O'Hanley, Ronald P. - Dreyfus Institutional Investors

Dreyfus Corporation, a company ofMellon Bank Corporation

The Social Security Reform Challenge: maintain the safety net, increase savings, bolster returns

By Ronald P. O'Hanley
President, Dreyfus Institutional Investors

Developing consensus for Social Security reform is arguably the most important and challenging domestic agenda item facing President Clinton and Congress today. Yet it is interesting that a child born this morning could grow up and attend college before the current pay-as-you-go Social Security program runs into financial difficulty. Our leaders deserve credit for having the foresight to address this issue today in a proactive manner. It is not often that we are able to build political momentum for major initiatives without an immediate crisis before us.
The Social Security Act signed by President Franklin D. Roosevelt on August 14, 1935 is perhaps the most important and enduring program ever enacted by our government. Every President and Congress since then has preserved this economic safety net. On several occasions during the past six decades, Social Security has been modified to meet new challenges and accommodate new demands along the way. Our elected officials, for example, passed what were seen as "landmark" amendments 15 years ago when political leaders as ideologically opposed as President Ronald Reagan and House Speaker Thomas "Tip" O'Neill worked to forge consensus on solutions at the time.
Faced with the widely documented demographic challenges posed by the large population of baby boomers approaching retirement and people living longer, we must once again modify the program. While there is already no shortage of good proposals, it will take time to develop a consensus for reform. There are, however, plenty of facts that will help guide us as we develop solutions.
Social Security replaces only about 40 percent of the average worker's pre-retirement earnings, according to the Social Security Administration, and yet it is the major source of income for two-thirds of elderly recipients and essentially the only source of income for the rest of the retirees. The government also says that while 11 percent of senior citizens in America live in poverty (sadly), the figure would be nearly 50 percent without Social Security. Finally, while 70 percent of Social Security beneficiaries are retirees, 30 percent--or 13 million of our fellow citizens--are receiving necessary benefits as survivors (widows and orphans) or because they are disabled.
Given these facts, a few things seem clear:

The safety net aspect of the Social Security system must be maintained. The program is key to the social well being of a substantial segment of our citizenry. Therefore, key elements of the current system--such as mandatory participation and the principle of a minimum level of guaranteed income--must remain intact.

Reform should include initiatives to increase savings levels and participation in private pension schemes. The fact that Social Security benefits alone will not suffice to maintain a retiree's minimum standard of living underscores the importance of creating new incentives to increase personal savings. Experts say that we need 70 percent of our pre-retirement income to maintain our lifestyle when we leave the workforce. Social Security, as you know, has long been viewed in America as only one part of a "three-legged stool" for retirement security. It was meant to be a guaranteed leg, while personal savings and private pensions comprised the other two. However, traditional pensions are becoming less common and less assured for today's workers--especially those in their 20s and 30s who will be employed by many different organizations during their careers.
This puts more of the burden on personal saving, yet Americans are saving less than 4 percent of their income today, half the rate only two decades ago. While the rest of the world admires our economic prowess, many countries have managed to significantly outpace us as savers in recent years. Boosting our low savings rate also would have positive implications for future prosperity through productive capital formation. Increased savings makes more funds available for investment, resulting over time in higher standards of living and productivity.

Improving investment returns is vital to reforming Social Security. We must take steps to broaden the asset allocation mix of the Social Security trust fund investments to reflect the liabilities of the system. Whether it is through individual accounts in which employees invest a portion of Social Security funds on their own or as a collective trust, it is essential that we strengthen returns. This requires investment in stocks and bonds in addition to Treasury obligations.
We all know the risks involved in stocks, as evidenced by this year's market volatility. But we also know the long-term track record of a diversified pool that includes equity investments when compared to other investments. U.S. corporate competitiveness and profitability has been driven in no small part by equity investments in pension plans that have reduced the need for corporate funding of these plans. Millions of average-income Americans have created significant wealth during the past several years by investing in the stock market through their 401(k)s alone. Why not the same for our Social Security funds?

So today, the President and Congress have an opportunity to develop a blueprint to preserve Social Security--and the intergenerational bond that our country has cemented to provide for our elders and those among us who have fallen on hard times. This republic has met every major challenge for 222 years--and we will surely do so again on the issue of Social Security.