Social Security

The Gruber and Wise book evaluates how the following two reforms will affect a variety of OECD countries:

• Delay official retirement age 3 years
• “Common Reform”

The Common Reform is an option favored by many economists since it seeks to minimize the distortions of an individual’s decision of when to retire.  The four characteristics of the policy are:

1. Set the normal retirement age at 65
2. Allow early retirement between age 60 and 65
3. For those who retire early, benefits will be reduced in an actuarially fair manner
4. For those who retire late, benefits will be increased in an actuarially fair manner.

Gruber and Wise use 6% as the benefit reduction amount per year for those who retire early and also for the benefit augmentation amount per year for those who retire after 65.  This would not distort the retirement decision much if at all, since the net present value of both benefits would be the same for each individual. 

This seems like a complicated scheme, but is it worth the hassle?  Is early retirement really a problem? 

According to Gruber and Wise, in 1960 82% of Americans aged 60 to 64 were working or seeking work, but by 1995 this number dropped to 53%.  While this may seem like a steep decline, it is small compared to other countries who allow workers to collect social security at even earlier ages than the U.S.  For instance, Belgium had a labor force participation rate of over 70% for its workers aged 60 to 64 in 1960, but in 1995 this number had dropped to just below 20%.  Germany has seen a drop from above 70% to under 40% in the same time period.  Thus, the common reform, seems a sensible way to give the elderly a minimum level of subsistence, while reducing distortions in the retirement decision.

Social Security has done much to reduce poverty rates in the elderly.  The program, originally known as Old Age, Survivors and Disability Insurance (OASDI), was signed into law in the United States by FDR in 1935.  At that time, poverty among elderly in the U.S. exceeded 50%.  The Center on Budget and Policy Priorities now claims that only 8.7% of the elderly live below the poverty line in the United States.

Like every government intervention, the Social Security Program had unintended consequences.  According to economist Martin Feldstein (JPE 1974), Social Security crowds out personal saving by 30%-50%.  This means the amount of money individuals would have saved for retirement in the absence of Social Security is significantly higher than the amount they currently save.  Also, retirement programs can also induce individuals to leave the labor force (retire) before they would have otherwise. 

Regarding the second issue, Jonathan Gruber and David Wise have published a book titled “Social Security Programs and Retirement around the World.  The book examines how the structure of Social Security and retirement decisions are related.  For instance, in the United States there are two popular ages to retire: age 65 (when individuals receive full retirement benefits) and age 62 (when individuals can receive early retirement benefits).  On the other hand, in Germany citizens receive early retirement at age 63, normal retirement benefits at age 65 and we see corresponding spikes in the proportion of people leaving the labor force at those ages as well as age 60.  Age 60?  Germans who qualify for disability insurance at age 60 or about receive generous retirement-like benefits; hence the reason for the jump in the amount of people who retire at that age. 

During the rest of this week, I will be examining different countries and their Social Security plans.  Most of the material will come from the Gruber and Wise book, but I will also use other material.