Unfunded Liabilities and General Revenues

[National Dialogue Moderator <moderator>]

	Unfunded Liabilities and General Revenues 
	Re: Reischauer "Social Insurance or Mandatory Individual Saving?"

Unfunded liabilities and general revenues--an interesting and important 
topic, although not directly related to market investment.  Bob Reischauer 
says we have an unfunded liability to contend with because Congress decided 
to give early cohorts "more adequate" social security benefits than they had 
paid for, in an actuarial sense.  This is true, of course.  What he doesn't 
say is that we have an unfunded liability as large as we do because Congress 
decided over and over to give more people more and more "adequate" benefits.  
That is, beginning in 1939 (before any monthly benefits had ever been paid 
under the 1935 Act) and continuing through the 1970s, Congress increased 
benefits at every opportunity.  Such opportunities presented themselves when 
social security appeared a bit more flush than expected--even while the 
system was operating with a huge unfunded liability.

A good case can be made--and long has been made, beginning with Nobel 
Laureates Milton Friedman and James Buchanan (my mentor and former professor 
in graduate school)--for general-fund financing the unfunded liability.  This 
liability was not accumulated on behalf of today's workers or with their 
implicit or explicit consent; the burden of financing should not be borne by 
them alone.  The cost should be spread across the population and over time.  
Friedman and Buchanan made this pitch in the context of phasing-out the 
system we have and replacing it with, in effect, a law to save for 
retirement, or what today would amount to a system of mandatory personal 
retirement accounts.  General revenues would be used to pay benefits (i.e., 
the liability accrued under the old system) in the transition to the new 
system.   

Friedman, it should be noted, has long endorsed paying off the liability and 
terminating social security, period, on the grounds that people are perfectly 
able to decide when and how much to save.  He did, however, endorse 
Buchanan's proposal, which was published as an editorial in the Wall Street 
Journal, co-authored with Colin Campbell, in 1966.

It is interesting to see that Bob Reischauer agrees with Buchanan and 
Friedman that the unfunded liability should not be financed by workers 
through the payroll tax and that it should be financed instead by general 
revenues.  He does not, of course, agree that social security should then be 
"privatized."

Here I would bring attention to a slip in Bob Reischauer's argument.  He 
states that general revenues should be used to meet unfunded benefits in the 
transition to a privatized system and then suggests, erroneously, that this 
is the approach taken in the Feldstein proposal and the proposal offered by 
Cong. Archer and Cong. Shaw, which is modeled after it.  In fact, Feldstein 
proposes establishing personal accounts that are layered on top of our 
current system and funded with general revenues.  This proposal bears no 
resemblance to the kinds of reforms we have been discussing.

As to the Clinton proposal and Bob Reischauer's suggestion that the President 
has in mind (or did, in fact, propose) compensating the trust funds with 
general funds on behalf of the excess benefits paid to early cohorts, this is 
preposterous!  President Clinton proposed making general-fund transfers to 
the trust funds--and I applaud Bob for acknowledging this, since many 
advocates of the President's proposal do not--but there is absolutely no link 
between these transfers and the size of, the financing of, or the repayment 
of the social security debt.  The President's proposal would simply make 
social security's financial position look better, since more revenues would 
be credited to the trust funds (while the rest of the budget would look 
worse).  Nothing would prevent Congress, a few years down the road, from 
providing "more adequate" benefits to those deemed particularly deserving, 
perhaps the old, old or elderly widows or other groups with 
higher-than-average poverty rates or perhaps divorcees and others who do not 
fare so well under the current system.  (Bob doesn't mention that to be 
eligible for benefits as the divorced wife of a retired worker, you have to 
have been married 10 years or longer and most marriages that end in divorce 
do not last that long.)  Nothing would prevent Congress from using those 
funds to bail out Medicare or finance a new prescription drug benefit or a 
new long-term care program.

Bob Reischauer's colleague at Brookings, Henry Aaron, has gone further and 
characterized the President's proposal as comparable to issuing "recognition 
bonds"--bonds that recognize social security's debt or unfunded liability.  
This is even more preposterous because it draws on the language of the 
Chilean privatization program, under which there actually are recognition 
bonds (or certificates).  These instruments promise to pay workers who opt 
into the new investment-based system the benefits they are owed under the old 
system.  The link between the government (and its debt to the worker) and the 
worker (and the promise to pay that he or she receives) is clear and direct.  
Under the Clinton proposal, no bonds are issued in the name of anyone.  There 
is no link between monies flowing into the trust funds and the repayment of 
anything.  The President would have had an interesting proposal, indeed, if 
there had been.  Such a proposal would have put "on the books" the 
government's unfunded social security liability (what Buchanan once described 
as a covert or hidden debt), clearing the deck to allow the nation to 
confront the question before us: on a going forward basis, whether to impose 
on workers higher taxes than needed to pay current benefits under our current 
quasi-pay-as-you-go system in order to generate funds that the government can 
invest directly in stocks or whether to allow workers to invest their taxes 
in fully-funded personal accounts.

Bob Reischauer's final comment, that he believes a fully funded social 
insurance scheme is the best way to provide retirement income, is worthy of 
particular note.   He's the only one I know, among scholars and policy 
analysts, who holds this view and also endorses centralized investment.  
Others who hold this view have endorsed personal retirement accounts as the 
only practical way to manage the investment of such huge sums.  (Harvard 
University's Martin Feldstein, mentioned above, falls into this category.)  
Surely Bob would agree that the government is thoroughly ill-equipped to 
manage assets of $8-$9 trillion or whatever the going figure is for social 
security's unfunded liability.

Finally, there is a presumption throughout that the choice confronted by 
policy-makers is either-or.  Either social insurance or mandatory savings 
accounts with no social insurance component.  I feel strongly that the social 
insurance--or welfare-redistribution--functions of social security should be 
handled separately from the pension-saving functions and should not be 
allowed to affect the design and operation of personal accounts, threatening 
to politicize that which should be grounded in private ownership and shielded 
from politics.  However, nothing about "privatization" precludes the 
possibility of achieving redistributive goals in other ways.  Chile "tops up" 
the accounts of workers who reach retirement with low account balances.  
Every major proposal in Congress for large personal accounts includes some 
type of new safety net.  What's important is that the redistribution be 
explicit and separately financed.

Carolyn Weaver