Silly Statements on Social Security (In)Solvency

Bob Somerby began his Daily Howler in April 1998 devoting his second and third editions to how the press fails to grasp the issues in the Social Security debate. With Christine Romans taking the place of Kathleen Hays on Saturday’s On The Story, I was hoping for some wisdom but alas got:

When you look at the numbers, depending on what kind of re-overhaul you’re going to get, basically for people like us and for older people it doesn’t look as though benefits are going to be cut. But our children, our grandchildren are probably going to have to see some sort of scaleback in benefits, maybe pretty substantial, 45 to 65 percent for children who aren’t even born yet. And you’re probably going to have to raise the retirement age. Alan Greenspan has said that several times, that you are going to have to start thinking about working a little bit longer…And plan to – you know, plan to last until you’re 90 because you’re going to need that much money. Don’t count on Social Security.

The average viewer would think the Social Security system is horribly unfunded. The good news is that the very smart conservative Andrew Samwick and and the very smart liberal Max Sawicky are having a cordial and productive exchange over various issues including the solvency of the Trust Fund. Andrew captures the (lack of) policy debate very well with:

The trouble in this debate is that the people on the political right seem to want to lead with the personal accounts rather than the solvency issue (even though Commission Model 2 achieves both). My fear is that, in the process of making this an issue, we’ll get the personal accounts without restoring solvency.

Max notes:

I don’t get excited about measures of the present value of unfunded liabilities from now till forever because I think they are jive. It’s a way of ginning up a huge number. If you want to do that, compare it to the present value of GDP.

I like this suggestion, which was taken up by the OASDI Trustees Report in Table IV.B.8. Let’s do as an illustration, a back of the envelop calculation of the present value of GDP [V(GDP)] and the present value of revenues coming into the Trust Fund “through the infinite horizon” [V(R)] by assuming a Gordon growth model where V = cash flow/(r – n) with r = the discount rate and n = expected growth. Let’s assume that r exceeds n by 1% and that Social Security receipts will equal 6% of GDP under current tax rates. With current GDP at $11.5 trillion per year, V(GDP) = $1150 trillion and the sum of V(R) plus accumulated reserves (the latter just over $1 trillion is just over $70 trillion. The hard part of any modeling exercise is to estimate the present value of expected Trust Fund benefits to be paid out V(B). But I’ll cheat by using the Trust Funds estimate of the shortfall and assert a reasonable model has V(B) = $80 trillion.

Using this back of the envelop present value logic, which should be familiar to those Wall Street analysts that Ms. Romans hangs out with, one could readily argue that if benefits were reduced by less than 15% today for all generations, the Social Security system would be solvent. The alternative wold be not to cut benefits but to raise more revenue with the additional amount needed being less than 1% of GDP. This Trust Fund deficiency compares to the General Fund insolvency that is around 3% of GDP.

Even taking the lower end of Ms. Romans statement, she seems to be saying V(R) is only 55% of V(B), which strikes me as incredulous. But maybe my back of the envelop is wrong in two ways. Is she assuming a higher retirement period (longer life expectancy with the same retirement age) so that V(B) = $90 trillion? So why would not a 25% cut in benefits now do the trick even in her model? Unless her model is also based on the premise that V(R) is only $50 trillion, which might be the case if Bush’s fiscal policies are designed to divert about a one-fourth of the Social Security payroll contributions to paying off the General Fund deficits. Of course, it would be nice if the financial pundits like Ms. Romans would understand these issues well enough to articulate these implicit assumptions as they make their gloom-and-doom claims about Social Security insolvency.