Commentary

Social Security Reforms Beckon

By Peter J. Ferrara
November 16, 1998

With the passing of the 1998 midterm elections, Social Security reform is now emerging as the top priority issue for the coming year.

President Clinton began to place the issue at the top of the national agenda in his State of the Union Address last January, when he called for using the federal budget surplus to “save Social Security first.” Over the past year, he has orchestrated a series of conferences and speeches to discuss the issue.

Now press reports indicate he is beginning discussions of a concrete proposal with his Cabinet. Moreover, he is pursuing plans for a White House Summit on Social Security in early December.

Most likely, Mr. Clinton’s proposal will include an individual savings and investment account option for 2 percentage points of the total 12.4 percent Social Security payroll tax. In other words, workers would be able to pay about one-sixth of the total Social Security payroll tax, or about one-third of the employee share of the tax, into their own savings and investment account. This account and its accumulated returns would then pay part of the worker’s benefits in retirement in place of part of Social Security benefits.


The polls reveal the now overwhelming public support for a personal account option for Social Security. Earlier this year, a USA Today poll found 66 percent of the public favoring such personal accounts, the only Social Security reform idea that received anywhere near majority support.


Republicans should enthusiastically embrace such a personal savings and investment account as the centerpiece of Social Security reform. Numerous studies now establish beyond a doubt that today’s workers would receive far higher benefits through such accounts than through the current Social Security system. Moreover, as workers shifted to such private accounts over time, the long-term financing crisis of the current system would be averted.

The funds pouring into the accounts would also sharply increase national savings and investment, resulting in more jobs, higher wages, and more rapid economic growth. Over time, as the accounts were expanded, the payroll tax could be cut substantially, providing one of the biggest tax cuts ever. Eventually, by eliminating the unfunded liabilities of Social Security, such reform would do more to reduce real federal debt than paying off the national debt. Finally, by shifting the payment of retirement benefits from the public sector to the private sector, the reform would produce the greatest reduction in government spending in world history.

But the Clinton plan is likely to have a number of fatal defects that congressional Republicans should fix. The details of how the accounts are administered and invested must be based on the free market, not government control. But most importantly, 2 percentage points of the payroll tax is too little to start. For workers making $20,000 to $25,000, only $400 to $500 will be flowing into their investment accounts each year. Millions of such small accounts may be administratively unworkable. Moreover, such small annual investment amounts may not be exciting enough for many workers, and many might not opt for the accounts as a result. The whole reform may then be seen as a failure.

Republicans should propose instead a personal investment account option of at least 5 percentage points of the Social Security payroll tax. A plurality of President Clinton’s own 1995-96 Advisory Council on Social Security in fact recommended a 5 percentage point option. The Heritage Foundation has also proposed a plan based on a 5 percentage point option, along with substantial general tax cuts.

A 5 percent option would grant workers much more freedom and control over their own money than a 2 percent option. It would also result in far higher retirement benefits, eliminate much more of the long-term financing crisis, increase savings and investment more rapidly, reduce the unfunded liability debt of Social Security much more, and enable bigger payroll tax cuts down the line.

Republicans would have the populist side of the argument in this debate. The polls reveal the now overwhelming public support for such a personal account option for Social Security. Mark Penn, the president’s pollster, found that 73 percent of Democrats would favor a personal account option for at least part of the program. Luntz Research found the public favoring such an option by 77 percent to 14 percent. Bill McInturff’s Public Opinion Strategies found the public supporting the idea by 68 percent to 11 percent. Earlier this year, a USA Today poll found 66 percent of the public favoring such personal accounts, the only Social Security reform idea that received anywhere near majority support.

Of course, the best choice would be an immediate personal account option for all of Social Security. Two of the most farsighted and innovative members of Congress, Rep. John Porter, Illinois Republican, and Sen. Rod Grams, Minnesota Republican, have already developed legislation for such a complete option. Their proposals are the most generous to workers by far, and would at least double all the benefits from a 5 percent option discussed above. Their legislation is based on proposals developed at the Cato Institute, whose Project on Social Security Privatization must now be considered the most successful think tank initiative ever.

Contrary to the longtime conventional wisdom of avoiding the Social Security issue, Republicans should relish this debate. For after the punishing 1998 midterm elections, it gives them the chance to get refocused on the issues in tune with the American people.


Go to Cato’s Project on Social Security Privatization for more information about replacing the current system with personal savings and investment accounts.

Peter Ferrara is general counsel and chief economist of Americans for Tax Reform, and a senior fellow at the Cato Institute.