The growing momentum for federal budget deficit reduction is pointing toward cuts in Social Security benefits for millions of Americans -- and one of the proposed changes would begin taking effect quickly.
President Obama's deficit reduction commission won't issue a report until December, but several panel members have released detailed trial balloon proposals. The two bipartisan plans released so far each include Social Security benefit cuts; a third, released by Rep. Janice Schakowsky (D-Ill.), wouldn't cut benefits.
Before getting into the details on how benefits might be affected by all these plans, a couple facts bear repeating.
First, Social Security isn't a direct cause of the federal budget deficit. The Social Security Trust Fund (SSTF) currently runs a $2.5 trillion surplus, built up through earlier reforms that anticipated the looming retirement of the huge baby boomer generation.
Second, Social Security is not "in the red," or "going bankrupt," as pundits and politicians sometimes say. It's true that Social Security took in less in payroll taxes this year than it paid out. That was due mainly to the deep recession, which has cut into payroll tax collections and pushed more unemployed workers to file for early benefits. But that's a short-term problem that will reverse itself when the economy improves.
Finally, the SSTF really does exist, contrary to rumors that it exists only as an accounting trick or has been looted by the government. The simple fact is that the SSTF surplus funds don't sit in some giant government piggy bank gathering dust; instead, the surplus is invested (safely, one assumes) in government-issued Treasury notes. Those notes are obligations of the federal government back to the SSTF, to be cashed in to finance all those looming boomer retirements.
Social Security does have a long-term problem. The program operates on a 75-year time horizon -- and it requires adjustment periodically due to rising longevity and the fact that the nation's birthrate has been falling. Current projections show the SSTF will be exhausted around 2035; at that point, Social Security would be reliant on current payroll tax revenue, and would only be able to pay about 76 cents of promised benefits.
The two sets of bipartisan plans tackle it through a combination of Social Security benefit cuts and new revenue.
One plan, released by the co-chairman of the deficit commission, address that shortfall with a proposal made up of about 25 percent new revenue and 75 percent benefit cuts. New revenue would be generated by gradually lifting the percentage of wages subject to Social Security payroll taxes, currently capped at $106,800; by 2050, 90 percent of wages would be subject to tax.
Past Social Security benefit cuts have nearly always been phased in slowly to avoid impacting current retirees or those close to retirement. Not so with this proposal. One of the most important changes would change the formula for Social Security's annual cost-of-living adjustment (COLA). The changes would be phased in starting in 2012.
Commission co-chairmen Alan Simpson and Erskine Bowles propose replacing the current measure, the Consumer Price Index for Urban Wage Earners and Clerical Workers -- known as the CPI-W -- with a new "chained" CPI that takes into account "substitution purchases" consumers often make to avoid high prices. The "chained" CPI is expected to rise 0.3 percent less annually than the CPI-W. That may sound small, but it's powerful when compounding is factored in, cutting lifetime benefits by about 9 percent for someone reaching the age of 92, according to the National Academy of Social Insurance (NASI).
Critics of this reform argue that the "chained" CPI doesn't reflect accurately the inflation experienced by seniors, since they spend a higher proportion of their income on health care, where prices are rising at about four times the rate of general inflation.
Another key benefit reduction would be made by making technical changes to the way that Social Security averages workers' lifetime earnings to determine benefits. This is the biggest single change, reducing the Social Security Trust Fund (SSTF) long-term shortfall by 45 percent.
The last big proposed cut is to push the full benefits retirement age to 68 by 2050, and 69 by 2075. Reform advocates and actuaries argue that we'll all need to work longer due to rising longevity rates. But it's important to understand that boosting Social Security's full retirement age is a lifetime benefit cut for everyone, no matter when you claim benefits.
Consider the increase in retirement age already being implemented under the 1983 reforms. When the full benefit age hits 67 in 2022, anyone claiming between age 62 and 66 will receive about 12 to 14 percent less in lifetime benefits, according to NASI.
The second bi-partisan deficit reduction trial balloon steers clear of the higher retirement age, but does recommend other cuts, including the "chained" CPI to compute COLAS. This proposal, the brainchild of Alice Rivlin, who served as budget director during the Clinton Administration, also suggests several new revenue sources.
Finally, Schakowsky's proposal keeps current benefits where they are, addressing the SSTF's long-range solvency issue through new revenue.
It's not clear yet which, if any, of these proposals will move forward, although the conservative shift in Washington's political climate following the mid-term elections suggests the odds are rising for Social Security benefit cuts of some kind.
That would be a bad move at a time when the need to bolster retirement security is rising dramatically. Americans simply are on track to run out of money in retirement--the result of depressed retirement accounts, unemployment and rising expenses for healthcare.
Earlier this year, the Employee Benefit Research Institute (EBRI) reported that many American households -- in all income brackets -- won't have enough cash in retirement to meet expenses in retirement. EBRI's 2010 Retirement Readiness Rating study projected that almost one-third of Americans in the second-highest income bracket will run out money after 10 to 20 years in retirement. And, nearly two-thirds (64 percent) of Americans in the two lowest pre-retirement income brackets will run short 10 years out.
Meanwhile, Social Security benefits already are modest -- the average benefit paid is about $14,000 -- about $6,000 less than it takes for an average senior to make ends meet, according to the Elder Economic Security Standard.
Against that backdrop, it's hard to see why cuts in Social Security should be included in whatever cure we decide to take for the federal budget deficit.