[The Montana Professor 18.1, Fall 2007 <http://mtprof.msun.edu>]

Real Reforms to Enhance, Not Curtail, Social Security

Goerge S. McGovern
U.S. Senator from South Dakota, 1963-1981
Democratic candidate for President, 1972
U.S. Ambassador, UN Food & Agricultural Agencies, 1998-2001
UN Global Ambassador on World Hunger, 2001

Max J. Skidmore
Curators' Professor of Political Science
Thomas Jefferson Fellow
University of Missouri-Kansas City

The companion article in this issue, "The American System of Social Security: Separating Fact from Fallacy," discusses the importance of Social Security. Countering the conventional wisdom, it demonstrates that the system is in good condition and is likely to remain so. This is not to say that Social Security could not be improved. We have studied its characteristics and effects, and have devised a plan that will make a fine program even better.

We are discussing our ideas with various officials in and out of government, and Skidmore's forthcoming book, Securing America's Future (Rowman and Littlefield), is scheduled to be on the market next March. This book will discuss and analyze the situation fully, and will provide the plan and the argument in considerable detail. Its timing should enable these innovative ideas to be considered during the election campaign.

Certainly there would be no chance that President Bush would approve legislation incorporating our ideas, even if the current Congress would accept them and could overcome a Senate filibuster to pass such a bill. The chances look strong, though, that the next president will be a Democrat, less ideologically rigid than President Bush, and that Democrats will substantially increase their majorities in both the House and the Senate. The climate after January of 2009 should therefore be much more favorable to the kind of positive reforms benefiting the vast majority of Americans that we suggest.

Social Security's benefit structure is progressive. Those of lower earnings receive benefits that reflect a higher percentage of their final earnings than do those of higher earners. The system's financing is not. In fact, it is regressive. Workers pay into the system 6.2% of all wages up to the maximum amount taxed, $97,500 (for 2007). Not only does a worker earning above the FICA maximum pay a lower rate--one earning $195,000, for example, pays a total rate of only 3.1%--but the very lowest paid workers must pay 6.2 cents of every dollar earned, starting with the very first.

To be sure, the Earned Income Tax Credit does lessen that burden on those at the very bottom of the wage scale. Still, since the FICA tax is regressive (it is flat only when considered in relation to those earning $97,500 or less; it definitely is regressive with regard to the total workforce), it falls most lightly on those of higher earnings. Because the taxable wages are capped, those earning very high wage levels barely feel the tax's effects. Those at the astronomical levels now characteristic of corporate CEOs, the most successful entertainers and sports figures, and a handful of broadcasters satisfy their entire annual obligation to Social Security well before lunch on the first day of the year.

The McGovern-Skidmore Plan

First: eliminate workers' FICA taxes on their initial earnings

We are proposing a plan that would increase the paycheck size of the vast majority of workers, yet would not reduce their benefits. Our plan would make the first $20,000 of wages free from FICA taxes on the employee; the employer would still pay the 6.2% currently paid. Thus, workers earning below $20,000 would pay no FICA tax, but would still be covered by Social Security. (The Social Security Administration calculates benefits on the amount of wages in covered employment, not on the amount of FICA tax paid in, so the first $20,000 would still generate Social Security credits.) This would help compensate for the very low minimum wages paid to the workers at the lowest end of the scale.

All workers in covered employment earning between $20,000 and $97,500, by far the majority of the workforce, would see an increase in their paychecks of $1240 per year. Such a broad tax reduction for the majority of Americans would result in considerably more economic stimulation than do large tax cuts for those of high earnings.

Our plan to be sure would divert money from the trust funds, but we propose to compensate for that. Note that President Bush's idea for Social Security also would have diverted money away from the trust funds, but with no provision whatever for replacing the money lost to Social Security. The Bush plan was not fully developed, and made no headway even in the previous Congress that Republicans controlled. It would have permitted workers to divert $1,000 per year of their FICA taxes away from the trust funds into private accounts but only into those accounts that had government approval.

We propose a tax cut that would permit most workers to have increased take-home pay over which they would have complete control. Workers could use the money from their reduced taxes for whatever purpose they wish--including, as Bush would have them do, opening savings accounts should they so choose. Bush's plan not only would have dictated what would be done with the money diverted from the trust funds, but by proposing a diversion with no way to compensate for the reduced income to the Social Security system, it also would have constituted a huge raid on those funds.

Second: enhance the trust funds

First Enhancement: eliminate cap on taxable wages. Our proposal not only would protect the funds, but in fact would enhance them. First among our enhancements would be eliminating the cap on the amount of earnings subject to FICA taxes. We believe that everyone should support the system. It should be embarrassing to argue that the manager making $195,000 per year or the $400,000 account executive cannot "afford" to pay 6.2% to support the Social Security system, when $40,000 teachers, or even $15,000 clerks, do manage to do so.

This proposal would not result in enormous benefits for those of very high earnings, because increasing earnings would bring progressively smaller increases in benefits until they reach a reasonable maximum. There is precedent for removing the cap on taxable wages. Medicare has no limit on the amount subject to taxation. The wealthy therefore pay far more than those of low earnings do for precisely the same Medicare hospitalization benefits. The only additional cost to employers from our proposal would be the need for them to pay additional FICA taxes for those employees earning more than $117,500 annually. Many employers would pay little or no additional taxes at all. Those relatively few employees earning more than $117.500 would be the only workers subject to greater FICA taxes.

Thus, our proposal would cause few Americans to pay more in taxes. For the most part, those who would pay more, whether employers or employees, already have received substantial tax reductions.

Second Enhancement: dedicate an inheritance tax to the trust tunds. We agree with a number of authorities who have suggested that an estate tax, actually an inheritance tax, be dedicated to Social Security. The common argument that such levies result in double taxation is a red herring. In modern economic systems, money is taxed over and over. A worker pays income tax on money earned from work, but still must pay sales taxes, real estate taxes, and assorted other levies from funds that already have been taxed. In any case, the bulk of large estates consists of appreciated funds, capital gains, upon which no tax has been paid.

The label "death tax" is pejorative nonsense. An estate tax does not tax "death." Rather, it taxes an exchange of money. In this instance, it affects only a large estate that passes from one hand to another upon death. We would propose an exemption of at least $5 million. Only estates exceeding that amount would pay the tax, and the tax would apply only to the amount above $5 million that is, an estate of, say $6 million, would pay the tax only on $1 million. A tiny number of estates would be the only ones to pay any tax at all under our proposal.

The estate tax, one should note, does not derive from the New Deal or the Great Society, nor even from the progressive era of Theodore Roosevelt. Inheritance taxes have been features of American society almost from the beginning. By the early 1900s, well over half the states had inheritance taxes, and the federal tax was a feature of American tax policy for nearly the entire twentieth century. Before that time, according to Steven Weisman who has studied America's tax system extensively, "the inheritance tax already had a distinguished history in America, going back to taxes on the probating of wills in the colonial era. A broad inheritance tax was briefly considered during the War of 1812, and during the Civil War, it passed Congress with little debate because of the widespread demand in the North for sacrifice, especially from the wealthy."/1/

Although there is a great propaganda campaign against inheritance taxes, the charge that they inevitably cause the breakup of small businesses and family farms is simply false. When the American Farm Bureau Federation, a conservative organization representing primarily the owners of larger and corporate farms, lobbied Congress on behalf of estate tax repeal, it used the family farm argument. Farm Bureau officials had to concede, though, that in all their research, they could uncover not one single instance of a family farm being lost because of the tax./2/ If there were any undesirable and unintended effect on small business, it could easily be remedied by reform, rather than repeal. The fascinating aspect of the discourse regarding the estate tax is the way in which its opponents succeeded in presenting an intensely regressive measure, elimination of the tax, as a populist issue./3/ It is dishonest, and in fact should be laughable, to imply that most citizens pay the estate tax when in reality that tax falls only upon a wealthy elite that includes fewer than 2 percent of the population. In no way could it be "populist" to free the richest Americans from a tax that only they would ever pay.

Third Enhancement: heed suggestions from a past president of the American Economics Association. The late Northwestern University Professor Robert Eisner, one time president of the American Economics Association, suggested a number of ways to enhance the trust funds. We endorse his suggestions. They were deceptively simple, but ingenious. He urged that the Treasury simply increase the rate of interest that it pays on the bonds that it sells to the trust funds. Additionally, he called for the earmarking of a portion of the income tax to the trust funds. Americans pay FICA taxes, but have never been able to deduct those payments from income when calculating their income taxes. Eisner said that the portion of the income tax that results from such a "tax on tax" should be credited to the trust funds, in the same manner that income tax levied on the Social Security benefits of higher-income beneficiaries is./4/ All of these measures would be simple bookkeeping arrangements, but would serve to enhance the trust funds, and reassure a public that has been deliberately frightened by misleading propaganda.

Third: ensure that trust fund loans reduce the national debt

Our plan's final feature relates to our burgeoning national debt that does portend a future economic crisis. So long as there is a huge national debt, we would restrict the use of money borrowed from the trust funds to paying down that debt. This is not double counting. Now, the government borrows from the Trust Funds and has to redeem (pay off) the bonds (or roll them over) while the national debt continues to escalate. Under our plan, it would still be necessary to redeem the trust fund's bonds just as it now is. In contrast to the current situation, though, the amount of the national debt remaining to be paid would be reduced by the extent of the borrowing from the trust funds. This, in a sense, would truly be a "lock box." This is our proposal. It would make Social Security's financing mildly progressive, and would ensure trust fund stability while avoiding benefit cuts and requiring the wealthy to pay their fair share. We have another suggestion in addition to our reform plan. Although we arrived at this proposal independently, it is not unique with us. The consulting actuary David Langer has also suggested something similar. We are confident that he would agree that it bears repeating.

Countering the conventional wisdom: expanding Social Security

Social Security was not designed to be a complete retirement system. The original metaphor was that Social Security was "one leg of the three-legged stool." The other two legs were company pensions, and private savings and investments. Unfortunately, in far too many cases, Social Security today is forced to become a complete retirement, and it cannot do adequately what it was never designed to do. As the preceding article noted, a fifth of all retirees in America have no income at all other than their Social Security benefits. For nearly one-third of America's retirees Social Security provides almost all of their income, 90% or more. This is unacceptable.

It is time to discard the "three-legged stool" metaphor. In spite of the attacks on Social Security, it is the only leg of the stool that remains intact. Companies are rapidly retreating from any obligation they once felt to ensure pensions for their retirees. America's workers by and large have no savings. Rather, they have debt, often paying inexcusably high interest on large credit card balances; the savings rate is negative.

Arguments condemning workers on moral grounds, "they should be more responsible," not only are heartless and cruel, they are unrealistic. The workforce today is not paid sufficiently to live at an acceptable standard, while still putting enough aside to ensure a comfortable retirement. Most families today require two incomes to survive. However frugal they may be, they are unable to save for their children's higher education, or for any major unanticipated expenses--and all families at some time do face major, unanticipated expenses. A medical emergency, or ongoing health-care expenses, can destroy the financial position of even an upper-middle-class family. Many of those who believe they have full coverage, discover when their insurance refuses to cover expenses, or cancels their policies, that they do not.

A number of business leaders in this country are beginning to recognize--as their counterparts in other countries did long ago--that it would be to industry's advantage to have universal health care. Surely, they soon will recognize also that it would be to their advantage to have a complete retirement system for the workers. The nucleus for such a system already exists: Social Security.

Rather than cut Social Security benefits, as its opponents would do (prior to eliminating the program), Social Security should be expanded to provide two or three times its current level of benefits. This would give American workers security, retirement, and general income protection that would be completely portable. Of course this would be good for the workers, but it also would help their employers. Employers no longer would have to worry about funding and maintaining a pension system--an obligation that more and more employers are rejecting in any case. The overall cost would be less in the long run because of the unparalleled efficiency of the Social Security system.

The free market does many things well, but it, like all human endeavors, is far from perfect. Any informed student of America's health care delivery system can hardly fail to recognize that in this field the market is a failure. It does not guarantee quality, it has led to enormous inefficiency, waste of resources, and the most expensive health-care system in the world (without the benefits that should come from such huge expenditures). Moreover, it has completely failed in ensuring even basic services for the population as a whole.

Similar dynamics are at work regarding retirement. The free market is not working to provide retirement. The Social Security System, on the other hand, does superbly what it was designed to do. It makes sense to expand it to provide that complete retirement, with its other benefits being scaled up accordingly.


Notes

  1. On the history of inheritance taxes, and income taxes as well, see Steven R. Weisman, The Great American Tax Wars (New York: Simon and Schuster, 2002); quotation is from pages 177-178.[Back]
  2. David Cay Johnston, "Focus on Farms Masks Estate Tax Confusion," The New York Times, 8 April 2001.[Back]
  3. On this issue and the estate tax in general, see Michael J. Graetz and Ian Shapiro, Death by a Thousand Cuts: The Fight Over Taxing Inherited Wealth (Princeton: Princeton University Press, 2006).[Back]
  4. Discussed in Max J. Skidmore, Social Security and its Enemies (Boulder, CO: Westview Press, 1999), 82-83; Eisner set forth his ideas in his Social Security: More, Not Less (New York: Century Foundation Press, 1998); see also Eisner, "What Social Security Crisis?" Wall Street Journal, 30 August 1996.[Back]

[The Montana Professor 18.1, Fall 2007 <http://mtprof.msun.edu>]


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