Good morning, Mr. Chairman and Members of the Committee. My name
is James Roosevelt, Jr., and I am the Associate Commissioner for
Retirement Policy at the Social Security Administration. I
appreciate the opportunity to appear before you today to discuss
Social Security reform lessons learned in other countries. I am glad
to be a part of the ongoing discussions to save Social Security for
the 21st century. There is valuable information that can
be gleaned from examining the efforts to reform social insurance
programs around the world.
In my testimony today I will briefly review for you Social
Security's long-range solvency situation in terms of the status of
the trust funds as well as changing demographics. I will also
discuss the demographics facing other nations, and a broad range of
reforms that have been implemented in other countries to address
those changes. This topic is quite relevant; as I will discuss
later, the Administration considered foreign experience carefully in
the process of developing our framework to protect Social Security.
It is important to keep in mind that every country has its own
unique circumstances and that what is best in one country may not be
the best solution for our country. Each country faces a different
set of demographics and has a different set of programs to support
retirees, survivors and the disabled. For example, merely comparing
cash benefits without considering health and housing supplements may
provide a distorted picture. Also, the social insurance tradition
and the status of the social insurance programs in different
countries vary greatly. We are fortunate in this country to be
facing a problem, but not a crisis. Some countries have made radical
changes because their situations were more dramatic and immediate.
Status of the Social Security Trust Funds
I'd like to take a moment to share with you the current status of
the Social Security Old Age and Survivors Insurance (OASI) and
Disability Insurance (DI) Trust Funds. The OASDI Trustees monitor
the financial health of Social Security -- our Nation's most
successful family protection program.
According to the 1998 Trustees Report, the assets of the combined
funds increased by $88.6 billion, from $567.0 billion at the end of
December 1996 to $655.5 billion at the end of December 1997. At the
end of fiscal year 1998, the combined funds had a combined balance
of $730 billion. In 1997, the Social Security trust funds took in
$457.7 billion and paid out $369.1 billion. Thus, over 80 percent of
income was returned in benefit payments. Administrative expenses in
1997 were $3.4 billion, or about 0.9 percent of benefits paid during
the year.
Under the 1998 Trustees Report's intermediate assumptions, the
annual combined tax income of the OASDI program will continue to
exceed annual expenditures from the funds until 2013. However,
because of interest income, total income is projected to continue to
exceed expenditures until 2021. The funds would begin to decline in
2021 and would be exhausted in 2032.
In 2032, when the trust funds are projected to become exhausted,
continuing payroll taxes and income from taxes on benefits are
expected to generate more than $650 billion in revenues (in constant
1998 dollars) for the Trust Funds in 2032. This is enough income to
cover about three-fourths of benefit obligations. And I want to
stress that the President is committed to seeing to it that this
scenario never develops.
Changing Demographics
I have mentioned "demographics" in a general way, but I have some
specific facts to share with you that may be helpful to our
discussion today:
- In the U.S. in 1995, the elderly population (aged 65 and over)
was about 34 million, making up about 12% of the population. In
contrast, there were about 9 million aged people in the U.S. in
1940, and then they accounted for less than 7 percent of the
population.
- And Americans are living longer. When benefits were first paid
in 1940, a 65-year old on average lived about 12 ½ more years.
Today, a 65-year old could expect to live about 17 ½ more years
and by 2070, life expectancy at age 65 is projected to be an
additional 20 ½ years.
- The elderly population growth rate is expected to be modest
from now through 2010, but it will increase dramatically between
2010 and 2030 as the baby-boom generation ages into the
65-or-older age group. For every 100 working age people, there
will be more than 35 people aged 65 and over by 2030.
- In 1994, 60% of the elderly were women and 40% were men. Among
the oldest of these (85 or older), over 70% were women and fewer
than 30% were men.
Clearly, many millions of people are depending on us for strong
and decisive action to preserve and protect the multi-tiered
structure of retirement income security. President Clinton stated
that we must act now to tackle this tough, long-term
challenge.
Foreign Demographics
Certainly it is no secret that other countries are facing similar
demographic issues, some far more serious than ours. In the U.S., we
will have 21 people aged 65 and over for every 100 American workers
next year. But in Japan, for every 100 workers, there will be more
than 24 people aged 65 and over. Belgium, France, Greece, Sweden and
Italy all foresee greater aged-people-to-worker ratios than ours
next year.
Life expectancy is also increasing around the world and is
expected to continue to do so. In the United States and the United
Kingdom, life expectancy at birth has increased by about 6 years
from the early 1950's to the late 1980's. Over the same period, life
expectancy at birth has increased by about 10 years in France, Italy
and Greece, 13 years in Spain, 8 years in Switzerland and 7 years in
Germany.
Further, the fertility rate in developed countries needs to be
about 2.1 to maintain a stable population, and only Ireland is at
that level or projected to be there. The impact of increasing
longevity and decreasing fertility is indicated by the percent of
population over 65. When compared with some other developed nations,
the percent of U.S. population over 65 is relatively low. For
example, as a nation, we are younger than the people of Italy or
Japan, and this relationship is not projected to change in the
future. In Italy, elderly residents represented 14.1 percent of the
total population in 1990, with projected growth to 20.9 percent in
2020. 11.7 percent of the population was over 65 in Japan in 1990,
and is projected to grow to 24.2 percent in 2020. In contrast, here
in the U.S., 12.6 percent of us were over 65 in 1990; we are
projected to reach just 16.3 percent in 2020.
Differences in Social Policy
Just as our demographic picture is not identical to that of other
developed countries, we differ in other important ways as well. For
example, our Social Security program is a relatively small piece of
this country's Gross Domestic Product (GDP) -- in 1998, Social
Security expenditures were 4.6 percent of GDP. In many countries,
social insurance represents a far larger proportion of GDP.
We also differ from other countries in our approach to changing
demographics because we were foresighted enough to begin to prepare
our Nation for the retirement of our baby boomers with the 1983
Social Security Amendments. The 1983 amendments paved the way to
move from a pay-as-you-go approach to partial advance funding.
For all of these reasons, we in the U.S. are in a somewhat better
relative position to begin to deal with the challenges presented by
our changing population than are many other nations. In addition,
other countries have different income support and social service
programs. Therefore it is sometimes difficult to make direct
comparisons with what other countries are doing or have already
done. Nonetheless, examination of the experience of foreign
countries provides interesting and valuable insights, and there is
much we can learn.
International Approaches to Reform
Let me turn now to a discussion of how other countries are
dealing with these demographic changes. Sweden and the United
Kingdom have made recent changes in their old-age pension programs.
Canada is also making changes. Of course, Chile is another,
oft-cited model for retirement income reform and Australia has added
a new element to their very different and interesting social
insurance structure. I would like to talk about each of these
countries, beginning with what is going on in Canada.
Our neighbors to the north have recently enacted legislation to
deal with their changing population. When the Canada Pension Plan
was introduced in 1966, the face of Canada's population was entirely
different than it is today. A quickly growing senior population, a
generation soon to retire, and a rapidly shifting economy resulted
in the Canadian government's adoption of a number of reforms to
strengthen Canada's retirement income system.
Of special interest to us in the United States is the Canadian
decision to invest new funds in a diversified portfolio of
securities - that is, a combination of stocks and bonds. This recent
legislation allows the fund to build an eventual reserve of 4-5
years of benefits and moves the Canadian Pension Plan system away
from a pay-as-you-go plan toward a more fully funded system.
The new investment board for the Canadian Pension Plan is to
operate at arm's length from government influence, with the stock
investments reflecting a diversified portfolio, which will be
selected passively, mirroring broad market indexes. We will be
watching Canada carefully as it deals with questions concerning
corporate governance. For example, regulations have not yet been
issued on whether or how shares owned by the Canadian Pension Plan
will be voted.
Another country that invests part of its government pension fund
in stocks is Sweden, which has been making such investments since
1974. About 13 percent of the surplus funds were invested in stocks
in 1996, the latest data available. These investments represent
about 4 percent of total Stockholm Exchange market capitalization.
The funds are directed by large boards that represent government,
business, and labor; which has protected against politically
motivated investment.
Let me talk a little more about Sweden's program. Under the new
Swedish system (now being implemented), basic and supplementary
pensions will be phased out and replaced by a single,
earnings-related pension. In addition, 2 ½ percent of earnings will
be invested in individual "premium accounts". These premium accounts
will be privately managed, under public supervision, and permit a
wide range of investments. Payroll contributions will be held in a
conservatively invested account until the administrative process is
completed and they are credited (with interim returns) to each
worker's chosen account. Since this program is brand new, we will be
watching its implementation with great interest.
The United Kingdom has about 10 years' of experience with
individual retirement accounts. Starting in 1988, the British system
allowed workers to "contract out" the earnings related portion of
their two-tier pension program in order to set up tax-deferred
"personal pensions". Thus, under this system, privatization is
voluntary. However, there are weaknesses to their system which the
British government has recognized. For example, workers with low
wages or sporadic work histories do not seem to be well protected.
Tthe British government has recently proposed substantially revising
their system to address this issue. We will be watching with
interest to see what steps the United Kingdom takes to improve their
retirement income protection program.
In addition, the British government has had difficulty regulating
the sale of private pensions; misleading and sometimes fraudulent
sales tactics may have adversely affected as many as 20 percent of
those who opted for personal pensions. Also yet to be resolved is
how best to set up an effective regulatory mechanism whereby
investors can seek redress and compensation.
It would appear that social insurance reform plans that involve
direct selling of investment instruments raise many difficult
issues. Arthur Levitt, Chairman of the Securities and Exchange
Commission, recently cautioned that under a mandatory individual
accounts program, uninformed investors won't be able to capture the
potential for greater returns because "they risk making poor
decisions, perhaps through ignorance or because they fall prey to
misleading sales practices".
And let me say a couple of things about the fundamental reform of
the Chilean social insurance system. It is worth pointing out that
the situation in Chile prior to reform looked nothing like the
situation we are facing today. Chile's demography was vastly
different in that it had, and still has, a relatively young
population, a fertility rate substantially above ours, and a 9-to-1
ratio of workers to retirees when the change was made. Further, as
you know, the old Chilean program was close to bankruptcy when it
was overhauled in 1981.
The plan is based on private retirement pension funds
administered by private pension fund management companies. There are
no employer contributions under the new plan, but workers are
required to make monthly contributions equal to 10 percent of their
wages into individual savings accounts. There is an additional 3
percent contribution for administrative fees and disability and
survivors insurance. Transition costs were
funded in part by selling off a vast array of nationalized
companies.
This is not to say, however, that the experience of Chile does
not hold some lessons for the United States. While the Chilean
reforms did respond to some of the problems inherent in the old
system, some serious concerns remain. Some of the difficulties
are:
- about 40 percent of workers are not contributing regularly;
- 80 percent of the self employed are not participating;
- administrative fees are high but choice in investments is
limited due to regulation;
- and rates of return in recent years are too small to cover
administrative fees.
The overall real rate of return under the privatized Chilean
system from its inception in 1981 through the end of 1998 is 11
percent. However, the overall real rate of return is not what every
worker is getting. After considering administrative costs, including
withdrawal fees and costs of annuitization, the real rate of return
through 1995 was 7.4 percent and is still declining.
In the last 4 years, annual rates of return in Chile have been
low or negative. In fact, the situation has deteriorated to
such a degree that in October the Deputy Secretary of Social
Security in Chile, Patricio Tombolini, encouraged workers who are
eligible to retire to postpone their decision until such time as the
market losses could be reversed. I think it is safe to say that no
one here today ever wants to have to make such a pronouncement to
the American public.
Another country that has made recent changes to its pension
system is Australia. Australia's system is quite different from the
United States'. Australia has approached the problem of improving
retirement income not by expanding public programs, but by imposing
a mandate on all employers to offer at least one contributory
retirement plan to all employees. Employers are required to make
contributions to these funds at the rate of seven percent of
employee earnings in 1999, rising to 9 percent in 2002-2003. Many
employers make contributions that are above and beyond what is
required. The plans are fully portable and managed by the private
sector. They are paid out at age 55, some as pensions but the
majority as lump sums which can be annuitized. This supplements a
very generous, wealth-tested retirement benefit funded through
general revenues payable at age 65. The Australian approach to
individual accounts was implemented in 1992 and is scheduled to be
complete in 2002.
This brief review has illustrated the great diversity of the
retirement income protection plans around the world. While I do not
want to over-generalize about what we can learn from international
experience, one observation I can make is that when countries have
individual accounts as part of their national retirement system,
lower earners, intermittent workers, and women tend to have less
favorable outcomes than others. However, in many nations, this
problem is offset by the provision of a great variety of income
support and social service programs offered to the elderly. Where
such programs do not exist, or are very limited such as in Chile,
the affected workers may be severely disadvantaged.
President's Response Reflects Foreign Experience
Three weeks ago, in his State of the Union address, President
Clinton proposed historic steps to ensure the solvency of Social
Security. When putting together his framework for a solution to the
long-range Social Security solvency problem facing our country,
President Clinton wanted to increase national savings to reduce
burdens on future generations, and reduce publicly held debt. His
plan, therefore, draws on the approach taken by Canada and Sweden
and State and local pension systems in this country to diversify the
fund portfolio. Through the provision of Universal Savings Accounts
(USA accounts), the President's framework draws on the experience of
countries that have added individual retirement accounts as a
voluntary supplement to social insurance protection.
Specifically, the President proposed the following three
actions to solve the Social Security program financing problem:
- Transfer 62 percent of projected federal budget surpluses over
the next 15 years-about $2.8 trillion--to the Social Security
system and use the money to pay down the publicly held debt, which
would strengthen our economy for the future. Thus the President's
plan provides for debt reduction while giving Social Security the
benefit of the gains from reducing publicly held debt.
- Invest a portion of the trust funds, which would never exceed
about 15 percent, in the private sector to achieve higher returns
for Social Security. Funds would be invested in broad market
indexes by private managers, not the government.
- A bipartisan effort to take further action to ensure the
system's solvency until at least 2075. There are hard choices that
we must face. To assure confidence in Social Security it is
important to bring the program into 75-year actuarial balance.
The President's first two steps will keep Social Security solvent
until 2055, and bipartisan agreement on the hard choices could
extend that solvency at least through 2075.
President Clinton also said that reducing poverty among elderly
women must be a priority as part of this comprehensive solution.
While the poverty rate for the elderly population is approximately
11 percent, for elderly widows it's 18 percent. In addition, he
proposed eliminating the retirement earnings test, and strengthening
Medicare. These proposed actions constitute a solid framework for
ensuring retirement security for current and future generations of
Americans, and I would like to review them now in some detail.
First, the President's plan would require that transfers be made
from the U.S. Treasury to the Social Security trust fund each year
for 15 years. The annual funds transferred would be specified in
law, so that by 2015, about $ 2.8 trillion would be allocated
to save Social Security. A portion of these funds would be invested
in the private sector each year, from 2000 through 2014, until such
time as 14.6 percent of the Trust Funds are in private investments.
The remainder, 85.4 percent, would continue to be held in government
securities. Thus, for example, in 2032, 94 percent of benefit
payments will come from tax revenue and interest on government
securities with only six percent from private investments.
Stocks over time have returned about 7 percent annually after
inflation, while bonds have yielded about half as much. Diversifying
the trust fund investment to include stocks would produce more
investment income and reduce the projected shortfall. It would
provide a higher rate of return with no risk to the individual and
minimum risk to the trust funds.
Under the President's proposal, total investment in the private
sector would account for around 4 percent or less of the U.S. stock
market over the next 30 to 40 years. This, by the way, is about the
size of Fidelity's share of the stock market today. State and local
pension funds now represent more than twice that figure-about 10
percent-of total stock market investments. If State and local
pensions had not, years ago, gone in the direction of a diversified
portfolio, then States and localities would have had to increase
taxes or curtail pensions significantly. State and local government
pension plans now hold roughly 60 percent of their total investment
portfolios in the private sector.
The Administration understands the importance of providing
appropriate safeguards to avoid politicizing the investment process;
under the President's proposal, the Administration and Congress
together would craft a plan that ensures independent management
without political interference. We believe that this can be done,
especially if the Federal Reserve Board and the Thrift Savings Plan
Board serve as models.
The President's framework does not merely protect Social Security
- it reduces publicly held debt and increases the savings rate.
Paying down publicly held debt will cause new capital formation to
occur; it will reduce debt servicing costs as well. As Alan
Greenspan recently asserted, "reducing the national debt - the
publicly held debt.is a very important element in sustaining
economic growth." He added, "as the debt goes down, so do long-term
interest rates, so do mortgage rates, and indeed economic growth
would be materially enhanced as a consequence." Finally, paying down
publicly held debt provides Government with flexibility to respond
to future conditions. That is, if the government later decides to
finance some obligations by issuing new publicly held debt-for
example, redeeming Social Security assets-it would be possible to do
so without threatening future economic performance.
Second, in addition to strengthening Social Security and
Medicare, the President has proposed Universal Savings
Accounts, separate from Social Security, to help every American
build the wealth they will need to finance longer lifespans. Under
the President's framework, we will reserve 11 percent of the
projected surpluses over the next 15 years - averaging about $33
billion per year, so that every worker can have a nest egg for
retirement. These accounts, proposed by the President, would be
matched on a progressive basis. Today 93 percent of the funds from
pensions and savings go to the top one half of the population by
income. This leaves only 7 percent for the lower 50 percent by
income. USA accounts, separate from Social Security, will mean
hundreds of dollars in targeted tax cuts for working Americans, with
more help for lower-income workers.
Conclusion
In conclusion, let me say we have much in common with many
countries around the world as we face the demographic challenges we
are discussing today. It is important to learn as much as we can
from their experiences. It seems clear that many foreign nations are
looking to strengthen their savings rates and provide for advance
funding. The President's proposals for protecting Social Security
are consistent with these goals. The President's proposals represent
a solid framework for ensuring retirement security.
The President's plan is a sound approach for protecting Social
Security. It uses the budget surpluses-the first the nation has
enjoyed in more than a generation-to help preserve a program that is
of overriding importance to the American public. The Social Security
program in the United States has been a resounding success. It has
lifted the elderly out of poverty. Today without Social Security
about half of the elderly would be living in poverty. With Social
Security that number has been reduced to 11 percent. This is a
program worth protecting and must be protected.
The Administration and the Congress worked together successfully
to achieve a robust economy. The Administration and the Congress
must now work together to achieve a bipartisan package to ensure the
solvency of Social Security for at least the next 75 years. We must
use the window of opportunity provided by the budget surpluses to
move us closer to a financially secure system. We look forward to
working with this Committee to strengthen the Social Security system
for the future.
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