State of the Union: Social Security

January 21, 2004

President Bush stated last night that younger "workers should have the opportunity to build a nest egg by saving part of their Social Security taxes in a personal retirement account." Although the president has given no specifics, two options proposed by his carefully selected Commission to Strengthen Social Security in 2001, which consisted only of supporters of partial privatization, may give some indication of what is in store. One option would allow workers to divert 2.5 percent or approximately 20 percent of their Social Security contribution to individual accounts; and the second option would allow workers to divert 4.5 percent of payroll or 36 percent of their Social Security contributions up to $1,000 into individual accounts.

• Privatization of Social Security does not come for free. To offset this loss of funds for Social Security would mean cutting benefits to everyone, even those that do not opt to participate in diverting their funds to individual accounts. Under the 2.5 percent option, benefits would be reduced because they would be tied to inflation rather than wage growth. Benefits would be 17 percent less for somebody, who was 35-years-old in 2002, who do not choose to participate in the individual account option, according to estimates by Peter Diamond and Peter Orszag. Under the 4.5 percent option, benefits would be cut with increased longevity, among other benefit cuts. Benefits for a baby born in 2001 and retiring at age 62 would be 32 percent less than under current law.
• Privatization would significantly worsen Social Security's long-term financial outlook. To cover the shortfall, the proposals would require significant transfers to Social Security. The 2.5% option would require a net present value of $2.2 trillion in 2001 dollars, whereas the 4.5% option would require $2.8 trillion in 2001 dollars

Instead of privatizing Social Security, the president should offer a new Universal 401k plan to all Americans, with generous matching benefits for low-income workers currently having the hardest time saving. American Progress Director of Economic Programs, Gene Sperling, has developed a plan that would give Americans a matching contribution of up to $1,000 a year in savings deducted from their paychecks. For middle-income families, it could be a one-to-one match; for low-income families, it could be a two-to-one match — or they could even receive seed money to start their savings. A family eligible for a two-to-one match could accumulate a nest egg of $250,000 in today's dollars simply by contributing $700 a year for 40 years, assuming a 5 percent rate of return.

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