When is a tax?

That's the question to ask as we ponder the broad strokes of what President George W. Bush believes will strengthen Social Security. While inviting ideas and suggestions, he says any reform must be guided by some basic principles:

•  Guarantee that anyone 55 or older will receive the benefits they expect.

•  Make any changes gradual.

•  Make certain lower income workers get the help they need.

•  Make the system a better deal for younger workers by creating personal retirement accounts.

•  Not increase the payroll tax, currently 12.4 percent for Social Security and 2.9 percent for Medicare.

It is customary for the party in power to do most of the clapping during State of the Union messages. The opposing party tends to sulk. But this is the first in memory where the opposing party made rude noises. They guffawed at the President's comments on Social Security.

Democrats don't like his plan. And we shouldn't blame them, regardless of our party loyalty.

Democrats, unfortunately, don't like his plan for the wrong reasons. They simply don't want any changes, ever, to the signature program of their party. That means they are unwilling to deal with the programs' unfunded liabilities. Those liabilities--- promised benefits for which there is no expected revenue--- are estimated at $3.7 trillion in today's dollars over the next 75 years and $10.4 trillion over a longer horizon. By wanting to do nothing the Democrats are basically proposing to fulfill government promises with bad checks.

What they should be concerned about is quite different.

President George W. Bush is proposing a major tax increase.

Yes, you read that right: a major tax increase.

This is the kind of tax increase politicians of both parties like best--- it's invisible. No one will ever make a larger payment to the U.S. Treasury. Instead, some people will get less money back in benefits.

The question is: Who will get less in benefits?

Those 55 and older won't be affected because their benefits will not be touched. It is a tax increase on those younger than 55. They will pay the same employment taxes. Most of the ideas on the reform table, however, involve major benefit reductions--- in the future. The leading idea is to replace wage indexing with price indexing as the method for calculating benefits.

That doesn't sound like a tax hike, but it is. Young people will pay the same taxes older people have paid, but they will receive less in benefits. Think of it this way: young people will pay the same amount of money but the promised candy bar will get smaller and smaller. They will get less for their money.

That's a tax hike.

As plans go, this is neither bold nor courageous. It won't lose any votes among older people because it won't affect them. This invisible tax will only fall on those who are younger or yet to be born.

The Republican defense is simple. 'Well, we're reducing your Social Security benefits quite a bit, but you'll make it up with better returns in your new personal investment account.'

Perhaps. But what neither the President nor his advisors mention is a thing called risk.

If young people seek a risk-free investment in their new personal accounts--- something like Treasury Inflation Protected Securities--- their return will be no more than 1.8 percent more than the inflation rate. This return is slightly less than what they would get through the existing wage indexing formula. As a consequence, their future retirement benefits will be reduced in both accounts, their remaining traditional Social Security account and their new personal account.

How can younger people avoid a much poorer retirement than their parents are enjoying?   By taking a lot of investment risk. That's not the same deal their parents got. Adjust for risk, and the benefits and security all go to older voters. The reduced benefits and risk go to younger taxpayers.

This is not the usual framework for political debate. That debate is about the Haves and the Have-nots, ad nausea. The new political debate has a different framework.

It is about the "Nows" and the "Laters."

Perhaps the oddest thing about the speech is that it made no mention of the elephant in the corner: Medicare. The unfunded liabilities of Medicare were estimated at a stunning $27.7 trillion over the next 75 years in the 2004 Trustees Report--- $8.2 trillion for Hospital Insurance, $11.4 trillion for Part B, and $8.1 trillion for the new Part D.

Each of those figures is larger than Social Securities' $3.7 trillion unfunded liabilities. The $27.7 trillion total is 7.5 times the unfunded liabilities of Social Security. The new Medicare prescription drug bill, part D, alone, is more than twice the unfunded liabilities of Social Security. George W. Bush signed that bill into law in December 2003, only 13 months ago. It makes you wonder: if $8.1 trillion isn't important, why the concern over $3.7 trillion?

On the web:

The Social Security Trustees Report

Boston College Center for Retirement Research: "What Does Price Indexing Mean for Social Security Benefits?"

Boston College Center for Retirement Research: "Yikes! How To Think About Risk"  

Congressional Budget Office: "Long Term Analysis of Plan 2 of the President's Commission to Strengthen Social Security"

Scott Burns: A Cold Financial Reality: The unfunded Liabilities of Social Security and Medicare

Scott Burns: The Generational Storm Reader

Scott Burns: A New Deal for This Century (a proposal for a fair way to fix Social Security)