February 28, 2014

WHAT SHALL WE DO WITH THE SURPLUS?:

Saving Retirement (Martin Feldstein, 2/28/14, Project Syndicate)

Part of the problem is that the CPI does not reflect how consumers change the composition of their purchases over time as relative prices change. President Barack Obama's administration initially followed expert advice and suggested that the traditional CPI be replaced by a more accurate measure known as the chain-weighted CPI. Although this would reduce the annual rate of increase in benefits by only about 0.25%, outlays for Social Security and other inflation-indexed programs over the next ten years would be more than $200 billion lower. Applying the chain-weighted CPI to tax-bracket adjustments would raise more than $100 billion over the same period.

But there is another, more fundamental reason why the traditional CPI overstates the true rise in the cost of living: It does not accurately reflect the introduction of new goods and services or improvements in the quality of existing goods and services. [...]

The obvious solution to the current and future Social Security financing problem is to reprise the 1983 legislation by gradually raising the age for full benefits from 67 to 70, with appropriate actuarial adjustments for earlier and later retirements. Because life expectancy at age 67 is roughly 18 years, this would be equivalent to reducing average lifetime benefits by one-sixth (the present value of the benefit reduction is actually higher, given that the reduction comes at the start of the retirement period).

It would be even better to avoid future political posturing by enacting legislation now that automatically raises the eligibility age for full benefits in such a way that average life expectancy at that threshold is kept constant, at 15 years.

Some experts object on principle to an increase in the eligibility age for full benefits, because some low-income groups do not experience the same one-year-per-decade rise in life expectancy. A simple solution to that problem would be to relate the age at which full benefits are paid to each individual's average lifetime earnings.

A more fundamental reform would be to shift from a pure pay-as-you-go system to a mixed system that combines the current benefits with investment-based personal retirement accounts. Such investment-based annuities would be a natural supplement to the lower pay-as-you-go benefits that would result from raising the eligibility age for full benefits.

It's especially important to add means-testing once you allow personal accounts.

Posted by at February 28, 2014 1:20 PM
  
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