Mr. Pozen believes Social Security can avoid that nasty day in 2041 when benefits will have to be cut by 26 percent. President George W. Bush has said he favors an idea like Mr. Pozen's to keep Social Security solvent.
How? Mr. Pozen proposes to change the formula for benefits with progressive price indexing. Rather than index all workers' benefits to wages, which rise faster than prices, he proposes that the lowest income workers will receive wage-indexed benefits. The highest income workers will receive price-indexed benefits. Those in between--- the 64 percent of all workers with incomes between $20,000 and $90,000 this year--- will receive a progressively indexed mixture.
If this seems arbitrary, it isn't. He is quick to point out that it is middle and upper middle income workers who benefit most from the $55 billion a year in tax savings they enjoy from qualified plans such as 401(k) and 403(b) plans. Most of those tax savings, he points out, have grown over the last 20 years as more workers have participated in qualified plans and as contribution limits have been increased. Some of the reduction in Social Security benefits, he believes, should be offset by growth of assets in those plans.
Interviewed on his cell phone while traveling, Mr. Pozen immediately comes across as a careful pragmatist. He has little patience for the ideologues of the right or left. "The most useful thing," he said, "is to view the possible default and think about the reality we're facing. … We have to ask: What happens if we don't reform?"
Would he give some examples of how progressive price indexing would work--- how it would affect workers at different income levels? I asked.
"A worker earning $25,000 in 2012 (the first year this program would go into effect) would receive exactly what's scheduled in 2045," he said. He explained that about 30 percent of all workers earn at this level or less, that they seldom save much of their income, and that they are the most vulnerable because they're less likely than other workers to participate in 401(k) and other retirement savings plans.
"Now consider a medium wage worker, someone earning $47,000 in 2012 (or $36,500 this year). If you look at this in terms of the current benefits schedule, that worker would receive $19,544 a year in the current system, but $16,417 under progressive indexing. That's a reduction. But ask what happens if we don't reform. The benefit gets cut to $14,267," Pozen said.
"Now consider a high income worker, one with $70,000 of income in 2012. Benefits would be reduced from the scheduled $26,300 to $19,850. That's about the same as a default." Mr. Pozen emphasized that all workers would get price inflation protection.
"If we're going to protect the most vulnerable--- the lower wage workers--- we've got to do something like this," he said.
"We would be reducing benefits relative to a schedule that we cannot afford--- to the tune of nearly $4 trillion. Somebody has to get less than scheduled benefits. You can't have reform without a significant (benefit) reduction relative to the schedule."
What about an alternative, like raising the cap on the wage base from the current $90,000?
"Most people have argued that's not viable," he said. "You can fix the whole thing by eliminating the payroll cap but that's a 12.4 percent tax on all earnings. What benefits will people get (for that additional tax)? If you really want to demolish the support for Social Security as a program, all you have to do is raise taxes without any benefits."
What about a partial increase in the wage cap?
"Raising the payroll cap to $150,000 only closes about one-third of the deficit. You'll still need to reduce benefits," Mr. Pozen answered. He also pointed out that his plan would eliminate about 70 percent of the deficit.
Basically, there are only two choices. We can reduce benefits. Or we can increase taxes.
"I'm not against doing that," he said of raising taxes. "It's just that we have to be realistic."
More on the web:
Tuesday, July 29, 2004: "Removing Tax Cap Unlikely to Pay Off"
"Comparing Social Security Options" on the Employee Benefit Research Institute website
"What is Progressive Price Indexing?" by Alicia Munnell and Mauricio Soto on the Center for Retirement Research website
The 2005 Social Security Trustees Report
Tuesday: The New Tax Reality
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