Addressing Social Security’s Solvency While Promoting High Labor Force Participation

Authors

Abstract

A number of proposals and options to address OASI trust-fund solvency have been suggested in recent years. The present work attempts to examine solvency-promoting reforms from the standpoint of economic efficiency — that is, from the perspective of their effect on household and societal well-being. Ultimately, we argue that solvency and efficiency should be joint considerations for policy. We first set up a structural model of household consumption/saving and retirement choices. We estimate the model’s parameters using Consumer Expenditure Survey and Health and Retirement Study data. Then we simulate policy changes. Using the 2017 Social Security Trustee’s Report, we examine policy changes that could prevent trust fund depletion for 75 years or more. In the simulations, payroll tax increases or Social Security benefit reductions sufficient to ensure solvency have modest effects on household labor supply, though they lower lifetime consumption and utility. Earlier work considered age-targeted payroll tax changes that could promote longer careers. Here, we examine possible changes to the Social Security benefit formula — specifically the AIME formula — that could encourage delayed retirement more straightforwardly. We show that incentivizing an extra one to two years of work on average might be possible. That would generate substantial new tax revenues, from both payroll and income taxes. Although sacrificed leisure would lead to household utility reductions, they are relatively small — comparable to the best alternatives. Comparing the results with simpler tax and benefit changes, we suggest that promoting longer careers could enlarge the set of policy options in a useful way.

Key Findings

  • Income and payroll taxes may cause households to retire earlier than maximal society-wide efficiency might favor. Hence, Social Security reforms that seek to encourage longer careers might be able to deliver higher tax revenues with less sacrifice of household utility than would otherwise be the case.
  • Recent Social Security Trustee reports show that demographics and other changes are jeopardizing the solvency of OASI and other programs. Higher payroll taxes or lower retirement benefits are possible remedies. Incentivizing longer careers is another.
  • The Social Security benefit formula, through its indexing of past earnings, tends to leave few incentives to work past the early 60s. Since income and other taxes may encourage early retirement, a case can be made for re-examining the indexing formula.

Citation

Laitner, John. 2018. “Addressing Social Security’s Solvency While Promoting High Labor Force Participation,” Ann Arbor MI: University of Michigan Retirement Research Center (MRRC) Working Paper, WP 2018-386. https://mrdrc.isr.umich.edu/publications/papers/pdf/wp386.pdf

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Paper ID

WP 2018-386

Publication Type

Working Paper

Publication Year

2018
pavement-enterprise