Starting from Scratch

A commentor pointed me to some idiocy in George Will's column on Social Security from Sunday, where I noticed this question:

Surely the beginning of wisdom is to begin not with such speculations [about long-term solvency projections] but with the question asked in a Wall Street Journal essay by Edward C. Prescott, co-winner of the 2004 Nobel Prize in economics: "If we could wipe the slate clean, what kind of government retirement program would we build from scratch today?"

That's a useful kind of thought experiment, although no more than that. Since we can't wipe the slate clean, even if we would today devise a very different system, the first question is how to manage change to the old system. Nonetheless, having such an alternative vision should be a guide to reform, and it's fair to expect anyone participating in this debate, either as a proponent or opponent of privatization, to have some kind of answer.

Will's/Prescott's answer is simply that you would involve equities, and the likely greater returns from equities, in a modern retirement system. Whether that's accurate or not, it is actually an incredibly narrow and cramped answer to the question.

Here's my answer: If I were designing government's role in a retirement system today, my goals would be to ensure that no working Americans dropped into poverty in old age, and that all working Americans had an opportunity to build retirement savings sufficient to ensure a generally prosperous retirement. I would also want to make sure that the system would work within a dynamic economy in which workers would have many jobs in a lifetime and in which the barriers to entrepreneurship and hiring were low. Here's what I would do:

First, create a system of universal retirement accounts for everyone, either at birth or upon entry into the workforce. Employers would be encouraged to make pension contributions into an employee's account, which would save small businesses the expense of setting up and managing their own pension systems or dealing with pension obligations long after the company has gone out of business.

Workers would be free to make their own contributions to the account, and employers would be encouraged through tax incentives to match and supplement those contributions. In addition, for low-income workers, any money they were able to contribute to the account would be matched using public funds, to create the habit of saving and investing.

Most of the money in these accounts would be invested at the workers' discretion, through a system that provided general guidelines about the appropriate level of risk (that is, stocks and small cap stocks) for a particular age or circumstance.

To ensure that no one fell into poverty as a result of poor investment decisions or inability to save, however, a base of the system would provide a kind of insurance, in which both workers and employers would be required to contribute a percentage of income, up to a limit, into a pooled fund that would be invested very conservatively (Treasury securities) and paid out as a fixed monthly benefit after retirement, possibly based on need. This would allow people to take more risks in the rest of their account, knowing that the most basic cost of living in old age was secured through this insurance system.

And yes, this basic insurance level of retirement would look a lot like Social Security. The biggest difference in my approach would be that I might add a means-test to make it even more like insurance, so that it would go only to seniors who needed it. This would enable the secure set-aside to be much lower.

None of these are totally new ideas, by the way. Variations of them have been floating around progressive policy circles for at least a decade. We've given a lot of thought to the ownership society, it's just that our politicians don't talk about it much. And you could get awfully close to it by building out that universal, portable pension system and leaving Social Security intact as the secure base of the system.

Social Security is not the totality of a retirement system. Rethinking retirement as Will suggests does not mean just tinkering with the investment profile of Social Security. Rather, Social Security is the insurance portion, the secure portion, of a complete retirement system that involves other kinds of savings and investment. And anyone who has a 401(k) or an IRA or similar knows that we can take much bigger risks with our retirement savings than we could if we did not have that secure base that is provided by Social Security.

Now I would like to hear George Bush's answer to George Will's question.