Issue On Social Security: Beginning The Debate

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E M P L O Y E E   B E N E F I T S ,   C O M P E N S A T I O N
                  A N D   P E N S I O N   L A W
                  Vol. 2, No. 5: March 15, 2001
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               Urban Institute
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Special Issue on Social Security: Beginning the Debate
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T A B L E of C O N T E N T S
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WORKING PAPERS

"Pensions, Social Security, and the Distribution of Wealth"
     ARTHUR B. KENNICKELL
        Board of Governors of the Federal Reserve System
     ANNIKA E. SUNDEN
        Boston College
        Center for Retirement Research

"What People Don't Know About Their Pensions and Social Security:
An Analysis Using Linked Data from the Health and Retirement
Study"
     ALAN L. GUSTMAN
        Dartmouth College
        Department of Economics
        National Bureau of Economic Research (NBER)
     THOMAS L. STEINMEIER
        Texas Tech University
        Department of Economics
        National Bureau of Economic Research (NBER)

"How Effective is Redistribution Under the Social Security
Benefit Formula?"
     ALAN L. GUSTMAN
        Dartmouth College
        Department of Economics
        National Bureau of Economic Research (NBER)
     THOMAS L. STEINMEIER
        Texas Tech University
        Department of Economics
        National Bureau of Economic Research (NBER)

"The Economics of Social Security Reform"
     PETER DIAMOND
        Massachusetts Institute of Technology
        National Bureau of Economic Research (NBER)

"Social Security Money's Worth"
     JOHN GEANAKOPLOS
        Yale University
        Department of Economics
     OLIVIA S. MITCHELL
        University of Pennsylvania, Wharton School
        National Bureau of Economic Research (NBER)
     STEPHEN P. ZELDES
        Columbia Business School
        National Bureau of Economic Research (NBER)

NEW and FORTHCOMING ARTICLES

"Sharing the Pain of Social Security and Medicare Reform"
      The Retirement Project
     LAWRENCE H. THOMPSON
        Urban Institute
        Executive Office Research

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W O R K I N G P A P E R Abstracts
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"Pensions, Social Security, and the Distribution of Wealth"

      BY: ARTHUR B. KENNICKELL
              Board of Governors of the Federal Reserve System
           ANNIKA E. SUNDEN
              Boston College
              Center for Retirement Research

Document: Available from the SSRN Electronic Paper Collection:
http://papers.ssrn.com/paper.taf?abstract_id=93708

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Paper ID: FEDS Discussion Paper No. 97-55
Date: November 6, 1997

Contact: ANNIKA E. SUNDEN
   Email: Mailto:annika.sunden.1@bc.edu
Postal: Boston College
           Center for Retirement Research
           Fulton Hall 550
           Chestnut Hill, MA 02467-3808 USA
   Phone: 617-552-1459
     Fax: 617-552-1750
Co-Auth: ARTHUR B. KENNICKELL
   Email: Mailto:m1abk00@frb.gov
Postal: Board of Governors of the Federal Reserve System
           20th and C Streets, NW
           Washington, DC 20551 USA

Paper Requests:
Please indicate the title and the FEDS paper number. Single
copies of FEDS papers may be obtained upon request from Ms.
Karen Blackwell, Mailto:fedspapers@frb.gov Postal: Mail Stop 77,
Federal Reserve Board, Washington, DC 20551. Phone:(202)
452-2900. Fax:(202) 452-3819.

ABSTRACT:
This paper uses the Survey of Consumer Finances (SCF) to examine
pension coverage, estimate Social Security and pension wealth
for U.S. households in 1989 and 1992, and to estimate the
effects of pension wealth on non-pension net worth. As expected,
the SCF data show that including pensions and Social Security in
net worth makes the distribution more even. The analysis of the
effects of pension wealth on other types of savings indicates
that there is a negative effect of defined benefit plan coverage
on non-pension net worth. Surprisingly, the effect of defined
contribution plans, such as 401(k) plans is insignificant.

JEL Classification: E2, J3
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"What People Don't Know About Their Pensions and Social Security:
An Analysis Using Linked Data from the Health and Retirement
Study"

      BY: ALAN L. GUSTMAN
              Dartmouth College
              Department of Economics
              National Bureau of Economic Research (NBER)
           THOMAS L. STEINMEIER
              Texas Tech University
              Department of Economics
              National Bureau of Economic Research (NBER)

Document: Available from the SSRN Electronic Paper Collection:
http://papers.ssrn.com/paper.taf?abstract_id=190375

Paper ID: NBER Working Paper No. W7368
Date: September 1999

Contact: ALAN L. GUSTMAN
   Email: Mailto:alan.gustman@dartmouth.edu
Postal: Dartmouth College
           Department of Economics
           6106 Rockefeller Center
           Hanover, NH 03755 USA
   Phone: 603-646-2641
     Fax: 603-646-2122
Co-Auth: THOMAS L. STEINMEIER
   Email: Mailto:Thomas.Steinmeier@TTU.EDU
Postal: Texas Tech University
           Department of Economics
           Lubbock, TX 79409-2101 USA

Paper Requests:
Full-Text downloads are available from SSRN Online for $5.

ABSTRACT:
Pension plan descriptions from respondents to the 1992 Health
and Retirement Study are compared with descriptions obtained
from their employers. Earnings histories reported by respondents
are compared with earnings histories from the Social Security
Administration. The probability of linking employer pension
data, which is two thirds for current jobs, and of obtaining
permission to link an earnings history, which is over 70
percent, are not well explained by respondent characteristics.
Half of respondents with linked pension data correctly identify
plan type, and fewer than half identify, within one year, dates
of eligibility for early and normal retirement benefits. Benefit
reduction rates are essentially not reported. Respondents do
better in reporting pension values, but the unexplained
variation is still considerable. In contrast, respondent
reported values, together with other observables, account for 80
percent of the variation in pension values and 75 percent of the
variation in covered earnings measured from linked records. Thus
prospects are good for imputing plan values, but not for
imputing the location or size of early retirement incentives.
Our findings raise questions about how well respondents
understand complex pension and Social Security rules.

JEL Classification: D31, E21, H55, J14, J26, J32
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"How Effective is Redistribution Under the Social Security
Benefit Formula?"

Document: Available from the SSRN Electronic Paper Collection:
http://papers.ssrn.com/paper.taf?abstract_id=216672

Paper ID: NBER Working Paper No. W7597
Date: March 2000

Paper Requests:
Full-Text downloads are available from SSRN Online for $5.

ABSTRACT:
This paper uses earnings histories obtained from the Social
Security Administration and linked to the survey responses for
participants in the Health and Retirement Study to investigate
redistribution under the current social security benefit
formula. We find that as advertised, at the level of the
individual respondent, the benefit formula is progressive. When
individuals are arrayed by indexed lifetime earnings, own
benefits are significantly redistributed from those with high
lifetime earnings to those with low lifetime earnings. However,
much of this apparent redistribution is from men to women, and
when examined at the level of the family, from primary to
secondary earners. When families are arrayed according the total
lifetime earnings, and spouse and survivor benefits are taken
into account, the extent of redistribution from families with
high lifetime earnings to families with low lifetime earnings is
roughly halved. Much of the remaining redistribution is from
families where both spouses spend much of their potential work
lives in the labor market, to families where a spouse, often
with high earnings potential, chooses to spend a significant
number of years outside of the labor force. When families are
arrayed by their earnings potential, that is earnings during
years when both spouses are engaged in substantial work, there
is very little redistribution from families with high to low
earnings capacity. Accordingly, at least for families on the
verge of retirement today, introducing a simple system of
privatized or other individual accounts, i.e., a system that
ignored issues of redistribution, would have no major effect on
the distribution of social security benefits net of taxes among
families with different earnings capacities. Moreover, although
privatized or other individual accounts would reduce
redistribution from two earner to one earner families, the
extent of that redistribution is greatly exaggerated when one
compares benefits among individuals arrayed according to
lifetime earnings.

JEL Classification: H55, J14, J26, D31
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"The Economics of Social Security Reform"

      BY: PETER DIAMOND
              Massachusetts Institute of Technology
              National Bureau of Economic Research (NBER)

Document: Available from the SSRN Electronic Paper Collection:
http://papers.ssrn.com/paper.taf?abstract_id=160495

Paper ID: NBER Working Paper No. W6719
Date: September 1998

Contact: PETER DIAMOND
   Email: Mailto:pdiamond@mit.edu
Postal: Massachusetts Institute of Technology
           Room E52-344
           50 Memorial Drive
           Cambridge, MA 02142 USA
   Phone: 617-253-3363
     Fax: 617-253-1330

Paper Requests:
Full-Text downloads are available from SSRN Online for $5.

ABSTRACT:
Economic analysis centers on three questions whether to have a
mixed defined contribution (DC)/defined benefit (DB) plan and
how to invest the funding. The paper compares a DB funded plan
with a funded DC plan without any individual choice. The paper
then considers individu choice about benefits, with particular
attention to widows. Portfolio choice is considered for a
central fund and in individual accounts, particularly the costs
of implementation, as are the implications of greater funding.
The implications for the labor market are examined. The major
economic issues are not controversial. More funding involves
higher taxes (or lower benefits) in the near-term in order to
have lower taxes (or higher benefits) in the long run. More
funding can reduce the frequency of needed adjustments to Social
Security and can increase national savings. These economic
effects are similar with or without individual accounts,
although the politics will differ. The financial advantage of a
diversified portfolio applies to a central fund, whether for a
DC or a DB. Indeed, a DB that adjusts well handles risk better
than a DC. Economically, the case for diversification is clear,
but political questions arise about investing well and avoiding
improper interference in corporate governance. Individual
accounts respond to political concerns and allow diversity in
individual portfolios but add to administrative costs and raise
questions about the quality of individual investment decisions.
They also raise the political question of maintaining
redistribution. It is unclear whether individual accounts would
make the labor market more or less efficient. My bottom line is
that a well-run DB system is economically more efficient than a
mixed DC/DB system. The real issue then becomes how well the US
government could run either system.

JEL Classification: H55
______________________________

"Social Security Money's Worth"

      BY: JOHN GEANAKOPLOS
              Yale University
              Department of Economics
           OLIVIA S. MITCHELL
              University of Pennsylvania, Wharton School
              National Bureau of Economic Research (NBER)
           STEPHEN P. ZELDES
              Columbia Business School
              National Bureau of Economic Research (NBER)

Document: Available from the SSRN Electronic Paper Collection:
http://papers.ssrn.com/paper.taf?abstract_id=226375

Paper ID: NBER Working Paper No. W6722
Date: September 1998

Contact: JOHN GEANAKOPLOS
   Email: Mailto:john.geanakoplos@yale.edu
Postal: Yale University
           Department of Economics
           Cowles Foundation
           30 Hillhouse Avenue
           PO Box 208268
           New Haven, CT 06520 USA
   Phone: 203-432-3397
Co-Auth: OLIVIA S. MITCHELL
   Email: Mailto:mitchelo@wharton.upenn.edu
Postal: University of Pennsylvania, Wharton School
           Wharton Financial Institutions Center
           3641 Locust Walk
           Philadelphia, PA 19104 USA
Co-Auth: STEPHEN P. ZELDES
   Email: Mailto:stephen.zeldes@columbia.edu
Postal: Columbia Business School
           Uris 605B, Dept. of Finance & Economics
           3022 Broadway
           New York, NY 10027 USA

Paper Requests:
Full-Text downloads are available from SSRN Online for $5.

ABSTRACT:
This paper describes how three money's worth measures--the
benefit-to-tax ratio, the internal rate of return, and the net
present value--are calculated and used in analyses of social
security reforms, including systems with privately managed
individual accounts invested in equities. Declining returns from
the U.S. social security system prove to be the inevitable
result of having instituted an unfunded (pay-as-you-go)
retirement system that delivered $7.9 trillion of net transfers
(in 1997 present value dollars) to people born before 1917, and
will deliver another $1.8 trillion to people born between 1918
and 1937. But young and future workers cannot necessarily do
better by investing their payroll taxes in capital markets. If
the old system were closed down, massive unfunded liabilities of
$9-10 trillion would still have to be paid unless already
accrued benefits were cut. Alternative methods of calculating
these accrued benefits yield somewhat different numbers: the
straight line calculation is $800 billion less than the constant
benefit calculation we propose as the benchmark. Using this
benchmark in a world with no uncertainty, we show that
privatization without prefunding would not increase returns at
all, net of the new taxes needed to pay for unfunded
liabilities. These new taxes would amount to 3.6 percent of
payroll, or about 29 percent of social security contributions.
Prefunding, implemented by reducing accrued benefits or by
raising taxes, would eventually increase money's worth for later
generations, but at the cost of lower money's worth for today's
workers and/or retirees.

Computing money's worth when there is uncertainty is much more
difficult unless four conditions hold, namely optimization, time
homogeneity, stable prices, and spanning. Under these
conditions, the diversification of social security investments
into stocks and out of bonds has no effect whatsoever on money's
worth when it is properly adjusted for risk: a dollar of stock
is worth no more than a dollar of bonds. When spanning fails,
diversification can raise welfare for constrained households,
but the exact money's worth must depend on specific assumptions
about household attitudes toward risk. Calculations like those
of the Social Security Advisory Council that attribute over
$2.85 of net present value gain to each $1 shifted from bonds to
stocks completely overlook the disutility of risk. By contrast,
we estimate that a 2 percent of payroll equity fund carved out
of social security would increase net present value by about 59
cents per dollar of bonds switched into equities, instead of
$2.85. When the likely reductions in income and longevity
insurance are factored in, the net advantage of privatization
and diversification is substantially less than popularly
perceived.

______________________________

N E W and F O R T H C O M I N G Articles
_________________________________________________________________

"Sharing the Pain of Social Security and Medicare Reform"
The Retirement Project

      BY: LAWRENCE H. THOMPSON
              Urban Institute
              Executive Office Research

Document: Available from the SSRN Electronic Paper Collection:
http://papers.ssrn.com/paper.taf?abstract_id=256588

           Other Electronic Document Delivery:
           http://urban.org/retirement/briefs/11/Brief11.PDF
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Paper ID: The Urban Institute Brief Series No. 11
Date: August 2000

Contact: LAWRENCE H. THOMPSON
   Email: Mailto:LThompso@ui.urban.org
Postal: Urban Institute
           Executive Office Research
           2100 M Street, NW
           Washington, DC 20037
   Phone: 202-261-5526
     Fax: 202-728-0232

ABSTRACT:
In combination with current trends in health costs, adjustments
now scheduled for Social Security, Medicare and the income tax
are likely to offset virtually all of the increase in Social
Security cash benefits that future economic growth would
otherwise produce. Current law will reduce future Social
Security benefits in two ways, through the increase in the
normal retirement and the expansion of the fraction of benefits
included in the personal income tax base. Medicare projections
suggest that beneficiaries also will have to devote an
increasing fraction of their remaining benefit income to paying
out-of-pocket health expenses and Medicare premiums and
deductibles. Under current projections, the net earnings of
future workers (their earnings after paying income and payroll
taxes) will grow much more rapidly than the net benefits (Social
Security benefits net of health costs) of retirees. The gap
between the prospects of future workers and the prospects of
future retirees is large enough that the current Medicare and
Social Security financing problems could be addressed entirely
through increases in taxes on future workers, without
disadvantaging future workers relative to future beneficiaries.
Indeed, the gap appears large enough also to allow the addition
of a modest prescription drug benefit to Medicare. Restoring
fiscal balance to Social Security and Medicare through higher
taxes on future workers also does not appear to create
intergenerational equity problems. The intergenerational
transfers that current children can expect to receive from their
parents within the confines of a typical family would still
exceed the burden of the payroll tax payments flowing from these
children back to their parents over the balance of their work
careers.