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Greenspan Rehashes Social Security Speech for Senate
Aging Committee
March 15, 2005 – Federal Reserve Chairman Alan
Greenspan presented a rehash of his speech on Social Security at a
hearing this morning of the U.S. Senate Committee on Aging that was
entitled “Exploring the Economics of Retirement.” He highlighted the
economic burden of baby boomers reaching retirement, the Congress
breaking the “lock box” that once secured Social Security funds and his
favoring of private investment accounts that take the money out of the
hands of the Congress and President.
“Balancing the income and outgo of the Social
Security system may now be our principle focus, but as we will hear
today, a primary goal of any legislation should be to increase national
savings and stimulate the increased productivity needed to achieve
higher economic output,” said committee chair Sen. Gordon H. Smith in
introducing Greenspan.
He also pointed out that Greenspan chaired the
bi-partisan Social Security panel that “helped forge the last rescue of
the program in 1983.” It was from this plan that the age for drawing
Social Security was raised.
“The economics of retirement are straightforward:
Enough resources must be set aside over a lifetime of work to fund
consumption during retirement. At the most rudimentary level, one could
envision households actually storing goods purchased during their
working years for use during retirement,” Greenspan said in opening his
presentation.
He said, “Despite the improving feasibility of work
at older ages, Americans have been retiring at younger and younger ages.
For example, in 1940, the median age of retirement for men was 69;
today, the median age is about 62.”
“In recent years, labor force participation among
older Americans has picked up somewhat, but it is far too early to
determine the underlying causes of this increase. Rising pressures on
retirement incomes and a growing scarcity of experienced labor could
induce further increases in the labor force participation of the elderly
and near-elderly in the future,” he added.
“In 2008, the leading edge of what must surely be
the largest shift from work to retirement in our nation’s history will
become evident as some baby boomers become eligible for Social
Security,” said Greenspan.
“According to the intermediate projections of the
Social Security trustees, the population 65 years of age and older will
be approximately 26 percent of the adult population in 2030, compared
with 17 percent today.
“This huge change in the structure of our
population will expose all our financial retirement systems to severe
stress and will require adjustments for which there are no historical
precedents. Indeed, retirement, generally, is a relatively new
phenomenon in human history. Average American life expectancy a century
ago, for example, was only 47 years. Relatively few of our citizens
were able to enjoy many post-work years.”
On personal savings accounts for Social Security,
he said, “The major attraction of personal or private accounts is that
they can be constructed to be truly segregated from the unified budget
and, therefore, are more likely to induce the federal government to take
those actions that would reduce public dissaving and raise national
saving.”
Chairman Smith said, “Raising future taxes for
Social Security or accumulating stocks and bonds in new personal
accounts will mean little if the economy has not expanded sufficiently
to match the consumption needs of an older nation. It is the economy's
capacity to grow over the next few decades that offers the greatest
security to our aging population.”
Editor’s Note: Once again there was no advance
news release about this hearing issued by the Senate Aging Committee.
Below is the complete text of the comments by
Greenspan.
Statement of Alan Greenspan, Chairman, Board of
Governors of the Federal Reserve System before the Special Committee on
Aging, United States Senate, March 15, 2005
Mr. Chairman, Senator Kohl, and members of the
Committee, I am pleased to be here today to discuss the issues of
population aging and retirement. In so doing, I would like to emphasize
that the views I will express are my own and do not necessarily
represent those of the Federal Reserve Board.
The economics of retirement are straightforward:
Enough resources must be set aside over a lifetime of work to fund
consumption during retirement. At the most rudimentary level, one could
envision households actually storing goods purchased during their
working years for use during retirement. Even better, the resources
that would have otherwise gone into producing the stored goods could be
diverted to the production of new capital assets, which would produce an
even greater quantity of goods and services for later use. In the latter
case, we would be raising output per worker hour, our traditional
measure of productivity.
The bottom line in the success of all retirement
programs is the availability of real resources at retirement. The
financial systems associated with retirement plans facilitate the
allocation of resources that supply retirement consumption of goods and
services; they do not produce goods and services. A useful test of a
retirement system for a society is whether it sets up realistic
expectations as to the future availability of real resources and, hence,
the capacity to deliver post-work consumption without overly burdening
the standard of living of the working-age population.
In 2008, the leading edge of what must surely be
the largest shift from work to retirement in our nation’s history will
become evident as some baby boomers become eligible for Social Security.
According to the intermediate projections of the
Social Security trustees, the population 65 years of age and older will
be approximately 26 percent of the adult population in 2030, compared
with 17 percent today.
This huge change in the structure of our population
will expose all our financial retirement systems to severe stress and
will require adjustments for which there are no historical precedents.
Indeed, retirement, generally, is a relatively new phenomenon in human
history. Average American life expectancy a century ago, for example,
was only 47 years. Relatively few of our citizens were able to enjoy
many post-work years.
One consequence of the sizable baby boom cohort
moving from the workforce to retirement is an inevitable slowing in the
growth of gross domestic product per capita relative to the growth of
output per worker. As the ratio of workers to population declines, so
too must the ratio of output to population, assuming no change in the
growth of productivity. That result is simply a matter of arithmetic.
The important economic implication of that
arithmetic is that, with fewer workers relative to dependents, each
worker’s output will have to support a greater number of people.
Under the intermediate population projections of
the Social Security trustees, for example, the ratio of workers to total
population will shrink about 7 percent by 2030. This shrinkage means
that, by 2030, total output per person will be 7 percent lower than it
would be if the current population structure were to persist. The fact
that a greater share of the dependents will be elderly rather than
children will put an additional burden on society’s resources, as the
elderly consume a relatively large share of per capita resources,
whereas children consume relatively little.
This inevitable drop in the growth rate of per
capita GDP relative to the growth of productivity could be cushioned by
an increase in labor force participation, which would boost the ratio of
workers to population. Increasing labor force participation seems a
natural response to population aging, as Americans not only are living
longer but are also generally living healthier.
Rates of disability for the elderly have been
declining, reflecting both improvements in health and changes in
technology that accommodate the physical impairments that are associated
with aging.
In addition, work is becoming less physically
strenuous and more demanding intellectually, continuing a century-long
trend toward a more conceptual and a less physical economic output.
Despite the improving feasibility of work at older
ages, Americans have been retiring at younger and younger ages. For
example, in 1940, the median age of retirement for men was 69; today,
the median age is about 62.
In recent years, labor force participation among
older Americans has picked up somewhat, but it is far too early to
determine the underlying causes of this increase. Rising pressures on
retirement incomes and a growing scarcity of experienced labor could
induce further increases in the labor force participation of the elderly
and near-elderly in the future.
In addition, policies that specifically encourage
greater labor force participation would also lessen the necessary
adjustments to consumption. Workers nearing retirement have accumulated
many years of valuable experience, so extending labor force
participation by just a few years could have a sizable impact on
economic output.
Another way to boost future standards of living is
to increase saving. We need the additional saving in the decades ahead
if we are to finance the construction of a capital stock that will
produce the additional real resources needed to redeem the retirement
claims of the baby boomers without having to severely raise claims on
tomorrow’s workers.
Additionally, we could borrow from abroad, which
would build up the capital stock. In so doing, however, we would also
build up a liability to foreigners that we would have to finance in the
future.
However, by almost any measure, the required amount
of saving that would be necessary is sufficiently large to raise serious
questions about whether we will be able to meet the retirement
commitments already made.
Much has been made of shortfalls in our private
defined-benefit plans, but the gross under-funding currently at $450
billion, although significant as a percentage of the $1.8 trillion in
assets of private defined-benefit plans, is modest compared with the
under-funding of our publically administered pensions.
At present, the Social Security trustees estimate
the unfunded liability over the indefinite future to be $10.4 trillion.
The shortfall in Medicare is calculated at several
multiples of the one in Social Security.
These numbers suggest that either very large tax
increases will be required to meet the shortfalls or benefits will have
to be pared back. Because benefit cuts will almost surely be at least
part of the resolution, it is incumbent on government to convey to
future retirees that the real resources currently promised to be
available on retirement will not be fully forthcoming. We owe future
retirees as much time as possible to adjust their plans for work,
saving, and retirement spending. They need to ensure that their personal
resources, along with what they expect to receive from government, will
be sufficient to meet their retirement goals.
Conventional advice from personal-finance
professionals is that one should aim to accumulate sufficient resources
to provide an overall replacement rate of about 70 percent to 80 percent
in retirement. Under current law, Social Security promises a
replacement rate of about 42 percent for workers who earn the
economy-wide-average wage each and every year through their careers and
about 56 percent for low-wage workers who earn 45 percent of the
economy-wide-average wage.
Assuming that taxes are capped at the current 12.4
percent of payroll, revenues will be sufficient to pay only about 70
percent of current-law benefits by the middle of this century. Thus,
for the average worker, a replacement rate of only about 30 percent
would be payable out of contemporaneous revenues, assuming that benefit
reductions are applied proportionately across the board.
For a low-wage worker, the payable replacement rate
would be about 40 percent. Assuming that the goal is still to replace
70 percent to 80 percent of pre-retirement income, average workers by
the middle of this century should be aiming to replace about 45 percent
of their pre-retirement income, rather than today’s 33 percent, out of
some combination of private employer pension benefits and personal
saving.
The required increases in private saving would be
less to the extent that Social Security tax increases are part of the
solution. However, to avoid any changes in replacement rates, the Social
Security tax rate would have to be increased from the current 12.4
percent to about 18 percent at the middle of the century.
Once we have determined the level of benefits that
we can reasonably promise, we must ensure that we will have the real
resources in the future to fulfill those promises. When we evaluate our
ability to meet those promises, focusing solely on the solvency of the
financial plan is, in my judgment, a mistake. Focusing on solvency
within the Social Security system, without regard to the broader
macroeconomic picture, does not ensure that the real resources to
fulfill our commitments will be there. For example, if we build up the
assets in the Social Security trust fund, thereby achieving solvency,
but offset those efforts by reducing saving elsewhere, then the real
resources required to meet future benefits will not be forthcoming from
our economy. In the end, we will have accomplished little in preparing
the economy to meet future demands.
Thus, in addressing Social Security’s imbalances,
we need to ensure that measures taken now to finance future benefit
commitments represent real additions to national saving.
We need, in effect, to make the phantom
“lock-boxes” around the trust fund real. For a brief period in the late
1990s, a common commitment emerged to do just that. But, regrettably,
that commitment collapsed when it became apparent that, in light of a
less favorable economic environment, maintaining balance in the budget
excluding Social Security would require lower spending or higher taxes.
Last year, Social Security tax revenues plus
interest exceeded benefits by about $150 billion. If those funds had
been removed from the unified budget and “locked up” and Congress had
not made any adjustments in the rest of the budget, the unified budget
deficit would have been $564 billion. A reasonable hypothesis is that
the Congress would, in fact, have responded by taking actions to pare
the deficit.
In that case, the end result would have been
lowered government dissaving and correspondingly higher national
saving. A simple reshuffling from the unified accounts to the
lock-boxes would not have, in itself, added to government savings; but
higher taxes or lower spending would have accomplished that important
objective.
The major attraction of personal or private
accounts is that they can be constructed to be truly segregated from the
unified budget and, therefore, are more likely to induce the federal
government to take those actions that would reduce public dissaving and
raise national saving.
But it is important to recognize that many
varieties of private accounts exist, with significantly different
economic consequences. Some types of accounts are virtually
indistinguishable from the current Social Security system, and the
Congress would be unlikely to view them as truly off-budget. Other
types of accounts actually do transfer funds into the private sector as
unencumbered private assets. The Congress is much more likely to view
the transfer of funds to these latter types of accounts as raising the
deficit and would then react by taking measures to lower it.
Failure to address the imbalances between our
promises to future retirees and our ability to meet those promises would
have severe consequences for the economy. The most recent projections
by the Office of Management and Budget show that spending on Social
Security, Medicare, and Medicaid will rise from about 8 percent of GDP
today to about 13 percent by 2030.
Under existing tax rates and reasonable assumptions
about other spending, these projections make clear that the federal
budget is on an unsustainable path, in been growing faster than the
economy for many years, the growth fueled, in large part, by significant
increases in technology. How long this trend will continue is extremely
difficult to predict. We know very little about how rapidly medical
technology will continue to advance and how those innovations will
translate into future spending.
Technological innovations can greatly improve the
quality of medical care and can, in some instances, reduce the costs of
existing treatments. But because technology expands the set of
treatment possibilities, it also has the potential to add to overall
spending--in some cases, a great deal.
In implementing policy, we need to be cognizant
that the uncertainties--especially our inability to identify the upper
bound of future demands for medical care--counsel significant prudence
in policymaking. The critical reason to proceed cautiously is that new
programs quickly develop constituencies willing to fiercely resist any
curtailment of spending or tax benefits. As a consequence, our ability
to rein in deficit-expanding initiatives, should they later prove to
have been excessive or misguided, is quite limited. Thus, policymakers
need to err on the side of prudence when considering new budget
initiatives. Programs can always be expanded in the future should the
resources for them become available, but they cannot be easily curtailed
if resources later fall short of commitments.
Large deficits result in rising interest rates and
ever-growing interest payments that augment deficits in future years.
But most important, deficits as a percentage of GDP in these simulations
rise without limit. Unless the trend is reversed, at some point these
deficits would cause the economy to stagnate or worse. Closing the gap
solely with rising tax rates would be problematic; higher tax rates
rarely achieve a comparable rise in tax receipts, and the level of
required taxation could in itself severely inhibit economic growth.
In light of these sobering projections, I believe
that a thorough review of our commitments--and at least some adjustment
in those commitments--is urgently needed. The necessary adjustments
will become ever more difficult and larger the longer we delay. No
changes will be easy. All programs in our budget exist because a
majority of the Congress and the President considered them of value to
our society. Adjustments will thus involve making tradeoffs among
valued alternatives. The Congress must choose which alternatives are
the most valued in the context of limited resources. In doing so, you
will need to consider not only the distributional effects of policy
changes but also the broader economic effects on labor supply,
retirement behavior, and national saving. The benefits to taking sound,
timely action could extend many decades into the future.
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