THE BLOG
06/17/2010 11:41 am ET Updated May 25, 2011

How Social Security Can Gain Without Much Pain

As Obama's Fiscal Commission prepares for its June 30 hearing, the Roosevelt Institute's New Deal 2.0 blog invited me to participate in its Social Security's Fiscal Fitness series, which examines the soundness of the program, its relationship to the federal deficit, and the vital role it plays in America's economic future.

Advocates of cutting Social Security benefits often argue ruefully that they wish that there was some other way to "save" the program. But, they say sadly, the only realistic choices involve shared sacrifice and pain. So they recommend changes like further delays in the age when full retirement benefits can be collected, reducing cost-of-living adjustments to Social Security payments, and other cuts that would reduce how much future retirees are scheduled to receive.

But in fact, Social Security's currently strong finances could be sustained beyond a 75-year time horizon entirely through modest tax increases targeted toward high-income workers. Social Security provides vital protections that have been enormously successful in reducing poverty among the elderly and disabled, but its benefits are by no means overly generous. Compared to 30 OECD nations, the U.S. ranks 25th in the share of an average worker's earnings that is replaced upon retirement by a country's public pension program. Social Security's annual benefit of about $13,860 a year for an average retired worker is only slightly above the poverty level of $10,830.

According to the projections of Social Security's Trustees, the program will be able to continue paying promised benefits in full until 2037. After that point, payroll taxes will be sufficient to finance about three-fourths of promised benefits. Over the 75-year time frame that the Trustees are required to forecast, that gap between promised benefits and revenues amounts to about 0.7 percent of GDP. Closing it would require the equivalent of a 1 percentage point increase in the current Social Security payroll tax rate paid by employees and matched by employers. But the same amount of revenue could be raised in a variety of ways that would confine the extra burden to taxpayers who would be best able to afford it.

One easily defended way to do that would be to raise the cap on annual wages subject to the Social Security payroll tax, which is currently $106,800. Past Congresses have set the cap at a level where it equaled 90 percent of aggregate earnings in Social Security employment. But simply because the incomes of the higher paid have risen much more rapidly than average wages over the past few decades, the cap has declined to nearly the 80 percent level, without any action by Congress whatsoever. Gradually restoring it to the historic 90 percent baseline in and of itself would close about a third of the 75-year shortfall. In the process, only the 6 percent of workers earning above the cap would owe more and their payroll tax deductions would simply continue for a few days longer into the year than they do now. And those workers paying more would receive higher benefits as a result.

One way to close the entire remainder of the shortfall would be to remove the cap entirely just for the employer contributions to an upper income worker's payroll taxes. That wouldn't directly affect the paychecks of those employees, though it might somewhat dampen their future raises. Still, considering that the highest earners continue to prosper and enjoy far greater economic security than everyone else, the adjustment is a reasonably fair way to sustain the nation's most important social insurance program.

An alternative that would more than completely eliminate the 2 percent of payroll shortfall would be to impose a small investment transactions tax (similar to Great Britain's) of one-fourth of one percent on publicly traded stock, credit swap derivatives, and other financial instruments. Some economists have long supported the idea as a way of deterring economically wasteful "churning" in investment markets, and the cost again would largely be borne by individuals and Wall Street firms that can most afford it.

Other proposals, including earmarking estate revenues to Social Security, also could go a long way to bridging the long-term funding gap without imposing pain on average citizens. But the main reality to recognize is that, notwithstanding the dour "truth-telling" of alarmist politicians, anti-government ideologues, and misinformed journalists, Social Security can be sustained indefinitely without inflicting any pain whatsoever on the vast majority of Americans, and with only modest costs to upper-income taxpayers.

Cross-posted from New Deal 2.0.