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April 12, 2005

Inequality and Social Security

A nice article on the topic from Greg Ip appears in yesterday's Wall Street Journal (page A2 in the print edition).

The debate over Social Security has managed to drown out other longstanding issues in American society, including the widening gap between rich and poor and surging health-care costs. Yet these two phenomena play an important, though little appreciated, role in Social Security's problems. That is because they are eroding the base of taxable wages available to support Social Security benefits.

The reason is that taxable payroll is expected to expand more slowly than is GDP and, by 2080, to equal just 33% of GDP, compared with 38% now. Stephen Goss, Social Security's chief actuary, says there are two main reasons why. One is that a "somewhat increasing share of all the earnings in the economy [is] above our taxable maximum," and the second is that a growing share of "employee compensation...is going not to wages but to fringe benefits, which are not included in our tax base," Mr. Goss says.

Social Security payroll taxes are levied on wages up to a certain cap, currently $90,000 a year, which rises annually with the average wage. In the past 25 years, a growing share of income has been paid to people who earn more than the cap.

This increasing concentration of income at the upper strata of society is an important reason why, from 1980 through 2000, taxable payroll fell to 83% of wages of contributing workers from 90%...

Even if inequality stopped widening, Social Security's tax base probably would continue to be eroded because of rising health-care costs. Since 1996, health-care costs have risen to 7.3% of employee compensation from 6.3%, and Social Security's actuaries expect it to keep rising. This is a big problem for Medicare, the federal health program for the elderly, but it also affects Social Security, because payroll taxes aren't levied on health-care insurance premiums. Mr. Goss says that is the main reason for taxable payroll's shrinking share of GDP.

Wholesale prices for popular brand-name prescription drugs rose an average 7.1% in 2004, more than twice the general inflation rate, a new study commissioned by the nation's largest seniors lobby says.

The increase is the biggest in the five years that AARP, with 35 million members, has sponsored the study. It's just slightly higher than the 7% price rise in 2003.

... although the results are, apparently, under some dispute:

Ken Johnson of Pharmaceutical Research and Manufacturers of America, the trade group of brand-name drugmakers, called the study "exaggerated and misleading." He said the use of wholesale prices excludes factors such as rebates that could cut retail costs.

"Price data clearly shows prescription-drug prices have increased about 4% a year," Johnson said. He called that in line with growth in other health costs.

That observation, of course, doesn't diminish Ip's point.

As if to underscore the point, there was this report from this morning's USA Today...

April 12, 2005 in Social Security | Permalink

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Comments

I like this quote the best

"Can policy makers do anything about these phenomena? Income inequality defies any easy solution. Mr. Orszag says its impact on Social Security revenue can be alleviated by raising the payroll cap. This would fall hardest on those earning between the old and new cap: They would get higher pension benefits, but not enough to outweigh their increased taxes."

Isn't this solution the ignoring the cause and controlling the effect?

It seems to me that the rise in inequality is due to the demand for an educated labor force. Firms are demanding higher and higher levels of education, while the educational system is becoming more unequal in quality?

Doesn't the ultimate fix require us to provide better education to the next generation?

Matt

Posted by: Matt Festa | April 12, 2005 at 01:08 PM

Yep. Why is it a surprise that when you exempt most income from FICA you get less revenue from FICA?

The solutions to this are: get a whole lot more people to pay into the system (presumably through immigration), raise FICA max, have the people who are already here but are making less than FICA max make a lot more (how?), raise the FICA rate, or pay less out in benefits. Again no surprise.

Posted by: Dave Schuler | April 12, 2005 at 01:11 PM

Why raise the FICA rate when you can re-adjust benefits and use the money towards something else (like deficit reduction or medicare. Isn't the real question one of opportunity cost, wouldn't it be better to cut benefits and use the money saved towards something else? I can think of a bunch of things I would rather spend the money on than social security.

Matt Festa

Posted by: Matt Festa | April 12, 2005 at 03:09 PM

Let me help you out with some facts:
Fact#1: The social security trust fund should not be use as general funds this would stop politians from spending it on any and everything,ie tax cuts ,wars and all the other crap that politians like to spend money on to redistribute the wealth of this country; these funds belong to the working people of this country these taxes are taken directly from the workers and their employers who, by the way must match there taxes dollar for dollar;This is the main reason why GB do not want to raise the income cap because it would raise corporate america taxes this is a promise Iam willing to bet that he has made this is why he want to take out part of it from the current percentages I would bet my life that this promise has been made make no mistake about this.
Fact #2:If GB and company really want to ensure the solvency of social security leave the cap where it is or even do away with FICA all together and institute a 1% national sale tax on everything we buy other than food this would ensure solvency of social security until the end of time. don't take my word for it check it out.
Fact#3 If they want americans to save more make corporate america reduce the amount of interest that they charge, this is what has happened to the american saving rate.

Posted by: JIM Glover | April 13, 2005 at 12:30 AM

Given that there's a monthly SS benefit cap, it makes lttle sense to dwell on the part of the income distribution above the FICA cap. Taxing that income is pure redistribution, since most payers will see no incremental retirement benefit for the extra tax.

Broadening the base to include the value of fringe benefits, however, makes sense. Treat both as labor income (which they are), and tax the combined amount, again up to an annual income cap.

Posted by: Dave Sheridan | April 13, 2005 at 05:12 AM

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