How to Greatly Reduce the Fiscal Burden of Entitlements-Becker

During the past couple of years, the financial crisis induced the US, Europe, Japan, and many other countries to greatly increase their fiscal deficits and government debt. Unlike the UK and Germany, and a few other countries, The Obama administration has done little to attack the fiscal deficit that has grown much larger since his election as president. The absence of action on the deficit front has been reported to be an important reason why Peter Orszag recently announced his resignation of Director of the Office of Management and Budget.

Yet despite the seriousness of the rapid increase in government spending and fiscal deficits during the crisis, the main budgetary issue facing all developed countries during the next couple of decades is the expected growth in spending on entitlements: mainly, spending on retirement incomes, and medical care given to the elderly. The growth in these expenditures is partly due to growing life expectancy and relatively low birth rates that will raise the number of retirees collecting social security benefits while reducing the relative number of men and women who are working to pay for these benefits. The growth in medical entitlements is mainly the result of technological advances and other changes that has led to a sharp expansion in both private and public spending on medical care during the past several decades, an expansion that is expected to continue into the future.

Orszag, when head of the Congressional Budget Office (CBO) in August 2008, predicted that unless radical actions are taken, the cost of Medicare, Medicaid, and social security will rise from 18 percent of GDP in 2008 to 28 percent by the middle of this century, and perhaps to 35 percent soon thereafter. Of course, such estimates depend on many guesses, such as the future rates of growth of GDP, how life expectancy will change, and how many expensive advances will occur in medical care. Still, these estimates are consistent with those made by others, and clearly indicate that health and retirement entitlements will become a growing American fiscal problem unless important steps are taken to scale them back. Similar concerns apply to the UK, Germany, Japan, and other rich countries.

I have supported changing retirement systems from pay-as-you-go to individual account defined contribution systems, as in American IRA and Sep private retirement accounts. I also support sharply increasing the fraction of all medical care spending on the elderly that comes from out of pocket spending by patients (see my post on March 28). Another reform could also greatly reduce future public spending on retirement incomes and health benefits, and make an important contribution to closing the long run fiscal deficit.

This reform involves a big increase in the average age of retirement before individuals become eligible to qualify for either social security or old age public healthcare benefits. When the American social security system was established in 1935, the expected retirement age was 65. At that time, the average life expectancy for 65 year olds was a mere 12 years. Therefore, years in retirement amounted on average to about one quarter of the 47 years that men typically worked in the 1920s (before the Great Depression) prior to reaching age 65. Expected life expectancy of men aged 65 now averages about 18 years, and it is a few years longer for women.  Men who retire at age 65 have typically worked on the average about 45 years, so retirement years for these men is about 40% of working years. Actual retirement of many men and women actually occurs at age 62, despite the decline in physically demanding work, and the improvements in health.

I propose that the US and other countries greatly raise over time the retirement age before the average person became eligible for either social security retirement income or publicly-funded health benefits. One simple and attractive rule would be to raise retirement age by an amount that makes the ratio of years spent in retirement to years spent working equal to the ratio that existed at the beginning of the social security system. Suppose the average person starts working at age 20, and lives a further 18 years if they make it to age 65. Then the average number of years spent in retirement for these persons would equal about one quarter of their average working years, the ratio prior to the introduction of American social security, if average retirement ages were raised to age 69 or 70.

If the average retirement age were raised to near 70 to qualify for retirement and elderly health benefits, retirees would still have more absolute years of retirement than they did 90 years ago. Moreover, their retirement years would be better because they would be healthier, both physically and mentally. As at present, men and women in poor health would be able to retire earlier through the disability system.

The US has been slowly increasing the normal retirement age in stages first from age 65 to 66, and then to age 67 for everyone born after 1960. These have been steps in the right direction, but they do not go far enough and have been too slow. It is time to raise more rapidly the normal retirement age for persons in reasonably good health to age 70 before they become eligible for either social security or Medicare benefits. This would add three years to taxable earnings, and eventually reduce the number of elderly collecting social security benefits by almost 20 % compared to what it would be under present retirement ages. It would also significantly reduce spending on Medicare, although by less than 20% since persons over age 75 take the bulk of this spending because they are in worse health than younger retirees.

Maintaining the ratio of working to retirement years is a reasonable first approximation to a guideline for determining the eligible age for retirement and health benefits. As the health and life expectancy of the elderly continues to improve in the future-as they surely will- retirement ages should be raised beyond age 70.

 

 

 

 

Comments

[Jim]

As a physician, I can attest to the incredible waste in the medical process, specifically Medicare. The absence of primary care familarity with patints and the poor communication of non MD caregivers, the need for speed in practice management and turnover and patient's desire for instant diagnosis and treatment add tremendous unnecessary costs to Medicare, not to mention the 80 billion spent yearly in the last year of life some of which is probably not rational. Even social security shoud be easy to manage. We will ignore the fact that the fund is bare because of "borrowing" for the general fund (another example of mismanagement and political malfeasance). Why not exempt $25,000 in interest income(about the maximum social security annual income)from income tax and not pay social security to those persons with that kind of interest income . It would encourage saving during the work years, maintain the payroll tax and save the entitlement for those who need it. If social security payments are one's only source of income, depending on years and level of contribution, the maximum payment would amount to about $12 per hour for a 2050 hour year. Barely enough for anyone to live on.

[Jake]

Professor Becker addresses the issue thoughtfully.

Why should the government -- any government -- decide when citizens ought to retire?

[Serge Knystautas]

The government has to decide when it's program will give benefits. It is not deciding when citizens ought to retire.

[Peter Franklin]

Why not increase the legal immigration of skilled adult workers, which would increase GNP (over time) and also income and other tax revenues?

Why not increase incentives for financial and human capital investments which (over time) would have similar effects?

Why not focus on growth rather than limitation strategies?

It is both a theoretical and practical error to embrace the usual pessimistic approaches to these questions.

[Zack]

Peter is right and I think that concern would be better applied to Posner's comments about political expediency.

but I also feel like there are some people running for office who work with ideas more so than the average 'career' politician. Rand Paul, with all of his shortcomings, is one such fella. he might be willing to wait out the waters and act when there is some political pull like his dad is doing for the federal reserve.

[Tom Meadowcroft]

Social security should be handled as an annuity funded by a lump sum from the SSA on the day you declare yourself retired. Have an actuary determine the retiree's likely lifespan, and thus determine the size of the annuity. If he wants to retire at 60, so be it.

Social security isn't the real problem as far as exploding costs -- Medicare/Medicaid is. Once again there is an actuarial solution. For a given treatment, determine the cost and the benefit (years of extra life, mostly) as a function of age and the details of the diagnosis. Fund only those treatments with the best cost/benefit ratios. Yes, this is a 'death panel', but one that addresses classes of cases and patients, not individuals.

The amount we should be willing to spend on the aged has to have a limit. A society that spends an ever-increasing amount of money on the aged, at the cost of healthcare and education for the young and infrastructure for all, is headed for long term decline. We need to start addressing these questions head on. We all fear death, but by discussing the options together it is possible to arrive at reasonable policy decisions.

[Transor Z]

What concerns me is the procrustean assumption that overall improved health translates neatly to a retirement age shift from 65-67-70-7X.

Prof. Becker arguing that the benefit is solely a matter of a ratio of productivity/retirement expectation glosses over the fact that bumping the age up necessarily means a reduction in cohort size due to death.

Believe the vitamin supplement/pharma ad hype that "60 is the new 50" all you want, but I suspect a lot of 60 year-olds' daily aches and pains and chronic geriatric health conditions argue otherwise.

The human reality is much more like Colonel Cathcart bumping the required number of bombing missions to rotate out every time Yossarian closes in on the current number...

[NEH]

And what did Yossarian finally do? Went nuts, jumped into the Mediterranian with a rubber boat and paddled to Sweden. They must be doing something right. Welcome to Catch 22. Just remember, "We have to destroy it in order to save it"; The favorite catch phrase in the dark, dank jungles of Vietnam. ;)

It's all about the "Late Great U.S." and irrationality masquerading as reason and rationality. Sound familiar?

[David B]

Yes, of course raise the retirement age. We index benefits for everything else - why have we never indexed for increases in longevity?

But the individualized defined contribution - not a good idea. That means that every individual has to save for the worst case, living to age 100. That results in over-saving. And it simply won't be enforced -- if millions of grandmas run through their savings, no one will tolerate throwing them to the wolves.

The political will to put the system on an actuarily sound basis is difficult but feasible. The polictical reality of individualized defined contribution is zero.

[NEH]

David, One question, "Will business and industry ratchet up their retirement ages"? I think not and the effectiveness of the solution plan of increasing retirement age for benefits hinges on business and industry's actions. And the end result will be numerous individuals falling over into the abyss when they lose their jobs due to forced retirement.

[Jim]

David B:

Interesting comment. Barry Goldwater used to say that the solutions are simple but difficult. We will have to wait for the crisis for anything to be done particularly if the voters keep electing the same old sqame old which is the likely scenario. Or as some other wag said,"The problem with the gene pool is that there is no lifeguard".

[Joey]

Why shouldn't the government have a say in when people retire? I mean this country is already head toward a more draconian regime. Even though people have filed numerous lawsuits against the health care changes: http://lawblog.legalmatch.com/2010/05/28/the-growing-lawsuit-against-health-care-reform-measures/ The government when ahead and approved the bill despite it not reflecting the so-called "people's will."

[NEH]

Joey, Vox Populi vox dei? More like Vox Populi vox humbug. Welcome to the Mobocracy...

[saigawa]

I'm 38 years old, so maybe a couple of years left of being a "young person." The simple fact is that economists like Orszag and almost everyone else doesn't take technoogy improvements into account, so that by even 2030, their estimates will be shown to have been widly off. Economists know almost no natural science, and it shows when they project out to 2030 and 2080.

Almost everyone assumes that new medical technology will always cost more, but this isn't necessarily true. Their are drugs in trials that will likely significantly lower rates of and treat cancer, diabetes, heart disease, Alzheimer's disease and stroke, all of which are extrememy expensive to treat.

And this is just 2010. What will preventative medicine look like in 2020 when computers are a thousand times faster, or in 2030 when computers for modeling medicine and the body will be a million times faster? (1,000 x 1,000)

The job market by the time I would be expected to retire at in the mid 2030s will also be radically different.

From a policy perspective, don't let my generation get away with complaining about working extra years. Those who are 40 today will be far, far healthier in 2035 than 65 year olds are today.

[Phil]

In response to Jim. I am a physician assistant and see several patients a day and can alway find time to explain to patients about their conditions and in my dictation, I always followup with a letter to the referring provider about the plan of action that I am giving the referred patient. Several times a day, I hear patients tell me that they have pain or discomfort here, here and here and my Doctor stays in the room for less than 30 seconds and then tell them that they need to see a specialist because they don't know what's wrong.The waste comes in when physicians, who try to see too many patients in a given schedule, refer patients unnecessarily to a specialist ( or they could stay in the room long enough to diagnosis the patient and then manage them themselves) or the Doctors freely give out diagnosis to give someone 100% disability. I see several patients a day in a orthopedic/sports medicine clinic and I am amazed at the number of patients that are in there 20's, 30's, 40's that have total disability for their condition of "I'm nervous or I have arthritis". What a complete waste of tax payers dollars!!! Some patients then have to come to a specialist for simple care because their Doctor gave them disability, and now won't see them for any condition ... Those who do this, should be ashamed.

[Stephen Pinner]

Now I think that the stock market and the fiscal problem within BP are slightly to do with the oil spill, if you look and the online trading side of thing you will see how much it has dropped in value you can see a comprehensive list of stock rates on http://www.simplystockbroking.com/

[Katy]

Enjoyed this perspective and cited to it in my blog post today about risk homeostasis. Thanks!

What an old Malcolm Gladwell article can tell us about the Gulf spill.

http://www.rosporkad.com/2010/07/09/what-an-old-malcolm-gladwell-article-can-tell-us-about-the-gulf-spill/

Spork in the Road

[shakib]

Thats not right to send anyone to retirement when he.she can work for better society.
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[syria]

Very beautiful

[sesli chat]

Peter is right and I think that concern would be better applied to Posner's comments about political expediency.

but I also feel like there are some people running for office who work with ideas more so than the average 'career' politician. Rand Paul, with all of his shortcomings, is one such fella. he might be willing to wait out the waters and act when there is some political pull like his dad is doing for the federal reserve.

[spel gratis]

Intresting indeed.All Humbug.

[fred kloot]

I do not disagree with this

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[James Morgan - Puritan Financial Advisor]

I propose that the US and other countries greatly raise over time the retirement age before the average person became eligible for either social security retirement income or publicly-funded health benefits.

[Pandora Bracelet]

At that time, the average life expectancy for 65 year olds was a mere 12 years. Therefore, years in retirement amounted on average to about one quarter of the 47 years that men typically worked in the 1920s (before the Great Depression) prior to reaching age 65