The proposed changes in Social Security for which President Bush has been stubbornly campaigning all year will in all likelihood, despite a chilly public reception, surface as legislation for congressional debate this fall. But the focus of the debate has shifted significantly since the president first brought attention to the subject. And regardless of whether his specific proposals stall or die, one issue now on the table will materialize every time Social Security reform comes up.
When the president introduced the topic of Social Security reform, in his State of the Union speech last winter, his focus was on creating individual Social Security accounts, which would allow participants to divert some money from payroll deductions to private investment. It soon became clear, however, that this would leave the system no more solvent than before. In fact, the federal government would have to borrow trillions of dollars to make up for the lost revenue. This was a problem, given that concern about solvency was the ostensible reason for proposing changes in the first place.
In truth, it is not at all clear that Social Security is in deep trouble; as with many things in economics, one's assessment depends on what projections one uses. But if it is, "trouble" simply means that its projected expenditures exceed its projected revenues. Only two solutions exist: reduce expenditures or increase revenues. Faced with criticism that his original proposal did neither, the president floated another one in a speech last April.
The art of politics is to design a solution that feels painless to all. (Or, as the seventeenth-century French finance minister Jean Baptiste Colbert observed, "The art of taxation consists in so plucking the goose as to obtain the largest possible amount of feathers with the smallest possible amount of hissing.") The president's version is called "progressive indexation." This proposed path to solvency has just enough complexity and fine print to make it sound serious—and to make a full analysis of its consequences difficult.
Progressive indexation would change the way Social Security benefits are computed. Benefits are now based on recipients' contributions, but they are indexed to the general level of wages, and rise over time. As the country becomes more prosperous, and wages increase, retirees get more money. Under the president's proposal benefits for most Americans would increasingly be indexed to prices rather than to wages; the higher a worker's income, the greater the proportion pegged to prices. Because prices increase more slowly than wages (sometimes much more slowly), this would mean an enormous reduction in benefits—and enormous savings for the Social Security system. At the same time, the poorest Americans—those with incomes below $25,000—would still receive benefits indexed to wages. In championing a change that would penalize the better-off while protecting the poor, the president managed to cast himself as something of a latter-day Robin Hood.
The first question to ask is, Does progressive indexation really address Social Security's potential problems? In fact it would be hard to think of a worse way to address them.
To begin with, we don't actually know how serious the shortfall is. To assess the system's solvency we must make economic projections far into the future. As the chairman of the president's Council of Economic Advisers during the 1990s, I had to make projections about where the economy was going to be one, two, or three years ahead; frankly, I often found myself facing a cloudy crystal ball. Forecasting a few years out is hard enough; forecasting seventy-five years out is essentially impossible. Slight changes in life expectancy, immigration, wage growth, and interest rates could have large effects on the solvency of the system.
For instance, if immigration and productivity continue at their current rates, and if real wages move in tandem with productivity, as they have done historically, the Social Security system as it now stands will remain solvent. (It is perhaps not surprising that when President Bush sold Congress on his tax cuts, he did so by using growth projections far more optimistic than the ones he is now using for Social Security. The president is proving to be more dismal, one might say, than most economists.)
Of course, no one can say for sure that a quarter century or a half century hence, Social Security won't be in the bad shape the president fears; and a case can be made for doing something now to forestall problems later. But what we do should be designed to meet needs as they develop.