Arnold Kling  

Lifespan, Social Security, and Medicare

Computers and Productivity... Michael Powell Resigns...

Continuing to peruse Brad's reading list (see preceding post), I came across an article on the topic I raised in my Lifespan essay. The article is by Ronald Lee and Jonathan Skinner.

We find that the prospects for longevity are considerably brighter than currently expected by the Social Security Administration. This is good news for the baby boomers and only modestly bad news for the Social Security trust fund since more people are also expected to survive through the working ages, meaning a larger-than-expected number of taxpayers in the future. But there is considerable uncertainty about the state of the Social Security trust fund; stochastic simulations for the year 2070 show a 95 percent confidence interval with a range of $54 trillion!

...Thus the many proposals to ‘‘fix’’ Social Security and Medicare in expected value terms can still result in empty trust funds should the projections be wrong. For example, one proposed fix—an immediate 2 percentage point increase in the Social Security payroll tax—still leaves a 75 percent chance of the Social Security trust fund going bankrupt before 2070

To me, this argues for changing the structure of these programs to reduce their sensitivity to intergenerational demographic trends.

The authors point out that better health among the elderly has two effects on health care spending, one favorable and one adverse. The favorable effect is that at any given age, people now require less health care. The unfavorable effect is that more people live to ages that require large expenditures, particularly for nursing homes.

For Discussion. What other factors affect the trend in health care spending among the elderly?

Comments and Sharing

CATEGORIES: Social Security

COMMENTS (15 to date)
Ravi writes:

Yes. Indexing the retirement age to longevity (with a concurrent expansion of disability benefits to cover those who work in physically demanding professions they can no longer perform) is a potentially sensible reform. But are we anywhere near having that sort of debate? And if not, do you think a private account proposal will make it easier or harder to have it? I'll note that like with an IRA, the "retirement age" becomes the age at which you can spend the contents of your private account without penalty...

Boonton writes:

The IRA approach has a serious problem. If an unexpected breakthrough dramatically extends your lifespan you are stuck with only a few prospects:

1. Withdraw less from your IRA each year, thereby stretching it more.

2. Go back to work.

This is your option if the unexpected increase hits early in your retirement but what if it hits late? You may not be physically able to go back to work therefore you are forced to stretch your IRA even more. Some media suggests aiming for an IRA that will be drawn down over 10-15 years. Again you have a serious problem if you hit 85 and discover that instead of being on the brink of death you have a good 15 years still left.

Annuities will be the first answer of the free market crowd but this just begs the question. If insurance companies can accurately predict lifespan an annuity will force you to choose option 1 because they will demand a high price. If insurance companies fail to make a good estimate of expected lifespans they will sell annuities for less than optimal price. Some retirees may make out with this windfall but insurance companies may not be able to bite the bullet for this error and end up in bankruptcy court with cries for a Federal bailout not far behind.

Social Security, IMO, is a nice counterbalance to IRA's and traditional savings because benefits automatically increase if you life longer. If you can breath (even with a machine), then you get a check. With an IRA you are likely to either over save at the start of your retirement for fear of living long or undersave and not discover it before you are too old to do anything about it.

I'll agree SS will have to be radically restructured if some breakthrough suddenly alters the equation in a radical way. For example, a pill that gives you an expected lifespan of 150 years. If the equation changes in a gradual way (again I'll remind everyone that SS actuaries in 1934 were able to predict the percentage of Americans over 65 in 1990 with an accuracy of less than three tenths of a percent) SS can be changed in a gradual way as well.

Suppose someone does invent an immortality pill? How would SS change? How would private accounts change? I'd suspect that 'retirement' would change into extended vacations. In such a sci-fi scenero people may spend 35 years working on their first job, then 15 off living off of their private accounts & modified SS benefits only to begin another round of 35 years of work. SS would become something more along the lines of a National Entitlement to an extended Holiday.

Mcwop writes:

The draw down time period that my company uses (financial services) is 30 years. MOst models that I see in the industry are using this extended timeframe.

Boonton writes:


I'll yield to your superior knowledge of the industry. Yet assuming you're starting at 63 or 65 a 30 year drawdown assumes you'll live to 93 or 95. For a person who is just planning for consumption this is likely to result in a retirement that is too stingy (someone interested in passing on an estate is different. But note that SS works nicely for those interested in passing something on, if you're able to avoid spending your whole check the longer you live the larger the inheritance. This does not work with a 401K).

I wonder if your industry might be partly motivated to use this long drawdown time because it would encourage larger investments which means larger commissions and fees? Do you feel the annuity industry is using estimated lifespans of 30 years past 63 to price their products?

Bob writes:

Health care expenditures really are not "demand driven" IMO. People consume what is available (especially with a third payer). The increase in the elderly population has increased the incentive to develop new healthcare treatments and services for the elderly population. Which the elderly, of course, are happy to consume. There is a multiplier working against us here. But it isn't all bad - most of us will be elderly one day and will appreciate those treatments being available. But a possible downside is fewer resources going into diseases that impact smaller populations (depends on how binding resource constraints are). I'd rather, from a social perspective, see a cure for MS than for one variant of Alzheimer's, even if it effects as many people.

Mcwop writes:

Boonton, I should have added some more detail. The 30 years is commonly used as a base assumption with retirement age starting at 65. This base is used for managing pooled funds such as a 2040 fund, which winds down more conservatively as the year 2040 approaches (a glide path using longevity beyond the year 2040 determines the asset allocation leading up to 2040). It also assumes a 90% probability of not running out of money.

For a married couple retiring at age 65, there is a 25% chance one person makes it 30 years. A 50% chance that the male makes it to 81, and female to 84 for about a 20 year retirement. While %’s associated with the 30 year longevity are lower than the 20 year, it is the more conservative number to use. Basically, if you want a better guarantee use 30 years.

Now, when working with individuals, preferences can be collected when calculating a draw-down strategy. Preferences such as longevity of parents, health etc... The trade off is that the retirement could be on the stingy side, but the likelihood of running out of money 5 years before death is much smaller as I stated before. In the end the investor will know where they stand and have some choices when picking a strategy, and can choose one with

Mcwop writes:

Somehow my post got truncated - here it is in its entirety:

Boonton, I should have added some more detail. The 30 years is commonly used as a base assumption with retirement age starting at 65. This base is used for managing pooled funds such as a 2040 fund, which winds down more conservatively as the year 2040 approaches. It also assumes a 90% probability of not running out of money.

For a married couple retiring at age 65, there is a 25% chance one person makes it 30 years. A 50% chance that the male makes it to 81, and female to 84 for about a 20 year retirement. While %’s associated with the 30 year longevity are lower than the 20 year, it is the more conservative number to use. Basically, if you want a better guarantee use 30 years.

Now, when working with individuals, preferences can be collected when calculating a draw-down strategy. Preferences such as longevity of parents, health etc... The trade off is that the retirement could be on the stingy side, but the likelihood of running out of money 5 years before death is much smaller as I stated before. In the end the investor will know where they stand and have some choices when picking a strategy, and can choose one with

Mcwop writes:

I guess I went over the limit here it is continued - sorry for the length:

Bob Dobalina writes:

All of the scenarios use Monte Carlo analysis (thank god for fast computers these days) to present options to the investor in terms of probabilities. Investors have access to great info.

Not really. They have great tools that allow them to run simulations. A MC is only as good as its inputs and assumptions-- and the assumptions are little more than conjecture. I think there's a serious GIGO effect at work.

Boonton writes:

Thanks MCwop,

I think you still have to admit there is an element of risk to just having a 401K/privatized account. Even with a 90% chance of not running out of assets within 5 years of death leaves 10% open. In an America of 300M that would be 30M (not all at once though). Before we say it would be inexpensive to provide funds to just those unlucky few the existence of a bailout mechanism will change the risk profile people are willing to accept. In essence, it would be like driving someone to a casino and telling him you'll keep giving him chips until he wins $1M. He will eventually win but you'll end up broke.

That's also assuming everyone enjoys as professional advice as you and your company give. I can tell from your reference to the big brokerage houses you do not feel very confident that all Americans will be as lucky as your clients.

Do you think you would consider a return to the original vision of SS - A three legged retirement system with SS providing a low cost annuity type benefit that serves as a base, private savings and employer provided pensions (now being replaced by 401K's and IRA's)?

An interesting proposal that Arnold had a while ago would be to turn unemployment insurance taxes into a private account that people could tap whenever they left work (regardless of circumstances). If you took that and combined it with a 1 or 2% mandatory contribution to a private-IRA you would have a pretty potent savings tool to add on top of Social Security.

Mcwop writes:

I think I am with you for the most part Boonton, and I don't want to fully privatize SS. I do feel the system needs to be scaled back/restructured to truly be a safety net, not crowd out the rest of the budget, provide fair returns for contributors, not tax so much of payroll, and be more flexible.

The big brokerages are a mixed bag. A few are terrible, and a few are very good. Competition is beginning to change things there for the better, and they are learning that unhappy investors will go elsewhere (all too easy in the internet age). In a privatized SS scenario (partial or otherwise), I would not turn the assets over to any firm of a taxpayers choosing. Simply set up a Thrift Savings Plan II. That would be a fine compromise, and easy/cheap to administer.

Boonton writes:

One idea would be switching over to a consumption tax. Social security would continue at around 6% of GDP but people could build up savings accounts of any size they wish investing anywhere they wish...except perhaps comic books which might fall under consumption ;)

Personally I don't think 6 or 7% of GDP is excessive. Healthcare is another issue and I think any solution there would have to be along the lines of fixed vouchers that have universal coverage.

Already on the private savings front there are already massive tax subsidies for 401K's/IRA's and home ownership. Each intervention in the market needs to be justified & going even deeper requires even stronger justifications. One explanation that Arnold has proposed is simple massive market failure. People & private companies simply are not accounting for the real possibility of extended lifespans in the near future. Or that people just don't save enough because they only get one shot at life. (Brad de Long has written, though, that US saving rates aren't bad when you count appreciated home values as part of savings).

Arguing market failure takes some bravery, though. You are asserting that you have figured out something that millions of people in the market have missed.

Edge writes:

McWop, this is the basic reason why a program like SS or Medicare are attractive.

With pooled risk, people don't have to plan based on a 30 year retirement period. They can plan based on something closer to 15 years. They just aim at the average, not the 90th percentile.

This might be achievable in the private sector, with an appropriate insurance/annuity product, but having a pool that includes more or less the entire population will always work out to be something like 10% more efficient than any self-selected private pool can provide, I believe.

FWIW, I think Medical Savings Accounts are fine, and they are particularly better than the current single-year FSA accounts where you have to spend all your money in a single year. But again, they cannot be used to cover health care in old age, because you lose the pooling of risk, so you need to save a whole lot more than necessary to get a given level of health care with a 90% chance you won't run out of money.

Edge writes:
I do feel the system needs to be scaled back

Has the FICA tax rate been oppressive during the past 22 years? Remember, this includes both the Reagan and Clinton expansions.

Q: If we will have more people of retirement age living longer, should we reduce the resources allocated to supporting them; leave it level; or increase it?

I think the only logical answers are to leave the funding level or increase funding.

The rational approach would be fix the general budget so that current revenue roughly matches current spending, on budget. Then use the $3.5 or so $Trillion of surplus the SS trust will generate over the next 13 years to pay down publicly held debt, or if conservatives are willing, to purchase private assets. Perhaps allow independent SS trustees to invest in exactly the same asset classes as are offered through the Federal Thrift Savings Plan, as well as Treasury bonds.

Then we'd get to 2018 with a managable gross debt as a fraction of GDP, and we could reevaluate the longer term finances required to support SS.

John Steinsvold writes:

Home of the Brave?

Economists concede that economics is an inexact science. What does that mean? Perhaps it means their economic forecast is better than yours or mine.

Recently, economic indicators have been rising and people have their fingers crossed. Economists have given us reason to hope that the job market will improve and that the stock market will continue on a steady climb. Yet, the newspapers continue to report more layoffs and more jobs going overseas.

Meanwhile, our economy is getting more and more complex. We associate complexity with progess for some ungodly reason. The following problems, however, have become inherent in our economy. What does that mean? It means they will be around for a while:

Needless poverty, unemployment, inflation, the threat of depression, taxes, crimes related to profit (sale of illicit drugs, stolen IDs, muggings, bribery, con artists, etc.), conflict of interest, endless red tape, a staggering national debt plus a widening budget deficit, 48 out of 50 states in debt, cities in debt, counties in debt, skyrocketing personal debts, 50% of Americans unhappy at their work, saving for retirement and our children's education, health being a matter of wealth, competing in the "rat race", the need for insurance, being a nation of litigation, being subject to the tremors on Wall Street, fear of downsizing and automation, fear of more Enrons, outsourcing, bankruptcies, crippling strikes, materialism, corruption, welfare, social security, wasteful competition, sacrificing quality and safety in our products for the sake of profit, the social problem of the "haves" vs. the "have nots" and spending money to fix the problems that money creates.

Have we become gluttons for punishment? My college professor once said, “You can get used to hanging if you live long enough!”

We Americans love our freedom; yet, we have allowed the use of money to completely dominate our way of life. Indeed, we are no longer a free people. We are 7.4 trillion dollars in debt. We live in fear of depression, inflation, inadequate medical coverage and losing our jobs. Our freedom is at stake if not our very survival. Yet, we put our collective heads in the sand.

Yes, there is something we can do. We can look into ourselves for an answer. We may find that we have the strength to carry out our internal economic affairs without the need to use money. Yes, we will still need to use money when dealing with other countries.

There is no question that a way of life without money will alleviate if not completely eliminate all of the previously mentioned problems. Yet, we scoff at the idea. We are totally convinced that money is a necessity. We cannot imagine life without money. Perhaps the time has come to think otherwise. It is completely obvious our present economy no longer satisfies our present day needs.

As individuals, we will gain complete economic freedom. In return, a way of life without money demands only that we, as individuals, do the work we love to do. It is a win/win situation. Let us consider the following arguments:

Can we learn to distribute our goods and services according to need (on an ongoing basis) rather than by the ability to pay? Why not? Poverty and materialism will be eliminated! Our sense of value will change. Wealth will no longer be a status symbol. A man will be judged by what he is; not by what he has. He will be judged by his achievements, leadership, ideas, artistic endeavors or athletic prowess; not by the size of his wallet.

Yes, everything will be free according to need. All the necessities and common luxuries will be available on a help yourself basis at the local store. Surely, this country is capable of supplying the necessities and common luxuries for everyone in this country many times over.

The more “expensive” items, such as housing, cars, boats, etc. would be provided for on a priority basis. For example, the homeless would provided housing ahead of those living in crowded quarters. How will this priority be established? Perhaps a local board elected by the people in the neighborhood such as a school board. Or perhaps the school boards could absorb this responsibility in addition to their present duties.

Since cooperation will replace competition, can government, industry and the people learn to work together as a team to meet the economic needs of our nation as well as each individual? Again, why not? Yes, competition is great; but cooperation is even better. Cooperation avoids duplication of effort. Wouldn’t it be more efficient to have everybody freely working together, sharing ideas, thoughts and technical knowledge? Patents and industrial secrets would be a thing of the past. Competition, however, will still be around. Individuals will still compete with their coworkers in ideas, achievements, leadership and getting promotions.

For example, Ford, Chrysler & GM would work together to build automobiles that are truly safe and efficient and environmentally friendly. Perhaps, with everyone working together, we can invent a car engine that would eliminate the need to import oil from the Middle East. (Note: Ford, Chrysler & GM would gradually become one entity.)

Unfortunately, what immediately jumps into the minds of most people is: “It simply won’t work!” The idea of a way of life without money is then dismissed without further thought. After all, what motivation is there for people to work if there is no paycheck? How can we possibly satisfy the labor needs of our nation? The following reasons are offered why people would be completely happy working in a way of life without money:

(1) Today, only 50% of Americans enjoy their work. That will change. In a way of life without money, we will all be free to do the work we want to do or even love to do without any economic fear. We will be free to pursue our passion or as Joseph Campbell suggests we “follow our bliss”.

(2) Cooperation will replace wasteful competition. We will all work together as a team. Work will become a way to help people, to meet people or to be part of something meaningful. It is a proven fact that people like to help one another. An esprit de corps will naturally build up and make work more enjoyable. Even the most menial task becomes easier when people work together. Yes, work will become more of a “togetherness” thing.

(3) The profit motive will no longer be a hindrance to efficiency. There will be no need to sacrifice quality and safety in our products for the sake of profit. We will, like in the olden days, take pride in our work.

Yes, there is very likely to be a shortage of people volunteering to do the more menial tasks. One option is to offer “perks”. A perk can be of various forms such as front row season tickets to the opera or to his or her favorite sports team. Can you imagine an NBA basketball game where the celebrities are sitting in the back rows while the dishwashers and janitors are at courtside? (My apologies to Spike Lee & Jack Nicholson!) Or the perk could be the latest model boat or sports car which would not be immediately available to the public. Another option is to draft everyone once in their lifetime, to do a half year or so stint at a menial task. Perhaps a humbling experience is in order for all of us. It might serve us well in the area of character building.

Also, consider the fact that perhaps millions of people will be freed from jobs associated with the use of money. Millions more that are now unemployed or on welfare will also be available to help fill the labor needs of our country. Thus, we will have the work force necessary to do the work which is not economically feasible in our present economy such as cleaning our environment (land, sea & air), conservation, recycling, humanitarian work, research in medicine, education, science & space and now we can include national security.

Perhaps the most difficult problem is in the administration of a way of life without money. Can we learn to determine our economic needs, allocate our resources from the federal on down to the neighborhood levels? Perhaps some sort of economic bodies must be created to coordinate, monitor and carryout our economic needs. These economic bodies would exist similar to our governments, one for the federal, one for each state and one for each local level.

Yes, in order to administrate a way of life without money, economic bodies, boards or councils or whatever you wish to call them would be created to absorb economic responsibility from our various governments. They will interact and cooperate with one another to meet the economic needs of our country and of each individual. They will be empowered by Congress to tend to the economic needs of its constituents. Thus, a balance of power will be safely maintained.

Our federal needs, which would be similar to the federal budget we have today, will be resolved by an economic body comprised of representatives of the various branches of government, our industrial & labor resources, research (in medicine, education, science & space), our environment, conservation, importing & exporting, and now, national security and whatever facet of our way of life should be represented. This economic body will arrange for the labor and material resources necessary to meet the economic needs of our nation.

Similarly, the same will occur at the state and local levels. The economic body at the local levels will be responsible for providing services to the people in the neighborhood. If the labor needs cannot be met with volunteer workers, “perks” must be offered. Also, the economic body at the local levels will be responsible for keeping the stores stocked with food, clothing and the common luxuries which will be available free. Thus, the economic needs of the nation right on down to the neighborhood levels would be determined and satisfied by these economic bodies.

How much economic responsibility will these new bodies absorb from our federal, state and local governments? How much will be shared? Can a balance of power be maintained? At any rate, our federal, state and local governments will be relieved of considerable amount of economic responsibility. Thus, our various governments will be free to catch up on all the other domestic and foreign issues that face us.

Yes, we will still import and export goods with foreign countries as our needs dictate; but what money will be used in place of the almighty dollar? Would the dollar have any value if everything is free in the USA? Would that be a problem? We would, however, still be able to use the currency of the country we are doing business with. For example, if we export goods to Germany, we would accept marks or euros in payment. The euros would then be deposited in our national treasury for future use. The money could then be used to import goods or perhaps send Americans overseas on vacation.

Yes, a way of life without money could be compared to the kibbutz which now exist in Israel. Can you picture the USA as one big kibbutz? However, ownership of property will remain the same as it is today. Our government will remain the same. Our free enterprise system will remain in place as it is today. There will be no need for money or any substitute for money since everything will be free according to need.

The transition from our present economy to a way of life without money appears overwhelming; but it is a temporary problem. Remember, the advantages to be gained stagger the imagination; but they are real and cannot be disputed. Perhaps it is time for us to grab the brass ring.

John Steinsvold

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