Privatization Worsens Outlook for Medicare and Social Security

Americans are anxious about their retirement, and for good reason. Private health insurers are providing fewer benefits at greater costs, and private pensions are slowly eroding. The only place where retirees can find solace is in the guaranteed benefits of Medicare and Social Security. These tremendously popular programs have helped to lift millions of elderly Americans out of poverty and allowed them to retire in dignity and in decent health. Despite their success, however, Medicare and Social Security face growing threats from those who would use financial projections "to infinity and beyond" to justify an entitlement-cutting and privatization agenda.

When the Medicare and Social Security trustees release their annual reports on Tuesday, much attention will be paid to their projected shortfalls. New long-term projections of 75 years or more – longer than the programs have existed – make the calculations very questionable. (Because the future is so uncertain, Congress and the administration have already rejected 10-year budget outlooks in favor of five-year projections.) But even without these new "infinite horizon" projections, the outlook for Medicare will inevitably be worse than in recent years, whereas it likely will remain unchanged for Social Security. One reason for the growing shortfalls in Medicare is the ill-advised move toward greater privatization of the program, which was the centerpiece of the new Medicare law President Bush enacted last year. Thus, the trustees report should be a cautionary note for those who seek to privatize Social Security.

Contrary to the original rationale for privatizing Medicare, the Medicare trustees' report will clearly demonstrate that privatization increases rather than decreases Medicare costs and thus worsens the program's financial outlook. That privatization costs money, and lots of it, is not a secret. Private companies want to make a profit for offering health insurance. In exchange, they are supposed to offer their services much more efficiently than the government does. Medicare used to reflect that compromise by paying private health plans 95 percent of Medicare's costs. The private plans broke their end of the bargain and fled the program, arguing they were underpaid. In passing the new Medicare law, President Bush and Congressional leaders acquiesced to the private plans' demands, removing any pretense that privatization would save money.

The new Medicare law dramatically increases payments to private health insurers. Even before enactment of the new law, private insurance plans were paid an average of 103 percent of what it would have cost traditional Medicare to care for their enrollees. The new Medicare law has already increased those overpayments to 107 percent and may eventually lead to overpayments of 125 percent or more. The Congressional Budget Office said private insurance companies would gain an additional $14 billion from the new law, while the White House estimated they would gain $46 billion in the next 10 years. Though Congressional and administration officials differed in their precise cost estimates, they agreed on one point: Medicare's cost for beneficiaries in private plans "would be substantially higher than the cost of those beneficiaries" in traditional Medicare. Thus, the drive to lure seniors out of traditional Medicare and into private health plans will result in the deterioration of the Medicare trust fund.

As the Medicare experience shows, there is no such thing as a free lunch. This also holds for Social Security. Under the proposals for Social Security that President Bush's Commission to Strengthen Social Security put forth in 2001, part of workers' contributions could be invested in individual accounts. Taxpayers have to pick up the tab for the lost revenue to Social Security. Massachussetts Institute of Technology Professor Peter Diamond, together with Brookings' Peter Orszag, estimated that this could total $3.1 trillion in 2001 dollars, if up to 2.5 percent of payroll were allowed to be invested in private accounts. Additionally, individual account holders would have to start paying fees to private management companies for handling their money. Average fees of 1.4 percent of assets each year are typical. Dean Baker, co-director of the Center for Economic and Policy Research, estimates that for a worker who placed $1,000 in an account every year for 40 years this would quickly lost more than $20,000 in lost savings. If President Bush has his way, and Social Security is privatized, its price tag will also skyrocket.

Medicare and Social Security are enormously successful programs. Generations of Americans rely on them for their current and future retirement needs. Radical changes, such as privatization, are likely to increase taxpayers' costs and undermine the guarantees Medicare and Social Security are supposed to provide. That would be a case of missing the forest not for the trees, but for the infinite horizon.

Terri Shaw is the associate director for Domestic Policy and Christian E. Weller is a senior economist at the Center for American Progress.