The Magazine

Gunnar Myrdal Was Right

Social Security's fertility problem.

May 7, 2007, Vol. 12, No. 32 • By JAMES C. CAPRETTA
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The crucial role that fertility plays in pay-as-you-go systems is evident in the future projections for Social Security. Current mid-range estimates assume the U.S. TFR will remain at 2.0 indefinitely, but the resulting modest growth in the U.S. workforce is insufficient to keep up with the ever-growing number of retirees. By 2080, the ratio of the working age population to the elderly will be just 2.4 to 1, down from 4.9 today. A gap between Social Security spending and tax collections is expected to open up beginning in 2017 and widen substantially in the ensuing years, reaching about 1.8 percent of GDP in 2080.

But the future of the U.S. fertility rate is not set in stone, and further improvement would greatly ease the financial strain. A steady rise in the TFR to 2.8--last seen around 1965--would eliminate about one-half of the projected financial shortfall in the Social Security program over a 75-year period. On the other hand, a fall in the U.S. TFR to the levels found in most of Europe would open a much wider gap in Social Security's finances and precipitate an even deeper crisis in the program.

Acknowledgment of Social Security's role in fertility decline is not an argument for abandoning government-sponsored old age support. The elderly--and their adult children--far prefer financial independence to dependence, and Social Security provides important protection against destitution, a common problem in earlier eras for the elderly with no family support. But reformers must understand the population contradiction at the heart of Social Security if they are to think clearly about the future of the system.

The starting point for a sensible reform of Social Security should be opposition to any proposal that would increase the program's current size--including proposals to initiate personal savings accounts with "add-on" contributions. The current Social Security payroll tax rate and wage base--12.4 percent of wages up to $97,500 in 2007--should be ceilings (the taxable wage limit is already indexed to increase with average wage growth each year). The temptation among some Republicans to accept a tax hike to get a bipartisan Social Security deal should be resisted; it would only lead to further pressure on the birth rate. Social Security's financing gap will need to be closed with benefit adjustments, such as increases in the retirement age and reductions in the benefit formula for higher wage earners.

But reform should not stop there. Today, two workers with identical wage histories pay the same contributions and get the same retirement benefits, even if one of them has numerous children--with all of the expense that entails--and the other has none. That's not fair or prudent, as it undervalues the program's need for investment in human capital. Longman, Carlson, and others have suggested reforms that would begin to correct this flawed accounting. These proposals would give workers who are raising a family either a payroll or income tax break or a boost in their retirement benefit to compensate for the costs of investing in future taxpayers.

The point for conservatives is that any discussion of fixing Social Security should properly focus on strengthening young families, which will be both more popular with voters and better policy than approaches that ignore the fertility problem. Placing the cost of any reform within Social Security--a child credit that lowers the payroll tax, for instance--will also ensure there is no increase in the program's unfunded liabilities, as any added costs would have to be offset with benefit reductions, which should also boost fertility. Incorporating automatic, ongoing adjustments in the benefit formula over time, based on actual changes in fertility (as well as longevity), could help sell the reform in Congress. Proponents could then argue that benefits would automatically increase if the fertility rate improves as hoped.

No one should be under any illusion, however. Reversing the long-term slide toward smaller families will take more than a creative Social Security plan. My Ethics and Public Policy Center colleague John Mueller has noted that higher fertility accompanies more frequent religious practice, for instance. Clearly there are powerful social trends at work that can only be addressed with cultural renewal. But Social Security is contributing to the problem, and its reform should be part of the solution.

James C. Capretta, a fellow at the Ethics and Public Policy Center, was an associate director at the Office of Management and Budget from 2001 to 2004.