The future of Social Security

Americans are embracing the idea that we should expand Social Security. A movement started by a few progressive activists spread to opinionmakers and ultimately to presidential candidates such as Vermont Sen. Bernie Sanders. But is a broadly expanded Social Security program really necessary? And can we afford it? The best evidence indicates that the answer to both questions is "no."

For years, the Social Security Administration stated that, for an average person, Social Security replaced about 40 percent of preretirement earnings vs. financial advisers' recommendation of a total "replacement rate" of about 70 percent. This gap caused widespread concern, but almost no one understood how the administration generated its 40 percent statistic. It turned out the administration was using a misleading method — comparing the benefits paid to the average new retiree to the wages of the average, still active worker.

In 2014, the Social Security Trustees removed the calculated replacement rates from their annual report, fearing they may lead to confusion.

The following year, an expert panel appointed by the Social Security Advisory Board recommended a more logical way to determine the replacement rate: comparing Social Security benefits to an average of the retiree's final years of substantial earnings. When the Congressional Budget Office used this alternative method, it found that Social Security replaced close to 60 percent of final earnings. For low-income retirees, Social Security replaced close to 100 percent.

Setting aside the replacement rate issue, some reformers insist that we must expand Social Security because the broader state of the American retirement system is so dire. For instance, some cite data showing that 52 percent of Americans over age 55 don't have a retirement account. But roughly half of that group — 25 percent of the total — have a traditional pension plan. The other half are mostly very poor — with average household incomes of about $20,000 — and will receive a Social Security benefit close to their preretirement earnings.

Reformers also point to government statistics purporting to show that retirees have little income outside Social Security. Yet the source of these statistics, the Current Population Survey, counts income only if it's delivered regularly — say, a monthly check from a traditional defined benefit plan — leaving out lump sum payments and irregular deductions from a 401(k). That's a significant oversight.

Academic studies using more rigorous methods paint a more optimistic picture. A 2014 report from the Rand Corp. concluded that "about 71 percent of individuals ages 66-69 are adequately economically prepared to retire, given expected consumption." A scholar at the Brookings Institution and two economists at the University of Wisconsin-Madison found that roughly three-quarters of the households in a large sample "had accumulated sufficient resources in 2004 to maintain pre-retirement living standards in retirement."

Instead of requiring workers to affirmatively sign up for their retirement plan, 59 percent of 401(k)s now automatically enroll employees. Instead of managing their own investments, 41 percent of 401(k) participants now invest in target-date funds that automatically adjust their investment as they age. Administrative costs, which often have been too high, fell by more than 10 percent from 2009 to 2013 and now are comparable to traditional pensions. Total retirement assets today are higher relative to Americans' incomes than any time in recorded history.

The main problem with Social Security is not that it's stingy, but that it's inadequately funded. According to the Social Security Trustees, the program's long-term deficits have risen by 58 percent since 2008. The Social Security Advisory Board's 2015 expert panel and the Congressional Budget Office both project even larger funding shortfalls. A policy such as eliminating the $118,500 ceiling on wages subject to payroll taxes, a favorite of progressive advocates, would raise U.S. taxes to Scandinavian levels without fixing the long-term shortfall.

Targeted reforms could improve Social Security greatly. For instance, many individuals with short careers fail to even qualify for Social Security benefits because of a 10-year "vesting period." None of the existing Social Security expansion plans fix this problem. But a universal minimum Social Security benefit paid to all retirees, such as is offered in New Zealand, could reduce poverty in old age at relatively low cost. Likewise, small-scale adjustments such as universal auto-enrollment and auto-escalation for 401(k)s could improve the private retirement system.

The case for across-the-board Social Security increases rests on misunderstood data and a willingness to ignore Social Security's rising unfunded liabilities. Neither is a foundation for good public policy.