Senior Subsidies - Boom Before Bust?
- Social Security appears to have successfully reduced elderly poverty.
- Social Security is growing quickly -- it has begun to lose money.
- Medicare is growing faster than Social Security.
- Medicare expenses are driven by the Baby Boom generation and rapidly rising medical costs.
- Social Security and Medicare trust funds are empty.
- Taxes must be raised, benefits cut, or other government programs squeezed in large measures to avoid serious financial instability.
Social Security's basic idea is to transfer responsibility for subsistence retirement from retirees to taxpayers. When the program began, many folks were not getting the job done themselves. Social Security enrolled taxpayers to solve that problem. The program gives most seniors a warm, fuzzy feeling. Younger people have reasons to feel differently.
At the end of 2007, taxpayers were subsidizing 40 million retirees and family members along with 9 million disabled people at an average rate of $975 per month, or a total of $585 billion for the year. The special interest group AARP says Social Security provides 80% of income of retirees in the bottom 40% of the income distribution1.
Social Security Makes Money for the General Fund Now, But Will Lose Money for Taxpayers Soon.
Before recession, the scheme wass a money spinner now, pulling in $200 billion more in 2007 than it spent. Thanks the recession, it is losing money now. By 2017, thanks to its "be happy, don't worry" financial structure, Social Security will start to lose money even in a prosperous economy.2. Unless funds to cover the loss can be carved out of other government spending, the red ink will force either a cut in benefits, or an extra helping of taxes3.
"So who's on the hook for the missing $2.3 trillion? Look in the mirror."
What about the trust fund? Doesn't Social Security have $2.3 trillion in the bank? Well yes, US wage earners made those deposits. But Congress and presidents spent it. Every nickel. And more.
So who's on the hook for the missing $2.3 trillion? If you are a taxpayer, look in the mirror.
The trust fund is truly an emperor wearing no clothes. Its younger brother Medicare is marching in the buff, too.
Social Security is a big program. It is growing fast for all the reasons folks have trumpeted for a full generation now. The bulge in the python that is the Baby Boom generation is moving into retirement. That bulge will push up the number of retirees that each worker must support by 53%4 between 2007 and 2030, from just under a third (0.30 of a retiree) to nearly half (0.46). Only two workers will be responsible for paying nearly all of each beneficiary's Social Security check. On top of that, each retiree's Social Security benefit is growing faster than inflation. As a percent of GDP, Social Security is set to rise from 4.3% in 2008 to 6.1% in 2035. That's a 42% increase in the weight of this program on tomorrow's economy.
Is the program cost-effective?
The answer depends what you think the program should accomplish: Should it reduce elder poverty? ..Or should it be a universal retirement plan? ..Or both, ..Or something else entirely -- like a vote-buying machine5? A judgment of cost effectiveness also depends on whether one is mainly interested in yesterday, today, or tomorrow, or all three lumped together.
As a senior's welfare program, Social Security appears to have successfully reduced elderly poverty. That's a huge and wonderful impact. The flipside is that Social Security reduced people's motivation to save. And they would have earned far higher returns if they had.
Could elder poverty have been reduced with less cost? With the benefit of hindsight, almost certainly. A subsidy program dedicated to poor seniors, then phased down over the first four decades as balances accumulated in a funded retirement savings plan for workers would have left today's society better prepared for retirement.
As a universal retirement plan, Social Security's cost/benefit ratio was an absolutely terrific deal for initial beneficiaries, who paid a few years of taxes into the system, and then withdrew a lifetime annuity. Later taxpayers are paying for the free lunch element that early taxpayers enjoyed, so Social Security is no longer a good investment for them.
In the present, the cost/benefit ratio of Social Security as a universal retirement plan is sagging a bit. Its returns are low compared to other methods of funding retirement. It is risky because its funding is shaky. In fact, Social Security and Medicare together add enormous financial risk to the economy and to all those who depend on it. Because of different expected lifespans, Social Security is vulnerable to charges that it is unfair to minorities, especially single minority males6. And the program's price tag keeps ratcheting upward.
For the future, Social Security is a concrete block tied to the younger generation's shoes. Their returns will be abysmal. And far from adding security, the program -- along with other senior subsidies -- is likely to add to widespread financial instability.
"Social Security is a legacy system, old and battered, patched together endlessly, with very high opportunity costs."
Social Security is a legacy system, old and battered, patched together endlessly, with very high opportunity costs. It is beloved by those who remember it as a bright, shiny star of the 1930s. It may soon be dreaded by those charged to pick up the tab.
Voters Choices on Social Security: All are Hard
- The Status Quo, i.e. raise taxes to generate whatever funds the program needs to pay scheduled benefits.
The Trustees say it will take an immediate and permanent increase in the share of each workers payroll taxes from the current 12.4% to 14.1% to fund Social Security for 75 years7. That's bumping the Social Security tax up from $6,200 per household earning $50,000 annually to $7,050.
And the Trustees, of course, assume that the US Treasury will make good on $2.3 trillion missing from the trust fund. The IRS will come knocking on each taxpayer's door for that -- an additional $19,000 per household.
Tax increases do not reduce Social Security's "spendthrift" risk -- the risk that Washington will spend the taxes yet again before the money makes it to its intended destination: those armies of retirees.
- Raise taxes and cut benefits to keep the program going.
Instead of raising taxes to fill the shortfall, the trustees report that they can keep the program breathing with an immediate and permanent benefit cut of 11.5%. That'll drop average monthly subsidies from $975/month to $863/month.
This still requires taxpayers kicking in an extra $19,000 per household to make up for the missing trust fund money. Every year the country waits on making the $19,000 payment, interest accumulates.
On the other hand, if taxpayers bail out the trust fund before Social Security needs the money, well . . . politicians will be able to spend it on something else yet again. That's not smart from a taxpayer's perspective.
- Add a savings element to the current system that is immune to public pilfering.
Saving in advance of retirement is a brilliant, if not entirely original, idea. But of course, Social Security has not done that.
America has a swollen generation on the verge of retirement, with many Baby Boomers woefully unprepared financially. Younger workers are on the hook to pay for the soon-to-be-oldsters.
The younger generation would be better off if the Boomers had saved more for themselves. For today's workers to rescue their children from the same fate, they need to save more, lots more. Today's workers are expected to subsidize the oldsters and, to relieve their children of a similar fate, they need to tuck away enough money for their own retirement, too. They must pay for two generations' retirements: the Boomers' and their own simultaneously. To avoid just kicking the can down the road, there appears to be no other way out of the trap.
- Eliminate the universal government-run retirement program. Let welfare handle those that fail to fund their retirements sufficiently. Certainly it means a big increase in welfare payments, but not more than the current Social Security system. In addition, without a forced savings plan, there will be folks who won't save for retirement. Instead, lobbyists will volunteer to pressure legislators to pry a quarter-life of subsidies from taxpayers' purses.
- Adjust Social Security to focus on the poor. Workers would not be out-of-line to demand some concessions in return for supporting seniors, like dropping the middle class and wealthy seniors from the program. It is hard to argue they should shortchange their kids' futures to pay for someone else's white wine and golf.
The initial rush of Medicare spending is a wonderful feeling of altruism satisfied. Voters and politicians can give the elderly virtually all the medical treatment they want and charge seniors a mere pittance. What better gift than health and life itself? What a wonderful high!
Medicare is a monolithic program. In 2007, taxpayers subsidized 37 million seniors and seven million disabled people through Medicare; nearly 15% of the population. Taxpayers spent $9,818 per recipient in 2007 to total $432 billion, 9% of all government spending8.
Financially speaking, Medicare is Social Security after three double espressos. It is moving so fast that it actually will spend more money than Social Security by 20299. Unlike Social Security, there is no limit to the amount Medicare will spend on a single recipient. Second, Baby Boomers soon will be picking fruit from this taxpayer tree as well, and the program will expand to serve its swelling patient ranks. Third, and most importantly, Medicare's cost per recipient is rising 3% faster than inflation each year. Medicare now consumes 3.2% of GDP. By 2045 it is expected to increase its portion of GDP to 8.0%10.
As with Social Security, there is no money in the bank to pay these bills. Indeed, there is a shell of a trust fund, but like most Egyptian pyramids, it has long since been looted. All that remains is a dark, empty hole where taxpayers' jewels once glittered. The politicians spent the $338 billion11 taxpayers trustingly forked over.
Medicare is funded by a payroll tax of 2.9%. It subtracted $199 billion from workers' wages in 2007. Unlike Social Security, this tax covers less than half of Medicare's full cost, so Medicare charges additional "premiums" to its insured, and dings the taxpayer again for the remaining $176 billion through a back door at the Treasury's general fund.12. Medicare already is a big drain on government finances, and its "share of wallet" is growing.
Medicare is both Victim and Financier of a Diseased Health Care Industry.
Medicare and its impact on taxpayers cannot be separated from the rest of the US health care industry.
Overall, Americans pay far more for health care than other countries in the same economic league. Canada, the UK, France, Germany and Japan all pay roughly half per person for medical services13. In 2005, the US spent $6,401 per capita, compared with an average OECD of $2,75914. The OECD is the Organization for Economic Co-operation and Development, an inter-governmental club of 30 rich nations. The US spent 15% of GDP on health care, far higher than France and Germany, at 11% of GDP and higher still than the OECD average of 9% of GDP.
"The initial rush of Medicare spending is a wonderful feeling of altruism satisfied."
Counter-intuitively, the US has fewer doctors, nurses, and hospital beds relative to its population compared to other OECD countries. US life expectancy is 78, below the OECD average of 79. Infant mortality rates are twice as high as the Nordic countries and Japan15. To be fair, it should be said that most observers do not attribute the poor longevity and infant mortality performance primarily to the medical care industry. 16 Adding to the quick sketch of American health, the US has the lowest rate of tobacco smokers except Sweden, but the highest rate of obesity in the OECD.
Health care quality is notoriously difficult to measure. One study that looked at a wide variety of measures, such as cancer and heart attack survival rates shows the US as performing as well (but not better than) comparable countries. As a Commonwealth International Health Care Comparison report has stated, given the huge difference the US spends on health care, "...It is difficult to conclude that (the US) is getting good value for its medical care dollar...."
Government pays for 45% of all medical care in the U.S, ignoring the tax subsidy lavished on employer-sponsored health insurance.17 Government clearly has enormous market power, which it has not yet successfully used to squeeze lower prices or better care out of the health industry. Compared with other rich countries, the US should be able to do away with either public spending or private spending without damaging peoples' actual health, other than that perhaps, of the excess producers in the industry.
A significant body of opinion contends that much of the medical care delivered adds no health benefits whatsoever. Health economist Robin Hanson recently wrote, "Cutting half of medical spending would seem to cost little in health, and yet would free up vast resources for other...gains."18 Even if that statement is a wild exaggeration, the evidence indicates room for significant improvement.
Large subsidies on autopilot19, administrative costs running 20% to 25% of total costs20, doctors earning far fatter salaries that their colleagues in other rich countries21, high error rates22 and their associated legal costs, all indicate an ecosystem of private and public entities aggressively pushing to discover the limit of a rich society's willingness to pay for health care. It would not be surprising if that society pushed back.
Is Medicare cost effective for taxpayers?
Through Medicare, taxpayers subsidize a health care system that charges twice the price for medical goods and services than other countries pay with no better results. While some people are sure to argue otherwise, it is hard to believe this system is a good deal for the taxpayers and consumers.
1 AARP, Reimagining America, How America Can Grow Older and Prosper, 2005, pg 21.
2 2008 Social Security Trustee's Report, pg 2.
3 Note that higher taxes may come in the form of borrowing, which is simply taxes deferred. Unlike the folk saying, "justice deferred is justice denied", taxes deferred are not taxes denied - they are taxes multiplied.
4 2008 Social Security Trustee's Report, pg 9.
5 Most programs in democracies are intended as vote buying machines. That seems to be the point of democracy.
6 The Heritage Foundation, 15 Jan 1998 "Social Security's Rate of Return" and 11 Dec 1998, "Social Security's Rate of Return:A Reply to Our Critics"
7 2008 Social Security Trustees Report, pg 18.
9 2008 Medicare Trustee's Report, pg 29.
10 2008 Medicare Trustee's Report, pg 35, Table.III.A2.
11 2008 Medicare Trustee Report, page 5 Table II.B1.
12 2008 Medicare Trustees Report, page 195, Table V.E1. author's calculations
13 2005 Rand Corporation, US Health Care, Facts about Cost, Access, and Quality, pg 4
16 Health Affairs - Volume 23, Number 3, 2004, How Does the Quality of Care Compare in Five Countries?
19 Medicare is not subject to annual budget reviews in Washington.
20 2001 advocacy paper, "The US Health Care System: Best in the World, or Just the most Expensive", University of Maine, Bureau of Labor Education
21 Health Affairs, Volume 21, Number 3, May/June 2002, Cross-National Comparisons of Health Systems Using OECD Data, 1999. This article reports that the US spent 2.9% of GDP on physicians' services in 1999, more than twice the OECD average of 1.3% while the US has fewer doctors per 1000 population. Physicians earn 5.5 times average employee compensation in the US, 3.4 times in Germany and 1.4 times in the UK
22 2000, To Err is Human: Building Safer Health System, Institute of Medicine, Executive Summary, http://www.nap.edu/openbook.php?record_id=9728&page=1. This paper asserts that 44,000 to 98,000 people may die in hospitals each year from medical errors. At the low estimate, that is roughly the same number of people that die in auto accidents or from breast cancer.