The Flap Over Obama’s Proposed Benefits Cuts

He thought he was just being conciliatory: still hopeful that if he gives a little to placate the Republicans, maybe he’ll get a little back. So President Obama’s recent budget proposal put forth his hopes — spending on infrastructure, pre-school education, manufacturing research, and so on — but in return he put Medicare and Social Security into play. The cuts to Medicare didn’t cause a stir, because they were reduced payments to health providers, not beneficiaries. What has Democrats in an uproar was his willingness to cut Social Security benefits. “A shocking attack on seniors” said one, and others are asking “Is Obama really a progressive”?

Why is Social Security even a consideration in budget negotiations? Democrats insist it is independent, self-funding and adds nothing to the deficit. Well, yes, in an accounting sense, but the cash-basis government does have to come up with money to repay what for decades it has borrowed from the Social Security “trust fund”. Historically, Social Security has run a surplus. The money it has taken in as payroll taxes has exceeded benefit outlays. But the government has hoovered up that surplus every year, using it to pay for anything and everything. The trust fund year after year was given figurative IOUs.

The weight of demographic change finally reversed the flow in 2010 when the Social Security Administration began to run a deficit (aggravated for two years by the payroll tax cut almost in half to boost the economy), and now the the government has had to begin ponying up what it owes — some $37 billion to cover last year’s shortfall in Social Security receipts versus benefits.

Actuarial projections foresee the trust fund running on empty come 2033. That may seem a long way off, but if gradual steps are not taken now, time’s passage will build an ever steeper cliff to plummet from as that year draws nearer. Better modest changes now than drastic changes later. Obama is emulating Reagan and the 98th Congress, who made changes to fend off the bankruptcy of the trust fund that threatened then.

But Democrats, who fashion themselves as more reasonable and nuanced than their doctrinaire Republican counterparts, have shown themselves to be just as rigid. Instead of recognizing that something must be done, they are demanding that no changes be made. Hands off the seniors’ safety net.

That said, Obama’s solution is a bad idea. Except for two recent years following the economic crisis, Social Security payouts are ratcheted upward every year by a cost-of-living adjustment in line with the Consumer Price Index (CPI). Obama wants to adopt a different calculus — referred to as the Chained CPI. Its premise is that if prices rise for an item , the cost-of-living adjustment should not rise in matching lockstep. People instead should be expected to buy a lower cost substitute — beans rather than beef, so to say. But as they age, seniors unavoidably spend ever more on healthcare, for which there are no cheaper substitutes. Worse, those healthcare costs rise faster than almost all other costs.

The purpose of switching to a different CPI is to lower the yearly percentage increase in monthly payments. And each year’s lower percentage is applied to each previous year’s benefit, such that the reductions compound. There are a couple of bonus “bumps” added back at ages 76 and 95 for those that make it that far, but those who retire at age 65 would see 3.7%, 6.5% and 9.2% less flowing into their bank accounts 10, 20 and 30 years down the line, according to the Social Security Administration. That can come to several thousand dollars of lost income.

Obama’s scheme harms seniors to a progressively greater degree the older and more vulnerable they get, and in years when Social Security may become the only income they have. Americans are finding it far more difficult to save for their late years, and already more than half of married couples and three quarters of single persons rely on Social Security for more than half their income. More troubling still, one quarter of marrieds and just over half of singles rely on Social Security for 90% or more of their income.

alternatives

Social Security has always been a transfer payment from the young to the old. But it is palatable as long as the young can reliably expect their late years to be covered in turn. However, demographics are working inexorably against that social contract. In 1950 America, there were 16 workers to support each senior, whose lifespan averaged only 68 years. But now, the increase in longevity to 78 years has led to a mere 3 workers supporting each retiree, and the swelling of the senior population group by the baby boom will reduce that number to 2 per retiree.

Add to that the suspect rise in persons qualifying for Social Security at any age owing to disability, a number that has risen much faster than the population and a subject we covered in this article.

What is sobering to realize is that Obama’s proposal to crimp the cost of living adjustment would fill only 20% of Social Security’s shortfall. Far more drastic measures are needed to fill the rest, a fact that the public and Congress refuse to face. So what should be done?

The Social Security payroll tax of 12.4% (half paid by one’s employer, all paid by the self-employed) is currently applied to the first $113,700 of an individual’s earnings. Income beyond that point is taxed no further. Democrats say, why not remove the cap altogether? That boost in receipts would cover 88% of the shortfall, says the Social Security Administration.

If the cap were removed, the wealthy (along with their employers) would be asked to pay a whopping 12.4% of everything they earn. They alone would be asked to prop up the system to the benefit of everyone else. Where’s the fairness in that?

We would see a spate of maneuvers by high income earners to have themselves paid in new and imaginative ways that do not count as payroll so as to evade the payroll tax. Why, it might even set off class warfare within the ranks of the wealthy, pitting those suffering the tax against those who make their money by pathways other than payroll and pay no payroll taxes at all. Mitt Romney provided a striking example of the latter.

One root of the problem is that people are living longer while still wanting to retire at the same age as before. That eligibility age is slowly being increased — it now stands at 66 in place of the 65 which has long obtained. But those not wanting to see benefits reduced by the chained CPI say why not extend the eligible age — to 70, for example? People are healthier in those early years. If benefits are to be trimmed, better then than when they are older and in declining health.

Moreover, income levels for all but the top percentiles have been flat across the most recent decades and have even dropped over the last ten years, with various seers telling us this is the “new normal” to which we had better adapt. The media is filled with suggestions that people need to work longer so that Social Security can start later.

But apart from how unpopularity of postponing the start of Social Security deposits hitting our bank accounts, this scheme also has its unfairness component. Bodies suffer wear and tear for those in physical jobs; a man or woman cannot be expected to still lift that bale all the way to age 70. What to do about that?

The disability provisions of Social Security don’t quite work for this group of workers. Inability by a certain age to perform physical labor is not necessarily disability. There’s a novel workaround that would allow for age 70 eligibility to be equitable for all. Workers in jobs classified as physically strenuous could pay a sharply reduced rate of Social Security payroll tax while working at such jobs. (Employers would continue to pay their 6.2% half.) Like everyone else, those workers would not be eligible for benefits until age 70, but all along, while working physically debilitating jobs, they will have been keeping more of their paychecks than the desk job neighbor down the street. It would be for them to stow away that money for when they have to quit working and wait until age 70 when Social Security kicks in.

If the government wants to beef up Social Security, instead of Obama’s plan to increasingly squeeze seniors the older they get, why doesn’t he instead propose doing away with the option to start receiving benefits at age 62? The Social Security Administration would say that they save money because the benefit payout is less all along for early adopters. Take the example of a person just turned 62 who is eligible for benefits of, say, $1,500 a month. For each year that person elects to wait, the monthly amount rises. That same person electing instead to start collecting at age 66 would receive about $2,000 a month. But across sixteen years the Administration will pay out more money cumulatively to the person who started early. Not until 2029 and age 78 does crossover occur, where the person who started at age 66 begins to receive more. The average life expectancy is now 78. Wouldn’t Social Security save money by ending early eligibility?

How about means testing? Why should Social Security money be wasted on people who don’t need it, is the argument. First, we already are means tested to a degree, and at very low income levels. The Social Security tax we paid into the system is taxed all over again when it is returned to us, the amount varying by how much other income we earn. When people propose means testing, it is not clear whether they know this, given that software or services (using software) now compute virtually everyone’s taxes. Few venture into Form 1040 instructions to discover this.

And would means testing be based only on income? Discussions of mean testing often toss in words like “assets” and “savings”. Are its advocates suggesting that we all must report the market value of our house, CDs, bank balances, while and our mutual funds and brokerages mark to market our securities and report to the government? Everything laid bare?

Besides, means testing can be a trap. Social Security payments in the current year would be based on income of some prior year. What if that prior income was enough to shut off Social Security payments in the current year, and that other income plummets, leaving seniors with no income. One need look no further than the sudden disappearance of interest income caused by the Federal Reserve cutting interest rates to zero across the last couple of years.

Probably a little of everything mentioned above. Or rather, a lot of everything, because beginning in 2033 when the government has fully repaid what it has borrowed over the years and owes the “trust fund” nothing further, Social Security will not be able to meet 25% of its obligations. That’s a big hole to fill.

But every solution will be met with extreme hostility. We saw the reaction when in 2005 George W. Bush hoped to create what he called “the ownership society” in which Social Security would be privatized. We would instead deposit into private investment accounts to manage ourselves. As people caught on, Bush sampled that hostility. The 2008 economic crash showed how hazardous that program would be and it is no longer advanced as a prudent solution.

So apologies for probably wasting your time, because none of these solutions will be adopted. Congress will not dare to lead, fearing the voters’ wrath. Voters will demand that nothing change, refusing to face the uncompromising math. And the result can only be that we’ll build that cliff ever higher until Social Security arrives at the edge.

The government will simply be forced to pay the difference — no longer “entitled” to us as repayment of our payroll taxes borrowed over the years, but just as an expanding social welfare program. And that will have to be paid for by general tax increases — or with deficits, because tax increases, too, will be met with furor.