Tuesday, February 3, 2009

Fix Social Security... So We Can Afford the Stimulus

A couple of weeks before his inauguration, Barack Obama was asked the following:
QUESTION: Mr. President-elect, budget experts, as you know, agree that the real key to controlling federal spending lies with the entitlement programs. How early do you plan on addressing Medicare and Social Security? And what will your approach be?
OBAMA: Well, first of all, as I noted in my remarks, we’re going to be inheriting a $1 trillion-plus deficit. And if we do nothing, then we will continue to see red ink as far as the eye can see.[…] We are working currently on our budget plans. We are beginning consultations with members of Congress around how we expect to approach the deficit. We expect that discussion around entitlements will be a part, a central part, of those plans. And I would expect that by February, in line with the announcement of at least a rough budget outline, that we will have more to say about how we’re going to approach entitlement spending, how we’re going to approach eliminating waste in government, one of Nancy’s tasks.

This is tantalizing, but not an indication that Obama -- in the first year of his first term -- will plunge headlong into the mythical third rail of American politics. Still... should he? Sadly, if Obama were to tackle Social Security most of the resistance would come from his own side. The reasonable argument the left wielded to defeat Bush’s privatization effort was the following: “Social Security ain’t broke. Yes, it will start running deficits in about a decade and exhaust its trust fund in about three decades, but all that is necessary to fix it is some small tweaks – if the assumptions are too pessimistic, maybe not even that. So let’s wait and see how it works out, and in the meantime, let's concentrate on more important matters.”

True at the time, but this position needs to be revised. Why?

First of all, the assumptions don’t look so pessimistic any more. For the 2008 report, the trustees assumed 2.4% GNP growth from 2007 until 2017. We missed that number in 2007, 2008, almost certainly will in 2009, and probably 2010 too. The assumptions are starting to look a little on the rosy side.

Secondly, saying all it needs is some small tweaks was always disingenuous. Yes, the changes necessary aren't large, but in political terms they are monstrously difficult.

But more importantly, there’s this (click to enlarge):

Source: www.zfacts.com

Our debt level as a percentage of GDP is the highest it has been since the Eisenhower administration, when we were paying down the cost of the World War II buildup. Are we at the point when creditors might start wondering about our ability to repay this debt? Are we risking a currency devaluation, massive inflation, a dumping of U.S. debt, the loss of the dollar’s status as the world’s reserve currency, and perhaps in the worst case, a loss of the enormous privilege of servicing our debt in our own currency? We would not be able to fix some of these consequences… they would be a serious and permanent injury to American power, prestige, and well-being.

What is the level of debt where these kinds of risks come into play? People that tell you they know are lying. But informed experts, including Larry Summers, are said to be worrying about such an eventuality.

It’s time to get beyond the liberal orthodoxy and look at a way to reestablish our fiscal credibility –- so that we can afford this stimulus plan and avoid punishment by the debt markets. Social Security is the way to do it. Look at this chart:

Starting around 2035, the difference between outlays and revenues is around 1 percent of GDP. Say we spent $825 billion on the stimulus and did absolutely nothing to pay it off. In three decades it would balloon to $3 or $4 trillion in debt in a $27 trillion economy. It would still probably be cheaper to finance that debt than to make up the Social Security shortfall, which would be around $270BN. By fixing Social Security, we can offset the perceived danger we add to our credit profile by spending on stimulus. And by showing the political will to control our spending, we add even more value to our creditor cred.

Need more reasons? The Democrats will have 58, 59… maybe even 60 seats in the Senate and a very popular President in the White House. When are we going to have more leverage in negotiating a Social Security fix? There is a real possibility we could make this most regressive tax just a little more fair. How to do it? I would favor raising the cap; if that is a non-starter because of the President’s campaign promises, maybe add a surtax for income over $250,000. Ramesh Ponnuru has an interesting suggestion: slow benefit growth to the rate of inflation for those that are well off.

Fixing Social Security would have another significant benefit… it would solidify Obama’s centrist credentials and probably guarantee his re-election. 63% of Americans don’t think they’re going to receive the full benefits they’re entitled to. An electorate that is re-assured on this matter would be enormously grateful.

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