Tuesday, September 25, 2007

Pay now or pay more later 

The cost of delay is almost always larger than people think. Take for example Social Security. Andrew Samwick highlights a new report from the Treasury Department. In short, it says that if you wait to solve Social Security you get both the problem of baby boomer retirements being a larger share of the public and lower fertility rates leaving us fewer people to tax to pay Social Security benefits. The report puts a figure of $13.6 trillion -- about one year of GDP -- on the present value of the shortfall in Social Security over an infinite horizon. (You often hear a smaller number of about $5.1 trillion, but that only gets you to about 2080, and then you have to fix the problem again.

So what does it take to fix the problem? The report says if you were to not touch the current recipients of Social Security and only pay for the problem by increasing payroll taxes, you could take care of the permanent issue by a payroll tax rate increase of 3.5% (from the current 12.4% to 15.9%.) If instead you were to pay for it by just cutting benefits, the reduction today would be a little more than 20% of benefits. Obviously a combination could work as well. But if you wait until 2041, when the current $2 trillion surplus in Social Security would be exhausted, you would have to raise the payroll tax 5.8% or cut benefits 30%, or some combination of the two.

Of course, chastened by the Bush experience with the issue in 2005, don't expect to hear these solutions brought up in the elections next year. But those data do help us understand the cost of delay.