David R. Henderson  

Peter Diamond on Social Security

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In 1977, President Carter proposed that Social Security benefits be indexed, not to the price level as had been the case, but to wages. Because real wages tend to rise, this wage indexing would be expected to cause Social Security spending to rise faster than otherwise. Someone who understood this at the time was recently designated Nobel Prize winner Peter Diamond.

In a speech he gave in 2005 while he was chairman of President Bush's Council of Economic Advisers, Greg Mankiw quoted from a May 1977 letter to the New York Times opposing wage indexing. Diamond co-authored it with James Hickman, William Hsiao, and Ernest Moorhead. They wrote:

the wage indexing method calls for a much larger growth in benefits for future retirees at a time when the country may not be able to afford it....Only a Social Security system without a large deficit on the horizon can have the flexibility to deal with this and other needs. It would be sad if the legacy of a particularly forward-looking President were a political nightmare.

Unfortunately, Carter got his way and we are now living that nightmare.

HT to Glenn Hubbard and Peter Navarro


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CATEGORIES: Social Security



COMMENTS (15 to date)
Joe Cushing writes:

We need to index retirement age to life expectancy. This means the age would grow by about 3 months a year if what I heard is correct about life expectancy. What will we do if scientists find that fountain of youth gene therapy they are looking for. It's not unrealistic to think people could live to be 150 or even 1500 years old. Before age 12, people don't age, then we switch and start aging. if they can turn that switch off or reverse it, people will not age.

R. Richard Schweitzer writes:

Of course, the Constitution gives authority to levy the TAX that is the FICA tax.

But, does it provide authority for the appropriations that source SS benefits?

The same is true of Medicare, is it not?

And then Medicaid - whence the authority for those appropriations?

AND - are those appropriations not the principal source of Federal fiscal destruction ( not creative in any way)? Plus in the case of Medicaid, fiscal destruction at the state levels as well?

R Richard Schweitzer writes:

The only "final solution" to the destructive effects of those departures from the Constitutionally authorized functions of government is to transition the exit of the Federal government from the function of providing retirement and medical care benefits.

Hyena writes:

Mr. Cushing,

IIRC, most of the increase in life expectancy is from the drop in infant mortality. Indexing Social Security against life expectancy, then, might cause the average person to collect payments for a shorter period today than in 1935. To properly index, you'd need to start with mean life expectancy when a person begins contributing rather than at birth.

But these aren't the real issues. The serious problem is that Social Security operates on Malthusian assumptions about the workforce. That it holds warrants on future tax revenues is a problem, but so too if it held a portfolio of US securities under the same scheme. By design, it fails to capture a large amount of the productivity gains in the US because of the earnings cap. Moreover, the same demographic trend would depress the value of warrants on all future US income, private or government, unless you were fully capturing productivity gains.

The only solution would have been, decades ago, to start investing Social Security in what are now developing economies. But that wouldn't have been a sure thing: it would have meant, for one, investments in Japan. The long years ruin many things.

Rick Stewart writes:

If we can't simply cancel the SS concept (everyone over age XX has a right to be supported by everyone under age XX - did I get that right?), why can't we at least agree on a ratio, rather than a retirement age?

In other words, for every X working stiffs, we get to have one (elderly) couch potato. When a couch potato dies, the oldest working stiff in the country gets to take his/her place. Or when X deadbeat teenagers finally get off their duffs and get jobs, the oldest working stiff in the country gets to join the couch potatoes.

When employment drops, the lowest seniority couch potatoes temporarily lose their welfare checks, but not their places in line.

Rather than the current 'statement of benefits' the SS Administration sends out every year, they could just send you your current rank among the working stiffs, and their best guess as to when you might make it to the top of the list.


David R. Henderson writes:

@Hyena,
You make a good point about where some of the increase in life expectancy has come from: from the "front end" and not just the "back end." [Those are my terms.]
You do fall into the government's trap, though, of labeling taxes as contributions. There's always one clear test for whether something is a contribution: if you refuse to "contribute," do you get punished? If so, it's not a contribution.

Hyena writes:

Prof. Henderson,

I don't see this. Choice is not necessary for contribution; people contribute to a variety of things for different reasons. "Being forced to" is one of those reasons, fairly common and less effective than people often imagine.

Hyena writes:

Also, I specifically avoided "tax" because it tends to bend discussion towards taxation and its associated issues, thus away from the actuarial issues with Social Security itself, where discussion lay.

Ben Bursae writes:

Hyena,

I disagree with your characterization of a contribution. 'Contribute' is defined as 'to give (money, food, etc.) to a common supply, fund, etc.' The key word is 'give', which is further defined as 'to present voluntarily.' Voluntary choice is an essential part of a contribution, and to call something that someone pays in fear of punishment (e.g., a tax) a 'contribution' is disingenuous at best.

I think Prof. Henderson points this kind of thing out because when people don't question such terms being bandied about by politicians, then the terms eventually take hold in a culture's lexicon and people more lazily accept the other ramifications of the terms (e.g., if you want to eliminate or otherwise significantly reform the current social security system, you're "greedily trying to not do your fair share," which follows from the idea that one's social security is his/her "contribution").

David R. Henderson writes:

@Hyena,
Would you say, therefore, that when someone mugs me on the street and says, "Your money or your life," and I give him my $40, I am contributing $40?

R. Richard Schweitzer writes:

@ Y'all

Groucho had a great answer: Take my life, I'm keeping my money for my old age.

Examine F I C A:

F: It is Federal

I: It is not Insurance, per SCOTUS.

C: They are collections of tax.

A: As taxation, it is an Act, authorized by the Constitution.

Doc Merlin writes:

@Schweitzer:
That is something of a strawman, no one is arguing that FICA TAX isn't constitutional, they are arguing that the spending for it is unconstitutional as it isn't listed as one of the powers of congress.

Hyena writes:

Prof. Henderson,

I don't see why not.

Rich writes:

I don't understand the post. It seems to be saying that Carter wanted to index to wages, rather than consumer prices, and despite opposition from Diamond, Carter got his way. But SS is indexed to CPI-W, is it not? So how did Carter get his way?

Dan Weber writes:

Rich,

See http://www.ssa.gov/OACT/COLA/AWI.html

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