Download Social Security Reform and Racial Inequality

The Implications of
Social Security Reform
for Minorities
SOCIAL SECURITY INTRODUCTION
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To understand the implications of any
changes made to Social Security, we must
first understand the current system.
Technically, Social Security is “race-neutral.”
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People in identical economic/family situations
are treated equally.
Problem: all racial and ethnic groups aren’t
equal.
Minorities have different earnings patterns,
life expectancies, retirement savings, and
disability rates.
Minorities rely more heavily than whites on
Social Security benefits as an income source
during retirement.
SOCIAL SECURITY BY
RACE
Reasons Minorities Need Social
Security

Less likely to have pensions
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This difference likely to continue far into
future
Among current workers 21 years and
older, fewer minorities have pension
plans than whites.
Greatest difference: minorities less
likely to have other assets that
produce income.
Benefits as a Proportion of Income
Higher Minority Poverty Rates
Minority Gains from Social Security
The
progressive benefit formula of the current
program helps low earners.
A disproportionate share of low earners are
minorities
Benefit formula gives low-earners a higher
percentage of their pre-retirement earnings
than high-wage workers.
BUT the payroll tax is regressive.
Since minorities’ wages are lower, on
average, a high percentage of their earnings
are likely to be within the taxable base.
The Earned Income Tax Credit (EITC) was
originally designed to offset the regressive
payroll tax for low-earning families with
children.
Minority Gains from Social Security
Benefits Depend on Earnings. There is a
substantial difference in earnings by race.
Example:
1995 median earnings in Social Security
covered employment:
 White: $16,360
 Black: $11,991
Years in the Workforce
Years
out of the workforce decreases Social Security
benefits because they are calculated based on the
average of a worker’s highest 35 years of earnings.
Minorities have more years out of the workforce than
whites.
Benefits by Race
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A larger percentage of whites receive
retirement benefits than minorities.
A larger percentage of minorities receive
disability and survivor benefits than whites.
Low-earners have higher rates of disability
than high-earners.
Types of Benefits
White
Black
Other
Retirement
72%
53%
51%
Disability
12%
25%
32%
Survivors
16%
22%
17%
Life Expectancies by
Race
People
who live longer receive benefits for a longer period of
time, so they have higher lifetime retirement benefits from
Social Security.
Lower life expectancy groups receive more disability and
survivors benefits.
Drawbacks for Minorities
African
American males often pay more into
the program than they ever receive in benefits
Even if they receive higher proportional
benefits because of progressivity, they receive
them for a shorter amount of time because of
their shorter lifespan.
Survivor benefits are limited and benefits paid
are not very high.
Personal accounts would allow workers to
create a nest egg for their families.
Effects on Minorities
Because
of their lower life expectancies, Blacks are
affected more greatly than whites by the inability to
include the Social Security investments they have made
over their lifetimes in their estates.
Upon death, the money they have invested will leave
their spouse and family, except in the limited cases
where their families receive survivor benefits.
This money then benefits groups with longer lifespan
who receive benefits for a longer period of time.
Disability Benefits
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The disability benefits come from a
separate program that is financed by
a separate tax.
Disability benefits are received at a
disproportionately higher rate by
minorities, but the smaller disability
benefits do not entirely make up for
the fact that white workers receive
more in retirement benefits.
Wrap-Up of the Current System
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The overall implications of the current
Social Security system for minorities are
unclear.
Minorities have lower life expectancies,
so the total benefits they receive on
average are less than those of Whites.
This drawback is partially offset by the
progressivity of the system and by
minorities’ greater receipt of survivor and
disability benefits.
The Alternative: the President’s New
System
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The President’s Commission to Strengthen
Social Security
16-member bipartisan Commission made up of former
U.S. Representatives, Consultants to the World Bank
and the CEO of Black Entertainment Television
Established through Executive Order 13210 to provide
recommendations for modernizing and restoring fiscal
soundness to the Social Security System
Reported three reform models to the President, all
involving personal accounts.
We will first focus on the structure and administration
of personal accounts and then on the most popular
proposal, Reform Model 2
Structure of Personal Accounts
Centralized Approach
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Payroll collections are transferred to a
government–appointed central
administrator using the existing Social
Security payroll tax system
Worker’s choose among a limited
number of low-cost, diversified
investment index funds
Governing board contracts fund
management to multiple private
managers on a competitive basis
Structure of Personal Accounts
Decentralized Approach
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Payroll collections transferred directly
from employers to diversified, privatesector investment funds that satisfy
requirements
Workers have investment choices
through their employers; a wide-range
of private-sector funds are available
and switching is permitted
Government still interacts with each
fund and the employers to enforce
compliance with regulations
The Two-Tier Approach
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Developed to address foreseen problems
with both centralized and decentralized
approaches
Collections are transferred to central
administrator using the existing payroll
system; administrator verifies that correct
amounts are submitted by each worker
Funds in both Tiers cannot charge fees for
entry and exit, only an annual charge that
is a percentage of assets
Investments for each employee are made
through central administrator into Tier 1
Tier 1
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Workers select a balanced fund or any combination offered by
the Thrift Savings Plan (TSP) for federal workers
 Balanced fund include corporate and government bonds
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TSP includes: Government Securities Fund; Fixed Income
Index Investment Fund; Common Stock Index Investment
Fund; Small Capitalization Stock Index Investment Fund;
and International Stock Index Investment Fund
 Inflation-protected Bond Fund allows participants to invest
in Treasury Inflation Protected Securities
 Fund management auctioned off to private-sector providers.
For those who do not choose Tier 1, their contributions
must be invested into a standard diversified fund on their
behalf.
When employees reach a threshold balance, they are allowed to
invest accumulated contributions in a Tier 2 qualified privatesector funds
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Three risk levels (conservative, medium and growth) include varied
combinations of government and corporate funds
Tier 2
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Private-sector fund managers may offer
broadly diversified mutual funds certified
by the Governing Board in addition to
the Funds offered under Tier 1
Funds must be diversified and reflect
the performance of many companies
spanning all major commercial sectors
Share of funds in individual corporations
cannot exceed strict limits set by
Governing Board
More competition and choice than Tier 1
Limitations in Changes to
Investment Allocations
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Personal retirement accounts not intended
for long-term, short-sighted activities, such
as “day trading”
Changes in investment allocations limited
to once a year
Account information will be immediate
through:
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monthly mailed statements
online account access
automated calling
Access to Personal Accounts
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Workers should not be allowed to consume funds in
their personal accounts in a manner that would
leave them impoverished during retirement and
dependent on the government for additional
resources
Personal accounts must provide a variety of
withdrawal options upon retirement, including the
ability to leave assets to loved ones upon death
Pre-retirement access to funds in personal accounts
should not be allowed, including withdrawal by
disabled persons
Commission suggests government action for those
who experience financial need before retirement
Retirement Withdrawal Options
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Individuals should have immediate right to their money only
to the extent that they can support themselves in the future in
order to avoid dependence on the government
Forced to take at least some of their money as an annuity or
gradual withdrawals
Annuity
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Gradual Withdrawal
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Pays fixed stream of money until person dies
Inflation-indexed that protect against loss of purchasing power
Standard annuities pay more early in retirement to prevent loss of
purchasing power
Allows individuals to receive fractions of their over their expected
lifetime
Any money left after death can be fully bequeathed
Withdrawal schedule must be long enough to cover expected
lifetime of retiree and spouse
Lump-sum payments allowed only to prevent impoverishment
Protection for Spouses
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Personal account ownership must help provide for
current and former spouses welfare in proportion to
their contributions to the household
All account balances attributable to contributions
during marriage, and all earnings on account
balances brought into marriage, should be equally
divided in the event of a divorce
Account balances brought into marriage should not
be shared
Upon retirement, a two-thirds joint and survivor
annuity should be required unless both spouses
agree to an alternative consistent with the
distribution rules discussed earlier
Reform Model 2
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Reform Model 2: Voluntary
Progressive Personal Accounts
combined with an Inflation-Indexed
but More Progressive Traditional
System
Pros:
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Establishes voluntary personal accounts, without
raising taxes or requiring additional worker
contributions
Enables all future retirees to receive an inflation
adjusted Social Security benefit
New poverty protection
Puts Social Security on fiscally sustainable path
Key Elements
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Workers who have not reached age 55 (as
of January 1, 2002) would be given the
opportunity, starting in 2004, to redirect the
lesser of $1,000/year or 4 % of their payroll
taxes, to a personal account.
Traditional Social Security benefits would be
reduced by personal account contributions
compounded at a real interest rate of 2 %.
Traditional Social Security benefits would be
indexed to price inflation rather than
national wage growth beginning in 2009.
Key Elements Ctd.
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A minimum benefit provision would increase
benefits for 30-year minimum wage earners by
approximately 40 percent by 2018 relative to the
price indexed benefit level.
Benefits for widows would be increased to as
much as 75 percent of the combined benefits
that would be received by the couple if both
were still alive, versus 50-67 percent under
current law.
In order to maintain the ability to pay benefits
throughout a 75-year period, additional revenue
would likely be taken from the General Fund of
the Treasury.
Benefits
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Workers who opt for personal accounts
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Expect to higher benefits than the inflation
adjusted level currently paid, and the benefits the
existing system can afford in the future.
Workers who are currently aged 35 who retire in
2032, will have benefits with 17-32 percent higher
purchasing power than those received today.
More progressive because:
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Workers can only redirect a maximum of 4 percent of
payroll taxes on entire salary
Benefit levels paid to all low-waged workers are
raised
Workers who do not opt for personal accounts
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Initial benefit levels grow with inflation
Low-wage worker in 2052 would receive benefits
that are 27 percent higher in real terms than those
received by a low-wage worker today
Increased Benefits Under Model 2
Fiscal Sustainability Assessment
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Model 2 improves Social Security’s financial
health and greatly reduces burden on future
workers
Current system is projected to show deficits
as soon as 2016
Model 2 eliminates permanent deficits after
a 75-year valuation period without relying
on general revenue transfers or higher taxes
Should eventually transform projected
deficits into perpetually rising surpluses
Improvements Compared to
Current Law
Reduction in Rate of Growth in
Long Term Costs
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New system will lessen the burden on future
generations of taxpayers from a projected
17% to 15% of taxable payroll by 2030
By the end of the 75-year valuation period,
the program’s expenditure as a percent of
GDP would fall below its current level
Transition Financing
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Would reduce fiscal pressures on the rest of the
federal government relative to current law
No new “transition” cash would be needed before
2010 when $4 billion would be required and then
would grow to a maximum $73 billion in the years
2015-2016
Required “transition” funds would decrease until
2029, when the new system would be permanently
less expensive than the old
Total transition investment would be approximately
$900 billion (in present value terms)
Transition Investment
Impact on Minorities: The Debate
Despite the apparent benefits for
all workers, the impact of
private accounts on minorities
is a hotly contested subject.
To hear analysis by a panel of legislators, economists, and
civil rights activists who met on Capitol Hill on March 1,
2005 use the following link:
Panel Discussion: The Impact of Social Security Reform for African
Americans
The Benefits of Personal Accounts
for Minorities
 Transformation from a defined-benefit to a defined-
contribution plan would disconnect total benefits
from life expectancy.
 Under the current system, retirees who work all their
life but die before retirement receive no benefits
after paying into the system throughout their career.
 Minorities have shorter average life expectancies, so
the change would eliminate current inequality.
 Overall, personal accounts have a fairer rate of
return without bias in favor of citizens who live
longer.
Effects of Life Expectancy
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Even if black men only live two years less than white
men, that is still 24 less Social Security checks
received.
Due to differences in life expectancies and marriage
rates, through Social Security there is a net income
difference of $10,000 per person from blacks to
whites (study by the RAND Corp.)
Social Security taxes crowd out other forms of
savings and investment. Because more minorities
live paycheck to paycheck, they are unable to
accumulate assets and build wealth.
One in three black men will pay into the system but
die before ever collecting benefits (Cato Institute).
Wealth Accumulation and Private
Accounts
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Under new system, individuals have property
rights to their accumulated income.
These rights can be given to heirs if earning
citizen dies before exhausting their account
Inheritance right is hugely important based
on minorities shorter life expectancies.
Accounts give low income workers, who are
largely minorities, the chance to accumulate
capital and begin to bridge the black-white
wealth gap.
Personal Accounts and Poverty
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Not only would privatized system provide fairer
benefits to minorities, but the rate of return
would be far higher.
Private accounts have the power to lift African
American seniors out of poverty
According to a Harvard Study, privatization
would reduce poverty among married African
American retirees by 23.4% and among
widowed, divorced or never married African
Americans by 61.5%. (Feldstein and Liebman,
2000)
Current Poverty Rates for African
American Seniors
Minority Support for Personal
Accounts
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53.5% of blacks support privatization
(Zogby survey, 2001).
54% of Hispanics and 51% of black
voters support the private individual
accounts in Bush’s Social Security
investment proposal (Washington
Times survey, December 2004).
Problems with Reform Model 2
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Projected benefits in 2050 will be reduced to 88%
of current benefits due to Model 2 transition from
wage-indexed formula (including annuitized
personal accounts)
Means lower total benefits to be provided, of which
minorities benefits disproportionately more from
and thus lose more.
Projected near poverty rates of minorities would be
higher under the Model 2 than current system,
even in the most optimistic personal account
scenarios
Under pessimistic PA return scenarios, black near
poverty rates would be even higher than under a
uniform downward adjustment of benefits to
achieve long term solvency (75 years). -Urban
Institute’s model, DYNASIM3 simulation
Problems with Investment Risk
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Investment experience and access to
information: Minorities tend to have lower amounts
of investment experience and less access to good
financial advice, leading to lower returns on their
personal accounts than whites.
-1993 Merrill Lynch Household Survey (confirmed
blacks score lower on tests of financial knowledge than
whites.)
Risk Aversion: Minorities tend to be more risk averse.
Minorities depend on social security for larger
percentage of retirement income
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76% of Hispanics over 65 receive at least 50% of income
from Social Security, as do 88% of blacks.
Minorities may select low-risk funds with lower returns
Greater Investment Risk for
Minorities
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Minorities are less able to bear investment
risks, and thus may have to opt for the
standard plan rather than the voluntary
personal accounts.
If these personal accounts function as
planned, whites will disproportionately
benefit from personal accounts while
minorities will either not use the voluntary
personal accounts or be forced to accept
more stable investments with lower returns in
the face of risking their retirement income.
Loss of Safety Net
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With privatization of Social Security,
government guaranteed minimum
benefits do not provide a safety net
against poverty in old age.
African American and Hispanic
citizens are more frequently reliant
on Social Security to avoid poverty
so they are more likely to suffer in
the absence of the safety net.
Hispanics Kept Out of Poverty by
Social Security
Blacks Kept Out of Poverty by
Social Security
Inheritance Right Less Helpful to
Minorities
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Inheritance rights are ineffective for
helping minorities accumulate capital if all
savings are consumed during worker’s
retirement.
Minorities depend on Social Security for
subsistence more often than whites so it
can be assumed more whites will take
advantage of the inheritance right.
Social Security Benefits as a Share
of Income
Negative Implications of Lost
Progressivity
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Patterns of discrimination leading to differential affects
on blacks in education and labor cause blacks to
benefits more from the progressive benefit formula in
the current system than whites.
Blacks are more likely to experience lower wages
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blacks are less likely to have accumulated as much income
as whites in personal accounts, which and would gain
lower benefits than whites.
Blacks are more likely to experience periods of
little to no employment.
The progressive benefit formula of the current system
takes these issues into account by considering years out
of workforce, differences in earning levels, and uses the
35 years of highest earnings.
African Americans’ Lower Earnings
Negative Impacts on Survivor
Benefits
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Blacks are more likely to die early, leaving children
to depend on survivor benefits.
Transition to Model 2 creates new problems with
middle aged worker deaths and their dependents.
Because they are less likely to have acquired
enough in their personal accounts to offset the
direct cuts in benefits, their children are left with
vast decreases in financial support.
This comes as a tradeoff with the benefit of
allowing workers who die close to retirement age
leaving behind an inheritance to their older children
who are better able to fend for themselves
financially.
Failure to Address Disability
Benefits
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The government has not
addressed the issue of disability
benefits under the new plan.
Black citizens depend more on
disability benefits, so the
reduction or elimination of the
program will disproportionately
impact them.
Insurance Problems Under Model
2
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Blacks are more likely to experience disability
and early death.
Losses in disability and life coverage may
cause blacks to need to purchase additional
insurance to make up for the loss in benefits.
The disproportionate need for disability and
survivor coverage leaves a larger burden on
blacks to recover this coverage outside of
social security, which they are less likely to
be able to afford.
Flawed Life Expectancy Estimate
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-life expectancy estimates that
include infant and child mortality
rates overestimate the benefit
discrepancy by race.
-After the age of 65, the average life
expectancy of African Americans is
only 1.8 years shorter than that of
whites. (AARP fact sheet).
Conclusions
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Shift from progressive hurts minorities because it
fails to take low income and unemployment into
account.
Risk aversion, lower income and less information
discourage minority investment in Social Security
personal accounts, making the primary
beneficiaries of Reform Model 2 wealthy, educated,
white citizens.
-Social Security was intended to be a safety net
against poverty in old age. Private accounts
eliminates insurance function; places low income
beneficiaries at risk of losing investments.
-Gains based on lower life expectancy and the
ability to bequeath benefits do NOT cancel out
losses to minorities caused by reduced benefits,
loss of disability and survivor benefits.
Conclusions Continued
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In sum, racial inequities will persist
and may even worsen if Reform
Model 2 is adopted.
Reform Model 2 is scheduled for
Senate hearings; despite these
drawbacks for minorities, private
accounts and Social Security reform
could soon become a reality for
American retirees.
Sources
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Beedon, Laurel and Ke Bin Wu. “Social Security and
Hispanics: Some Facts.” AARP Public Policy Institute.
September, 2003.
Changing Social Security: the Impact on African
Americans. Panel discussion on Capitol Hill. March 1,
2005. Available from http://www.jointcenter.org.
Conrad, Cecilia. “Should We Privatize Social Security?”
Joint Center Focus Magazine. September 1998, Volume
26, No. 8.
Cooper, Mary H. “How should America’s Retirement
System be Saved?” Social Security Reform. The CQ
Researcher Online, 14, 781-804. Available from
http://library.cqpress.com.
Feldstein, Martin and Jeffrey Liebman. “The
Distributional Effects of an Investment-Based Social
Security System,” National Bureau of Economic Research
Working Paper no. 7492. September 2000.
Sources Continued
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Gist, John. “Social Security Reform: How do Minorities
Fare Under Social Security?” AARP Public Policy
Institute. September 1998. Backgrounder #1613,
November 19, 2002.
Lambro, Donald. “Minorities support Bush’s plan, polls
find.” The Washington Times. 31 January, 2005.
Hendley, Alexa A. and Natasha F. Bilimoria. “Minorities
and Social Security: An Analysis of Racial and Ethnic
Differences in the Curent Program.” Social Security
Bulletin. Volume 62, No. 2. 1999.
John, David C. “Answering the Top 10 Myths About
Social Security Reform.” Heritage Foundation.
Moore, Kathryn L. “Redistribution Under the Current
Social Security System.” The University of Pittsburgh
Law Review. Summer, 2000.
Sources ctd.
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“More Social Security and African Americans.” Heritage
Foundation. 4 February, 2005.
Murdock, Deroy. “Sober Security: Personal Retirement
Accounts are Pro-Black, Too.” The National Review.
May 14, 2002.
President's Commission to Stregthen Social
Security. Strengthening Social Security and Creating
Personal Wealth for All Americans. Washington, D.C.
December 2001
Tanner, Michael. “Disparate Impact: Social Security and
African Americans.” Cato Institute Briefing Papers.
1998.