Meeting climate goals through tax reform


Meeting climate goals through tax reform



International Evidence on the Desirability of Individual Retirement Accounts in Public Pension Systems


Social Security faces a long-term financing problem. The simplest and most logical solution to this problem is to trim promised benefits and increase payroll taxes modestly over the next two decades. These steps are politically unpopular, however, which explains the growing interest in supplementing or replacing traditional Social Security with a new system of worker owned and directed retirement accounts. A number of countries have already moved in this direction. However, the introduction of private accounts, by itself, does not solve the long-term problem facing public pension systems, including the Social Security system.

Some people who favor individual accounts believe we can learn from the experience of countries that have adopted such a system. While this is true, it is more pertinent to ask whether the experience of other countries sheds any light on the wisdom of replacing traditional Social Security, in whole or in part, with a system based on individual retirement accounts. The United States’ situation differs significantly from that of other countries which have recently adopted individual account systems.

In comparison with most of the industrialized world, the United States does not face an acute funding crisis in its main public pension program. The Social Security system is better financed than pay-as-you-go systems in most other industrialized countries. The U.S. has a younger population than other developed countries, and the trend toward a grayer population is proceeding more slowly in the United States than it is elsewhere. If current immigration and fertility patterns continue, the fraction of Americans who are past the retirement age will never reach the levels expected in Japan and most of Western Europe.

One reason Social Security’s financial position is comparatively healthy is that benefits are relatively low. As a result, the tax needed to pay for promised benefits after the Baby Boom generation retires will be lower than the current payroll tax rate needed to pay for benefits in other countries.

The relatively modest level of Social Security benefits causes the United States to be different from other countries in one crucial respect. Our old-age poverty rate is more than three times the poverty rate in other rich nations. Social Security pensions account for an overwhelming fraction of the income received by aged Americans who are at risk of becoming poor. We therefore face a much greater risk than other wealthy countries of pushing large numbers of the aged into poverty if we reduce the guaranteed pensions available to low-wage workers.

The United States also has less need for introducing individual account pensions. A large percentage of the workforce already participates in employer-sponsored plans or in voluntary individual retirement accounts. In comparison with most of the industrialized world, the assets accumulated in these plans represent an unusually large percentage of our national wealth. Though it is desirable to increase the percentage of workers who participate in individual retirement saving plans, it makes no sense to accomplish this worthy goal by weakening the retirement income protection and guaranteed benefits available to workers who have low or intermittent career earnings.