longer they wait the more they would accumulate in their accounts, and the higher benefits those accounts could pay
As a result, millions of workers with less physically taxing jobs would choose on their own to delay their retirement well into their 70s, a result that could never be imposed politically. But other workers whose jobs required heavy physical labor or who for other physical reasons could not work past their early 60s could retire then. With planning, they or their employers could make additional contributions to the accounts over the years to finance more benefits in that earlier retirement. This is a far superior solution to the question of the retirement age than politics imposing one, uniform, unworkable retirement age on all.
Personal Savings Accounts: A Proven Track Record of Success
Chile: The Trailblazer of the Personal Account
Just as Chile led the way in designing traditional social security, it also would end up as the first country to tap the power of the market to correct the grave problems of its original system.
By 1980, Chile’s workers and employers were paying over a quarter of their salaries toward payroll taxes, but the system faced mounting deficits and potential insolvency. Led by a group of young free-market economists, including many who had trained under Milton Friedman at the University of Chicago, the government in Santiago proposed the first national-level personal account system in the world. This new system would end up being successful beyond anyone’s most optimistic dreams.
On May 1, 1981, every Chilean in the workforce was given an option: Remain in the traditional social security system, or transition to a personal account system. Under a personal account system, the burdensome payroll taxes would be waived, and in its place every worker would contribute 10% of his monthly salary into an account. Anyone who entered the workforce after this date had to opt for the new system.
These accounts were not abstract entities that could be modified, manipulated, or wiped away by some politician or bureaucrat. Rather, the Chilean workers who opted for the new system enjoyed full property rights over these accounts–the accounts were theirs, not the government ’s.
The government’s role is instead to solicit and approve private-sector management firms, which create and manage investment funds for these new personal accounts. Chileans are given the choice to invest in about twenty different funds managed by experienced private-sector firms, called AFPs (Administradora de Fondos de Pensiones). These AFPs include a diverse array of firms, from globally-recognized investment houses to local firms affiliated with labor unions. The Chilean government regulates these funds to ensure that portfolios are properly diversified and safe, though some funds carry higher risk than others; some are heavier on stocks, others on bonds, etc.
In addition to this regulation, there are a number of built-in safeguards required by law. All funds are required to provide a minimum return on personal account investments. Furthermore, the government provides a guarantee that every Chilean retiree who opts for the personal account will earn at least about 40% of his average wages, which is slightly more than Social Security pays average income workers in the U.S. If the personal account for any individual were to fall below this 40% level, the government will cut this person a check from general revenues to make up the difference. In the three decades since instituting this guarantee, the government has not had to make a single payment on the guarantee–even in the midst of the worst financial crisis since the Great Depression.
The Chilean system is driven by consumer choice. Workers do not need to be experts at investing in order to make informed decisions–every Chilean has access to world-class investment management companies. Workers can switch between funds quickly and easily, so the management firms have incentives to compete for customers and build the most attractive portfolios.
The AFPs are separate legal entities from the funds that they manage, so even if a particular management firm suffers difficulties, the personal accounts are shielded. If necessary, the government will step in and reallocate the personal accounts to other AFPs based on consumer preferences–though this option has not been exercised once in three decades of the new system.
Chileans also enjoy options about how to receive their returns once they reach retirement age. They can opt for an annuity that pays out a determined amount from their personal account every year. Alternatively, retired Chileans can withdraw from their accounts as needed (these withdrawals are subject to some restrictions based on the life expectancy of the worker and the needs of eligible dependents). Upon the death of the account-holder, the account can be passed to the retiree’s family or other designated heirs.
What about existing workers who had already been paying taxes into the traditional social security system, then opted for the new personal account system?
Their payments into the traditional system were secured. Each was given “recognition bonds” reflecting the taxes that they had already paid. These bonds were set up to accrue interest so that by retirement age, they would be equal in value to the benefits that these workers had earned through payroll taxes into the traditional system.
The Astounding Power of Choice in Chile
The new personal savings accounts were hardly a tough sell to Chileans fed up with the old system. By the end of May 1981, a quarter of the workforce had decided to transition to the new system. Within a year and a half, a whopping 93%of workers had opted to become investors instead of pensioners.
At the time of the transition, the biggest advocates of reform anticipated a 4% real annual return on the accounts, an upbeat though still modest goal. For the average worker, this would translate into annual retirement benefits equal to about 70% of pre-retirement income. For reference, our Social Security system pays out an average of about 40% of pre-retirement income in monthly benefits.
Even the biggest proponents were proven overly pessimistic. Workers pay 10% of wages into the system for retirement benefits. The real rate of return averaged an astounding 10.2% by 2004. Payroll taxes were half as much, but benefits grew to twice as much: With such a strong rate of return, Chileans were on par to retire with almost 80% of their average late-career income.
Meanwhile, economic growth accelerated and unemployment dropped through the 1980s as Chileans saved more and paid lower taxes under the new system. By 2001, two decades after the initial reforms, the total accumulated funds in all of Chile’s savings accounts equaled 70% of GDP
The Chilean model spread throughout Latin America, with Peru, Colombia, Mexico, Bolivia, and El Salvador also adopting variations of the personal savings system. Although these have been implemented with varying degrees of competency and success, the building blocks of reform are in place, and these nations are well on their way to achieving the Chilean ideal. Even Great Britain and Australia have taken notice, and have implemented their own personal accounts systems there.
An idea that could never work in America? Well, it already has. And in a few very unlikely places.
Personal Accounts in America: The Success Story in Galveston
Until 1983, a loophole in federal law governing Social Security allowed state and local government employees to opt-out of the traditional program.
In 1981, employees in Galveston County, Texas decided to take their retirement into their own hands, and voted to ditch Social Security for a new defined-contribution plan. Under this unique plan in Galveston (which was subsequently adopted by a few neighboring counties in 1982), payroll taxes were dropped, and 9.737% of the employees’ salaries was put into this private account ever year. Houston-based First Financial Benefits bank houses these accounts, and lends out the funds to well-regarded investment firms in exchange for a guaranteed minimum interest rate for the employees’ accounts. Since 1981, the average rate of return has been between 7.5% and 8% for the account-holders, resulting in benefits much higher than traditional Social Security.
In fact, the projected benefits at just a 5% real return were twice or more what Social Security promises:
--A lower middle income worker retiring at age 65 would get $1,007 per month from Social Security, but $1,920 from the defined contribution plan.
--A higher middle income worker averaging about $51,000 per year in income retiring at age 65 would get $1,540 per month from Social Security, but $3,846 per month from the defined contribution plan.
--A low income worker retiring at 62 would get $547 per month from Social Security, but $1,035 per month from the defined contribution plan.
But a later study using the actual, higher investment results under the plan concluded that workers participating in the Galveston plan for their entire careers would retire with benefits over three times as large as those promised by Social Security. For example, a career low-income worker earning $20,000 per year would receive retirement benefits of about $2,740 per month from the Galveston Plan, compared to $775 per month from Social Security.
These plans were so attractive that the federal government ended the opt-out provision in 1983, fearing that too many taxpayers nationwide would flee traditional Social Security for the dynamic new system.
Galveston employees, however, were grandfathered in and still enjoy this system today.
The Galveston experience mirrors that of Chile: A system that transfers control of retirement decisions from bureaucrats to workers, and ultimately yields much higher returns than traditional Social Security could ever provide.
Thrift Savings Plans: Another American Model that Already Works
Federal employees have also long enjoyed a form of a personal account system, which has been immensely popular and financially successful. The Thrift Savings Plan (TSP) is available to federal employees not as a substitute for Social Security, but for supplemental retirement savings on top of Social Security.
Three and a half million federal employees have invested into the TSP system, which today has $158 billion in total investments. The federal employee may invest up to 5% of his salary into a personal account, and the government employer contributes up to 5%, meaning that up to 10% of an employee’s salary in any given year may be set aside. The employee has a choice of six designated investment funds that carry varying levels of risk, and can switch between funds as he or she chooses. Upon retirement, the employee may draw on funds from this personal account to purchase an annuity, which pays an annual sum on top of normal Social Security.
If an employee invested 10% of his salary in this program throughout his entire career, the supplementary TSP payments alone would dwarf traditional Social Security.
This model has been an astounding success for federal employees – let’s free everyone to channel the power of the markets to enjoy a more secure retirement.
Personal Accounts: Weathering the Financial Crisis with Minimal Losses
But didn’t the financial crisis prove that such personal savings and investment for retirement is a bad idea, as President Obama claims, mocking the idea of personal accounts? To counter that criticism, Peter Ferrara joined with William G. Shipman, former principle with State Street Global Advisors, perhaps the largest private pension investment management firm in the world, to conduct a study of the impact of the financial crisis on lifetime savings and investment. Their results were published in the Wall Street Journal on October 27, 2010.
They examined the case of a hypothetical senior retiring at the end of 2009 at age 66, who had the freedom to choose personal accounts when he entered the work force back in 1965 at the age of 21. Paying what he and his employer would otherwise pay into Social Security into the personal account instead, he took the riskiest possible path of investing his entire portfolio in the stock market for his 45-year working career. How would he have fared in the financial crisis, as compared to Social Security?
Ferrara and Shipman called their hypothetical worker Joe the Plumber. While working, he earned the average income each year for full time male workers. His wife Mary, same age, also earned the average income each year for full time females. She invested in the same personal account with Joe, an indexed portfolio of 90% large-cap stocks and 10% small-cap stocks, earning the exact returns reported each year since 1965.
This average income couple would have reached retirement at the end of 2009 with accumulated account funds, after administrative costs, of $855,175, almost millionaires. Indeed, they were millionaires, but the financial crisis lost them 37 percent of their account funds the year before they retired. This can be considered effectively a worst-case scenario, as the couple retired just one year after the worst 10-year stock market performance in American history, from 1999 to2008.
Yet, their account would still be sufficient to pay them about 75% more than Social Security promises them, increased annually for inflation just like Social Security.
These calculations are consistent with the experience of the already existing, real world versions of personal accounts. Chile’s personal account system survived the financial crisis with no bankruptcies in the personal account investment funds. Indeed, not a single dollar had to be paid out on the guarantee backing the accounts, as the lifetime of savings and investment in the accounts still provided benefits greatly exceeding what the old system had promised.
Under the Galveston plan, returns on the accounts declined for a couple of years during the financial crisis, but no one lost their retirement funds, with all still enjoying much higher benefits than Social Security. Moreover, the returns have since recovered. Similarly, the personal accounts enjoyed by federal workers in the federal Thrift Savings Plan (TSP) suffered declining returns for a couple of years, but the accounts have since recovered those losses, as documented on the website of the TSP.
President Obama's argument implies that lifetime savings and investment to support retirement benefits is not a good idea, because such investment entails market risk. Yet, despite the financial crisis, every state and local government pension fund, every corporate pension plan, the federal employee retirement plans, and the successful personal account system in Chile, copied now by other countries around the world, continue to be based precisely on capital investment to finance the expected retirement benefits.
The experience discussed above proves President Obama wrong. That is why real market savings and investment continues to be universally recognized as the most efficient and only responsible means of providing for future retirement benefits, outside the far-left bubble inhabited by President Obama and his core base of ideological supporters.
What Would a Personal Savings Account System Look Like?
Ryan-Sununu: Model Legislation for Personal Savings Accounts
In 2005, Congressman Paul Ryan (R-WI) and Senator John Sununu (R-NH) introduced comprehensive legislation providing for such a personal accounts option for Americans. This legislation was bold and important enough that the Chief Actuary of Social Security, who provides estimates and analyses for benefit programs, offered to “score” – or make projections about – the impact of the bill. The bill provided for no changes of any sort for those already retired, or anywhere near retirement. They would continue to receive all of their promised Social Security benefits in full without any change from current law. But workers up to age 55 were empowered with the freedom to choose to save and invest in the accounts just half the Social Security payroll tax, roughly the amount of the employee share of the tax.
Ryan-Sununu empowers American workers to designate a private investment firm to manage their retirement savings. Investment firms that want to participate in the new personal account system would apply to the Department of Treasury for approval. If approved, the fund would be added to a list of authorized funds in which Americans can choose to invest their personal savings accounts.
Here’s how the investment funds will work:
- The federal government would regulate these funds to ensure that portfolios are highly diversified and professionally managed.
- Consumer choice will drive the program. Funds can be tailored to meet different financial objectives, and the private firms will compete for customers. As long as the portfolios meet baseline legal requirements, fund managers will be able to offer products that invest in a diverse array of stocks, bonds and other investments.
- Information about the financial objectives, management team, and past performance of the management funds will be completely transparent and easily available to all personal account owners. Even Americans who have limited expertise in investment would be able to make informed decisions about which professionals will manage their money.
- Empowered by information and research, account owners will be able to shift their savings accounts between funds quickly and rapidly to maximize their benefits.
- As in the Chilean model, the funds would be legally separate entities from the management companies. In the event that the management company encounters financial trouble, the personal accounts will be completely protected, and owners will be able to shift their money to another management team.
- National organizations such as labor unions and the AARP could collaborate with investment firms to create products for their members. Organizations could tailor investment plans to meet the needs and goals of their constituencies. For example, mining unions, whose members tend to retire earlier than the national average, could offer plans that focus on early retirement options. Other groups that represent primarily white-collar workers could model plans built for workers who do not intend to retire until their 70s.
How would benefits work for those Americans already in the workforce who decide to transition into the new personal account system?
For those in the workforce today, benefits at retirement will be a hybrid of benefits that were accrued by paying payroll taxes into the old Social Security system, and benefits payable from the personal accounts. The ratio depends on the point in their career at which the worker opted into the personal account system.
Let’s take a worker who is 45 years old. He is about halfway through his professional career, and decides he is going to opt into the new system and shift his payroll taxes from traditional Social Security into the personal accounts option.
In retirement, this worker by law will get all of the benefits he accrued by paying payroll taxes into the traditional system for the first half of his career. In addition, he would receive all of the benefits that he earned by setting aside money in his personal account after age 45–plus all of the investment returns on this personal account. With standard, historical investment returns on the personal savings account, the benefits he accrues in the second part of his career will well outpace those he would have accrued by staying in the traditional Social Security system.
Simply put, one does not have to be at the beginning of his career to enjoy the vast returns of a personal savings account.
But lets say a teenager just beginning his first part-time job decides to enter the personal account program. From day one, he is setting aside a portion of his monthly salary into a personal savings account, and the interest is being compounded. At a reasonable return rate of 4% per year over 55 years in the workforce, the personal account will end up paying well over what the traditional Social Security plan would in retirement.
Thus, regardless of when an individual enters the savings account system,the program is designed so that he can take full advantage of market returns and ultimately receive retirement benefits that far outpace those promised by the current system.
The Safety Net Remains Intact
A key safeguard implemented in the Chilean system also is created under Ryan-Sununu: The government guarantees that all workers with personal accounts will receive at least as much in retirement as they would under the current Social Security system. If someone with a personal account retires with benefits lower than those offered by the current system, the Treasury will send them a check to make up the difference.
Thus, there is a legal government obligation that – in a worst case scenario– a retiree will be able to enjoy benefits at least as good as they would under the traditional Social Security system.
However, in 30 years, the Chilean government has never had to act on this guarantee and undertake a single “bailout.” Because the government authorizes and regulates all investment funds, it is able to manage the risk of the personal accounts.This provides a key check on excessively high-risk investing, and all but ensures that the returns accrued in the personal accounts are more than adequate for retirement.
Personal Savings Accounts Remain Optional
It is absolutely critical to note that any reforms to Social Security will make personal savings accounts optional, not required. If you like the existing system, nobody will prevent you from remaining in it. If you do want to transition to a personal account but are leery of the stock markets, you can keep your contributions in a regular savings account and accrue regular interest. And even those who decide they want to invest in stock-heavy, government-approved investment funds will still have a guaranteed minimum benefit when they retire, as required by law.
Ryan-Sununu: Trillions in Savings, Trillions in Economic Growth
The Chief Actuary of Social Security took the Ryan-Sununu proposal seriously, and offered thorough analysis of the legislation.
Its most important finding: The benefits of personal savings accounts are so attractive, than nearly 100% of workers would choose the personal accounts in place of traditional Social Security, as in Chile. This process would wipe out the $15 trillion in unfunded liabilities and make Social Security solvent – without any tax increases.
The Chief Actuary found that the personal accounts in the Ryan-Sununu bill would achieve full solvency for Social Security, completely eliminating Social Security deficits over time without any benefit cuts or tax increases. The Chief Actuary stated, “the Social Security program would be expected to be solvent and to meet its benefit obligations throughout the long-range period 2003 through 2077 and beyond.” This results because so much of Social Security’s benefit obligations are ultimately shifted to the accounts, while the employer share of the tax remains in place.
Moreover, as we have already discussed, at standard, long term market investment returns, the accounts would produce substantially more in benefits for working people across the board than Social Security now promises, let alone what it can pay. The Ryan-Sununu bill provides for workers to put only half the total Social Security payroll tax into the accounts. That is because private market investment is so productive that with only half as much paid in workers would still get much better benefits, as we saw in Chile. In fact, at just standard, market investment returns, workers with the Ryan-Sununu accounts would get on average about twice the benefits.
But this only accounts for half of the payroll tax. The other half of the payroll tax– that paid by employers–is still being levied in full, and the continued revenues from this part of the tax begin to build. Eventually, the surpluses from this tax exceed the cost of benefits for those who remain in the traditional Social Security system.
Instead of tax increases, over time the accounts would lead to major payroll tax cuts. Ultimately, the surplus in the Social Security trust fund will become large enough that, under this legislation, a payroll tax cut is automatically triggered. The analysis provided by the Chief Actuary shows that eventually, the success of the personal accounts will result in the total payroll tax rate–employee plus employer contribution–being reduced from today's 12.4% to 4.2%. The revenues raised from this 4.2% will be enough to finance survivors and disability benefits. Employers and employees would still be paying more than 4.2% into the retirement system, but these would now be in the form of personal savings account contributions.
The current unfunded liability of Social Security is over $15 trillion. Under the Ryan-Sununu plan, the pay-as-you go Social Security system gradually transforms into an investment-oriented, fully funded savings model that will bring in returns to future retirees well above the value of traditional benefits. As retirement savings gradually transition from a static system controlled by bureaucrats into a system where each American owns his or her retirement savings directly, the liabilities on the federal government’s balance sheet will begin to evaporate. Thus, over time, this $15 trillion liability will near zero–the largest reduction of government debt in history.
The accounts are not government-controlled, susceptible to the manipulation by some politician or Washington bureaucrat. Just like IRAs and 401(k)s, these accounts are owned and directly controlled by American workers. As workers begin to redirect the employee share of their payroll taxes away from government coffers and into their own personal savings account, this portion ceases to be a “tax” at all. Americans are no longer paying taxes to the government that are put directly toward funding the present-day benefits of other people.Rather, they are keeping the money derived from the employee share of the payroll tax as their own personal asset, and are entitled to any accumulated investment returns as well.
The Chief Actuary of Social Security also projected that after just 15 years under the Ryan-Sununu system, American workers would have accumulated $7.8trillion in today’s dollars, adjusting for inflation. After 25 years, this number balloons to $16 trillion, in today’s dollars–bigger than the entire US economy in 2011.
Any American who opts for the savings account model immediately acquires a substantial ownership stake in American enterprise. The perception that stock or mutual fund ownership is merely the domain of the affluent will be obliterated, as tens of millions of Americans would then an interest in the investments in their personal accounts succeeding. As the economy grows, more Americans from all income levels will share in the country’s prosperity. In fact, Harvard’s Martin Feldstein points out that if Social Security were shifted to a fully funded personal account system, the concentration of wealth in America would be reduced by half. Thus, the creation of new wealth and prosperity shared by the entire population -not government-imposed redistribution—is the key to more Americans enjoying the American dream.
Furthermore, unlike traditional Social Security benefits that only are enjoyed by the retiree and their spouse, personal savings accounts create wealth that can be passed on from generation to generation. A generation from now, it could be the norm in the United States for children and grandchildren to inherit a substantial sum in the form of personal savings accounts. These inheritances could provide the financial foundation for a college education, a new business, a home, or a new investment.
The new wealth created by these accounts will drive the entire American economy forward. More capital investment means more jobs and higher wages for American workers. More money passed from generation to generation will keep our housing market steadily growing.
Harvard economist Martin Feldstein estimates that switching from the current Social Security system to a fully funded investment system, such as a personal savings account system, would generate between $10 and 20 trillion in increased economic activity.
Therefore, at substantial savings for the taxpayer, Social Security can be saved and fortified, and a new personal savings account system will be a catalyst,not a drag, on economic growth shared by all Americans.
A Second Model: The McCotter Bill for Personal Social Security Savings Accounts
In September, Rep. Thaddeus McCotter (R-MI) introduced a bill that builds on the strengths of Ryan-Sununu, but also contains some key distinctions.
The most obvious difference is how the programs are funded. Under the Ryan plan, in order to offset payroll tax revenues now going into personal savings accounts, Social Security benefits to current retirees are funded from general revenues–that is, from personal and business income taxes. Under the McCotter plan, the contributions to the personal savings accounts are made from general revenues, and payroll taxes still flow directly and fully into Social Security payments.
This is a slight technical difference, but important because it meets the AARP’s requirement that plans must not divert payroll tax revenues away from benefits for current retirees.
Additionally, the McCotter bill specifically requires that the funding mechanism for the new personal savings accounts must be cost-neutral. The general revenues that flow into the new personal savings accounts must be offset by savings in other parts of the federal budget. Some of these savings explicitly involve entitlement reforms mentioned in other parts of this paper, such as block-granting federal means tested welfare programs.
Further distinctions under McCotter’s bill are that only Americans under age 50 can opt for the personal savings accounts, and each can contribute an amount into personal accounts equal to up to half of their payroll tax. For workers who contribute the maximum through their entire careers, half of their benefits would come from the personal savings accounts, while the other half would still come from the traditional Social Security system.
More and more workers will begin to finance a portion of their retirements through the personal accounts. As payroll tax revenues continue to flow in full,enormous Social Security surpluses will begin to accumulate. The Social Security surpluses will be directed back into general revenues, and eventually will become substantial enough to fund all future personal account contributions.
The Chief Actuary’s score found that, just as under Ryan-Sununu, eventually nearly 100% of workers will voluntarily opt for the new system, and all future deficits would be eliminated. Again, this would be done without raising taxes or cutting benefits.
The Actuary also found that that the savings and investments from the personal accounts would replace $8.555 trillion in future government spending, and the spending reductions made to finance the account would add up to at least another $3.75 trillion in savings. This is a savings of $12 trillion – arguably the largest reduction in net government spending in history.
How to Finance the Transition From the Old System to Personal Accounts
One major question remains: How does the government finance the transition from a one-size-fits-all Social Security program to one that gives Americans an option for a personal savings account?
As it stands, Social Security operates on a pay-as-you-go basis, so payroll taxes from current workers go immediately towards benefits for current retirees. So if current workers switch to the personal account option, how will we pay for the benefits for retirees today?
The Ryan-Sununu Plan and the McCotter Plan address these issues slightly differently: Ryan-Sununu uses money from the general fund (that is, revenues from personal and corporate income tax) for benefits for existing retirees; McCotter continues to use payroll taxes to fund benefits for existing retirees, and redirects money from the general fund into personal accounts for existing workers.
Either way, we should not regard this transition funding as a “cost.” Rather, regard the funding as a down payment on the new personal accounts system whose future returns will more than offset any short-term costs. The personal accounts are actually just a politically sophisticated means of shifting from the current,completely non-invested, tax and redistribution, Social Security system, to a fully funded system based on savings and investment, which should be readily recognized as the complete, responsible, desirable solution to the issue of Social Security.
This transition financing can all be more than covered by the reduced government spending resulting from the other entitlement reforms discussed in this paper. With the transition financed entirely by such reduced spending, the personal accounts would produce entirely a massive contribution to national savings and investment.
The Ryan Road map demonstrated the workability of this approach, the comprehensive legislation introduced by now House Budget Committee Chairman Paul Ryan. That proposed legislation includes personal accounts for Social Security, fundamental reform of Medicare and Medicaid, general health care reform, tax reform, and other budget reforms. CBO officially scored the Road map as achieving full solvency for Social Security and for Medicare, and balancing the federal budget indefinitely into the future, completely eliminating all long-term federal deficits. This is all done with no tax increases. The costs of transitioning out of the old-fashioned Social Security system are more than offset by these spending reductions.
The legislation recently introduced by Rep. McCotter takes this same approach, financing a future reduction in government spending of $8.5 trillion through personal accounts with at least $3.75 trillion in spending cuts during the transition.
The Gingrich Vision for Reform
Reform should begin with legislation along the lines of the Ryan-Sununu and the McCotter bills. After the initial reform, the account option could then be further expanded to allow substitution of private life insurance for Social Security survivors’ benefits, and private disability insurance for Social Security disability benefits. This could be accomplished with another 2.3% of wages, as in Chile, coming out of the employer share of the tax. Eventually, the accounts could be expanded to cover the payroll taxes for Medicare, another 2.9% of wages, with the saved funds financing monthly annuity benefits used to purchase private health insurance in retirement. The personal accounts would then encompass an option for 11.4% of wages altogether, about one-fourth less than the current 15.3% payroll tax. Employers and their workers would be free to choose to contribute additional funds to their personal accounts to fund earlier retirement and/or even higher benefits.
With the accounts then paying for all of the benefits currently financed by the payroll tax, that tax would eventually be phased out altogether. Workers would instead be paying into the family wealth engine of their own personal savings, investment and insurance accounts.
The fatal fallacy persists that it would be politically easier to cut benefits than to enact structural reforms like personal accounts. For all of the reasons discussed above, a populist, grassroots alliance can be generated to support personal accounts, which is the one Social Security reform idea ever to gain support by large majorities in the polls. The alternative is to cut a deal with the Washington establishment that will slash Social Security returns and benefits for working people, at the price of agreeing to a tax increase for “balance.” This would be politically crippling for any governing coalition that agreed to it
Sponsored and Cosponsored Legislation
This representative has not been identified as sponsoring or cosponsoring significant legislation related to this title.
References
[1] Website: Fox News Article: Transcript: Newt Gingrich on 'FNS' Author: NA Accessed on: 05/19/2011
[2] Website: Think Progress Article: Gingrich Endorses Social Security Privatization Part of Ryan’s Roadmap rn Author: George Zornick Accessed on: 05/19/2011